Difference Between Unit Trusts and Money Market Funds

Financial gurus say that the only way to achieve financial freedom is by making your money work for you through investments. There are numerous types of investments. Two of them are Unit Trusts and Money Market Funds (MMFs). A lack of understanding of these different types of investment can lead to missing out on viable investment opportunities.

This article will elaborate on the differences between unit trusts and MMFs to give you a better understanding.

Structure

A unit trust is an investment vehicle where inventors pool their money together to form a trust. A professional fund manager invests the amount pooled under the trust. The fund manager makes investment decisions on behalf of the investors following the objectives of the fund. Shareholding in the trust depends on the amount the investor has invested. The share they own is known as a unit. Fund managers invest in different financial instruments including bonds, bills, stocks, and other securities.

On the other hand, money market funds are a mutual fund that invests in short-term, low-risk securities. The primary goal of MFFs is capital preservation and hence they invest in highly liquid assets such as Treasury bills, commercial papers, and fixed deposits. Mostly MMFs are used as cash management tools for companies and short-term investment options for individuals.

Objective

The objectives for both Unit trusts and MMFs vary. They are all investment tools but they are designed to serve different types of investors.

For instance, unit trusts, bring together many investors and invest their money. This pooling of investors allows for an easy entry point to investors especially if one does not have much to start with. Unit trusts ensure that you are not locked out of certain investments.

While MMFs can also offer a friendly entry into the investment world, investments in MMFs are designed for investors looking for low-risk, high-liquid investments. These investors are not looking to double their money, rather they are looking for investments that would allow them to preserve their capital against economic forces such as inflation and also be able to access the capital whenever they need to.

To better understand the two investment vehicles let’s highlight their advantages.

Advantages of Unit Trusts

Unit trusts are a great way to invest. Here are a few things that make it so.

• Diversification - Unit trusts not only pool money from many investors they also invest in a diversified portfolio. Their investments can range from bonds, stocks, and other securities. The spread in the portfolio helps mitigate risk and reduces the impact of one poor performance by one asset class.
• Professional Management - Unit trusts are managed by professional fund managers hence alleviating the need for the investor to invest the time and energy studying each investment. This also makes it possible for new investors to gain entry into the investing world. The fund managers use their expertise to maximise the profits of the fund adhering to the fund’s objectives.
• Accessibility for Small Investors - Even with relatively small capital small investors gain access to a diversified portfolio and professional portfolio management through unit trusts. For this unit, trusts are suitable for both novice and experienced inventors.
• Regulatory Oversight - Unit trusts are under regulatory oversight to ensure that investors are protected against fraud and other malpractices. In Kenya, unit trusts are managed by the Capital Markets Authority (CMA) which sets guidelines monitors the activities of the trust, and ensures compliance with the law, industry standards, and also fund objectives.
• Liquidity - Unit trusts are liquid as investors can sell or buy units on most of the business days. Unit trusts offer better liquidity compared to holding individual bonds and shares. Hence investors can enter and exit the market easily.

Advantages of Money Market Funds

These are some of the advantages of money market funds.

• Liquidity - One of the main objectives of money market funds is liquidity. These funds invest in short-term securities to ensure that investors can redeem their shares and access their funds with ease.
• Low Minimum Investment - Money market funds offer a low minimum investment to novice investors since some of them require a minimum investment of as low as Sh1,000. This low minimum investment enables access to investments for many more people.
• Income Generation - While income generation might not be the intuitive reason for investing in MMFs, they can offer a reliable source of income. These funds do not target the highest returns, however, the low-risk low-reward returns are stable and can be depended upon as income. This approach to MMFs is best for an investor who wants to strike a balance between yield and safety.
• No Lock-In Period - MMFs are designed to enable investors to access their money within a short notice period. Hence they do not have a lock-in period. As opposed to holding individual bills and bonds which you have to wait till maturity, with MMFs you are versatile and can get in the market and get out as fast as you need.
• Capital Preservation - Another major objective of MMFs is capital preservation. MMFs aim to maintain a Net Asset Value (NAV) of Sh1. The stability provided by the NAV is attractive to investors interested in capital preservation. This means that only earnings above the Sh1 NAV are shared among investors as dividends and the capital value remains stable.

Risk and Return

Unit trusts are exposed to a relatively higher risk compared to MMFs. Unit trusts are optimized for returns and they mitigate their risk by investing in a broadly diversified portfolio. The higher exposure to risk also allows unit trust to have potentially higher earnings.

However, MMFs are optimized for minimal risk. Hence they might not have high potential for returns but their investments are secure and low risk.

Investment Horizon

Unit trusts are more suitable for investors with a long time investment horizon. These are investments that the investor plans to reap after years of investment. The longer an investor invests with a unit trust it also helps cushion them against market movements and the higher risk potential that unit trusts have. A common adage goes, the markets will always come back, hence if as an investor you wait a long time, you are more likely to make money in the long term.

Nonetheless, MMFs are suitable for investors with a short-term investment horizon, The assets that MMFs invest in a relatively short-term and can provide the liquidity and the low risk that the fund needs to achieve.

Regulation

Both unit trusts and MMFs are regulated by the Capital Markets Authority (CMA). The authority monitors the activities of these funds and ensures they comply legally and the interests of investors are being properly taken care of. The authority also ensures that fraud and other malpractices are not conducted.

Wrapping Up

Both unit trusts and money market funds are great investment vehicles. However, they are designed to accomplish different objectives. They therefore cater to different investors. As an investor understand your objectives and figure out which of the two fits your investment needs.

In Kenya, money market funds are regulated by the Capital Markets Authority (CMA), and they invest in various instruments, such as government Treasury bills, commercial paper, certificates of deposit (CDs), repurchase agreements, and short-term corporate debt.