Unit trusts revealed: Make sure you don’t pay over the odds in fees for a closet tracker

Julie Brownlee, Fsp Invest, 29 Aug. 2014

Tags: unit trusts, tracker fund, active fund, closet tracker, what is a closet tracker, investing in unit trusts

Many investors like buying into unit trusts instead of directly on the stock market.

By investing in unit trusts you don’t have to pick specific stocks yourself. It’s easy to build a diversified portfolio. And you can invest from a small monthly amount as opposed to a large lump sum.

But there is a downside to some unit trusts. And that’s the ‘closet tracker’.

So what is a closet tracker? And why should you avoid them?

Read on to find out…

What is a tracker fund?

Tracker funds are unit trusts that aim to track the performance of an index by replicating the shares that make it up. The share holdings are usually in the same proportion to their market values.

For example, let’s say that diversified commodities giant BHP Billiton makes up 10% of the Johannesburg Stock Exchange’s Top 40 Index. BHP Billiton will then make up 10% of a tracker fund of the Top 40 Index.

In comparison to actively managed, the fees for tracker funds are usually low. This is because they’re passive funds. A fund manager doesn’t need to use his expertise to select shares. He is simply following the index.

What is an active fund?

In comparison, an active fund manager tries to beat an index by actively buying and selling shares. The fees of these funds tends to be higher because of this active management.

There are many sceptics of the merits of active management. These sceptics don’t believe that active management can comfortably beat the performance of the market over the long-term.

So if you want your unit trust fund to beat the performance of the index, the fund manager has to invest differently to it. But this means that some fund manager won’t get their picks right and their fund will put in a poor performance.

Bad performance as a fund manager equals losing your job.

What are closet trackers?

To try to prevent the fund underperforming, some managers build portfolios that look very similar to the index they’re trying to beat.

This means that the fund will never be a top performer, but it won’t be one of the worst performers either.

These funds are ‘closet trackers’. You should try to avoid investing in these types of funds as you pay for active management, but you don’t get that in return. They give a passive performance.

So there you have it, why you should make sure you don’t pay over the odds in fees for a closet tracker.

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