Investing in Unit Trusts & Open-Ended Investment Companies (OEICs)
Looking to invest in unit trusts & open-ended investment companies (OEICs)? Understand the basics of how they work with interactive investor.
What are OEICs and unit trusts?
Unit trusts and open-ended investment companies (OEICS) are both a type of investment fund. Funds are collective investments that allow investors to pool their money together to create a large fund investing across a range of different shares and/or other assets such as bonds or property.
This is run by a professional manager in line with the fund's objectives, most typically aiming to deliver growth, income or a combination of the two.
Not all funds are actively managed: some are run on a passive basis using a computer programme that replicates the holdings of an index such as the FTSE 100 or the FTSE All-Share. This means the performance of the fund will never beat the return of the index, although this isn't necessarily something that an actively managed fund will do either. There are two types of passive fund: index funds and exchange-traded funds (ETFs).
What is the difference between a unit trust and an OEIC?
They are very similar, but with some subtle differences. Funds with a unit trust structure create units when investors want to buy, and cancel units when investors sell. The creation of units can be unlimited, which explains the terminology: open-ended fund. The price of each unit reflects the value of the fund’s underlying investments.
An OEIC operates in a similar fashion, but the difference, as the long name suggests, is that it is structured as a company, although not listed on the stock exchange. Instead of units, shares are created and cancelled when investors buy and sell. As with unit trusts, the shares in an OEIC reflect the value of the fund’s underlying investments.
In the majority of cases, unit trusts and OEICs calculate their prices once a day. Also in the vast majority of cases, funds offer investors daily trading, although it is worth pointing out that some funds that invest in liquid investments, such as property, have been known to put fund suspensions in place during periods of economic or market uncertainty.
Another difference relates to pricing. Unit trusts quote an offer price (the price to buy) and a bid price (the price to sell). The difference between the two is known as the bid-offer spread. In the case of OEICs only one price is quoted.
How to invest in OEICs & unit trusts with ii
Choose how you want to invest
We've made it simple:
- Top up monthly with our regular investing service and pay no trading fees.
- Or buy & sell investments as and when you choose. Your first trade each month is free.
How much does it cost to trade OEICs and unit trusts?
We charge a low, flat fee of £9.99 per month, which covers you for our Stocks and Shares ISA, Junior ISA and Trading Account (add a SIPP for an extra £10 per month).
Funds charge a separate annual fee, which is paid to the fund management company. Actively managed funds tend to have an ongoing charges figure (OCF) of between 0.85% and 1%. In pounds and pence this works out at £85 to £100 a year on a £10,000 investment. Passively managed funds are cheaper, with some index funds and ETFs for two of the main developed markets (US and UK) costing less than 0.1%. A 0.1% charge would work out at £10 on a £10,000 investment.
Pros and Cons of investing in OEICs & unit trusts
- Instant diversification
- Decision-making outsourced to professional investor
- Plenty of choice and different asset classes to choose from – equity, bonds, property.
- Can take income or reinvest it to boost growth potential
- Useful for investors who do not have time or inclination to buy shares
- No guarantees the fund manager will outperform a comparable index
- You still pay an annual fund charge to the fund management group – regardless of how well or poorly the fund performs
- Active funds are higher-cost than simply ‘buying the market’ through a tracker fund or ETF
- Key person risk – the fund manager could leave
How have OEICs and unit trusts performed in the past?
Fund marketing literature comes with the caveat that “past performance is no guide to the future”. While it is true that strong past performance is no guarantee to future success, an analysis of consistency can help investors select funds that will afford them a smoother ride. But it is important to recognise the reasons for the consistency. Is it down to the manager’s stock-picking prowess, or to their investment style being in favour?
In regard to how OEICs and unit trusts have performed in the past, the results vary according to the fund sector, objective and timeframe assessed.
But to give investors a flavour of how fund performance can vary from sector to sector, the table below showcases how the average fund in the following 10 leading sectors has fared over the past 10 years. Please note IA refers to Investment Association, the trade body for funds.
|Sector||10 year performance*|
|IA North America||223.4%|
|IA Global Equity Income||122%|
|IA Asia Pacific Equity excluding Japan||90.7%|
|IA UK All Companies||88.5%|
|IA UK Equity Income||81%|
|IA Mixed Investments 20-60% shares||56.6%|
|IA UK Direct Property||55.2%|
|IA Global Bonds||48.1%|
Funds versus investment trust performance
Investment trusts have certain structural advantages that set them apart from open-ended funds (link to investment trust page). Such features, when used effectively, give investment trusts an opportunity to gain an edge on open-ended funds, particularly during good times when markets are largely buoyant.
Understanding taxes and fees
The income distributions from OEICs and unit trusts are typically classed and taxed as either dividend or interest, in line with the underlying asset allocation of the fund. So if a fund’s assets are more than 60% interest-bearing, its payouts will be classed as interest for tax purposes.
There are exceptions to this - the principle one being Property Authorised Investment Funds (PAIF funds), that will typically split their distributions into three income streams (dividend, interest and property income distributions).
You can find more details on OEIC and unit trust taxation on the HMRC Investment Funds Manual.
Those who have investments held outside an Isa or Sipp (and therefore potentially subject to tax) need to bear in mind the dividend tax allowance for income received (which for the 2020/21 tax year stands at £2,000), and the capital gains tax allowance covering any profits made on sales (£12,300).
On dividends received above the £2,000 threshold, basic rate taxpayers pay 7.5% tax and higher rate taxpayers pay 32.5%. Additional rate taxpayers will be charged 38.1% tax on dividend income over the allowance.
In contrast, if they exceed the capital gains tax allowance, basic rate taxpayers pay 10% tax and higher and additional rate taxpayers pay 20%. (The only exception is for second properties, including buy-to-let investments. Capital gains on these investments are taxed at 18% for basic rate taxpayers, and at 28% for higher and additional rate taxpayers.)
Most popular OEICs and unit trusts
Most purchased funds in August 2020.
|2||Baillie Gifford American||North America|
|3||Baillie Gifford Positive Change||Global|
|4||Vanguard LifeStrategy 80% Equity||Mixed investment 40%-85% shares|
|5||Baillie Gifford Global Discovery||Global|
|6||Baillie Gifford Long-Term Global Growth||Global|
|7||Vanguard LifeStrategy 60% Equity||Mixed investment 40%-85% shares|
|8||Baillie Gifford Managed||Mixed investment 40%-85% shares|
|9||Rathbone Global Opportunities||Global|
|10||L&G Global Technology Index||Technology and Telecommunications|
The price and value of investments and their income fluctuates, so you may get back less than the amount you invested. If you are unsure about the suitability of a particular investment or think that you need a personal recommendation, you should speak to a suitably qualified financial adviser.
The information we provide in the ii Super 60 is an opinion provided by ii or one of its partners on whether to buy a specific investment. Please note that none of the opinions we provide is a personal recommendation.
Remember that each fund is unique and exposed to different levels of risk. While some are relatively low risk, others can be very risky and will only be appropriate for more sophisticated investors.
There may be a fund manager charge, which is a percentage of the value of your investment. This can differ depending on the fund.
We charge a monthly flat fee to cover the cost of our services, including the administration of your funds.