One of the characteristics shared by alternative assets is illiquidity which means not all investment vehicles are an appropriate way to get exposure to these asset classes.
Open-ended funds recently garnered attention for the risks they posed to investors by holding some illiquid assets such as property.
Does this mean investment trusts are the ideal vehicle in which to hold alternatives?
David Hambidge, director of multi-asset funds at Premier Asset Management, observes: “Given that liquidity on the majority of alternative assets is poor or in some cases virtually non-existent, then an investment trust with its fixed (or semi-fixed) capital structure is the best structure for these investments.
“Alternatives have gained in popularity since the financial crisis, largely as a result of plummeting bond yields, and investment companies have raised huge sums, particularly in the income space.”
The Association of Investment Companies (AIC) notes increasing adviser interest in alternative asset classes.
“Interestingly, recent research from Matrix Financial Clarity has revealed that the most popular sector for financial adviser purchases in the first quarter of this year was an alternative asset class, Sector Specialist: Debt.
"This is now the fifth largest investment company sector by assets,” Annabel Brodie-Smith, communications director at the AIC, points out.
“It has seen increasing demand over the last few years, with 22 investment companies launching in the sector in the last five years.
"Property Direct – UK was the second most popular sector for adviser purchases and it had been the most popular sector for the last half of 2016, no doubt due to the problems suffered by the open-ended property funds after the referendum.”
More on the issues faced by open-ended funds in the aftermath of the EU referendum later.
Listing the pros
There are several reasons why the structure of investment trusts makes them so well suited to alternative assets like infrastructure, debt and property.
Ms Brodie-Smith explains: “Investment companies are listed companies on the stock exchange so investors can always buy and sell shares freely.
“Due to their closed-ended structure, investment company managers do not have to manage inflows and outflows and can take a long-term view of their portfolios, without being constrained by the illiquid nature of the asset class.”
Figure 1: Property Direct UK Investment company vs open-ended performance – share price total return (%)
Source: AIC using Morningstar (to 31/3/17) showing arithmetic average returns. Clean share classes used for open-ended funds.
Paddy Dear, co-founder of Tetragon, adds: “In recent years, managers of alternative asset classes have increasingly used closed-ended fund structures to hold their assets, which we believe may provide investors with a potentially attractive way to access these types of alternative investments.
“Listed closed-ended investment companies and similar vehicles may enable a wider investor base to access exposure to more illiquid assets and may also provide liquidity through the purchase and sale of interests on the listed exchange.”