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How the premium/discount is affecting these investment trusts

13 July 2017

Killik & Co considers the premium/discount issue for investments trust and outlines two top performing funds it likes and doesn’t like based on valuations.

By Jonathan Jones,

Reporter, FE Trustnet

Understanding when an investment company is cheap or expensive can be difficult for investors, particularly when looking at the premiums and discounts of selected trusts.

The shares of listed, closed-ended funds (investment trusts) are subject to supply and demand and in practice this means over the short-term share prices can vary considerably from the underlying net asset value (NAV).

Yet, while some sectors that provide steady income for lower amounts of risk such as the UK commercial property sector (currently trading at a 7.6 per cent premium) lend themselves to premiums other, more risky offerings such as the leveraged loans sector (trading at a 2.2 per cent discount) do not.

Therefore while a company in the property sector might be on a premium but still look attractive compared to the sector, a leveraged loan firm could be on a discount but remain overvalued against its peers.

As such, below investment research firm Killik & Co highlights two closed-end funds that at current valuations they think look particularly expensive or attractive from a premium/discount perspective against the peer group.

 

Utilico Emerging Markets - Attractive

The £469.3m Utilico Emerging Markets trust is on a 10.7 per cent discount, according to the latest data from the Association of Investment Companies (AIC).

The IT Global Emerging Markets Equities sector average discount is around 11.45 per cent, with peers ranging from a discount of 38.68 per cent (Ashmore Global Opportunities) to a premium of 3.53 per cent (Jupiter Emerging & Frontier Income).

In the annual report published in June, the board of Utilico Emerging Markets trust reiterated its stance on the share price discount which remains under constant review, with a buyback policy in place if the discounts widens over 10 per cent.

“This should protect against any material discount widening from current levels,” Killik noted.

As the below chart shows, the trust’s discount has expanded steadily over the last 18 months, from a position of around 5 per cent to its current 10.7 per cent discount.

 

Utilico Emerging Markets aims to provide long-term total return by investing predominantly in a portfolio of infrastructure and utility-related companies based in emerging markets.


The fund has outperformed the MSCI Emerging Markets index over both five and 10 years, as the below shows, though it should be noted that it does not benchmark against the index.

Performance of fund vs sector and MSCI Emerging Markets index over 10yrs

 

Source: FE Analytics

It is focused on established, dividend paying, listed companies within the emerging markets and is centred on strong franchises in areas such as power generation, ports, airports, water and waste.

“We continue to view this strategy as an attractive alternative way of gaining exposure to the economic growth of emerging markets but via the more resilient, less volatile, return profile of infrastructure and utility-related investments,” Killik said.

“The fund has delivered a strong NAV return over the last year, benefiting from the post-referendum translation effect of weakening sterling against international currencies, albeit underperforming the very strong rebound in the broader MSCI Emerging Markets Index which was aided by a recovery in commodity-related areas in 2016.

Currently, the portfolio is 19.1 per cent invested in Brazil, 17 per cent in China including Hong Kong and 11.4 per cent in Romania.

It is 23.5 per cent weighted to electricity companies, 18.9 per cent to gas companies, 15.9 per cent to ports and 9.8 per cent to airports.

The fund is 22 per cent geared, with a net asset value of 249.63p. Its current share price is 223p, according to the AIC.

It has a yield of 3.1 per cent and clean ongoing charges (OCF) of 0.93 per cent which can rise to 2.82 per cent depending on performance.

 

Scottish American – Expensive

On the other side of the coin, the £480m Scottish American trust run by Dominic Neary since 2014 looks expensive, according to Killik & Co, with the trust on a 5 per cent premium.


Yet this is some way above its lows in 2014, as the below graph shows, which has usually receded back to a discount shortly after breaking out to a premium over the last five years.

 

Meanwhile sector is on a discount of 2.2 per cent with F&C Managed Portfolio Income on the largest discount of 20 per cent. Scottish American is on the largest premium.

The trust trust’s objective is to deliver real dividend growth by increasing capital and growing income from a portfolio focused on global equities, with the ability to invest in bonds, property and other asset types.

Indeed, Killik & Co noted that “the portfolio has evolved over the last three years with the exposure to fixed income reduced to 6 per cent”.

“Equities make up the bulk of the portfolio (80 per cent), with the main allocations to Europe (35 per cent), US (24 per cent) and Asia (11 per cent),” the broker wrote.

It also has a 13 per cent exposure to property in the form of 18 directly held commercial properties across the UK.

Killik said: “The fund has underperformed global equity indices over most medium-term time periods on an NAV basis, and with the shares trading on the largest premium in its listed-sector and given the size and expensive cost of the debt facility, we would prefer alternatives.”

Indeed, while the fund has beaten the IT Global Equity Income sector over the last five years, it has marginally underperformed its FTSE All World benchmark, as the below shows.

Performance of fund vs sector and benchmark over 5yrs

 

Source: FE Analytics

It should be noted however that since the manager took charge of the trust it has been the second best performer in the sector and has outperformed the benchmark by 4.46 percentage points.

The fund is 18 per cent geared, with a net asset value of 342.65p. Its current share price is 358.25p, according to data from the AIC. It has a yield of 3 per cent and an OCF of 0.87 per cent.

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Data provided by FE fundinfo. Care has been taken to ensure that the information is correct, but FE fundinfo neither warrants, represents nor guarantees the contents of information, nor does it accept any responsibility for errors, inaccuracies, omissions or any inconsistencies herein. Past performance does not predict future performance, it should not be the main or sole reason for making an investment decision. The value of investments and any income from them can fall as well as rise.