Financial planning, investment structures, superannuation and mortgages

Public Unit Trusts

Master Trusts

Public Unit Trusts

A unit trust is a legal structure in which each participant is allocated units or portions in accordance with the proportion of the trust that they own. Each unit is of the same value and represents the same proportion of the underlying assets. Each unit also receives the same proportion of any income of the trust and gains or losses are applied equally to each unit.

Public unit trusts are more commonly known as managed funds and allow investors with relatively small amounts of money to pool their funds together to enable them to access investments that may otherwise not be available to them. Managed funds have a professional investment manager (or managers) who usually have higher levels of investment expertise and access to information not normally available to the average investor.

Comparison with Direct Investments

There is an ongoing debate as to whether managed funds are better (or worse) than investing directly into assets such as shares and property. This debate usually comes down to three issues, being fees, investment returns and diversification.

Virtually all investments have costs and fees associated with them. In the case of managed funds there are manager’s fees and trustee or custodian fees, whilst for direct shares there is the cost of brokerage and stamp duty. In the case of direct real estate there are legal fees, stamp duties and agent’s commissions. In all of these instances the costs and fees reduce the investment returns.

Investment returns come down to the skills of the investment manager in the case of managed funds and the skills of individual investors in the case of direct investments. This means, that if you have shares in a single company and it performs extremely well, then your returns are likely to be higher than if you had used a managed share fund which may own shares in forty different companies. On the other hand, if you have shares in a company that fails, you will be much worse off than if you had used the managed share fund.

This brings us to perhaps the greatest argument in favour of managed funds - diversification. If, for example, you had $20,000 that you wished to allocate to the sharemarket, it would be unlikely that you would invest in more than four companies. If one of those companies failed say XYZ Limited, you would have lost $5,000 or 25% of your capital. On the other hand it would be quite feasible to invest $20,000 across five different managed share funds, each of which could be using distinctly different investment strategies. Furthermore, each of the managed funds could be investing in as many as forty or fifty different companies. If one of the five managed funds also had a 5% investment in XYZ Limited, your loss would be limited to $200 or only 1% of your capital.

Even though it may appear that managed funds have higher costs than direct investments, the fund managers have often been able to add sufficient value to the extent, that even after fees, the managed funds have in many cases been able to outperform direct investment equivalents such as the Australian Stock Exchange’s All Ordinaries Index. This competitive level of performance, when combined with the advantages of diversification, make managed funds an attractive alternative to direct investments.

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Master Trusts and Funds

Master trusts are best regarded as investment administration systems rather than as distinct investments in their own right. Their primary purpose is to simplify both the initial and ongoing investment management processes.

Investors who use master trusts are still able to have a fully diversified investment portfolio incorporating a number of different investment products offered by a wide range of financial institutions. Instead of completing application forms for say ten different investments, an investor using a master trust can select the ten different investments but use only a single application form. Similarly, instead of receiving ten separate income distributions and financial statements, the master trust will consolidate all of the income into a single account and produce a single consolidated financial statement.

This means that as an investor in a master trust, you have your own dedicated investment account, which is comprised of the particular investments that you have selected. As a result, the treatment by the Taxation department and by Centrelink of investments held within a master trust is the same as if you held the investments in your own name.

There are two basic types of master trusts, those that allow investors to choose the specific underlying funds that they wish to invest in (called discretionary master trusts) and those in which the master trust manager selects the underlying funds (called fund of funds). We will be recommending that you utilise a discretionary master trust.

Master funds operate in different legislative environments. For example there are superannuation master funds, pension master funds and ordinary non superannuation master funds. What all master funds have in common is that they primarily use wholesale rather than retail managed funds as their underlying investments.

The Main Characteristics of Master Funds

Most master funds have the following characteristics:

	The ability to add additional money if it becomes available.
	The ability for you to receive a regular income on a monthly, quarterly or annual basis.
	The ability to withdraw part or all of the capital in your account at any time. Please note that this could be subject to legislative restriction or change in respect of superannuation and pension master funds.
	Access to a large range of investments provided by Australia’s leading financial institutions.
	Access to wholesale investment funds, which have lower cost structures and often have superior investment performance than their retail equivalents.
	Automatic reinvestment of investment income.
	Automatic rebalancing of your investments according to your preset individual investment profile.
	Your underlying investments can be changed and your portfolio rebalanced at any time, simply and at no cost.
	The administrative simplicity of consolidating all of your investments, their income distributions and reporting into a single account in your name.
	Detailed six monthly reports and an annual taxation report

Comparison with Retail Funds

The fact that the master fund manager receives a fee adds another layer of cost to the overall investment structure compared to retail funds which only have a manager’s fee and trustee’s or custodian’s fee. Thus there are three levels of fees applying to a master trust: master trust manager, underlying investment managers and trustee / custodian.

There are, however compensations for this extra layer of fees. In a retail fund, the manager’s fee is often twice as high as the fee paid to the managers of the underlying wholesale funds used by master funds. In addition, the wholesale funds have generally been able to produce a superior level of performance when compared to the same funds operating in the retail area.

This means that at the end of the day, many master funds produce similar or at worst slightly lower levels of performance after fees, as do their retail equivalents. Thus master funds provide value to their investors as they simplify the investment process and still produce similar investment returns.

Even though the underlying investments within a master fund have the same risk characteristics as do retail funds, investing using a master fund does carry an additional element of risk. That is, the failure of the master fund’s administration system. In such a circumstance, access to your account with the master fund may be temporarily unavailable which means that you may not be able to effect changes to the underlying investments nor make withdrawals. It is however unlikely that you would lose any capital as your underlying investments would be held as units in various wholesale funds managed by major financial institutions.