There are a number of reasons why a closed-ended fund may fall onto a discount, whether it be because the asset class in question is out of favour or the trust itself has suffered a period of underperformance. However, given that trusts are typically viewed as long-term investments, when a discount widens it is often regarded as an ideal time to buy.
Fast-rising markets and the added demand as a result of the Retail Distribution Review (RDR) have pushed the majority of investment trusts on to very tight discounts, and in many cases premiums.
There is, however, still a pocket of trusts trading on a meaningful discount that are run by highly rated fund managers, including some FE Alpha Managers.
With that in mind, FE Trustnet highlights some discounted investment trusts and asks the experts whether or not now is a good time to buy into them – starting with the IT UK Growth sector.
John Dodd – Artemis Alpha on a 9.95 per cent discount
FE Alpha Manager John Dodd’s long-term track record makes for good reading.
He is probably best known for his tenure as manager of the Artemis UK Smaller Companies fund. He currently runs the open-ended Artemis Global Energy fund and has managed his investment trust since June 2003, with Adrian Paterson joining him as co-manager in 2009.
His £130m Artemis Alpha Trust is one of the best performers in the IT UK Growth sector over 10 years, with returns of 225.99 per cent, and has beaten its benchmark – the FTSE All Share – by close to 100 percentage points.
Performance of trust vs sector over 10yrs
Source: FE Analytics
It has also beaten the index over five years; however that performance has dropped off more recently. For instance, over one year the trust has returned just 3.4 per cent while its benchmark has made 17.68 per cent.
The main contributor to that underperformance has been Dodd’s exposure to the battered oil and gas sector; issues surrounding the valuations of the trust’s unlisted holdings were another cause.
Those returns have been reflected in its discount, which at close to 10 per cent is much wider than its average over one, three and five years.
Monica Tepes, an investment companies analyst at Cantor, says now could still be a good time to buy into the trust. She says its discount has not moved much past 10 per cent in the past, so the risk of further de-rating is quite low, plus the board has usually been active when it comes to share buy-backs.
Nevertheless, she says Artemis Alpha is not for the faint hearted.
"It’s a risky one," she said. "They have a large proportion of the trust in unquoted companies. It means returns can be lumpy, but it has still outperformed over the long-run."
"From my perspective, you have to trust the managers. Both Dodd and Paterson are significantly invested themselves and between the two of them they own around 9 per cent of the shares, so they will want to do well."
"Also, I think you would be better off buying this after a period of underperformance rather than after a period of good performance," she added.
The trust’s ongoing charges are 1.3 per cent, including performance fee, and it is 17 per cent geared.
James Henderson – Henderson Opportunities Trust on a 13.13 per cent discount
It is unusual to find one of FE Alpha Manager James Henderson’s trusts trading on a wide discount.
As well as running the five crown-rated Henderson UK Equity Income fund, he also manages the Lowland Investment Company and Law Debenture trust, which have historically been in high demand.
However, investors can gain cheap access to Henderson’s style via his Henderson Opportunities Trust, which is trading on a wide 13.13 per cent discount.
The discount is tighter than its one- and three-year average, but Tepes says this could still be seen as a bargain for anyone who is particularly bullish about UK equities.
"It is very much a risk-on type of fund," she explained.
"It has been one of the strongest UK growth trusts year to date, but it had a terrible, terrible 2008. If you are looking for a high-beta play, then this is definitely the place to be as it is on a much wider discount to others in the sector."
"At the same time, if markets turn, then this will fall further than others. It also has a small market cap, which some people can be wary of," she added.
Henderson Opportunities has performed well in rising markets. It has returned a hefty 58.12 per cent so far in 2013, which is nearly four times the amount made by the FSTE All Share. However, as Tepes points out, it lost an equally hefty 60 per cent in the crash year of 2008.
The trust is principally focused on the FTSE 250. It is 11 per cent geared and has ongoing charges of 1.16 per cent.
Alex Wright – Fidelity Special Values on a 5.76 per cent discount
FE Alpha Manager Alex Wright is one of the most highly rated fund managers around at the moment.
That is not surprising, given that his now soft-closed Fidelity UK Smaller Companies fund is the best performer in the IMA UK Smaller Companies sector over one, three and five years.
Wright uses the same process for both his open-ended fund and his Fidelity Special Values trust, where he focuses on what he perceives to be undervalued companies and holds them until they re-rate.
He took over the closed-ended fund from Sanjeev Shah in September last year and so far his shareholders have been well rewarded.
Over that time the trust has returned a staggering 63.56 per cent, while its FTSE All Share benchmark has returned 19.84 per cent.
Performance of trust vs index since Sep 2012
Source: FE Analytics
While his trust is trading on a discount, Charles Cade, who is head of research at Numis Securities, says it is looking a lot more expensive than it has done in the past.
"He has done very well over the past few years. For instance, it had been on a 14 per cent discount when he took over last year, so it has come in a long way," Cade explained.
Cade is still a fan of the trust, but he says investors need to be aware that the manager will be taking over Fidelity’s flagship Special Situations fund next year.
"I still think it is attractive, though I wouldn’t regard it as a discount play by any means. Wright is going to be taking on the much bigger Fidelity Special Situations so we will have to see whether that will have an impact on his trust," he added.
Fidelity Special Values is highly geared at 24 per cent and has ongoing charges of 1.24 per cent.
Andy Brough and Rosemary Banyard – Schroder UK Mid Cap on a 6.58 per cent discount
Rosemary Banyard and Andy Brough make up one of the very few FE Alpha Manager duos in the closed-ended universe.
In the open-ended space, the pair have run the five crown-rated Schroder UK Smaller Companies fund since the late 1990s and have significantly outperformed their peers over the long-run. However, their Schroder UK Mid Cap trust has been an even better performer since they took over the mandate in May 2003.
Our data shows it has been the best-performing portfolio in the IT UK Growth sector over 10 years with returns of 369.9 per cent, while the FTSE 250 ex IT index has returned 260.71 per cent.
Performance of trust vs sector and index over 10yrs
Source: FE Analytics
It has also been the top-ranking trust in the sector over three and five years.
While the Schroder UK Mid Cap trust is trading on a 6.5 per cent discount, it is looking pricey compared with its one- and three-year average. Cade says this is not something to be overly concerned about, though.
"Its discount is tighter, especially compared with its historical range," Cade said.
"However, it is a very similar story for a lot of investment trusts as a lot of money has come into the sector. They are a very experienced management team and it is a little bit like the Fidelity trust as there is still potential for further narrowing, but it isn’t an outstanding value play either."
"If you like the asset class and you want to have exposure to UK mid caps, this is a good choice," he added.
The closed-ended fund has ongoing charges of 1.24 per cent, including a performance fee. It also has gearing of 2 per cent.
