Everybody loves a good discount and that’s exactly what is being offered to buyers of investment trusts. These stock market-listed investment companies offer access to a world of tempting portfolios, from handpicked selections of UK shares to clusters of shares in income-generating renewable energy firms.
Investment trusts have unique properties which mean they are well placed to provide a steady stream of income – in good times and bad (see box). What is more, they can be held in an Individual Savings Account (Isa) so that all returns are completely tax free.
But in recent months, they have fallen out of favour with investors. This has driven down share prices so that currently they are discounted at 15.2 per cent on average.
This means that, in theory, investors can snap up investments worth £100 for around £85. But before you start rummaging through the bargain bins, you need to ask yourself a few questions.
Firstly, will investment trusts bounce back in popularity and make holders a tidy profit? Or are there systemic reasons why they are in the doldrums that mean the discounts are here to stay?
If you have been holding on to investment trusts for months in the hope that they will recover, should you stay patient or cut your losses? Here, Wealth & Personal Finance assesses whether investment trusts are unvalued gems or simply duds.
And we ask the experts where they spy opportunities.
Why are investment trusts in the doldrums?
1 Investors have had their heads turned by more modern funds
Investors are increasingly moving their savings from actively-managed funds and investment trusts into cheaper, passive funds.
Passive funds are not managed by an expert – instead they track an index, such as the FTSE 100 in the UK or S&P 500 in the US.
They cannot outperform the market because they simply aim to track it. However, passive funds are often a fraction of the cost.
Laith Khalaf, head of investment analysis at DIY investment platform AJ Bell, says that the preference for passive funds isn’t letting up and investment trusts can’t compete on cost. ‘For the last three years, investors have been pulling money out of active funds and putting it into trackers. Investment trusts are currently all actively managed, so don’t do well out of this trend,’ he says.
A decade ago, only 10 per cent of the value of retail funds in the UK was held in passive funds. Now it is 24 per cent. Khalaf expects this proportion to increase. ‘In the US, the amount held in passive trackers surpassed active funds for the first time this year,’ he says. ‘Where the US leads, the UK follows.’
2 Investment trusts hold unloved UK companies
The trusts can invest in companies all around the world. But a large proportion of them opt to buy UK firms. The UK is an unloved area of the market and many believe it is undervalued.
3 Fees appear expensive
New rules introduced this year changed how the pricing of investment trusts is shown.
When telling investors what fee it charges, managers of investment trusts were required to include its own ongoing charges and the annual charges of the underlying holdings in its portfolio.
Campaigners including Baroness Altmann, the former pensions minister, said this wasn’t fair and the requirement was dropped. That is because the underlying running costs are already included in the price paid when investors buy a share – so were effectively being counted twice.
However, Baroness Altmann says that many retail platforms that sell the trusts to investors have not changed the way they show the fees, meaning that they still look unattractive.
4 Some sceptics don’t trust valuations
The Net Asset Value (NAV) of an investment trust is calculated by adding up the value of its underlying holdings. But this is harder than it sounds.
Some investment trusts hold assets that are difficult to value, such as aircraft or infrastructure that are not frequently traded so don’t have an easy-to-find price.
Annabel Brodie-Smith, communications director of the Association of Investment Companies, says that assets in these sectors are valued quarterly to update NAV figures, but acknowledges they are ‘not an exact science’.
Khalaf says there is a ‘hearty degree of scepticism’ about some of these valuations. ‘Although NAVs and share prices tend to converge over time, this sometimes happens by NAVs being marked down, rather than share prices moving up,’ he adds.
Brodie-Smith is more optimistic. She is hoping for a turnaround like that seen after December 2008, when discounts were in double digits. Those who bought into investment trusts then received a return of 39 per cent over the next year and 119 per cent over the next five years.
‘Many analysts believe these conditions present an exciting buying opportunity for investors,’ she says.
Favourite trusts of our experts
Trusts remain a core part of many investor portfolios and one of the only ways in which smaller investors can get exposure to unlisted assets that are infrequently bought and sold, such as infrastructure and renewable energy.
Individual investors must take a view on whether the current headwinds are here to stay or set to die down.
For those willing to bet on a recovery, here are some of the trusts favoured by experts, both small and large.
Fidelity Special Values
What it does: Special Values has a ‘contrarian’ stance, meaning that manager Alex Wright buys companies he thinks are unloved, holding them until they (hopefully) see the market recognise their value.
What it holds: Top holdings include tobacco group Imperial and financial giants Aviva and NatWest.
Discount: Nine per cent.
Why pick it: ‘It provides a useful counterfoil to US technology exposure,’ says AJ Bell’s Laith Khalaf. ‘A long-awaited rally in UK stocks would also likely result in a double boost for the trust, lifting the values of the underlying portfolio and likely closing the discount too.’
Pacific Assets Trust
What it does: Invests in sustainable businesses across Asian markets.
What it holds: Well-known holdings include tech group Samsung, but the biggest holding is Indian industrial conglomerate Mahindra, which makes SUVs.
Discount: 14.5 per cent.
Why pick it: ‘The focus towards quality and sustainability has typically led management to find more opportunities across India, above other Asian countries,’ says Alex Watts, investment data analyst at fund platform Interactive Investor.
However, he adds that this means the trust doesn’t have much Chinese investment, so has missed the 2024 rebound in the Chinese market and underperformed.
‘The current discount is the deepest of its peer group and is uncommon for the trust when compared with the last 10-year average discount of -5 per cent,’ Watts adds.
Caledonia Investments
What it does: This £1.8 billion beast invests in both public and private markets at home and abroad.
What it holds: The largest holdings include private businesses Cobepa, an investment company, and forecourt vending business AIR-serv Europe, while listed software giants Microsoft and Oracle also make the top ten.
Discount: 38.7 per cent.
Why pick it: James Carthew, head of investment companies at investment trust experts QuotedData, says its deep discount is partly due to people selling assets ahead of the Budget.
‘The rating seems incongruous given its track record and impressive record of dividend growth,’ he adds.
Monks Investment Trust
What it does: Focuses on ‘disruptive companies’ across the globe.
What it holds: Tech represents around a third of the portfolio and the company includes some of the big AI beneficiaries such as Meta and Nvidia.
Discount: 11.3 per cent.
Why pick it: Jason Hollands, managing director at DIY investment group Bestinvest, says it is ‘attractively valued’. Alongside the discount opportunity, it also has very low charges with annual costs of 0.44 per cent.
Baillie Gifford Shin Nippon
What it does: Smaller Japanese companies are the focus for the Shin Nippon Trust, which has been run by Praveen Kumar since December 2015.
What it holds: The top holding is a Japanese insurance company called Lifenet, while another large investment is in Toyo Tanso, which produces a form of industrial graphite.
Discount: 14 per cent.
Why pick it: Chris Salih, head of multi asset and investment trust research at investment data group FundCalibre says that the group’s underperformance is ‘not fully reflective of underlying portfolio strength or manager expertise’ because small companies in Japan have struggled to recover at the same rate as large ones.
‘Japanese small caps are now incredibly cheap – this is despite small caps producing stronger recurring profits growth in both 2023 and 2024. The sector is also helping tackle some of the biggest challenges in the market – including slow adoption of software technology, labour market demographic challenges and cyber security issues,’ says Salih.
Why riskier investment trusts can put the fun in fund
Investment trusts are a type of fund that has been around since 1868. The expert fund managers who run them buy a selection of assets, including company shares, bonds and more niche investments such as buildings, infrastructure or gold.
They are similar to other better-known types of investment fund in that they offer ordinary investors an easy way to put their money in a range of different assets without having to buy each one individually.
One of the main differences is that investment trusts are listed on the stock exchange and there are a fixed number of shares in issue. That means that if you want to invest in them, you must either buy these shares at launch or from someone who is selling them on the stock exchange.
Trusts can use what is known as gearing – borrowing money to invest. That means that if an investment trust manager thinks a certain investment is set to do well, they can borrow money to invest even more in it than they have.
If their judgment proves correct, they will make an even better return than if they had only bought what their own cash reserves permitted.
But if they are wrong, their losses will be magnified. That characteristic of investment trusts makes them riskier – but sometimes more lucrative – than conventional funds.
Investment trusts have been around since 1868 and are run by expert fund managers
Investment trusts can uniquely hold back some profits in good years to pay out as dividends in tougher times, meaning that they can be a reliable source of increasing income over time. Indeed, some investment trusts have upped their dividends every year for more than half a century.
Because of their structure, there are two different ways to measure the value of an investment trust. The first is using the share price. You simply multiply the share price by the number of shares in issue to see how the stock market values the trust. The second way is adding up the value of the assets that the trust owns. This measurement is called the Net Asset Value (NAV).
If the NAV per share is higher than the share price, the trust is trading at a discount and if it is lower than the share price then it is trading at a premium.
The average discount for an investment trust from its NAV is 15.2 per cent, according to the most recent figures from trust expert Winterflood.
Annabel Brodie-Smith, communications director at the Association of Investment Companies (AIC), describes these discounts as ‘historically wide’.
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