Patience is a virtue

As a case study in irony, recent media coverage of the performance of Woodford Patient Capital Investment Trust couldn’t be better. Several articles in recent weeks have reported that some investors are losing patience with the fund, managed by the high-profile Neil Woodford, with shares in the fund down around 9 per cent since its launch two years ago.

To which Woodford must be tempted to reply: “the clue’s in the name”. The whole point of Patient Capital is that it takes stakes in early-stage companies with the potential to deliver exciting long-term growth; it’s going to be a slow-burn, in other words, and investors have to be happy to take the view that the waiting game will pay off.

This isn’t the place to debate the merits of Woodford’s investment strategy, or to take a view on the prospects for Patient Capital one way or the other. But it does seem odd to criticise a fund that has very deliberately and openly set out its store as a long-term creator of value for lacklustre short-term performance. Conventional wisdom is that stock market investment isn’t for those who can’t take a view of five years or more – and the timescales for the smallest companies are often longer – so it’s difficult to feel sympathy for those feeling impatient after only two years.

The question of patience aside, however, the story of Patient Capital is another reminder of why the investment company structure suits certain types of collective fund investment so well.

In an open-ended fund, unhappiness with short-term performance can very quickly lead to a rapid investor exodus, forcing the fund manager to sell out of portfolio holdings in order to meet the demand for redemptions. That’s problematic for a fund invested in very liquid stocks, but if your portfolio is full of small, illiquid investments – such as shares in very early-stage companies, say – it can be disastrous. The manager may be forced to sell at prices well below true market value, or even find it impossible to sell at all.

A closed-ended fund does not face this dilemma. Investors who want out simply sell the shares at the price the market is willing to pay. The investment company’s share price may tumble, but there is no effect on the underlying portfolio.

Some investors feel uncomfortable with the way in which shares in closed-ended funds sometimes trade at a discount to the underlying value of the assets – Woodford Patient Capital, for example, has slipped to a discount close to 10 per cent. But they’re actually being protected from the potentially destructive effect of changing investor sentiment – the discount reflects a weaker demand versus supply dynamic for the shares, but the underlying assets remain in place.

That leaves the fund manager free to continue with the company’s stated investment policy – investors may want to think about whether they’re still convinced by that policy, but shouldn’t be distracted by short-term movements in the share price.

Over time, if the underlying investments prove their value, a closed-ended fund’s discount will correct itself and the shares will move back towards the net asset value. Investors who have stuck with the fund will be rewarded for their patience.