Please enable JavaScript.
Coggle requires JavaScript to display documents.
Investment Trust Companies (ITCs shares trade at a premium to NAV for the…
Investment Trust Companies
One of the largest sectors of the LSE
Collective investment schemes in that they pool investors’ money and use it to manage a portfolio of selected assets that should pay dividends and/or grow in value over the long term
Actually quoted limited companies that issue shares on recognised stock exchanges
In the UK, governed by the Companies Act, the AIFMD in the EU and similar legislation across the world that support collective investment schemes
There will be a board of directors who are answerable to its shareholders
Closed ended companies
Investors cannot withdraw funds thus enabling directors to plan ahead
The managers of the ITC will invest the funds raised into equities, gilts, corporate bonds and other assets including property
Investors who did not buy shares at launch may buy and sell shares on the secondary market through brokers rather than directly through the fund manager
The value of an ITCs asset pool can increase based on asset appreciation or perhaps sound investment decisions
Will have a memorandum, articles of associations and a prospectus which will outline the specific purpose of the ITC and which specifies the asset classes and geographical areas in which it will invest
Directors cannot deviate from the investment strategy without the approval of shareholders
As the number of shares is fixed, the share price is dependent on the difference between the supply and the demand for the same shares in the secondary market rather than directly on the value of the underlying investments held in the fund
Due to the fixed capital structure, the fund manager can take a longer-term view without having to sell assets. This will allow the fund manager to achieve better long term performance
The return to ITC investors is composed of two elements
Capital growth - increase in the ITCs share price
Income - in the form of dividend payment
The market price may be dependant on a number of factors including
The value of the underlying assets held by the ITC
The availability of shares in the market
Level of demand for the ITC shares
There are two figures which must be considered when deciding whether or not to commit funds into investment trust shares
The NAV per share
The quoted price at which the trust is trading
The value of an ITCs investments is calculated as the NAV and expressed on a per share value. This is calculated as the value of an ITC company's assets less the total value of its liabilities and usually expressed on a per share basis
The NAV is usually calculated at 12:00 daily for most ITCs; for more specialised ITCs this may be weekly
ITCs shares trade at a premium to NAV for the following reasons
Investors are bullish and believe that the price of ITCs will rise
Where an ITC is paying a high and growing dividend
The fund manager or management team have a good reputation and investors have confidence in them
Perceived undervaluation in reported ITCs NAVs. This may include unquoted investments such as property or private equity and thus investors may believe that the NAV of a trust has risen beyond its officially reported value
If an investment trust has been in the news or is one of the only trusts operating in a specific area
Where its assets are rising quickly in value and causing high demand for its shares
Where the ITC is the subject of a potential takeover or reorganisation
ITCs shares trade at a discount to NAV for the following reasons
Investors have concerns of the management performance and have been selling. This can mean the trust's shareholders share price falls faster than its NAV, increasing the discount
Investors may be sceptical and believe that the trust's NAV is far less than quoted
A lack of faith. Investors may believe bad management is going to reduce the ITCs NAV instead of growing it. This is often seen with ITCs with a poor track record
ITC trading at a discount may not be the bargain it first appears - or at least the discount may not be set to narrow in the near future
Perceived overvaluation in reported ITCs’ NAVs. This may include unquoted investments, such as property or private equity, and thus investors may believe that the NAV of a trust has fallen beyond its officially reported value
Gearing advantage
Considered to have a higher risk profile than open ended schemes because they have the ability to borrow
The fund manager will use the borrowed money to make additional investments and potentially produce a better return on the capital employed in order to enhance fund performance and tend shareholder value
Borrowing to invest may be advantageous when markets are rising as profiles are magnified however when markets are falling losses can also be magnified
If wrong decisions are made, such gearing can lead to significant losses especially the the cost of borrowing increases dramatically
Potential investors should be aware that some ITCs use more gearing than others and the range varies form no gearing to as much as 20% under normal market conditions
An ITCs gearing policy may be found in its prospectus and annual report
There are times when it is better to hold cash especially in a falling market. As ITCs do not have any restriction on the amount of cash it may hold, it can hold 100% of its funds in cash and invest when there are signs of a recovery
Dividend advantage
ITCs are able to smooth annal dividend payments where the fund managers can set aside up to 15% of the dividend payment it has generated
They can use this money to supplement dividend payments in future years if the income yield in those years fails to meet expectations
This could be the case if underlying companies that form the ITCs underlying portfolio cut there own dividends or fail to make dividend payments at all
New share issues
ITCs are able to increase their capital structure by issuing new shares
A prospectus is issued and shareholder approval has to be obtained at a general meeting of the company
New shares known as 'C' shares are issued and the money raised is invested through a separate fund but remains part of the ITC
When all money raised by the issue of new shares has been invested, usually by a predetermined date, the new fund and existing fund will join together using a formula agreed by shareholders in the prospectus. This conversion calculation is known as the formula asset value
Warrants
When new issues are undertaken by ITCs it is usual to issue warrants at the same time
They are quoted on a stock market and can trade at a premium or discount to the share price of the ITC
If an instruction has not been received at the time of the final conversion date and the warrant has a value, an ITC will usually sell these outstanding warrants on behalf of their holders in the market and hold the proceeds in a separate account until claimed.
Share buy backs
The number of share an ITC has in issue can be reduced by buying back its own shares in the market
Shareholders normally give the directors permission for a set period to buy back shares at a price determined by the level of discount
Such an operation has become popular in recent years as a method of reducing the share price discount to the NAV allowing the ITC to avoid winding up due to the action of corporate raiders
The shares bought back can either be cancelled or held in reserve to reissue t a future date under particular conditions approved by the shareholders