Important information: The value of investments and the income from them, can go down as well as up, so you may get back less than you invest.
With further deadlines for Brexit trade talks likely to come and go over the next two months, the UK seems to be heading inexorably towards an eleventh-hour showdown with the EU, the most probable outcome of which is far from clear. Equally unclear is the likely effectiveness of the government’s latest round of local lockdowns and what their further economic cost might be.
You might say these factors alone rule out the UK as a preferred destination for your investments for the time being were it not for one thing, and that’s value. Following a tumultuous trading year, UK equities are inexpensive compared with history and by comparison with many overseas markets that have weathered the Covid storm better.
At the end of last month, the UK stock market was trading on a multiple of just 16 times the earnings of companies over the past 12 months. That’s a staggering 37% lower than for world equities. At the same time, UK companies now trade at just 1.4 times the value of the assets on their balance sheets, which is low compared with a global average of around 2.6 times1.
Then there’s the prospect that things can only get better in 2021. Provided trade talks don’t self destruct over fishing rights and competition laws, January should, at last, bring a greater clarity about Britain’s future trading relationship with the EU.
Meanwhile, the world continues to work hard to find a vaccine for Covid-19. The latest indications are promising, with around 320 potential vaccines now at various stages of development around the world, alongside the one we all know about at Oxford University2.
There are also indications that the worst period for UK dividend cuts and suspensions may now be over. A number of companies across a variety of sectors have already reinstated the dividend payments they suspended as a precautionary measure earlier this year, among them BAE Systems, Ferguson, Mondi, Admiral and Bellway.
Such a rich tapestry of upside and downside risks is bound to bring opportunities for longer term investors with an ability to look through the fog. However, what UK investors may feel they need right now is an additional edge – something working on their side with the potential to boost future returns.
That’s where investment trusts might be able to help. Unlike the open-ended unit trusts and OEICs many investors may be more familiar with, investment trusts are companies whose shares are traded daily on the stock exchange. Their share prices reflect not only the underlying value of their investment portfolios but also how confident or otherwise investors are in them.
An investment trust can therefore trade at either a premium or discount to its net asset value – essentially the value of all its investments – depending on how well its shares are trading in the market. As we know, that depends a lot on sentiment.
By aiming to buy when a trust’s shares are trading at a discount, investors hope to benefit from the discount shrinking or even turning to a premium once sentiment improves.
At this point it’s worth bearing in mind that, due to fluctuations in sentiment affecting premiums and discounts, investment trusts can be riskier than unit trusts and OEICs. They can also be riskier if a trust’s manager decides to capitalise on rules which allow money to be borrowed to fund additional investments. This is “gearing” and it’s used by some funds to “gear up” investment returns for the benefit of shareholders, but the process entails its own risks.
As such, investment trusts are often best suited to longer term investors. Having said that, some of the market’s most respected trusts currently appear to be well positioned to capture healthier trading conditions as investor confidence improves.
The Murray Income Trust is a case in point. This trust, which dates back to 1921, currently trades at a 5.9% discount to its net asset value having stood at a small premium earlier this year, just before the coronavirus crisis took hold3.
The trust aims for a high and growing income with capital growth, currently yields about 4.7% and pays quarterly dividends. While multinational blue chips such as AstraZeneca, Unilever and Rio Tinto dominate the trust’s list of largest holdings, Royal Dutch Shell and HSBC – which reduced and cancelled their dividends respectively earlier this year – are notably absent from the portfolio4.
The Edinburgh Investment Trust differs from the Murray Income Trust in that it has a more concentrated portfolio of about 40 holdings and specifies a target of outperforming the FTSE All-Share Index in net asset value terms.
FTSE 100 stocks make up around two thirds of the portfolio with FTSE 250 stocks accounting for the bulk of the remainder. Current large holdings include Unilever, AstraZeneca and Tesco and the trust is trading at an 11% discount to its net asset value5.
For a greater exposure to Britain’s firmly-out-of-favour domestic economy, the JP Morgan Mid Cap Investment Trust offers an answer. With large investments in companies including Games Workshop, Dunelm and Pets at Home, this trust currently trades at a relatively wide 12.7% discount to its net asset value.⁶
Fidelity Special Values also offers an exposure to out-of-favour UK companies by virtue of its contrarian, special situations approach. It currently trades on an 8.4% discount to its net asset value. This trust focuses on businesses undergoing positive change yet to be recognised by the wider market and counts Legal & General and Serco among its largest investments. Up to 20% of the trust can be invested in overseas companies and the Swiss pharmaceuticals giant Roche is currently its largest holding⁷.
More on investment trusts
1 MSCI, 30.09.20
2 World Economic Forum, 02.10.20
3,4 Aberdeen Standard Investments, 30.09.20 and 21.10.20
5 Majedie Asset Management, 30.09.20, and London Stock Exchange, 22.10.20
6 JP Morgan, 30.09.20 and 21.10.20
7 Fidelity International, 22.10.20
Important information: Investors should note that the views expressed may no longer be current and may have already been acted upon. Reference to specific securities should not be construed as a recommendation to buy or sell these securities and is included for the purposes of illustration only. This information is not a personal recommendation for any particular investment. If you are unsure about the suitability of an investment you should speak to an authorised financial adviser.