Creating a level playing field

Baillie Gifford's James Budden says the RDR is a levelling tool the investment trust sector should welcome.

Most commentators say the RDR will create a level playing field for investment trusts.

This ubiquitous metaphor describes the potential position post RDR when the commission bias that currently exists between open and closed ended funds, is removed.

It is a level playing field to be welcomed by the investment trust sector, where investment trusts are finally included on key distribution platforms such as CoFunds, Skandia and Funds Network.

However, a stumbling block remains. Platform rebates look likely to be allowed to continue to be paid by management companies, rather than collected by the intermediary directly from the client.

These rebates or payments for distribution are funded via AMC charges levied by asset managers. Investment trusts do not have this facility being shares. The Association of Investment Companies has conceded defeat on this issue and is now pressing for platforms to collect their fees via a client cash account (as Transact does at the moment).

However, this uncertainty has created a few bumps on the playing field and trusts remain at the mercy of platform providers. As a result the mood in the sector towards RDR is one of cautious optimism and the AIC predict, a slow burn rather than fireworks.

This is all very downbeat. Whatever happens, things must improve in terms of distribution for investment trusts.

Even a qualified improvement should be welcomed. Commission is going to be canned which is a good thing for the sector. Platform providers are making the right noises about putting trusts online prior to RDR. Fingers crossed they remain true to their word.

Trusts and managers should be making the most of the opportunities following RDR. There are good reasons to do so.

• Long-term performance is considerably better than that of OEIC funds across most sectors – recent research from Collins Stewart bears out this outperformance.
• The sector is growing in popularity – 38% more issuance in 2010 and Bolton’s China fund has supplied a spark of energy.
• Wider platform distribution will allow easier access for those bright intermediaries who use trusts and the ability to use them efficiently in conjunction with closed ended funds.
• IFAs may turn to third party discretionary managers for guided architecture and packaged solutions for their clients. Investment trusts possess the pedigree to feature significantly within these portfolios.
• Fund of funds should look in the direction of the sector. Even now funds of investment trusts lead the FOF pack and are competitively priced.
• An unintended consequence of RDR may be that more individuals will do it for themselves rather than take advice. The direct to the consumer platforms may take up the slack and investment trusts could benefit.

While investment trusts should embrace RDR it would be disingenuous to deny that barriers will still exist on the new level playing field. Regular readers will know that intermediary commentators are often quoted by the trade media saying investment trusts are risky investments, or at least more risky than OEIC funds.

The ability to gear or borrow, and the fact that most stand at a discount to NAV, are given as reasons for this perception of risk. In truth most regular companies listed on stock exchanges borrow money. Also any investor putting money into the stock market must hope that returns will be positive over their time frame. 

Therefore a bit of gearing should be considered as enhancing, rather than detracting from returns.

The risk exhibited by the presence of a discount lies in its volatility. It cannot be ignored that a widening discount is a bad thing for the shareholder but it also must be acknowledged that a tightening discount is a good thing. Generally poorly performing trusts or sectors out of favour see their discounts widen, while strong performers improve in discount terms or remain stable, both of which pose no particular risk to investors.

Liquidity – the ability to buy and sell in agreeable size without the penalty of wide spreads is an issue for the sector. Small illiquid trusts with ‘me too’ mandates and modest performance records are not attractive to investors, and RDR will not make them more attractive.  However, there will be winners out there on the playing field. Trusts with size and liquidity, a clear and differentiated investment proposition, active management, good performance, low costs and high market profiles can, and will, benefit from the developments offered by RDR.