When you learn that the three-year average annual dividend yield for the top-10 VCTs is 8.6 per cent – remember, that’s tax-free – you start to wonder: why aren’t these funds more popular? 

What is even more puzzling is that VCTs tend to trade at a discount of 10 to 15 per cent to the net asset value (NAV) of their investments, so investors purchasing existing shares are buying the businesses in which they invest below their actual value. 

At a time when income from investments is scarce – enough to keep non-productive holdings such as gold and cash so popular – why aren’t VCTs in more portfolios, earning their investors a healthy income stream? I think it’s time to address some myths. 


Myth 1: “VCTs invest in risky businesses”

It’s true that some VCTs do seek out risky opportunities. But VCTs come in different flavours. A specialist VCT investing in early-stage biotech or renewables is a very different creature to a generalist one backing management buy-outs of established businesses.

Investors need to make sure they’re buying shares in the right kind, then.

"New investors seeking explicit exposure to riskier sectors know what they’re doing," said Rupert Dearden of Singer Capital Markets. 

"You have to do your research. But there are plenty of generalist VCTs with a strong track record that are clearly not seeking out high-risk investments – they back cash-generative businesses with growth prospects." 

This is important: many VCT managers understood immediately that the tax break on dividends was a huge advantage, so they sought out companies capable of generating income to boost those dividends – and structured their own investment deals with loan notes as well as pure equity.

That means they have predictable income streams, from interest to fund dividends. 


Myth 2: “It’s hard to buy VCT shares” 

Most investors will be able to buy shares in VCTs via their bank’s dealing service or their broker. It’s crucial to do your own research – and there are many sources of information.

Many buyers look for opportunities to snap up the VCTs they like the look of when they have a higher discount to NAV. 

The secondary market for many VCTs is certainly illiquid compared with that of some other assets. That said, they are not all created equal. In some of the larger, more established VCTs – ones with predictable income streams – there is more trading activity. 

With only a couple of market-makers, the spreads can be quite wide.

"So if you’re buying, it’s worth putting a limit order at a set discount to NAV you’re willing to pay," said Dearden. 

"That way, when the market makers have sellers at that level, you can buy the shares at a price you’re happy with." 


Myth 3: “There’s no easy exit from VCT shares” 

It is relatively simple to sell. Approach your broker or bank and get the market makers to find a price.

Distressed selling is obviously not ideal – in an illiquid market, being able to hold on for buyers at the right price is the best way of securing a decent exit. And with wide spreads, sellers are likely to have to take a discount into account.

But if you time it right, can be patient and put the right limit on the price, exiting a VCT holding is quite straightforward. 


Myth 4: “My stockbroker says the vehicle is too high-risk” 

Because VCTs generally invest in smaller businesses, they are higher risk than, say, a billion-pound investment fund or even shares in a household name. So brokers are right to identify them – alongside equities, of course – as higher risk.

But it is also true that brokers perceive them to be risky thanks to the liquidity of the market. That means there is a lack of research about them generally and a lack of awareness about individual VCTs.

They don’t have a database on Bloomberg showing where the best NAV discounts are, or how dividend yield has evolved over time. 

"It’s a bit of a chicken-and-egg situation," Dearden continued.

"Because the market for quoted VCTs is relatively small, there is less research produced on the sector and it is perceived as higher risk."

"That limits the number of brokers which are confident in recommending buying VCT shares. In turn, that constrains liquidity."  

There are many sources of research, not least the VCTs’ own annual reports – which will list the portfolio of investments, the management and the strategy for the fund.

The Association of Investment Companies (AIC) also has data on dividend track record and NAV – so investors can pick exactly the right blend.


Myth 5: “There’s no transparency in VCTs or the market” 

VCT manager websites contain details of the portfolio of investments, investment team, share price, dividends paid, as well as reports and accounts.

They usually also have a copy of the latest prospectus – so investors can see the aims and intentions of the fund.

Then there are investor websites that review and rank the performance of VCTs – such as FE Trustnet.

The AIC website also provides a range of performance data within its statistics section, as well as the latest accounts and often a factsheet for each fund.

VCT share prices are on the London Stock Exchange (LSE) website, along with regulatory announcements – and the FE Investegate site hosts many years' worth of regulatory news, which is useful for a more detailed analysis of a fund.
 
Tim Levett is chairman of NVM Private Equity. The views expressed here are his own.