Could investment trusts be about to lose their edge?

Investment trusts have vastly outperformed their unit trust peers in the past. But they're going to have to work a lot harder to keep that up, says Merryn Somerset Webb.

A fascinating piece arrives on the difference in performance between investment trusts and unit trusts run by the same managers. FE TrustNet and Investment Week have analysed the returns made by high-profile managers who run two portfolios with similar mandates, and which have had similar top ten holdings over a period of five years.

There were 17 of them. And 15 of those did better with their investment trust than their OEIC (only Nick Train and Matthew Dobbs of Schroders got it the other way around).

Take Harry Nimmo's Standard Life funds. His SLI ULK Smaller Companies Fund is up nearly 400% since 2003, but the almost identical trust is up 672%. Georgina Brittain at JPM has had a similar experience her OEIC is up 212%, but her trust is up 340%. So, what makes the difference?

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Over the last decade it has been all sorts of things. Charges have been generally lower on investment trusts, the ability to gear up (borrow money to invest) has helped in sharply rising markets and the trusts often have more focused portfolios (and proper active investing is one of the keys to outperformance).But the key might be that discounts have closed.

Investment trust shares very rarely trade at the exact value of their underlying investments. They trade at a discount to it (if people are worried about future performance or feel that the illiquidity of the investments reduces their value perhaps) or at a premium (perhaps if everyone is bullish on their sector or they offer a high yield).

In the past, discounts have been pretty high. Today they are not instead they are at a record low of 3.4%*, according to the Association of Investment Companies. That's not a problem in fact it's a good thing. But the closing of the discounts can't give investment trust performance a boost twice it's a one off (until they fall and close again).

The same might be true of charges. RDR (retail distribution review) has meant that unit-trust fees have come down (or at least been separated from platform fees and so appear to have come down).

Finally, it is worth noting that investment trusts will have benefited from low interest rates in just the same way as other companies: they too have seen the rates they pay fall from close to double digits to 2-3%. That makes a difference and as we all know it won't last forever.

So, what next? From here on in, investment trusts that want to outperform will have to rely on active management skill and little else. Regular readers will know I am a great fan of investment trusts. I reckon that's enough. But nonetheless investment trust performance over the last decade is no guide to their performance over the next.

* The nervous might like to use this number as an early warning of looming disaster. The previous low of 3.5% was recorded in 2006.

Merryn Somerset Webb

Merryn Somerset Webb started her career in Tokyo at public broadcaster NHK before becoming a Japanese equity broker at what was then Warburgs. She went on to work at SBC and UBS without moving from her desk in Kamiyacho (it was the age of mergers).

After five years in Japan she returned to work in the UK at Paribas. This soon became BNP Paribas. Again, no desk move was required. On leaving the City, Merryn helped The Week magazine with its City pages before becoming the launch editor of MoneyWeek in 2000 and taking on columns first in the Sunday Times and then in 2009 in the Financial Times

Twenty years on, MoneyWeek is the best-selling financial magazine in the UK. Merryn was its Editor in Chief until 2022. She is now a senior columnist at Bloomberg and host of the Merryn Talks Money podcast -  but still writes for Moneyweek monthly. 

Merryn is also is a non executive director of two investment trusts – BlackRock Throgmorton, and the Murray Income Investment Trust.