Discounts narrowing

The discount at which shares in the typical investment company trade relative to the value of its underlying assets fell to an average of just 1.7 per cent during the first half of the year – the lowest figure the sector has ever recorded over a six-month period.

The data, published this week by investment company Stifel, is worth noting. Discounts have traditionally been an issue that has put some advisers and investors off the closed-ended fund sector, so a low average figure may be reassuring. The range in which discounts traded during the first half of the year – between 3.6 per cent and 6.6 per cent according to Stifel – was also pretty narrow.

A range of factors have driven down discounts in recent times. Not least, investment companies themselves have been increasingly determined to stay on top of their discounts, taking steps such as buying back shares in order to manage the issue carefully; many funds now have discount control mechanisms that automatically kick in when discounts hit a certain level. A period of strong market performance has also helped to ensure demand for investment company shares has remained strong, keeping discounts low, while the growing number of large funds invested in alternative assets, which have often traded at premiums over the past couple of years, has had an impact on the average too.

So can advisers and investors now stop worrying about discounts altogether? After all, the trend towards lower discounts is now well-established. The long-run average discount in the sector, going back all the way to 1990, is around 9.5 per cent; by contrast, over the past decade, the average has been closer to 7 per cent – and even lower than that over the most recent periods.

The truthful answer is no. Discounts – and sometimes premiums – are a fact of life for the investment company sector because they’re simply a function of the way in which funds are structured. With a fixed number of shares in issue, it is supply and demand that drives the price of those shares and at any given moment that balance will not exactly reflect the value of the underlying assets.

Sometimes, moreover, external factors have an impact on demand and supply. The average investment trust sector discount has been in the single digits for much of the past 10 years, but did spike sharply upwards during the financial crisis, for example, and to a lesser extent following the referendum result a year ago.

Nevertheless, the lower average figures we’ve seen in recent times – and, above all, the lower volatility of discount ranges – should provide those with concerns about discounts with important reassurance. The discomfort of advisers and investors is a problem that the sector is alive to – and which it has been seeking to confront with proactive initiatives that have paid off.

Discounts will inevitably widen again in the future – as markets show weakness perhaps or because of further shocks we cannot yet anticipate. But what advisers and investors need to see is evidence that the discount question can be successfully managed over time. And here the sector can tell an increasingly compelling story.