Investment trusts have historically performed better than their open-ended counterparts, but the volatility of 2022 has seen some – especially those with high levels of gearing – reverse this narrative.
Research from Interactive Investor has revealed that even though several major AIC sectors outperformed their IA counterparts in the long term, the reverse has been true in 2022, so far.
Over the year to 20 July, the AIC Global sector was down 23% versus the IA Global sector, which fell 15%. It was same story for the UK All Companies Sectors, with underperformance of 27% and 13% for trusts and funds, respectively. This has given portfolio managers who use both trusts and funds for their clients something to think about.
The winners and losers of H1
The economic impacts of H1 have not been uniformly felt across all sectors. Non-correlated assets, such as infrastructure and private equity, have fared well this year. Wise Funds co-portfolio manager Philip Matthews has seen this play out in his infrastructure and renewable-focused trusts.
“Entering the year, the premiums at which the funds traded had narrowed as markets were nervous about the outlook for rising bond yields and cautious around the longer-term outlook for power prices,” says Matthews.
“The surprise has come from the sharp rise in short-term power prices, leading to significant increases in net asset values for renewables generators.”
As such, his best-performing holdings have been Ecofin Global Utilities and Infrastructure, John Laing Environmental, and GCP Infrastructure.
This infrastructure theme has made Taylor Maritime, a trust investing in maritime logistical assets, the best performer of the year for Darius McDermott, investment adviser to the VT Chelsea Managed Funds.
“It’s had very strong performance and good inflation protection,” says McDermott.
“The trust is still trading at a considerable discount to NAV and is showing prudence by selling assets where there is opportunity, as well as paying a special dividend following a very strong market. Dividend cover remains remarkably high.”
Staying with alternatives, Janus Henderson portfolio manager James De Bunsen (pictured) has also seen this trend in his holdings, especially those linked to changes in energy prices: “We thought [these trusts] were too cheap at the start of the year, but higher power prices and inflation have turbo-charged returns.
“On the debit side, private equity trusts have given back some of 2021’s stellar gains but we believe they are now already pricing in another big leg down in public markets and a meaningful recession.”
His favoured trusts are 3i, HG Capital, Apax Global Alpha and Harbourvest.
The picture is not quite so rosy for trusts invested purely in equities. Matthews has seen holdings closely linked to technology among the hardest hit, with increasing bond yields putting valuations under pressure.
“Herald Investment Trust, Schroder UK Midcap, and our private equity trusts, such as Pantheon Investment Trust and CT Private Equity have all been under pressure,” says Matthews.
“In addition, funds with regional exposure to emerging markets and Europe have been weak as China’s zero-Covid policy and the impact of the Ukraine conflict have reduced GDP growth forecasts for their respective regions. Mobius Investment Trust, Templeton Emerging Markets, Abrdn Asia Focus, European Smaller Company and Henderson EuroTrust have all fallen accordingly.”
Buying new trusts for H2
With some sectors looking more challenged than others, and share prices weakened, opportunities are opening for trust investors. These vehicles are designed to benefit long-term investment horizons, and 2022’s volatility has not prompted a wholesale selloff – just more of a slight trimming.
“We have taken profits in some property names either through M&A activity or where we felt valuations had become too stretched,” explains David Hambidge, investment director of multi-manager funds at Premier Miton Investors.
“However, we remain comfortable with our existing holdings with many still valued at a discount to the value of the underlying portfolio.”
Instead, 2022 has allowed portfolio managers to add new names. Bluefield Solar Income has proven popular and been bought by both De Bunsen and McDermott.
“The only new name this year has been Bluefield Solar Income, which we had held before, back in 2015, and looked too cheap given the strong tailwinds behind renewable energy generators,” says De Bunsen.
Undertaking a more wholesale shift, Matthews has been using current valuation shifts to allocate into this theme: “We reduced our holding in Blackrock World Mining and partially reinvested the proceeds into Blackrock Energy & Resources at the time of the Ukraine invasion as we believe the supply constraints within oil & gas markets favour the latter.”
“We switched out of certain open-ended UK value equity holdings into Fidelity Special Situations, a fund run by a manager we respect and where the relative discount compared to open-ended funds looked attractive.”
Resilient benefits of trusts
Despite volatility holding back some trusts, due to geared positions, trusts are still favoured in some areas due to the resilience they can offer investors. De Bunsen and his team still see close-ended structures as the best way to access opportunities in illiquid areas such as private assets and infrastructure.
Though there have been challenges this year, the portfolio manager is sticking with such holdings: “We find these sectors only really suffer when there is market panic and liquidity subsequently completely dries up, and what we’ve seen so far is really a de-rating of hot sectors and a re-pricing of ultra-low interest rates.”
Liquidity management – with managers not forced to redeem outflows at short notice – are a widely recognised aspect of close-ended funds, which is what makes them so popular for some asset classes. Trust managers can also use leverage, which in rising makers can be a benefit, but in 2022 has caused performance lags.
Should this push trusts into discount territory, this could be a benefit for investors as Matthews explains: “The discounts now sit well below average levels for these funds over the last 15 years and, in many cases, are at similar levels to those distressed levels seen during the summer months of 2020.
“These abnormally wide discounts should provide investors with greater downside protection in the case of falling markets while [providing] significant scope for a rebound once investor sentiment improves.”