How do active ETFs compare to investment trusts?

Let’s be fair. Active ETFs do have clear plus points. Like investment trusts, they issue shares that can be traded at any time on the stock market; this means investors can buy or sell whenever they like, and that the price of the fund is constantly updated in real time.

Crucially, unlike investment trusts, that share price doesn’t typically trade at a meaningful discount or premium to the value of the fund’s underlying assets. ETFs are open-ended funds, which can issue or cancel shares according to investor demand (the mechanics are a bit more complicated, but let’s leave that to another day). This largely eliminates the discount problem, which is the issue that many advisers don’t like about the closed-ended structure of an investment trust.

Victory assured? Well not necessarily. Investment trusts still offer several advantages active ETFs can’t match. For example, investment trusts are allowed to retain some of the dividend income they earn on portfolio holdings, enabling them to support payments to shareholders in lean dividend years – and therefore to smooth out income distributions over time. Active ETFs don’t have this capability.

Also, the investment trust structure remains uniquely well suited to investment in illiquid assets – including areas such as infrastructure and alternatives that are starting to see higher allocations from advisers. A closed-ended fund is protected from the liquidity mismatch that can occur when a fund offers investors daily dealing facilities but owns assets that can only be sold over longer periods.

Nor should investors overlook the governance structures in place at investment trusts, including their independent boards of directors. Active ETFs have arrangements in place to comply with listing rules and the requirements of company law, but there is no independent board to fight for shareholder interests. Indeed, investment trust boards have become increasingly proactive in recent years.

One focus has been charges, with many trusts cutting fees sharply. In asset classes where investment trusts compete head on with ETFs – often celebrated for their very low fees – they are now much more likely to levy similar fees.

Finally, it’s worth pointing out that the investment trust industry offers a far wider choice of asset classes than the active ETF universe. Hundreds of investment trusts invest across a very broad range of asset classes, spanning both conventional investments such as equities and alternative plays, from real estate and private equity to commodities and venture capital. In many of these asset classes, it simply wouldn’t be possible to launch an active ETF.

None of which is to say active ETFs are to be ignored. Quite the opposite in fact: advisers should welcome their rapid growth since it provides more options for meeting client needs. Equally, however, rumours of investment trusts’ demise in the face of this new rival have certainly been exaggerated. There will be a place for both types of fund – and many others – for years to come.