Finding a forest

For those who want to invest on home soil and make use of the tax advantages attached to an investment in UK timber, it is important to weigh up the benefit of the tax breaks against the overall benefit of the investment. A direct investment in timber tends to be better suited to the more affluent investor given that, in practice, the entry level for such an investment is relatively high. Your capital commitment will be large and you will usually need to tie up your money for long periods to give the investment time to come to fruition.

Direct investment

Direct investment is normally in conifer woodlands and can be purchased through companies such as Stellar, FIM or UPM Tilhill. Initial investment is high and will normally begin at around £200,000, however FIM and Stellar also manage unregulated collectives in UK forestry. These tend to be structured as limited partnerships and buy underlying woodland in the UK. The lower subscription levels make them a more accessible way of getting forestry exposure and securing the tax advantage.

FIM recently announced a second fund-raising for its FIM Sustainable Timber and Energy Limited Partnership (LP). The fund, launched in May 2010, aims to raise £20m in new subscriptions between now and 12 December 2011, to further expand its core UK forestry and renewable energy portfolio.

The vehicle currently owns 9,786 hectares - 51 forests - in the UK. The minimum investment is £32,700. As an Unregulated Collective Investment Scheme (UCIS), the LP is regulated by the FSA, and can be accessed through IFA intermediaries or by contacting FIM directly.

The advantage of FIM is that it is an established player (founded in 1979) with a solid record and experienced managers. Unfortunately, the investment is not eligible for inclusion in a self-invested personal pension plan (Sipp). For those who want to put timber into their Sipp it might be worth looking at ASIATEAK, a timber company based in the UK and Sri Lanka, enabling direct investments in teak.

The ASIATEAK tree package enables clients to buy the trees direct from the plantation; tree packages are available from £10,000 for 100 trees, up to £500,000-plus for private plantations. ASIATEAK reports that it has been approved by a number of Sipp providers, including PS Partnership, Hornbuckle Mitchell, Rowanmoor, Guardian Pension Consultants and Pointon York.

The fund branch

Given the high minimum investments involved in direct investment, for many an investment in a timber fund or exchange-traded fund (ETF) may represent a more acceptable entry point. One drawback, however, is that the fund structure means you won't be getting the income tax, capital gains tax and inheritance tax advantages linked to a direct investment.

Phaunos Timber Fund is listed on the London Stock Exchange (LSE) and seeks long-term returns through a global diversified portfolio of timber and timber-related investments. The fund is a closed-ended vehicle and is invested in companies in the US, Latin America, Africa and the Far East. Broker Collins Stewart reports that foreign exchange gains have seen the fund's net asset value (NAV) increase from $1.11 to $1.16 in the first half of 2011.

Concerns are the fund's generous performance fee structure, which translates into a very high total expense ratio (TER) - see table below. The fund is also trading on a huge discount - 35 per cent at the time of writing - which presents a buying opportunity for investors, and leaves the fund vulnerable to both strategic and tactical investors given that the fund's average discount according to Winterflood figures is around 28 per cent.

While timber is primarily seen as a growth investment, there are income plays too such as Cambium Timberland fund managed by CP Cogent Asset Management (Texas-based) - the fund is on a discount of close to 30 per cent - markedly more than its average discount of 21 per cent - and boasts a net dividend yield well over 5 per cent.

Open-ended options include the Pictet Timber Fund, a Luxembourg-based, global equity fund which invests in companies that own and/or manage forests and the Quadris Environmental Fund, which invests in sustainable teak plantations in Brazil aiming to provide a positively green, transparent alternative investment, which reflects investors' desire to achieve sustainable returns from a low-risk asset.

"Funds such as these provide access to an asset class that ordinarily would not be an option for most investors due to the sheer size of investment needed to buy productive forestry, but the downside is that these 'vehicles' can be buffeted by the fickleness of the equity market because the investor buys an equity, which is invested in forestry," comments collectives analyst Tim Cockerill.

Beware falling trees

Also remember that most timber funds are offshore vehicles and not protected by the Financial Services Act. This means you cannot hold them within an individual savings account (Isa) and, if things go wrong, you will not qualify for compensation from the Financial Services Compensation Scheme (FSCS).

Another caveat is the high TERs of these funds, which make them expensive for investors. Given these issues, we prefer the iShares S&P Global Timber & Forestry ETF, which is a much more affordable option, offering an index-tracking alternative by investing in the 25 largest and most liquid listed companies globally that are involved in the ownership, management or the upstream supply chain of forests and timberlands.

Advisers suggest that to hold timber investments, you need a long-term time horizon of at least five years, preferably more. You also need to accept that performance is not going to be conventional - the asset class is likely to underperform noticeably in rising markets but should be defensive in falling markets, although the severity of the market fall is a consideration. Risk lies not so much in the timber itself but in the vehicle you are buying it through.

Timber Funds