What is a Unit Investment Trust?

One of the confusing things about exchange traded funds (ETFs) is that they can take several forms, the most common of which is the unit investment trust. Some descriptions of ETFs just describe them as unit investment trusts and leave it at that.

Of course, defining one term (exchange traded fund) with another that is equally if not more obscure is not very helpful. So, we'll try to explain what a unit investment trust is.

One of Three Kinds of Investment Companies

A unit investment trust is one of only three kinds of investment companies - the other two being mutual funds and closed end funds. A unit investment trust issues shares in very large blocks (usually 50,000 shares) that are then traded on the secondary market (the secondary market is the ordinary stock market).

The trust issues the large blocks of shares and will, under certain circumstances, buy back those blocks.

What is Important about Unit Investment Trusts for Investors

The unit investment trust (or ETF) does not manage its portfolio or engage in active trading. Since its set of securities remains fixed (or only varies if necessary to keep up with changes to the index the trust is designed to track), investors can be assured that the value of the underlying assets will continue to match closely the index the trust is tracking.

This is how ETFs are able to track the performance of stock indexes so closely while maintaining low expenses. This steady performance plus low expense ratios is what makes trading ETFs so attractive - and the popularity in recent years of the unit investment trust (ETF) concept has led to explosive growth in the number of ETFs available.

When it comes right down to it, it is after all expense performance that is important when it comes to investing, and this is where unit investment trusts can shine!