How to Define a Unit Investment Trust
Unit Investment Trusts are financial instruments that are very similar to mutual funds, yet they do have some key differences. The Exchange Traded Fund, or ETF, PowerShares QQQ is an example of a UIT. UITs are better investments than mutual funds in some ways, but they contain some of the same risks.
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Investment Companies
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A UIT is an investment company. Just like it sounds, an investment company's primary business purpose is investing in securities. The investment company takes a pool of money and invests it in securities and then issues shares of the pool to investors. A mutual fund is also a type of investment company.
Basics of UITs
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A UIT is set up as a trust and has a fixed life. Investors can purchase "units" in the trust. UITs typically invest in stocks or bonds. A UIT can be an ETF, like Powershares QQQ, which was designed to purchase shares included in the NASDAQ-100 index.
UITs invested in stocks give the unit holders a stream of dividends from the stocks in the portfolio. They also focus on price appreciation as a key source of income. At the stated end date of a stock, UIT investors receive their share of the net asset value of the stock.
If the UIT is invested in bonds, the unit holders receive payments of principal and interest throughout the life of the UIT.
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Similarities to Mutual Funds
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Like mutual fund shares, the UIT provides more diversification than holding a portfolio of individual stocks and bonds. Also like a mutual fund, UIT shares are redeemable, which means that investors can sell their shares back to the fund at any time. UITs have the same registration requirements with the SEC and are required to issue a prospectus. Like mutual funds, UITs must state an objective for the assets in the fund.
DIfferences From Mutual Funds
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Unlike a mutual fund, a UIT does not have an investment adviser who actively trades its portfolio. It is typically a fixed pool of assets for the life of the trust. As a result, it has lower expenses than a mutual fund, which has to pay an investment adviser and also incur the costs of buying and selling securities. Typically, a higher cost actively-managed mutual fund should bring higher returns, but this is not always the case.
Risks
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UITs are risky investments. Prices of the units fluctuate every day. Despite the diversification advantages of these types of pooled asset funds, they have a real downside risk. Your money is not guaranteed and can be lost. Potential investors should read the prospectus carefully before committing funds to a UIT.
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