Looking for alternatives: the investment trust route
In 1868, the Foreign & Colonial investment trust wooed London savers with the novel idea of investing in a diversified portfolio of international securities.
A century and a half later, the frontier spirit of investment trusts was on display again in the nondescript function rooms of a west London hotel.
In addition to free jelly beans, the several hundred investors attending the “showcase” conference of investment companies last month were enticed by the opportunity to buy into assets ranging from rock stars’ back catalogues to Kazakh banks, and from ocean-going cargo ships to private equity buyout funds.
As wealth managers increasingly see trusts as a means to invest in alternatives and dial back their exposure, DIY investors have taken up the slack, stepping in to buy trusts in increasing force.
The top three execution-only platforms — Hargreaves Lansdown, Interactive Investor and AJ Bell — together held 3.4 per cent of investment trust shares on behalf of their clients in 2022. Last year, the portion of trusts held on the three platforms had shot up to 18 per cent.
Retail investors are now the largest category of trust owner, holding 33 per cent at the end of last year.
Pree, a 32-year-old dentist, turned up at the AIC’s showcase event last month because, after parking his money with the robo-adviser Nutmeg for some years, he was considering a more sophisticated strategy using trusts.
“You can get exposure to more assets and markets,” he said. But the hundreds of trusts available made it hard to get started. “The choice for what you can invest in can be quite confusing. It’s daunting,” Pree said.
Trust managers are keenly aware that it is hard to stand out from the crowd. For many, highlighting a specialist alternatives strategy or the ability to invest in private companies has been the path to appealing to retail investors.
“The consumerisation of investment trusts is leading to a need to say: what do you stand for and why are you here . . . If it’s not clear in five or six words, people do not want to spend time trying to figure it out,” says Currie.
Advice for investors
Savers need to be attuned to the risks. Fund managers looking to make a splash may cook up ever more niche investment themes, but retail investors need to focus on what suits their portfolio rather than the latest trends. “I’ve known quite a lot of fund managers who thought risk was spelt R.E.W.A.R.D,” says Arthur Copple, chair of Temple Bar investment trust.
Alternatives should remain a small allocation and investors need to make sure they understand the risks. “Music royalties and wind farms. Where does that sit in a private investor’s portfolio? I would suggest it sits right at the edge of it,” says Budden.
John Moore, senior investment manager at wealth manager RBC Brewin Dolphin, says investors shouldn’t stretch themselves across too many different strategies, since each takes time to understand.
“Alternatives are really rewarding but they are really hard work,” says Moore. He says investors should try to understand when different alternatives will do well or suffer losses. “When the bad news comes, is this in line with what I expected or does this challenge why I am here?” he says.
Investors should also look at the shareholder registers of the trusts, since the ownership base can make a difference to how their investment will pan out. Currie says that before buying into a trust, investors should ask: “Is the village that you’re going to join in a good state of health?”
Danger arises when large chunks of the trust are owned by one or two investors. If they sell out, shares in the trust could swing to a large discount, hurting the value of others’ holdings.
Smaller trusts — those worth under £200mn — are more likely to be vulnerable. They often won’t have enough liquidity to attract larger investors like wealth managers. “There are an awful lot of equity investment trusts that are frankly subscale,” says Copple.
Trusts stuck on a large discount often become targets for mergers, which have become more common as trusts try to achieve substantial scale. These deals can be rewarding for shareholders, but that is not something investors can count on.
Boards often face pressure to control discounts by buying back shares. This can be positive, but it can also create a downward spiral if the buybacks cause the trust to shrink and make it less appealing to new investors.
If investors wait too long, it can become difficult to sell out. “If you are stuck in one of these shrinking investment trusts, you might find that the liquidity gets worse and worse,” says Copple.
The good news for trust investors is that, unlike in standard funds, underperformers are not usually allowed to carry on for too long. Trusts, unlike funds, have independent boards that will generally take action.
“The popularity of trusts is very easy to see. A consistent, long-term discount then brings into question the viability of that investment. I think boards more and more are attuned to this and they will take action,” says Budden. “The investment trust sector is incredibly Darwinian.”
This story originally appeared on: Financial Times - Author:Joshua Oliver
