5 Reasons to Invest Using Investment Trusts
5 Reasons to Invest Using Investment Trusts
Investment trusts are often overlooked by investors. This may be because they are not allowed to advertise, or it could be that they have been less well promoted by financial advisors because they do not attract commission payments in the way unit trusts and OEICs do. This neglect could be about to change, though, because the rules on how a financial advisor is compensated changed at the beginning of 2013.
Whatever the arguments for their neglect, investors may be missing out on some good opportunities by ignoring investment trusts. Here are 5 reasons why investors should consider investment trusts in their portfolio.
Ease of investment
An investment trust is bought and sold easily through a stockbroker. Trading just like any other company with shares quoted on the stock exchange, orders can be placed by telephone, post or online.
Unlike unit trusts, an investment trust is priced continuously throughout the trading day. This means that orders can be placed and executed at any time, whereas unit trusts and OEICs are priced and traded only per business day.
Costs
Because they are traded as shares on the stock exchange, an investor only pays a broker’s commission (sometimes a set dealing charge of just a few pounds) when buying and selling. Unit trusts regularly incur up-front charges of as much as 5% or 6%, and will trade with a spread in the same way that investment trust shares do.
Annual management charges are generally less on investment trusts as well, though the payment of performance bonuses is more commonplace. This is no bad thing, with many investors seeing it as a way of incentivising fund managers to do a good job.
Diversification
Like unit trusts and OEICs, there are hundreds of investment trusts available to investors from dozens of investment trust companies.
These investment trusts cover different assets as well as different markets. Some will be specialised as to the companies or business sector in which they invest, while others will take a broader more general approach. Most investment trusts will have between 50 and 100 stocks within their portfolio of investments.
Investors can buy a single investment trust, though many invest in several. This gives them a spread of investments, from the UK and abroad, and creates a deeply diversified portfolio managed by professional fund managers, each of whom has expertise in his or her particular market.
On top of this, many investment trust companies have similar funds and so the opportunity to diversify across a range of different investment trust companies adds in another layer of diversification.
The effects of gearing
Because they operate like an ordinary company, investment trusts are allowed to borrow money to invest. In this way they can gear their investments, with a rise in the market reflected in a rise across a greater size of investment. A fund that has £100 million to invest and then borrows a further £100 million to invest will see a return of 2 for 1 on every £ of its original investment funds.
Investment trusts can also offer different classes of shares, thus catering for investors with different investment objective. For example, an investment trust may structure itself with an income producing share and a share aimed at pure capital growth. Such investment trusts are called split capital investment trusts, and whilst they came under fire in the first part of the millennium the regulations covering them and compensation schemes now in place have given them a much firmer base of credibility.
Shares trade at a discount
Most investment trusts trade at a discount to their net asset value. This is because was the investment required to liquidate and sell all the investments it owns, there would be a cost of doing so. However, what this means is that an investor effectively gets more shares for his money and these shares will produce greater dividends 9for income or growth within the trust).
However, the discount also applies when selling shares in investment trusts, though if the market is rising the size of the discount is likely to decrease: meaning an even better comparative return.
Some investment trusts will trade at a premium to their net asset value, especially during bull markets, depending upon how they are viewed by the market.
In summary
Investment trusts can offer excellent value to long term investors. With a lower AMC than unit trusts, and lower initial charges, the comparative performance should be greater, particularly when the effect of gearing is taken into account.
They are cheap and easy to buy and sell, though care should be taken to understand the exact reasons for any discount to net asset value.
For diversification purposes there is little to choose between unit trusts and investment trusts, but it should also be remembered that whilst gearing increases the potential for profits it also magnifies any losses. For this reason, investment trust share prices can be volatile.