Wednesday 28 November 2012

Investment Trusts

There have been quite a few articles in the UK financial press lately about Investment trusts.  These are closed ended funds that are traded on the stock exchange as public limited companies.

Investment Trusts do not rebate commission to third parties, so at the moment are generally ignored by financial advisors during the advice giving process. The reason for their recent press popularity is that rebating commission is effectively being banned from January 1st with the advent of new RDR (Retail Distribution Review) rules in the finance industry. Theoretically this should lead to higher sales of this particular product as there is no longer any reason for de-selection by advisors.

I've been a fan of Investment trusts for quite a while. They have many advantages over other types of funds such as Unit Trusts and OEICs but also a few disadvantages.

From a fund manager's point of view they are very flexible compared to other investment vehicles. They are allowed to invest up to 15% in any one company as opposed to a maximum of 10% for a Unit Trust or an OEIC, this allows the fund manager to have a much more focused approach. If he likes a particular company or sector he can give it larger weight in the portfolio with greater ease. Also Investment Trusts are allowed to borrow money to gear their portfolio, a useful tool when managers believe share prices are cheap, thus compounding profits (or possibly losses).

This added flexibility means that the ability of the fund manager will have a bigger impact on the fund, which is great if the fund manager is good at his job. Not so good news though if the fund manager is poor, (remember most fund managers underperform the market!). Therefore it is vital to look for a manager with a good long term record of out performance.

As an added bonus, Investment trusts have generally lower fees than Unit Trusts and OEICs, placing them somewhere in between these and tracker funds on the fee scale.

There is one notable downside. As Investment trusts are companies that are floated on the stock market, their share price moves independently of the net asset value (NAV) of the fund. This means that they often trade at a surplus or discount to NAV depending on market sentiment, however it can be argued that this factor could be seen as an upside to the discerning investor looking to snap up a good quality fund at a discount.

To sum it up, Investment Trusts almost certainly carry more risk due to their more flexible nature, but in my opinion that extra risk is worth it in the correct hands. If Carlsberg made investment vehicles.....

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