YOUR PORTFOLIO
/ CAPITAL PRESERVATION /
PROTECT OR SURVIVE?
The question of whether investment companies have a role to play in
reducing risk depends entirely on what you mean by “risk”,
writes Anthony Luzio
W
HEN ANALYSTS
TALK ABOUT THE
MANY ADVANTAGES
OF INVESTMENT
TRUSTS, capital preservation
tends to come a long way down
the list. Being able to gear means
these vehicles tend to outperform
funds over the long term, while
the ability to hold back income
earned has led to a trend of
increasing dividends every year
over multi-decade periods.
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However, the ability to gear
also counts against them
when markets fall, amplifying
losses, and while the ability to
consistently raise the dividend
provides some respite during
times of market weakness, this
is more than outweighed in the
short term by discount volatility.
So should these factors
automatically preclude investors
from using trusts for dampening
risk? Not necessarily. David
Coombs, head of multi-asset
investments at Rathbones, says
it depends on what you mean
by “risk”. “The thing about
investment trusts is they are not
forced sellers of assets in the way
open-ended funds are when the
market is weak because they don’t
get the redemptions,” he explains.
“Will you get more volatility? Yes
you will, if your discount widens.
But in small caps, for example,
if the market is weak you aren’t
trustnet.com
In the 20th century, exchange
controls, high inflation and
high tax rates meant equities
were the only game in town
forced to sell the stock into an
illiquid market where there are
only sellers, not buyers, which isn’t
a great place to be. So you won’t
suffer the permanent loss of capital.
“I would argue capital
preservation is definitely
enhanced in an investment trust,
but volatility is ironically greater.”
As a result, Coombs does not
use investment trusts specifically
to suppress risk in his multi-asset
portfolios, but says he would use
these products – and never open-
ended funds – to gain exposure
to less liquid areas such as small
caps, for example.
trustnet.com
HAEMORRHAGING MONEY
Many investors’ first port of call
when looking to preserve capital
in the open-ended space is an
absolute return fund. However,
Cantor Fitzgerald investment
companies analyst Markuz
Jaffe says the problem here is
that a large proportion of these
strategies have by and large
disappointed – with the issue of
illiquidity again coming into play.
“A fund can only buy a certain
group of assets that have an
expected return,” he explains.
“Some funds such as Standard Life
Global Absolute Return Strategies
[GARS] tried to replicate a hedge-
fund type strategy and arguably
failed, that is why it has been
haemorrhaging money.”
At just under £20bn in size,
Standard Life GARS is still the
fifth-largest fund in the IA
universe – but it used to be the
biggest. Despite its aim to provide
a positive return in all market
conditions, it is down 3.8 per cent
over the past three years while the
FTSE All Share is up 18.09 per cent.
“I think what is quite handy
in the closed-ended space is that
often they get more flexibility,”
Jaffe continues, “so even in terms
of straight-up equity investment
trusts, some of the Fidelity ones
have the ability to use derivatives
and go short to reduce their
overall market exposure. Some
funds might be able to do this
in the open-ended space, but it
makes more sense in the closed-
ended space where they don’t
have to meet daily fund flows,
particularly if it is a smaller fund.”
THE DATA
There isn’t an investment trust
equivalent of the IA Targeted
Absolute Return sector. However,
looking at a straight-up comparison
between the open- and closed-
ended versions of the Flexible
Investment sector, it may come as
a surprise to some investors that
the latter has fared better under
a variety of capital preservation
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