Unit trust yield confusion....

ianr900

In simple terms, is yield of a unit trust comparable to interest earned in a building society account?
Am I missing something here? If I compare the yields from some unit trusts (say for example 40 funds from F&C http://www.fandc.com/oeics.asp?pageId=26.1), only one seems to offer a yield better than the 5% available from a building society! But this surely is a higher risk than a BS, as the value could go down. Why would anybody invest in such a thing? Or have I got the wrong end of the stick?

dunstonh

You have the wrong end of the stick. Well, at least partly. Yield is the income generated from the unit trust. On top of that, you will have unit price fluctuations, which over the long term increase. The bulk of the return will be in the unit price rather than the income.

So, say you have £100 and the unit price is 100.00p, then you will buy 100 units. If the yield is aroud 4%, then the income generated will be around 4%. However, 7 years later, that unit price could be 200.00p and you would have doubled your value in addition to the 4% paid.

But this surely is a higher risk than a BS, as the value could go down.

Risk and reward go hand in hand. You more risk you are willing to take, generally the greater the potential for higher returns but the greater the potential for loss. That link you posted included funds from across the risk scale. Many of them would be in their third year of returns in excess of 10% not including the income. That is the potential you are buying against the potential for loss which saw many of those same funds do down in unit price 5-4 years ago.

cheerfulcat

Hi there,

The UTs with low or no dividend yield are primarily invested for growth, so they invest in companies which the manager expects to grow larger; these companies normally do not pay a dividend, as they are financing their expansion, so there is little or no dividend paid by the fund. The investors in the fund are looking for an increase in capital value; the shares of growing companies should increase in price over time.

Income-oriented funds invest in mature companies, who can use some of their cash to pay a dividend because they are no longer paying for growth of the company. Investors in these funds are looking for an income, with some appreciation in capital value; some may re-invest the income as, long term, re-invested dividends are the single most important factor in investment returns. BTW, when comparing with savings rates it is important to bear in mind that stock market investment offers capital growth as well as dividend income; note too that basic rate tax payers have no further tax to pay on dividends, so you need to compare after-tax rates, not gross.

In both cases ( growth and income funds ), returns are muted somewhat by the charges associated with fund investment.

EdInvestor

ianr900 wrote:

In simple terms, is yield of a unit trust comparable to interest earned in a building society account?Am I missing something here? If I compare the yields from some unit trusts (say for example 40 funds from F&C http://www.fandc.com/oeics.asp?pageId=26.1), only one seems to offer a yield better than the 5% available from a building society! But this surely is a higher risk than a BS, as the value could go down.

The dividend yield on shares has some aspects in common with interest on cash: it's paid out regularly and can fluctuate (though dividends tend to be more stable than interest rates on the whole.) There is also a difference: dividends are not subject to tax for basic rate taxpayers, whereas savings interest is taxable.

Note that charges are often deducted from dividends by funds/unit trusts, so if you hold the underlying shares direct,your dividends will normally be higher.It is quite easy to construct a portfolio with an overall yield similar to cash interest.

As far as the capital is concerned, holding cash will almost inevitably incur a loss over the long term because of inflation: over 20 years the value of your money will almost halve, even with today's low inflation rates. With a share investment, over the long term, history suggests the value of the capital will rise. This will be accompanied by volatility ( share price wobbles up and down).

Long term studies suggest that shares will grow by inflation plus the value of the (reinvested) dividend, hence the forecasts you get showing growth at 7%. [These are often misleading because they exclude the effect of charges.]

ianr900

Very nicely explained. Thanks to everyone who responded, I feel I understand it a lot better now!

marrioa

I too appreciated those explanations. Thank you.

On similar lines, I think, I wanted to ask about ACC and INC. A lot of the funds I have looked at come in both flavours, but the price for the ACC units appears to be higher. Why? If I want any income to be re-invested would I choose the ACC version?

I am also wondering about "double charging" on some Fof Fs. Does this always apply or only with certain funds and/or certain discount brokers?

EdInvestor

marrioa wrote:

I too appreciated those explanations. Thank you.

On similar lines, I think, I wanted to ask about ACC and INC. A lot of the funds I have looked at come in both flavours, but the price for the ACC units appears to be higher. Why?

Because the ACC ( for accumulation) fund contains the reinvested divi money whereas with the INC (for income) fund, the divi money has been paid out to the fund investors.

If I want any income to be re-invested would I choose the ACC version?

Yes.

I am also wondering about "double charging" on some Fof Fs. Does this always apply or only with certain funds and/or certain discount brokers?

I haven't personally checked, but I believe so.You should be able to get some of the charges rebated,but the FOF/ multi manager funds are always likely to be more expensive.Yet the FoF sector has not outperformed so far.

Some people think that FoF/MM funds were invented a) to extract more charges and b) so that advisors could avoid making judgments ( which might later turn out to be wrong) about what their clients should invest in.

I've absolutely no idea at all whether such gossip is true.

dunstonh

The performance of acculumation units and income units with income reinvested will be almost exactly the same over the long term. Accumulation unit prices reflect the fact that the income is re-invested. Whereas income units have the income paid out (although it can be re-invested automatically).

Accumulation units can be attractive to higher rate tax payers wanting access to income funds but do not want the distributions to hit their tax return. Or some people may just want to take the natural income from their units rather than a fixed regular withdrawal and the income units are better placed for that.

If you are not going to take the income and have auto re-invested and its going into an ISA, then you will see no difference. Income will give you more units but at a lower unit price. Acc will give you less units at a higher price. However, the end result will have the same value.

marrioa

Thanks for the explanations. I'm making my own glossary!!

I've seen the M & G Fund of Investment Trust Shares. Their AMC is 1% and until May they are waiving the IC. There is an exit charge that diminishes over time and disappears after 5 years. Has anyone anything to say?

Ed - I know you frown on these funds, but as a new investor they seem to provide much of what I need. I do not want to invest the amount needed to diversify sufficiently by buying into lots of assets/sectors. I'll wait a while before I feel comfortable doing that.

dunstonh

I've seen the M & G Fund of Investment Trust Shares. Their AMC is 1% and until May they are waiving the IC. There is an exit charge that diminishes over time and disappears after 5 years. Has anyone anything to say?

A lot of fund houses run special offers through the fund supermarkets each month. You can see what each one is offering.

Yet the FoF sector has not outperformed so far.

Out performed what? Many have only been running a few years and havent had a stockmarket crash to show their worth.

Some people think that FoF/MM funds were invented a) to extract more charges and b) so that advisors could avoid making judgments ( which might later turn out to be wrong) about what their clients should invest in.

Those same people who prefer to stick all their money in one place no doubt.

Ed - I know you frown on these funds, but as a new investor they seem to provide much of what I need. I do not want to invest the amount needed to diversify sufficiently by buying into lots of assets/sectors. I'll wait a while before I feel comfortable doing that.

Which is exactly what they are good for.

Which area is going to be the best sector to invest in next year, the year after and the year after? Nobody knows. We see lots of reference to high yield portfolios but the last 6 months have seen growth portfolios outperforming high yield. We have seen the US starting to pick up nicely. The FTSE100 was one of the worst places to be over the last 5 years but the FTSE250 one of the best. The 5 years before that it was the other way round.

The FoFs allow you to get that diversification and spread which you just cannot get unless you are investing larger amounts.

EdInvestor

Which area is going to be the best sector to invest in next year, the year after and the year after? Nobody knows. We see lots of reference to high yield portfolios but the last 6 months have seen growth portfolios outperforming high yield.

Anyone who thinks the point of investment is a constant search for whatever fund, sector or country is outperforming this year will probably not make much money over the long term, because he (or his advisor or fund manager) will be churning his portfolio all the time and the charges will eat up the profits. Of course we all know this is a key factor in the way the industry makes its profits: that's no secret.

High yield portfolios produce steady, and usually double digit returns year after a year, because dividends are stable. Reinvested divis are like compound interest: you get growth on the growth.The long term return on the stockmarket for more than 100 years is inflation plus the dividend yield: if you are stupid enough to invest in ways that exclude the second item from your returns, then you cannot expect to profit optimally from investing.