It was widely reported at the end of last year that discounts within the investment trust universe had been reaching their narrowest ever level, with FE Trustnet highlighting the lack of value on multiple occasions.
However, while most closed-ended fund experts agree that trusts still look expensive from a historic perspective, they say there are now more opportunities than at the start of the year.
“A few months ago, this was a real issue as a number of trusts were trading on big premiums. However, the majority of them have dropped off,” Lovett-Turner, analyst at Numis Securities, said.
For instance, highly popular trusts such as Capital Gearing and Murray International had traded on a 17 per cent and 12 per cent premium, respectively, at times over the last year. While they are still trading on premiums, those premiums have fallen by 10 percentage points in both instances
There are sectors that look very expensive at first glance. The average UK direct property trust, for example, is trading on a 10 per cent premium to NAV, according to data from the AIC.
It is a similar situation in infrastructure sectors, with many of the closed-ended funds within them trading on double digit premiums such as Bilfinger Berger Global Infrastructure and HICL Infrastructure.
However, Monica Tepes (pictured) – senior fund analyst at Cantor Fitzgerald – says investors shouldn’t necessarily avoid these sectors because of the premiums.
She points that the portfolios offers a decent and reliable level of income, and as interest rates are extremely low and the outlook for bonds uncertain, Tepes says there is no immediate catalyst that would cause discounts to widen in those sectors. However, Tepes and Lovett-Turner say there are still a number of trusts that are looking expensive and they highlight two portfolios investors should be wary of this ISA season.
Aberforth Smaller Companies
The first is Aberforth Smaller Companies. The trust is trading on a discount of 3 per cent; however Tepes says that this is the tightest it has ever been over the last 10 years.
Small-caps have been very much in favour recently as investors have felt more comfortable taking higher risk and Aberforth trust has been one of the major beneficiaries.
According to FE Analytics, the trust vastly outperformed its Numis Smaller Companies ex IT benchmark in 2012, 2013 and is up against the index again in 2014.
Cumulatively, it has returned 95.52 per cent over two years which is more than 40 percentage points more than the returns of its benchmark.
Performance of trust vs sector and index over 2yrs
Source: FE Analytics
Tepes does rate Aberforth Smaller Companies and its managers; however she says that given the team’s approach to picking stocks there are some risks investors need to consider if they were buy shares in the trust today.
“It has a style bias towards value investing and it is very much dependent on whether that style is in favour,” she said.
“It has had a very, very good run after a pretty bad period. The discount has come close to par and looking back at that discount over the last 10 years, it has never been as a narrow as that. It is a prisoner to its style in many respects, because when its style falls out of favour, it can’t do anything about it.”
“The discount risk is to the downside and if you think the markets won’t continue marching forward; this maybe isn’t the trust for you.”
Aberforth Smaller Companies is 1 per cent geared and has ongoing charges of 0.81 per cent.
The Diverse Income Trust
The Diverse Income, which also has a heavy small-cap bias, is another trust investors need to be wary of at its current price, according to Lovett-Turner.
The closed-ended fund is headed by the experienced duo of Gervais Williams and Martin Turner. The managers also head up the open-ended CF Miton UK Multi Cap Income fund, which was soft-closed last year owing to its growing popularity with investors.
Lovett-Turner points out that, along with the fact it pays a yield and invests in the lower end of the FTSE All Share, the closure of the managers’ open-ended vehicle is one of the principle drivers of its 5.26 per cent discount as investors have been willing to pay up for their expertise.
However, he says that potential investors need to very careful.
“The Diverse Income Trust is trading on quite a wide premium,” Lovett-Turner said. “When you get to that sort of level with a trust that has a small-cap bias, the risks – over the medium to long term – seem to be pretty one directional.”
Like Aberborth Smaller Companies, The Diverse Income Trust has performed well in the recent rally.
According to FE Analytics, the trust was launched in April 2011, over which time it has returned 87.45 per cent. As a point of comparison, the FTSE All Share has returned just 24.82 per cent over that time.
Performance of trust vs sector and index since Apr 2011
Source: FE Analytics
While the trust has regularly traded on a premium over the last year, its current 5.26 per cent premium is wider than its 12 month average. Its recent share price performance has meant the trust now yields just 2.5 per cent, having had a yield of 4.78 per cent this time last year.
The trust isn’t geared and has ongoing charges of 1.84 per cent.
