Ready For Take Off? Investment Companies Post the Retail Distribution Review

Investment companies have been around for a long time – the oldest, Foreign & Colonial, was launched in 1868.

James Carthew

Marten & Co

They had a reputation with some investors as being old fashioned but, over the past decade, the investment company sector has been transformed.

It is growing quite fast – new issues of investment companies account for a substantial chunk of all new listings on the London Stock Exchange.

Investment companies are, as the name suggests, real companies that are set up for the purpose of making investments. They have a board of directors whose job it is to safeguard shareholders’ money.

They can borrow money and issue different classes of shares and this can make them more complicated to understand (though there are plenty of straightforward ones).

They invest in just about everything you can think of and range from highly diversified global funds (ideal core holdings in an equity portfolio) to specialist funds investing in biotech or renewable energy.

In 2012 investment companies accounted for just 3.5% of all stocks and shares ISAs. In 2013 that figure had crept up to 3.8%.

But we think this number ought to be about to take off – why? The way that financial advisers get paid has changed recently. Open-ended funds (unit trusts,OEICs, UCITs) used to charge you big up-front fees and then give most of that back to your adviser.

That option was not available to investment companies.

So, faced with a choice of one type of investment that was going to effectively bribe you to recommend it and one that couldn’t, which one do you think got all the attention?

The FCA have changed all that though. Advisers now charge fees regardless of what type of investment they recommend and it is going to be harder for them to ignore the attractions of investment companies, the chief of which seems to be superior investment performance.

While there is always the exception to the rule, the average investment company in most investment areas tends to outperform the average open-ended fund.

‘the average investment company in most investment areas tends to outperform the average open-ended fund’

Take European funds for example. Over the ten years to the end of December 2013 the average open-ended fund returned 138% (according to the Investment Managers Association).

The average investment company made 210% however – that’s quite a big difference.

Why should this happen though? Well one important difference between open-ended funds and investment companies is that shareholders get to vote on how their company is run.

Poorly performing managers get sacked and funds with the wrong investment strategy get wound up. This keeps directors and managers on their toes (it is also part of the fun of investing in these things – you even get the chance once a year to go along to the annual general meeting and ask the people in charge of your fund questions).

‘Until 2014 all investment companies that only had a quote on the AIM market were off limits for ISA savers’

Investment companies can also take advantage of their structure to enhance returns, borrowing money cheaply and buying assets that go up can do wonders for performance.

It works both ways though and so definitely do not invest in an investment company with a lot of borrowings without considering how risky that makes it (but remember most investment companies do not have high borrowings and many have none at all).

Until 2014 all investment companies that only had a quote on the AIM market were off limits for ISA savers.

The changed the rules however and now you can choose from many more funds. The choice is not as bewildering as for open-ended funds however.

If you want to learn more, there are websites dedicated to helping you.

Ours, www.quoteddata.com, gives free information on every investment company quoted in London plus news articles and in-depth research on selected funds – do drop by.