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More on Investment Trusts
For a great many financial advisers, the really big questions in the run-up to the implementation of the retail distribution review are centred on achieving the right level of qualifications and knowledge and attracting and retaining the right kind of clients to enable them to prosper under the new regime.
Arguments about whether investment trusts deserve equal treatment in a post-commission landscape may seem like a sideshow to the main event. Investment trust providers have made great efforts in recent years to point out the merits of their products to advisers: charging structures that are often cheaper and more transparent than comparable open-ended funds; the suitability of the closed-ended structure for certain assets such as property and private equity; a long and successful history and enthusiastic support from private investors and wealth managers alike.
But lately questions have been raised as to whether investment trusts have the capacity to fulfil the greater demand they seek from advisers who must consider them if they are to retain their ‘independent’ tag. So could a lack of liquidity as a result of their closed-ended structure prove investment trusts’ undoing after RDR?
The issue of liquidity is often raised when referring to investment trusts; however to a large extent the concerns raised by advisers are overstated. There are sophisticated mechanisms in place to ensure that liquidity can be controlled and liquidity is specific to each trust. An investment trust’s board can take action to boost liquidity by issuing new shares, and can also repurchase shares if the demand drops. This action is at the board’s discretion and can be suspended if market conditions are volatile, a benefit not available to an open-ended fund.
The largest, best-performing trusts, which tend to attract the most attention from investors, should be able to cope with increased demand for their shares. These trusts generally have higher trading volumes and therefore meet the higher levels of liquidity.
However, looking at trading volumes alone may give an incomplete account of an investment trust’s actual liquidity. Full disclosure can be delayed by large trades, while the use of different settlement systems can also obscure the picture. As a result, many investment trusts may actually be more liquid than they appear at first glance.
An investment trust’s board can take action to boost liquidity according to changes in demand. If the shares consistently trade at a premium to the net asset value, new shares can be issued to meet with rising demand. Equally, investment trusts can repurchase their own shares at a discount to NAV should there be insufficient demand, thus reducing the effects of discount volatility and helping to protect the interests of shareholders who remain invested.