investment trusts incomeDo it yourself, or put it into a global fund and leave it to the experts – our analysts debate the merits of each approach….

 

Disclaimer

This is not substantive investment research or a research recommendation, as it does not constitute substantive research or analysis. This material should be considered as general market commentary.

 

William Heathcoat Amory

 

This year is the Platinum Jubilee. A moment to celebrate, not just for royalists, but for portfolio theorists too. For it is 70 years since Harry Markowitz published his seminal paper “Portfolio Selection”, which appeared in the Journal of Finance in March 1952.

Markowitz provided – for the first time – a quantitative framework to assess the benefits of diversification of a given portfolio, setting out the idea of a risk-return trade-off. Investors wishing to make higher returns must accept higher risks.

For the past decade, investors could be forgiven for having forgotten this simple premise. Because over this period, all that has really mattered for investors in terms of risk and return is that they have been invested in growth stocks and, ideally, the biggest companies in global equity markets.

Market leadership has at times been very narrowly focussed, with Apple, Amazon, and Microsoft having alone accounted for some 50% of the S&P 500’s total returns over 2020. Scottish Mortgage’s managers have an approach that in some ways turns Markowitz’s ideas on its head. They believe – and have delivered very strong returns to shareholders over the last decade on this premise – that what really matters is being able to benefit from the asymmetry of equity market investing.

They invest in a portfolio of high growth stocks, each of which has the potential to deliver radical change. The portfolio is highly concentrated, and whilst diversified itself, it represents a relatively pure exposure to ‘growth’. The short-term risks of this lack of ‘diversification’ are well illustrated by SMT’s underperformance this year and are why the managers continue to emphasise that investors should hold the trust as part of a wider portfolio.

Over the very long term (10 years or more), investors may be well placed to have SMT as part of their portfolio. However, over time there will likely be good times to buy the trust and less good depending on broader market dynamics. The graph below shows how the market has rotated between favouring growth stocks and then into value and back again over the past ten years.

For those investors without the confidence to decide when to add or when to trim, there may be better alternatives for a ‘core’ exposure. Other trusts offer much more diversified exposures, but each of these has the same – unquantifiable – risk that a manager or management team may just get it wrong. Investing is as much a behavioural and psychological challenge as much as it is an intellectual one. And as such, it often makes sense to diversify by management team too.

 

  everviz

 

Past performance is not a reliable indicator of future results

 

Several trusts offer exposure to a diversified group of managers, which, when combined, provide a high level of underlying diversification and no key man risk. Witan (WTN) and Alliance Trust (ATST) both have similar approaches, each with its own nuances. However, both provide an elegant “fire and forget” approach to active management of global equities. Both employ a range of different underlying managers for proportions of the portfolio, with each manager’s performance under constant observation. Though ATST takes it one step further, allocating funds to their delegated managers is such a way as to diversify away any active risk (relative to the MSCI ACWI), preserving the benefits of active management without holding strong style biases relative to the index. One of the advantages of an investment trust over an open-ended fund is the presence of an independent board, which can change managers on shareholders’ behalf if they no longer cut the mustard. This is a huge advantage for long term investors looking to benefit from compounding returns. Unlike an open-ended fund where a manager is very unlikely to call time on themselves for underperformance (turkeys voting for Christmas), a trust’s board exists in part to hold the managers to account and can relatively easily switch horses if they fall short. Shareholders can therefore rest easy that their interests are being looked after by the board, and they can benefit from long term compounding without the need to crystallise a gain if the manager starts to lose their edge. With ATST and WTN, the theoretical barrier to changing managers is significantly lower because of both the multi-manager approach and also because the ‘brand’ of each trust is clearly not aligned with any one management company or team.

F&C Investment Trust (FCIT) has a slightly different approach to multi-manager solutions. While its lead manager Paul Niven utilises external fund managers in order to achieve diversified exposure to global equities, he also makes substantial use of the internal strategies at BMO, capitalising on their natural synergies to achieve what he believes is the best outcome for shareholders. Paul’s reach extends beyond listed equities however, as he also taps into private equity opportunities, utilising BMO’s networks to pick what he believes are some of the world’s best private equity managers. FCIT benefits not only from the active decisions of its delegated managers but also from Paul’s own proactive asset allocation decisions, as he weighs regions and styles in accordance with what he believes are most likely to outperform. This approach has been a recent boon to FCIT’s shareholders, outperforming the MSCI ACWI over the last 12 months and ranking as the third best performing global equity trust over the period.

Over recent times – where the market has whipsawed between favouring extremes of growth or value – it is arguably unlikely that any of these broadly spread trusts will perform particularly well. However, over the longer term, enthusiasm for one sector or narrow range of stocks (remember the ‘meme stocks’…?) tends to wax and wane. WTN, ATST and FCIT enable investors to take a long-term view without backing a particular style, manager or theme.

A similar effect, although not a multimanager fund, can be seen in the performance characteristics of JPMorgan American (JAM). JAM offers a differentiated approach to other US investment trusts, being a blend of two highly active but distinct investment styles. Co-manager Timothy Parton manages JAM’s growth allocation with a highly concentrated portfolio of up to 20 of his highest conviction picks, whilst co-manager Jonathan Simon does the same with a value portfolio. As such, JAM offers investors a true ‘one-stop-shop’ for US equities, which has outperformed the S&P 500 since the managers took over in June 2019, which is no small task given the majority of ‘core’ managers have underperformed over this period, which seen market sentiment vacillate between growth and value.

Within the investment trust world, there are a wide variety of managers offering different exposures and styles, many of them using the structure to boost returns for shareholders. Occasionally, these trusts are available at a discount to NAV. There are several multi-manager trusts that aim to boost returns through discounts narrowing or trusts’ structural ability to hold very different assets. For example, Momentum Multi-Asset Value Trust (MAVT) invests in a broad range of assets, including UK and overseas equities, credit, and specialist alternative assets, using a value-based approach across its investments. As such, MAVT provides investors with an off-the-shelf multi-asset portfolio that can be used as a stand-alone holding for a value-orientated investor or to diversify a portfolio with exposures to global growth stocks. With many trusts exposed to growth, the diversification aspect of MAVT’s value exposure may appeal particularly to those seeking a real alternative.

MIGO Opportunities (MIGO) offers exposure to a diversified pool of closed-ended investment companies. These often operate in highly specialised areas and are trading on substantial discounts to their intrinsic value, at least in the view of MIGO’s managers – Nick Greenwood and Charlotte Cuthbertson . Nick and Charlotte’s approach often leads them to contrarian positions, seeking out unappreciated assets with intrinsic value that is unrecognised by the wider market – an experience Nick describes as ‘like waiting for a bus, at times’. Performance can come in fits and starts, but MIGO’s low demonstrated NAV correlation to both broader equity markets and a 60/40 equity/bond portfolio is a reflection of this contrarian approach and a reminder that diversification is not about the number of holdings, but about holding different assets which perform well in different environments.

BMO Managed Portfolio is managed by the highly experienced Peter Hewitt, who has been applying his distinctive style of building portfolios of investment trusts for several decades. Investors can buy two separate share classes with distinct portfolios and objectives to suit their needs. The Growth share class (BMPG) aims to maximise total returns, principally via capital growth. The objective of the Income share class (BMPI) is to provide a level of income exceeding that of the FTSE All-Share Index, along with the potential for growth. Peter seeks highly active trust managers with long term horizons running strategies that fit into his top-down views on investment themes, style tilts and macroeconomic and market trends. In recent years Peter has tilted the portfolio towards growth-orientated strategies, which has driven strong performance over the medium and long term. Peter diversifies across geographies, sectors, asset classes and investment styles when building portfolios, buying a wide range of trusts from sector specialists in biotechnology to alternative hedging strategies designed to protect capital during periods of market stress.

All of these trusts offer highly active, not to mention distinctive, underlying exposures to global equities. Investing in funds or trusts is all about accessing diversification. However, after a long run bull run for equities, which has arguably benefitted those least diversified, perhaps it is high time for regime change? Backing any of the trusts above is no guarantee of success, but it may allow the investor to take an enviably long-term view by backing active management rather than a particular manager to navigate markets till the Octogintennial Jubilee and beyond.

 

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Neema Nabavian

 

Any student of finance, myself included, should easily recollect the textbook definition of the main factors in determining the needs and objectives of an investor: return requirement, risk tolerance and time horizon. It is that the latter factor that has defined my views on the best opportunities, in my viewtrue long-term investors will find the greatest return potential by investing in today’s secular growth stories, decade long trends that will shape and define the most valuable companies of the future.

Whilst the ‘fire and forget’ mantra may seem easier, investors who have longer time horizons may be willing to tolerate the volatile journey that is trend investing and look past the near-term uncertainty and anxiety it engenders. Those who can do this may be well served by the more specialist strategies, those that focus solely on a narrow band of opportunities some of which may represent the most exciting growth prospects available today, thereby outperforming closet trackers and overly diversified strategies. Yet because of the heightened risk, diversification within each theme is crucial, and is a key reason why investment trusts offer a great way to get exposure.

The last decade has certainly been an incredible era for technology, , but for investors looking at the next decade, predicting the next member of the FAANGS is near-impossible. Dedicated yet diversified technology strategies may be the answer, such as Allianz Technology Trust (ATT), which seeks to identify some of the most innovative and disruptive companies around the world. Recently, the team highlighted the opportunities which they believe exist within cyber security and semiconductors. Despite the current inflationary environment which we now find ourselves within, ATT may still offer a compelling opportunity for long-term investors seeking exposure to technology.

Tech is not the only show in town, though, and there may be an equal opportunity in healthcare. Despite the impact of COVID-19 on advancing medical research (potentially opening the door to mRNA treatments for cancer, for example), the healthcare and biotechnology sectors have lagged behind broader equities. Healthcare innovation is a constant, and with ageing populations and growing incomes, rising global expenditure on healthcare also seems a certainty. Against that backdrop healthcare may not only represent an attractive long-term sectoral growth trend but also a valuation opportunity when compared to other sectors. This is the view of the managers of BB Healthcare (BBH), who said they were “unremittingly optimistic” about the sector’s outlook during our recent webinar. Their underlying philosophy is that healthcare systems are all under increasing strain and that companies that are able to increase capacity at lower cost will be long term winners. BBH’s mid-cap bias may be a more attractive option for long-term investors, and although BBH has exhibited higher volatility than peers, it has historically used this extra risk well to deliver strong risk-adjusted returns.

The provision of healthcare goes hand in hand with the science behind it, and like BBH, the team behind International Biotechnology Trust (IBT) also believes that current valuations have only increased the attractiveness of the sector’s long-term potential. Their confidence is shown in their having added a significant amount of gearing (currently 16% net). Despite the increased market exposure, the team make a conscious effort to deliver NAV returns with lower volatility than the index, a result of their approach to diversifying risks, but also systematically reducing active risk to stocks ahead of scheduled trial results or approval decisions by the regulator. We note that the team’s risk-conscious approach is particularly important given that more than 50% of IBT is invested in small and mid-cap stocks, which like BHH’s own bias, may ultimately be an attractive prospect for long-term investors.

The propensity for emerging market growth to outstrip developed markets over the long term is one of the strongest arguments against following a ’global’ index, given the dominance of developed market equities within these indices (yesterday’s winners?). Arguably the largest and most exciting opportunity is in India, given its demographics and potentially strong GDP trajectory; particularly as the West’s relations with China continue to struggle. One route to exposure is Ashoka India Equity (AIE), the management team of which is led by White Oak Capital founder and former Goldman Sachs India CIO Prashant Khemka. Prashant believes India represents a ‘once in an era’ transformation from a closed, centrally planned economy to a free-market model, with the return potential to match. AIE has generated sector-leading performance over both one and three periods, as well more than doubling the performance of its benchmark over three years. AIE does trade at a 1.6% premium, however..

For investors who prefer to capitalise on discount opportunities, another option is Aberdeen New India (ANII), which currently trades on a 17.1% discount, wider than its five-year average of 13.3%, and the peer group’s 11.5% simple average (as of 18/03/2022). Other than the possibility of an opportune entry point, investors may also be attracted to the defensive qualities of ANII, thanks to the teams’ preference for more reliable sectors like consumer staples, avoiding the ‘frothy’ and more speculative end of the market. The benefits of such characteristics are evidenced by ANII’s 10-year track record, which has beaten both its peers and benchmark and its low beta, which means it is not only a strong option for a long-term growth investor but also useful for diversification purposes.

Sustainability is another long-term secular trend. Trusts such as Jupiter Green (JGC) and Impax Environmental Markets (IEM) offer a means to exploit it. Both trusts have been operating in this sphere for many years now. As a sign of the increasing opportunity, JGC has increased its allocation to its ‘accelerator’ bucket to capitalise on the most disruptive companies within the sector. Yet, for investors looking for earlier stage opportunities from the energy transition, HydrogenOne Capital Growth (HGEN) may be a consideration. Having launched in July 2021 with backing from INEOS and the Bamford (JCB) family, HEGN is seeking to provide investors with opportunities to access clean hydrogen production and energy storage.

Clearly, there are many specialist, growthy options available to investment trust investors, and for those who are keen to build a conviction based portfolio of their own, especially those who have long time horizons and are willing to tolerate the volatility on the way,there is plenty to go at. As ever, though there are no guarantees except – perhaps – that it will be a bumpy ride for those brave enough to choose this strategy.

 
 

Neema Nabavian

 

Neema is an investment trust analyst and joined Kepler in September 2021. Prior to joining Kepler, Neema gained diverse experience across the energy and finance sectors; notably within the central ESG team at abrdn. Neema read Chemical Engineering with Management at the University of Edinburgh where he graduated from with a First-Class Honours in 2021.

 

 
 

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