Share prices have fallen sharply in recent days in response to fears over the potential economic disruption that the new Covid variant Omicron could cause.
While shares in specific sectors such as airlines and travel have been hit the hardest, investment trust share prices have also fallen.
Yet some investment experts believe the events of the past nine days now present an opportunity for brave investors who like to buy such trusts.
This is because the share prices of many investment trusts no longer reflect the true value of the assets sitting under their bonnets. In other words, they represent bargain buys.
Here are the issues you need to consider in identifying true ‘bargain’ investment trusts.
Share prices have fallen recently in response to fears over the new Covid variant Omicron
WHAT IT MEANS TO TRADE AT A DISCOUNT…OR A PREMIUM
Investment trusts are companies listed on the London Stock Exchange. To invest in one, you simply buy some of their shares and put them in your Individual Savings Account, pension or general investment account.
They can be bought through most investment platforms such as AJ Bell, Hargreaves Lansdown and Interactive Investor.
However, unlike other listed companies, investment trusts are comprised of a portfolio of underlying investments that are handpicked by a fund manager.
For example, Scottish Mortgage Investment Trust is a FTSE100 company in its own right, but is comprised of holdings in 101 businesses from around the world, from Covid jabs maker Moderna to shopping giant Amazon.
The unique structure of investment trusts means that sometimes the value of their shares is higher or lower than the value of their underlying holdings.
This is known as trading at a premium or a discount respectively.
So, for example, if the trust’s assets are worth £1, but the shares are trading at just 90p, investors are able to buy £1 of value for just 90p – a discount of 10 per cent.
Annabel Brodie-Smith, a director at the Association of Investment Companies, says that more than two thirds of investment trusts have their shares trading at a discount.
‘There is plenty of choice for investment company bargain hunters,’ she says.
HOW TO FIND THOSE TRUSTS WITH DISCOUNTS
You can find out whether an investment trust is trading at a discount by looking at its latest monthly fund factsheet, available from the fund provider.
Alternatively, information websites such as Trustnet and Morningstar provide this information as do all the major investment platforms.
However, this information alone is not enough to decide whether or not the discount is a good one to take advantage of.
Kyle Caldwell, a fund expert at wealth platform Interactive Investor, recommends that investors also need to look at whether the discount is smaller or larger than usual and how the discount compares to other trusts with similar investment mandates.
‘If the discount is wider than its rivals, this could be an attractive entry point,’ he says.
…AND HOW TO SPOT IF IT REALLY IS UNDERVALUED
Finding the best deals is not simply a case of finding the biggest discounts.
Sometimes investment trusts are cheap for a good reason and investors are wise to stay away. The key is to find investment trusts that are genuinely undervalued – where the discount does not feel warranted and you expect that it will narrow in time.
Darius McDermott is managing director of investment scrutineer FundCalibre. He says the only way to find these opportunities is to look at investment trusts on a case-by-case basis.
‘The bottom line is that you can get a bargain by buying a trust on a discount, but it won’t always be the case,’ he says. ‘You need to carefully research each trust.’
One situation to look out for is when a big shareholder sells a large number of shares all at once. The sudden abundance of shares on the market can push down their value temporarily before they settle down to trade back in line with their usual trend.
Jason Hollands, managing director of investment platform BestInvest, says: ‘If the trust moves to a big discount that is wider than it usually trades at, it could represent a great opportunity for new investors to pick up some shares at a bargain.’
To be confident the discount will narrow over time and that your shares will rise in value, you will want to know that the foundations of the trust are sound.
For example, you need to check the trust has a strong management team and an investment strategy you have confidence in.
Some investment trusts have a policy of buying back shares if they hit a certain discount, for example five or ten per cent.
Caldwell suggests that eagle-eyed investors can take advantage of this by buying shares just before the buy-back kicks in. ‘That way, investors can enjoy the discount, safe in the knowledge that it will not widen much further once they have bought in,’ he says.
Some experts believe now is a good opportunity for brave investors who like to buy such trusts
BUT SOME DISCOUNTS CAN BE A BAD SIGN
As with all offers, sometimes a deal is too good to be true. Large discounts can indicate that there are worrying issues lurking below the surface.
For example, it can mean that investors are losing confidence in the trust’s investment strategy and are selling shares in the expectation that the value of the trust’s holdings will fall in the future.
It may even be a sign that investors are sceptical about the accuracy of the fund’s valuation figures. Valuing a trust made up of listed shares is simple enough. But valuing a trust comprised of unquoted companies or property is more complicated.
Large discounts can also indicate that a trust has too much debt (borrowings used to finance larger investments in equities) or that there are significant issues with some of its underlying holdings. Investors need to be careful about investing in such trusts.
DISCOUNTED TRUSTS THAT ARE WORTH CONSIDERING
Interactive Investor’s Caldwell likes trusts Temple Bar and Edinburgh – both UK equity income trusts and managed by RWC Asset Management and Majedie Asset Management respectively.
The average trust in this category is trading at a 3.7 per cent discount, but these two funds are both trading at a discount of 7.9 per cent and at slightly higher discounts than their 12-month averages.
‘Both have seen their performances notably improve under new management,’ says Caldwell. ‘But they continue to trade on discounts wider than rivals.’
Shares in Temple Bar have risen 4.2 per cent over three years and Edinburgh by 13.6 per cent.
McDermott likes dividend stalwart City of London, run by Janus Henderson Investors. Its shares usually trade on a premium, but they are currently at a small discount.
It has generated a return of 12.1 per cent over three years. James Carthew, a fund expert at research company QuotedData, likes Ceiba Investments, a specialist trust that comes with greater risks, but which may come good over time.
Ceiba Investments buys companies in Cuba and its shares are trading on a large discount. The underlying holdings are valued at 95p a share, but the shares are currently trading at just 65p.
‘US President Joe Biden’s administration was expected to ease sanctions in Cuba imposed by the Trump regime, but it has failed to do so,’ says Carthew.
‘In the meantime, local unrest is building. This situation may take a while to resolve itself, but when it does, the discount could close.’
Carthew also likes the former Woodford Patient Capital trust, now badged Schroder UK Public Private. The trust has been a name to shun in the past and does have drawbacks.
For example, it has a concentrated portfolio that is exposed to the fates of just a few companies, and a large number of the holdings are illiquid, which means they are difficult to buy and sell in a hurry.
‘This is being sorted out by the trust’s new managers,’ says Carthew. Shares trade at a 32 per cent discount and, although it has lost 61 per cent of its value over three years, it has returned 32 per cent this year.
Several commercial property investment trusts are trading at a discount as the sector continues to face uncertainty as a result of changing work and shopping patterns.
Many retailers are struggling in the face of the move towards online shopping, while offices have been hit by changing work habits.
For those who believe that the fortunes for commercial property could rebound,
Hollands counts the UK Commercial Property REIT (Real Estate Investment Trust) – trading at 22 per cent discount – as an example of a well-managed fund trading at an attractive discount.
The share price is up by 1.3 per cent in three years, while the value of its underlying holdings has risen nine per cent in the same period.
HOW A BATTERED TRUST SURGED BACK
Investors in investment trust Temple Bar have had a tough time in recent years. A focus on out-offavour value investing, a change of investment manager and the market turmoil of early last year have all taken their toll.
But some shrewd – brave – investors have benefited from this disruption by buying its shares when they were way out of kilter with the value of its assets – and then holding on.
For example, in early June last year, its shares were valued at £8.68, compared to the £10.03 value of its underlying assets. In other words, the shares were trading at a 16 per cent discount.
This compares with last week when the shares were trading at £10.94 and the assets were valued at £11.64, a 6 per cent discount.
As a result of a closing of the gap between the share and asset prices, shareholders who bought in June 2020 have obtained an investment return of just over 26 per cent, compared to an increase in the value of the underlying assets of 16 per cent.
Of course, knowing when to buy the shares – and at what discount – is key.
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