Overcoming obstacles to investing in investment trusts via platforms

Investment trusts are is something you keep an open mind about and you would happily use them, but something gets in the way. 

That is why 95 per cent of assets on adviser platforms are still sitting in open-ended funds or cash, five years after the Retail Distribution Review (RDR) made considering them a must for every financial adviser.

There are various ‘buts’. A big one is platforms. How good are they at handling listed investments, such as investment trusts and exchange-traded funds? If they are not very good, or do not offer them at all, that is enough to put many people off, even if these investments may be suitable for clients. 

A report recently released by the Lang Cat, commissioned by the Association of Investment Companies (AIC), contends that there is an “inherent market bias” against investment trusts and that the cost of trading them on some platforms can be “prohibitive”. 

Fees

A lot of this boils down to the unhappy combination of high transaction fees (on some platforms) and unlimited ‘ad valorem’ custody charges (on most platforms). The report concludes that adviser platforms are still “hooked on the drug of unlimited percentage-based charging”.

You can see that by looking at direct-to-consumer platforms, many of which are very cost-effective for investment trusts. You can see it, too, by looking at the handful of adviser platforms which adopt an asset-neutral approach to pricing. 

Figure 1: Investment trust custody charging

Source: The Lang Cat

There are seven adviser platforms, out of 19 major players, that would charge you exactly the same to hold a £50,000 portfolio of Oeics as a £50,000 portfolio of investment trusts. These are: AJ Bell, Alliance Trust Savings, Ascentric, FundsNetwork, Praemium, Raymond James and 7IM.

Most of these have in-house dealing desks, rather than relying on an external stockbroker. 

So platform pricing structures do not have to be an insuperable obstacle. In the words of the Lang Cat report: “If you’re (a) determined to move outside of open-ended funds and (b) willing to put cost as a main factor in a selection/due diligence exercise, many platforms accommodate investment companies without price being a barrier.”

Ease of use 

Of course, cost is not everything. Issues around ease of use also loomed large for advisers. And let us not forget there are still one or two adviser platforms that do not offer investment trusts at all. 

So if platforms are a barrier to competition between different fund types, should the FCA be doing something about it?

Unfortunately, the 110-page interim report of the FCA’s Investment Platforms Market Study skirted the issue. Instead, it obsessed about the ability (or inability) of platforms to negotiate discounts with asset managers, discounts which can be as little as one basis point. 

It is a bit like doing a study of competition between taxi firms and ignoring Uber. Since the RDR, 134 investment trusts have changed their fees, this represents more than 40 per cent of the sector. The most common types of fee change are reductions in base annual management charges (68 trusts), scrapping performance fees (50) and introducing tiered fees (48). 

There is no sign of the pressure letting up either. There have been 26 fee changes in the first half of 2018 alone, including seven trusts scrapping performance fees and 10 introducing tiered fees. 

This is not to say that investment trusts are always cheaper than open-ended funds, but their independent boards have serious negotiating clout.

In contrast, the FCA acknowledges that negotiations between platforms and asset managers to secure fee discounts have borne little fruit since the RDR. 

With its narrow focus on the open-ended sector, the FCA is ignoring an important driver of competition in the asset management market, and the potential for platforms to play a greater role in strengthening that competition.

There is also the question of performance net of fees, where countless studies show that investment trusts have the edge over their open-ended cousins. 

Key points

• Platforms are not very good at offering listed investments 
• Investment trust boards have serious negotiating clout
• Open-ended funds still manage over £20bn of assets in UK-focused direct property funds

Another area where closed-ended funds offer an attractive alternative is in property. The problems of holding illiquid property in an open-ended structure were highlighted following the European Union referendum, when the majority of open-ended property funds were forced to suspend trading.

Open-ended property funds have performed poorly, with returns of 16.3 per cent over the past three years for direct UK property funds, versus 41.6 per cent for their closed-ended equivalents (or 45 per cent on an net asset value basis). 

Direct property funds 

Many advisers have already seen the light. The Property Direct UK sector is one of the most popular on adviser platforms.

We monitor purchases quarterly and the sector has not been outside the top three since 2015.

But still, despite strong evidence that the closed-ended structure works better for direct property, open-ended funds still manage more than £20bn of assets in UK-focused direct property funds (much of it sitting in cash to ease redemptions) versus £7bn for their closed-ended equivalents. That’s not a sign of a market that is functioning well. 

For the adviser who wants to select the best-value and most suitable products, be they investment trusts, Oeics, ETFs or anything else, there are platforms out there that help you do that.

The AIC has launched a cost comparison tool on its financial adviser website, powered by the Lang Cat, that reveals which platforms are more cost-effective for mixed portfolios of investment trusts and open-ended funds at different levels of client assets, both inside and outside model portfolios. 

The obstacles to the use of investment trusts are not that terrifying, but the point is they should not be there at all.

The more investment trusts are able to compete with the open-ended industry, the better the outcome will be for everyone in terms of suitability, performance and value for money. 

Nick Britton is head of training at the Association of Investment Companies