This year has proved to be an excellent one for investment trusts. Despite the trauma of the pandemic, they have emerged from a torrid time with their reputation as the connoisseur’s choice when it comes to investment funds largely vindicated.
At the end of the November, the FTSE 350 Equity Investment Instrument index, which measures the aggregate performance of the investment-trust sector, was up by around 11% year-to-date, while the FTSE All-Share index was down by 13%. The 24% difference between the two indices is the widest it has ever been, with the single exception of 1999, at the height of the technology bubble. With the average investment-trust discount to net asset value (NAV) narrowing this month to under 4%, nearly back to the level at which it started the year, 2020 has turned out to be more annus mirabilis than annus horribilis.
It is true that few trusts survived the market sell-off in February and March unscathed and there has been a wide divergence of performance since, so portfolio management and stock selection have been important. At the low point in March, with share prices in freefall, the average trust discount briefly widened to 20%, compounding declines in NAV. Since then, however, the recovery has been strong and persistent, rewarding those who kept their nerve: 95% of all trusts with more than £50m of assets saw their share prices rebound quickly, and 70% rallied by more than 20% over the next six months. Discounts have narrowed pretty much across the board.
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With notable exceptions (such as BlackRock Throgmorton), UK equity trusts have struggled, along with the deeply unloved UK market as a whole. The equity-income sector has been in the eye of the storm, with British dividends slashed and high-yield as an investment style underperforming growth. The Association of Investment Companies’ list of dividend heroes – trusts that have raised dividends for 20 or more years – has lost a couple of members. Most of the rest have only maintained their dividend record by drawing on revenue or capital reserves, which will be difficult to repeat unless the economy picks up quickly.
Other poorly performing sectors this year include conventional commercial property trusts (though specialist trusts in warehouses, social housing and healthcare have done much better), private equity trusts and debt funds, all in sectors now trading at higher discounts than before the pandemic.
The top-performing sectors
However, these areas of poor performance have been more than compensated for by the strength and resilience of others. Growth-oriented trusts, including specialist technology and healthcare funds, have had a storming year. Six of the 15 best NAV performers are managed by Baillie Gifford, exemplars of this style. The new generation of alternative-asset trusts that have appeared in the past decade, with their focus on less liquid income-generating asset classes, have shown that they can produce resilient streams of higher-yield income and useful portfolio diversification.
The last few weeks have seen a strong rotation in the market, with cyclicals and value stocks finally having a good run, smaller companies outperforming large, and quality and momentum stocks, the big winners of recent years, lagging. For now the market, high on vaccine news, appears to be pricing in a bright post-Covid-19 future. That looks premature. Better opportunities to buy are likely to appear next year, the often-weak first year of the US presidential cycle.
A model portfolio
The Investment Trusts Handbook has a model portfolio of around a dozen investment trusts which has compounded handily at 14% per annum since launch four years ago, thanks to a distinct global and quality growth bias (see money-makers.co for a full list). The strategy is to concentrate on best-in-class trusts managed by experienced, incentivised managers. Turnover is low, as wholesale changes cost money and can add value in theory but rarely do in practice. Below-trend discounts and dividend income available for reinvestment provide the opportunities to rebalance at the margin. The success of the investment trust sector depends heavily on its ability to regenerate itself over time, with new trusts or managers replacing persistent laggards, and secondary issuance expanding the asset base of the best performers. Here are three trusts to watch on that score in 2021.
Firstly, Securities Trust of Scotland (LSE: STS).Troy Asset Management’s James Harries took over as manager last month from Martin Currie to provide a geared version of Troy’s open-ended quality-growth global equity fund. It will have a zero-discount policy. Then there is Temple Bar (LSE: TMPL). Unlike some other struggling equity-income trusts, the board has bravely stuck with a value strategy after a disastrous year. It is already recovering and should be an obvious beneficiary in view of further likely rotation towards the unloved UK market and value as a style. Finally, there is Hipgnosis Songs (LSE: SONG). This music-royalty fund has been this year’s largest secondary issuer of shares. It has already built an impressive catalogue and will be looking to prove its business model and diversification value next year.
• Jonathan Davis is the editor of the annual Investment Trusts Handbook. The 2021 edition will be published on 6 December. To download the ebook edition free, go to harriman-house.com/ithb2021.
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