What’s happening with discounts?
David Prosser on the trend of narrowing discounts on investment trusts.
Whisper it quietly, but investment trust discounts appear to be narrowing. The gap between the value of the average fund’s assets and its share price has grown uncomfortably wide in recent months, but there are now some signs of sustained improvement.
Leaving aside 3i, which is so large that it skews the figures, the average investment trust was trading on a discount of more than 15% in April, following President Trump’s trade tariff announcements; today, it is 13%, the lowest level seen this year.
Now, it’s important not to get too hung up about this issue. Investment trust shares sometimes trade on discounts – or premiums – to the value of the assets held by the fund simply because of the way they are structured. The fund’s share price moves according to demand and supply from investors on the stock market; sometimes that gets out of sync with what’s happening in the underlying portfolio. That can be frustrating, but the investment trust structure also comes with lots of advantages.
Investors have recovered their nerve, and equities have bounced back.
David Prosser
Still, excessive discounts undoubtedly concern many investors. For one thing, when a discount widens, there’s a negative impact on returns, irrespective of what’s happening with the fund’s assets. Plus there’s the irritation of the market offering you poor value for assets that should be worth much more – no-one wants to be told that an asset worth 100p, say, can only be sold for 80p.
It's therefore welcome that discounts now appear to be coming down again. Some of the reduction reflects improved investor sentiment about the stock market overall – the shock of President Trump’s Liberation Day has receded, investors have recovered their nerve, and equities have bounced back.
Falling interest rates, another element of the macro-economic backdrop, have provided further support for many investment trusts, which often offer attractive yields to tempt income seekers.
Equally, there are some industry-specific drivers of lower discounts. Not least, the boards of many investment trusts have intervened to address their discounts through share buyback programmes, for example, as well as strategies aimed at increasing demand, from fee reductions to changing the investment manager to try to improve returns.
A round of merger activity has also provided a boost, with several trusts receiving offers for their shares at prices much closer to the underlying asset value – and speculation about more M&A action lifting other funds.
For existing investment trust shareholders, narrowing discounts provide a handy performance boost, enhancing returns on the underlying portfolio (just as widening discounts hit returns). For new investors, the decline provides motivation to consider taking the plunge – discounts at many trusts remain higher than their long-term average, offering an opportunity to get in on the cheap just as sentiment is beginning to improve.
Still, the discount question should not distract you from more fundamental issues – above all, whether a particular investment trust is appropriate for your financial goals and attitude to risk, as well as the prospects for the fund itself. Don’t invest simply because you believe a fund is currently cheap.
That said, lower discounts do provide some vindication for analysts and advisers who have advocated for keeping faith with the investment trust sector. Their argument has been that very wide discounts would prove to be a temporary phenomenon and that the best investment trusts would bounce back. The recovery of recent weeks may prove to be a false dawn – but for now, many investment trusts are moving towards valuations that look much fairer.
David Prosser
David is former Business Editor of The Independent, Personal Finance Editor of the Daily Express, and Deputy Editor of Money Observer magazine. He writes regularly for the AIC.
