The advantages of an independent board

A view from David Prosser, former Business Editor of The Independent, Personal Finance Editor of the Daily Express, and Deputy Editor of Money Observer magazine

 What do football club directors do when the team lets the fans down? Usually, they replace the manager with someone they hope will improve performance. In the world of investment, however, the same rules don’t always apply. When performance disappoints, the fund manager invariably gets to carry on, however unhappy his investors may be.

That’s because many investment funds lack accountability. They’re set up and operated by a fund management company, which then has all the power when it comes to appointing individual managers to run the fund. Investors’ only course of action when they feel let down by performance is to withdraw their money and go elsewhere.

Importantly, however, this is not the case with investment trusts.

Run by independent directors

Unlike other investment funds, investment trusts are independent companies. They have a board of directors whose legal duty is to put the interests of shareholders – the fund’s investors – above those of everyone else.

This has important implications. A key responsibility for directors is to appoint a fund management company to run the fund. Once that is done, the directors would be failing in their duties to shareholders unless they kept a close eye on the performance of the company – and if returns disappoint, they are entitled to intervene. Ultimately, they can sack the manager and take the contract elsewhere.

This represents a crucial protection for investors that only investment trusts can promise to deliver. The fund management industry is very good at launching new products and marketing them to investors, but their bottom-line goal in doing so is to earn income on their funds. Investment trusts, by contrast, must be run with shareholders’ interests as the top priority.

Ringing the changes

Don’t think this distinction between investment trusts and other types of fund is purely hypothetical for directors frequently do change managers as they seek out better performance for investors.

The latest example came at Witan Investment Trust this week. It’s a large internationally-invested investment trust that uses several different fund management firms to run parts of its portfolio. And it has just announced a change to this team – it is bringing in two new US-based specialist fund managers and letting two of the existing firms go.

In Witan’s case, the switch reflects the board’s intention to move to a more specialist approach to fund management, rather than dissatisfaction with the incumbent managers, but these are nonetheless changes that wouldn’t happen at other types of investment fund.

Nor are such changes unusual – a series of investment trusts have replaced their fund managers over the past 12 months as they’ve sought to deliver better performance to their shareholders. And it is a trend that looks to be accelerating – in other words, accountability is improving all the time.

This is a feature of investment trusts that should not be overlooked. Ultimately, when you are trusting someone with your cash, it’s reassuring to know that they are legally obliged to put your interests before those of a fund manager.