An Introduction to Funds in Singapore: What Are Unit Trusts and ETFs?

Unit trusts and exchange-traded funds (ETFs) have gained in popularity among investors in recent years as an easy and affordable way to invest their money. In this guide, we explain the basics of unit trusts and ETFs to help you understand the costs, benefits and risks of investing in a fund or an ETF.

What Is a Unit Trust Unit trust?

A unit trust, also called a mutual fund, pools money together from a large number of investors to buy stocks, bonds and other securities. Usually, these are managed by management companies like Blackrock or Fidelity that offer a multitude of different fund products with unique goals (i.e. Emerging Markets Fund, Value Fund, Growth Fund, etc.) from which investors can pick and choose.

Typically, investors can only invest into a fund through the management company, though some brokerages can also buy shares in these funds for their customers. However, you cannot trade these shares with other investors in the market.

Price of a Unit Trust

At the end of each trading day, the total net asset value (NAV) of the fund is calculated by summing up the value of all the investments minus liabilities that the fund holds. For example, let’s say that Company A manages a unit trust that has invested $200 million dollars from its investors in a variety of stocks and bonds. This $200 million investment would be considered Company A’s assets. Let’s also say that Company A needs to pay $20 million to its employees and for rent. This would be considered the company’s liabilities. If the company has issued 9 million shares, the price that you could purchase a share of this unit trust would then be $20: Net Asset Value per Share = (S$200mn Assets – S$20mn Liabilities) ÷ 9mn Shares of Unit trust = S$20 per share

Unit trust Fees

Fund management companies attempt to create portfolios that outperform the market over a long period of time. In exchange of the extra return they seem to promise, unit trusts charge fees to investors who buy shares in their funds. These fees pay for the costs of running a portfolio, from paying the investment analysts to rent of their offices. 

However, vast majority of these funds historically have underperformed the market and often cannot justify the level of fees they charge. While the 1-2.5% of fees charged by mutual funds are still low compared to the famous 2/20 charged by hedge funds, many have complained that unit trusts do not deserve such a high fee given their poor performance over the years. Therefore, it’s often wise to minimize fees as they can eat into your returns and reduce your money’s ability to compound over time. Below, we show the most typical types of fees charged by unit trusts and mutual funds in Singapore.

Fee Description

Subscription/Initial Sales Fee or

Redemption/Realisation Fee

Front-end or Back-end lumpsum charge that you need to pay to buy or sell your share in a fund

Typically ranges from 1% to 5% in Singapore

Management Fee/Expense Ratio

Recurring fees that the fund manager charges for providing their service

Typically Ranges from 1 to 2.5% in Singapore

In the table below, we examined three comparable unit trusts with different expenses to see just how fees can impact your returns. Fund A has an expense ratio of 0.25%, Fund B has an expense ratio of 1.25% and Fund C is a subscription fee of 5% and an expense ratio of 1%. We assumed 10% growth every year and an initial investment of $15,000 with no additional investments. 

Timeline Fund A Fund B Fund C
Initial investment 15,000 15,000 14,250
5 years 23,884 22,816 21,925
10 years 38,031 34,704 33,735
15 years 60,556 52,787 51,905
20 years 96,423 80,293 79,863

As you can see, Fund A has the highest value every year because it also had the lowest fees of the funds. With both Fund B and Fund C, the investor loses out on over $16,000 in additional returns because of the fees. This is because fees eat away at your capital every year, which could have otherwise compounded by 10% over time. You may also be charged transaction fees if you purchase a unit trust through a brokerage.

Index Funds and Other Types of Unit trusts

While some unit trusts are “actively managed,” meaning they try to outperform the market, some other types of funds are “passively managed.” Also known as index funds, they are a type of unit trust that attempt to match the performance of a market index, like the STI or S&P 500, by investing in the component securities that make up the index. These funds do not “actively” pick which stocks or bonds they think will be better than average. Given such a value proposition, index funds typically charge lower fees than other types of unit trusts. 

There are other types of unit trusts beyond index funds. Some funds focus on specific types of assets or a specific investing strategy. They can also be hybrid that blends a few different types of strategies. Below we have included the most common types of unit trusts an investor will see.

Type Description
Money Market Fund Invests in money market instruments, such as Singapore Government Securities
Equity/Stock Fund Invests primarily in stock
Income Fund Type of stock fund that invests in stocks that have consistently high dividends
Growth Fund Type of stock fund that invests in stocks that have the potential to grow substantially
Sector Fund Type of stock fund that invests in stocks in a particular industry sector, like financial services or health care
Bond Fund Invests primarily in fixed-income assets, such as treasury bonds, corporate bonds or municipal bonds
International Fund Invests in securities inside and outside of United States
Balanced Fund Invests in both stocks and bonds and designed to be an investor's entire portfolio
Asset Allocation/Flexible Funds Invests in both stocks and bonds that fund manager thinks will do well
Index Funds Invests in securities that make up market index to match performance of the index

Benefits and Risks of Unit trusts

There are many obvious reasons why unit trusts are so popular among investors. First, unit trusts present an easy and relatively affordable way to build a diverse portfolio. When you purchase a share of a unit trust, you can gain exposure to hundreds of different securities without doing the research yourself. Secondly, you can get a diversified portfolio of your choice that is managed by professionals who have much more experience in investing and have put in much more effort into researching what goes into their portfolios. Also, unit trusts and mutual funds are quite liquid, meaning you can sell or buy your shares easily without needing to wait a long period of time. 

On the other hand, there are inherent risks when investing in a unit trust. First, as with all investments, you may lose money by buying a share of a unit trust. Secondly, past performance of a fund does not guarantee future performance. Just because a fund did extremely well the year before does not mean the fund will perform similarly in the current year. Most importantly, vast majority of funds have underperformed the market but still charge high fees. Therefore, you may lose out on the potential returns you could have earned by simply investing in an index ETF with much lower fees.

What Is an Exchange-Traded Fund (ETF)?

Exchange-traded funds (ETFs) are very similar to unit trusts with some important differences. Like a unit trust, an ETF pools investors’ money and invest in securities likes stocks and bonds. Its aim is to track and mimic the performance of the underlying securities in which it has invested. For example, the most well-known ETF in Singapore is the STI ETF, whose goal is to closely track the performance of Straits Times Index for the largest 30 companies on the Singapore Stock Exchange. 

Unlike a unit trust, however, investors can trade shares of ETFs on the market exchanges through a broker, instead of buying them from a particular fund management company like Blackrock. Therefore, ETFs trade like stocks, and their prices depend on the supply and demand of investor interest, not just the NAV of the ETFs. This means that an ETF’s price can sometimes deviate from the value of its underlying securities. Also, ETFs come in a much bigger variety than a unit trusts and can provide investment exposures that are highly tailored, i.e. investing in gold miners.

ETF Fees

The fees associated with ETFs are a little bit different from unit trusts. ETFs are meant to merely mimic an index instead of outperform them, so also come with lower costs. Typically, ETFs charge a very low fee that is typically only about 0.1% to 0.65%, and this fee actually paid by the ETFs to the management company that operates & maintains the ETFs. As an investor, the only direct fee they end up paying out of their pockets is the transaction fee for buying and selling ETFs through a broker. 

Types of ETFs

A majority of ETFs are index ETFs, sometimes also referred to as index funds, that follow the same investing strategy as index unit trusts. In fact, STI ETF is essentially a cheap way of investing in the Straits Times Index. There are a few ETFs that are actively-managed, but they typically have higher expense fees on par with unit trusts. Like unit trusts, ETFs can specialize in a variety of assets, including stocks, bonds, currency and commodities. There are also other types of ETFs like synthetic and swap-based that employ derivative securities and provide very unique set of risk/returns characteristics.

Type of ETF Description
Cash-Based Most common type, directly invests cash into stocks, bonds or commodities.
Synthetic

Use derivative products to produce returns that track relevant indices.

Can juice returns but also can result in losses from default of counterparties.

Swap-Based ETF swaps returns with counterparty's basket of investments.
Access Product-Based Used for exposure to markets that are typically restricted, like China or India.

Benefits and Risks of ETFs

ETFs have two main benefits in contrast to unit trusts in Singapore. First, an ETF comes without the high costs typical of a mutual fund. Without paying an upfront fee or maintenance fee, investors can get access to well diversified portfolios of their choosing. Secondly, ETFs can also be traded throughout the day like stocks, and therefore can provide better liquidity to investors than a unit trust. Lastly, ETFs come in much more variety of flavors than unit trusts and therefore can tailor to individual needs of different investors. 

Much of the risks associated with ETFs are the same as those associated with unit trust, with one notable exception. Since ETFs are traded throughout the day, there is the possibility that the market price of an ETF is not equal to the net asset value of the ETF. This can happen due to a variety of factors like 1) irrational market psychology and 2) impact of expense fees charged by the management company. A small discrepancy between these two prices means that the cost advantage of an ETF may be lost. If the market price of the ETF is greater than the net asset value, then it is similar to paying a load on a unit trust or paying a higher expense ratio. These instances, however, are quite rare.

How to Buy Unit trusts and ETFs

The easiest way to buy a unit trust or ETF is through a broker. You can also purchase shares of a unit trust directly from the fund itself, avoiding any transaction fees charged by a broker. Some brokerages also offer their own unit trusts and ETFs, for which they may charge no commissions. However, these funds may have higher expense ratios or loads than comparable funds from different companies.

You should also read over the prospectus for each unit trust or ETF you are considering. The prospectus is a document each fund issues that describes the fund’s investment objectives and policies. The prospectus will also provide details of the risks inherent in investing in the fund and all costs associated with purchasing a share of the fund. It will also describe the fund’s investment advisor and portfolio manager.

You should also be thinking about what type of fund you want to invest in and how it will fit into your current portfolio. This includes understanding the fund's investments, strategy and exposure levels to different types of factors. Perhaps, you have specific areas of interest that you want to gain more exposure in, or industries that you want to avoid investing in at all costs. Most of this information can be found in the fund's prospectus. At the end of the day, you should make sure to do the homework and understand what it is you are buying. After all, wouldn’t you do the same for anything else you buy for a big sum of money?

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