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An introduction for investment industry professional

An introduction for investment industry professional

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Unit Investment Trusts Unit Investment Trusts Presentation Transcript

  • Unit Investment Trusts An Introduction for Investment Industry Professionals September 2013 1
  • Agenda Definition Distribution Comparison UITs in Portfolios Risks 2
  • Definition What is a UIT? 3
  • What is a UIT? • UIT stands for Unit Investment Trust • A UIT is a type of commingled investment vehicle available to U.S. investors • The Investment Company Act of 1940 establishes the definition of UIT 4
  • 1940 Act Definition of UIT Section 4 (2) of the 1940 Act says: ‘‘Unit investment trust’’ means an investment company which (A) is organized under a trust indenture, contract of custodianship or agency, or similar instrument, (B) does not have a board of directors, and (C) issues only redeemable securities, each of which represents an undivided interest in a unit of specified securities; but does not include a voting trust” [Emphasis added.] Link to text: 15 USC 80a–4: Classification of investment companies 5
  • “Unit of Specified Securities” • This term is not defined in the 1940 Act – It is commonly referred to as a requirement for a fixed or unmanaged portfolio • The SEC has said that the investor in a UIT must know with a “high degree of specificity” the securities that will be in the UIT portfolio 6
  • Practical Definition of UIT: 5 Components Investment vehicle that holds a “fixed” portfolio of investments for a defined life and offers redeemable units to investors 7 #1 #2 #3 #4 #5
  • Component #1: Investment Vehicle • Today, UITs are almost always organized as common law trusts – UITs are not incorporated entities, like the statutory or business trusts used for open-end funds – UITs are created by parties entering into a contract in the form of a trust agreement or indenture – UITs do not have a board of directors or board of trustees 8
  • Component #1: Investment Vehicle (cont.) • For tax structure, a UIT can be either a registered investment company (RIC) or grantor trust – RIC has the same tax structure as most open-end mutual funds and has diversification, income and distribution requirements, but may “vary the investment” of unitholders • I.e., under tax rules, the fund can be actively-managed – Grantor trust has no diversification, income or distribution requirements, but cannot vary the investment of unitholders (26 CFR 3701.7701-4) 9
  • Parties Involved in a UIT 10 Depositor or Sponsor Trustee Evaluator Supervisor
  • Role of the Depositor or Sponsor • A Depositor or Sponsor is required to create a UIT – “Orphan trusts” lose their Sponsor after creation, though these orphan trusts are rare • In modern UITs, the Depositor creates the UIT by: – Depositing securities into the trust – Receiving units of the trust in exchange – Selling those units to the public (taking role of Principal Underwriter) 11
  • Role of the Depositor or Sponsor (cont.) • Depositors are normally broker-dealers – In order to comply with regulations on conducting securities transactions to form the UIT and on sale of units to the public • The Depositor normally: – Lends its brand name to the UIT – Is responsible for code of ethics and compliance policies 12
  • Role of the Trustee The Trustee: • Is required to create a UIT • Acts as custodian by holding securities in trust • Provides fund administration services – Includes daily striking of NAV • Normally acts upon instructions from the Depositor 13
  • Role of the Evaluator • An Evaluator is not required, but often present – The role may be handled by the Trustee • The Evaluator values securities daily for NAV calculation • The Evaluator: – Is generally a registered investment adviser – Can be the Depositor (or affiliate) or an independent 3rd party 14
  • Role of the Supervisor • A Supervisor is: – Not required, but often present – Generally a registered investment adviser • The Supervisor: – Monitors securities in portfolio (“surveillance”) – Advises depositor on actions that might be needed • The Supervisor’s role is more limited than that of an investment adviser to an open-end fund 15
  • Component #2: “Fixed” Portfolio • A UIT portfolio is selected at creation or inception: – By the Depositor/Sponsor or another investment manager or – By applying a quantitative screening strategy • For example, a popular UIT securities selection strategy is “Dogs of the Dow,” which involves selecting the 10 highest dividend yielding stocks from the Dow Jones Industrial Average 16
  • Component #2: “Fixed” Portfolio (cont.) • A UIT does not have a portfolio manager actively buying and selling portfolio securities during the life of the UIT – Therefore, a UIT does not have an investment adviser – A UIT’s holdings may change due to bond calls, mergers, etc. – The Supervisor makes recommendations on corporate actions, proxy votes, etc. 17
  • Trading in the “Fixed” Portfolio • The “specified securities” may be index components – Trading is allowed to keep the portfolio in line with index – ETFs may be structured as UITs (for example, the SPDR S&P 500 is a UIT) • The Depositor can instruct sale of securities to: – Pay expenses – Meet unitholder (investor) redemption requests – In very limited circumstances, to protect the UIT (for example, when there are serious credit concerns regarding issuer) 18
  • Component #3: Investments • Traditional investments were historically municipal bonds • Today there are UITs available for most investments: – Stocks: common and preferred, U.S. and foreign – Bonds, all types – Open-end mutual funds, ETFs, closed-end funds* – Derivatives – Commodities *UITs are among the largest holders of closed-end fund shares 19
  • Component #4: Defined Life Defined life has 2 forms: • “Equity style UIT”* – Has stated Mandatory Termination Date in prospectus – Typically has a life of 15-24 months • “Fixed-income style UIT” – Terminates when last bond matures, is called, or is otherwise liquidated from portfolio – Is normally available in most maturity ranges *A UIT owning bonds can be set up in the “equity style,” although that is very rare. 20
  • Component #5: Redeemable Units • UIT units are “redeemable securities” under the Investment Company Act of 1940 • As with open-end mutual fund shares: – Investors can redeem UIT units at the end of every business day – Redemptions are made based on the NAV calculated at that time – Orders received after market close receive the price next determined (generally the following business day) 21
  • Distribution Sales of UITs to the Public 22
  • Distribution of UIT Units • Distribution of units is the responsibility of the Principal Underwriter, who is almost always the Depositor or Sponsor – Distribution is generally continuous for limited period – Some fixed-income UITs will use an underwriting syndicate in an IPO process, similar to the distribution of closed-end funds 23
  • Distribution of UIT Units (cont.) • UITs are generally sold through intermediaries (broker-dealers or RIAs) – Investors typically do not buy units directly from the Depositor/Sponsor (unless the Sponsor is a retail broker- dealer) – Sales charges, discounts (breakpoints, fee-based account, rollover) are articulated in the prospectus 24
  • UIT Sales Charges and Expenses • The investor in a UIT pays a sales charge – The sales charge compensates the Depositor (for assembling and marketing the UIT) and intermediaries who helped distribute unites – Some portion of the sales charge may be deferred and paid during the first part of the life of the UIT – The sales charge is usually reduced for an investor rolling proceeds from a terminated UIT into new UIT 25
  • UIT Sales Charges and Expenses (cont.) • Ongoing operating fees and expenses are generally low compared to managed, open-end funds – A UIT does not charge a management fee, since it is not actively managed – A UIT does not have expenses related to board of directors 26
  • Life of a Sample Equity UIT 27
  • Life of a Sample Fixed-Income UIT 28 6 (Fixed number of units issued at inception only; offering period lasts until all units sold) 20% of Principal Amount of Bonds Mature Each Year
  • Comparison UITs vs. Other Fund Types 29
  • Fund Type Comparison: Structure 30
  • Fund Type Comparison: Features 31
  • Fund Type Comparison: Features (cont.) 32
  • UITs in Portfolios Pros and Cons 33
  • Why UITs? 34 Defined • Known portfolio • Known start and end dates • Specified investment process • More predictable income stream from fixed portfolio Complementary • Add passive component to portfolio • Diversify by asset class, sector, etc. • Target maturity to match specific goal Access • Broad variety of offerings • Specific income profiles
  • Advantages from Investor Perspective • The simplicity and low launch cost of UITs to the Sponsor means that UITs can: – Be fast to market to capture investment opportunities, even short- term ones – Can invest in very focused segments of market • Because UITs have no active management, there’s no style drift 35
  • Advantages from Investor Perspective (cont.) • UITS have a more defined income stream given their stable portfolio – The defined income stream can be particularly attractive to fixed income investors • UITs have low ongoing operating costs compared to other vehicles • The fixed termination date of UITs encourages investors to review portfolio and investment positioning 36
  • Disadvantages from Investor Perspective • Sales charges may offset operating cost advantage • There is less information available on UITs vs. many open-end funds and ETFs (no Morningstar reports, etc.) • The lack of active management means UIT portfolios will not respond to market/economic changes 37
  • From Industry Perspective • Difficult fit for 401(k)s given limited offering periods • Limited industry data available (sales, assets, etc.) • Low level of visibility vs. other investment vehicles • Less investor analytics, demographic information available 38
  • Risks What You Need to Know 39
  • Risks As with all investments, investors can lose money investing in UITs. UITS might not perform as well as an investor expects for a number of reasons. • Security prices will fluctuate. The value of any investment, including the value of a UIT, may decline. 40
  • Risks (cont.) UITs will be affected by the performance of their investments. Risks to consider include: • A security issuer may be unwilling or unable to declare dividends, may reduce the level of dividends declared, and may be unwilling or unable to make interest and/or principal payments when due. This may result in a reduction in the value of an investor’s units. • The financial condition of an issuer may worsen or its credit ratings may drop, resulting in a reduction in the value of units. This may occur at any point in time, including during the initial offering period of a UIT. • UIT portfolios are not actively managed. Except in limited circumstances, UITs will hold, and continue to buy, shares of the same securities even if their market value declines. • UITs may invest in securities issued by foreign companies which present risks beyond those of U.S. issuers. These risks may include market and political factors related to the company’s foreign market, international trade conditions, less regulation, smaller or less liquid markets, increased volatility, differing accounting practices and changes in the value of foreign currencies. 41
  • Risks (cont.) • UITs may invest in securities issued by smaller companies which are often more volatile and may have lower trading volumes than securities of larger companies. Small companies may have limited products or financial resources, management inexperience and less publicly available information. • UITs may be concentrated in securities issued by issuers in a single industry sector, located in a single geographical region or of a particular type. Negative developments impacting these industry sectors, regions, or issuer type will affect the value of an investment in such a UIT more than would be the case in a more diversified investment. UITs may be subject to additional risk depending on the investment strategy and/or types of securities held by the trust. The prospectus of the UIT for a particular trust should be consulted for more information associated with the risks of an investment. 42
  • Summary The Investment Company Act of 1940 defines UITs UITs are sold through intermediaries UITs have unique features vs. other fund types UITs have pros and cons for investors UITs have risks you should understand 43
  • Acknowledgments This presentation is based on a NICSA webinar presented on December 12, 2012, and developed by: Scott Anderson Partner Chapman and Cutler, LLP Jack Tierney Director of Unit Trust Product Research, Development and Management Invesco NICSA members can access an archive of the webinar by clicking here. 44
  • Keep Up on the Trends Through NICSA 45 www.nicsa.org news.nicsa.org @NICSAPres NICSA LinkedIn group Facebook: NICSAOnline nicsa.org/knowledge