Discounts remain in place post-Brexit

In simple terms, when a trust’s share price is lower than its net asset value (NAV) it is seen to be trading at a discount, and if the share price is higher than the NAV it is trading at a premium. 

With the uncertain markets so far this year, it is not surprising that many trusts are trading at a significant discount. As at October 19, the largest discounts of more than 80 per cent are to be found on the Alternative Liquidity Fund, which sits in the Association of Investment Companies’ (AIC) Hedge Funds sector, and the M&G High Income vehicle, which sits in the UK Equity and Bond Income group. Meanwhile, just four of the AIC sectors recorded an average premium at the end of September, all of which were specialist categories. 

The Brexit vote in June, combined with the uncertainty ahead of the US election, could be among the contributors to a widening of discounts as investors move away from potentially riskier asset classes into those considered safer or with a higher yield. 

James Glover, client director at JPMorgan Asset Management, says: “What’s really noticeable about the [investment trust] sector is that the hunt for yield continues, particularly alternative yield coming from [the likes of] infrastructure. Some of those funds providing alternative and relatively uncorrelated sources of yield continue to trade at NAV or even at a premium, significant premiums in some instances. 

“The more traditional areas of yield have either lost their premiums or have moved to discounts, and in some instances quite big discounts. That’s despite them having [adequate] yields in a market where two months ago UK 10-year gilts were yielding half a per cent. People are a bit more cautious post-Brexit about where they’re finding that yield, so there are definitely some headwinds out there for the [investment trust] sector.”

After some discount volatility in the aftermath of the Brexit vote, the average discount is now narrower than where it started the year.Jemma Jackson, AIC

Tristan Chapple, director of the Aurora Investment Trust, notes many of the biggest discounts are on private equity or certain property funds, where the discounts seem to reflect investors’ concerns with the underlying assets. He says: “It seems the discounts will widen when there is a period of either general market wobble, or concerns over property assets or private equity.”

But AIC PR manager Jemma Jackson explains that while discounts in the investment company sector have seen a good deal of variation this year, they “have ended, on average, close to where they started the year”. 

“After some discount volatility in the aftermath of the Brexit vote, the average discount is now narrower than where it started the year – 3.7 per cent at the end of September compared with 4.7 per cent in January,” Ms Jackson says.

“There is some variation within this, with a number of sectors on double-digit discounts. Smaller Companies trusts tend to have wider-than-average discounts, but have tended to have strong long-term performances, while the Sector Specialist: Commodities and Natural Resources group is another example of a sector currently on a double-digit discount – perhaps not surprising given the volatility this sector has seen.

“The Private Equity sector, despite some discount narrowing perhaps due to corporate activity and a rerating of the category this year, continues to trade on a double-digit discount, as do Sector Specialist: Hedge Funds and some of the more exotic Property sub-sectors, such as Property Direct: Asia Pacific.”

Such wide and varying discounts could be seen as buying opportunities, but investors should still consider why the discounts are widening; is it purely a risk-off trend or something more fundamental?

Mr Chapple notes: “By definition a widening discount is a chance to buy the same thing for less money. But in a way that share prices could sometimes reflect changes to underlying fundamentals, perhaps the same is the case with a widening discount. It is for the investor to make their own judgement as to whether the discount is justified or not.”

Ms Jackson adds: “While discounts can be a useful gauge of sentiment, they are only one of many factors advisers should bear in mind. On the plus side, a discount means that investors have more assets working for them to produce capital and income, and if a discount narrows this can enhance returns. 

“Conversely, there is no guarantee that a discount won’t widen further, thereby diluting gains or enhancing losses, but over the long term discount fluctuations tend to be smoothed out.”

Nyree Stewart is features editor at Investment Adviser

​AIC sectors: top-five average discounts

AIC sectors: top average premiums

Source: AIC, using Morningstar. Data correct as at October 19 201