Investment trusts have been shunned by financial advisers for years, but with lower costs and higher returns, what's not to like?
David Prosser
The Observer, Sunday 23 March 2014
From http://www.theguardian.com/money/
Given a choice of two investments for your Isa, would you pick the high-performing, low-cost option or the more expensive fund with higher charges? That might seem a silly question, but for decades, sales of unit trusts have outstripped those of investment trusts that boast superior returns and lower charges.
Unit trusts have typically been the preferred option of financial advisers. However, this has started to change following an overhaul of investment charges, snappily titled the "retail distribution review", since January 2013. This banned investment companies from paying commission to financial advisers recommending their products, something investment trust providers have never been allowed to do. Research by the Association of Investment Companies suggests there has been a 53% increase in purchases of investment trusts through financial advisers since the changes.
The trend is likely to accelerate, says John Ditchfield of independent financial adviser (IFA) Barchester Green Investment. "The appeal of investment trusts has been demonstrated consistently in performance terms, and now that commission has been banned on all of these products, they will receive more attention."
What are investment trusts?
Both unit and investment trusts are run by a professional manager who picks and chooses a portfolio of assets on behalf of investors – these might include company shares, bonds, or property. Often, a fund manager may run both unit trusts and investment trusts with similar aims and almost identical portfolios.
Investment trusts are listed companies that issue a fixed number of shares quoted on a stock market – usually the London Stock Exchange. And as the number of shares is fixed, funds are "closed-ended", so their price is determined by demand and supply in the market – ie the number of investors who want to buy and sell.
Often, demand and supply falls out of line with changes in the value of the assets the investment trust owns. This means that sometimes the trust's share price may trade at a discount to the value of its underlying assets – less commonly, it may trade at a premium.
By contrast, the price of a unit trust always reflects the value of its holdings. When more investors want to buy into the fund than sell, the manager issues more units. When the opposite is true, the manager cancels units.
Advisers have often cited the issue of discounts as adding complexity – and a reason for avoiding investment trusts. However, many investors like the idea of buying exposure to assets at less than face value, even if there is a risk of the discount widening further.
And performance and cost?
Alan Brierley, analyst at stockbroker Canaccord Genuity, regularly compares the performance of similar investment and unit trusts. In 2013 Brierley looked at the five-year performance records of 19 investment trusts and the comparable open-ended fund. In many cases, the two funds were managed by the same person. All but one of the investment trusts came out on top, achieving average annual returns 2.24 percentage points higher than the equivalent open-ended funds.
"This outperformance is underpinned by a number of advantages that give investment trust managers a distinct competitive advantage," Brierley says.
The most obvious is cost. With no need to finance commissions, investment trusts have been able to undercut open-ended funds. Since the retail distribution review, many open-ended funds have begun cutting fees, but even then, investment trusts remain cheaper in most cases.
Another advantage is that investment trusts are free to take on gearing – to borrow additional money to invest. When stock markets are performing well, this provides a boost to returns – and since share prices, at least in the past, have tended to rise strongly over the longer term, gearing has helped investment trusts. However, it also adds risk. When share prices fall, the losses of geared funds are multiplied.
Why don't advisers like them?
Martin Bamford of independent financial adviser Informed Choice says: "Investors are generally best advised to avoid investment trusts because their gearing and their discount or premium pricing structure can both result in losses being magnified."
However, Brierley argues that open-ended funds can change in size quickly and dramatically, particularly during times of market stress or buoyancy, which can cause managers real problems. In extreme circumstances they may have to sell assets at knock-down prices to pay investors who want to leave, or to invest at top-of-the-market prices when new investors join.
In the end, argues Jason Hollands, of independent financial adviser BestInvest, advisers who turn their back on investment trusts are doing their clients a disservice. "In our view, the right approach to building a portfolio is to be agnostic – sometimes the right instruments will be a fund, sometimes a trust."
What to buy and where to buy
Shares in investment trusts can be bought and sold on most of the large online platforms, or through stockbrokers. There are likely to be dealing charges and platform or intermediary fees, as well as the fund's own charges, so look for the best deal. It's also possible to invest direct with investment trust managers – many offer regular savings schemes and Isas.
"Some of the large global investment trusts are ideal as long-term buy-and-hold pension investments or for children's savings," says Patrick Connolly of independent financial adviser Chase de Vere. "My own son's Junior Isa is in the Witan Investment Trust, for example."
Another option popular with investment trust specialists looking for funds investing all around the word is Edinburgh Worldwide, run by a team at Scottish fund manager Baillie Gifford that has also enjoyed excellent results with its range of open-ended funds.
For investors looking for a UK specialist, it is worth considering Perpetual Income and Growth. More specialist investment trust options include funds that buy illiquid assets, such as infrastructure and private equity, where open-ended funds' fluctuating size makes investment much less practical.
David Prosser
The Observer, Sunday 23 March 2014
From http://www.theguardian.com/money/
