Activist hedge fund Elliott Associates has increased its holding in Alliance Trust (ATST) from 5 per cent to more than 10 per cent. The hedge fund has held shares in the trust for a number of years during which time it backed a proposal to oust the trust's investment team and replace them with outside fund managers, though this was not successful.
Although Elliott has not made any public statement on its reasons for increasing its holding analysts think that it will use its larger stake to bring about change.
"Elliott was one of the most active investors in the investment companies sector a decade ago, but withdrew due to tighter discounts following the widespread introduction of buybacks and a deterioration in trading liquidity," commented Numis Securities. "It has deep pockets and we believe that this raises the prospect of hostile corporate action as it may not be easy to trade out of such a large stake (the current value is about £252m)."
"When you have such a large share holding you are going to do something," added Monica Tepes, investment companies analyst at Cantor Fitzgerald. "They're not in there because they want exposure to global equities. They are an activist investor so they may try and get some cash out of their investment via a return of capital close to net asset value (NAV) or share buybacks."
Such actions can be beneficial in that they cause a trust's discount to NAV to tighten. But a return of capital would also shrink the trust's size and make the expense ratio rise.
"The discount may close in the short-term but could go back out and remaining shareholders are left with a smaller fund," said Ms Tepes. "Shares typically trade at a discount because of unimpressive performance. If you fix the performance the discount will sort itself out."
She also said long-term shareholders who have experienced capital gains on their shares in Alliance Trust could incur tax if their shares are bought back by the trust. However investors can offset this against their annual capital gains tax (CGT) allowance, currently £11,000, if they have not used it up.
And Elliott only holds 5 per cent of the shares directly – the rest of its exposure is via a contract for difference (CFD). This means that it does not have the voting rights for the portion of shares held via the CFD.
"However, through the CFDs they in essence have economic exposure to another 5 per cent and this should act as a proxy for the shares and enable them to sell/close their CFD position, and buy the actual shares if they did come up to a vote and wanted to have a greater influence," explained Ms Tepes.
But she does not anticipate a widespread return of activist investors, known as arbitrageurs, to mainstream investment trusts because discounts are historically tight with a number of trusts on a premium. Read more on this
"Alliance Trust stands out because a number of other generalist global trusts have seen their discounts tighten because of better performance, for example, Bankers (BNKR) and (IC Top 100 Fund) Scottish Mortgage (SMT)," she said.
These are respectively on premiums of 0.52 per cent and 0.61 per cent.
Alliance Trust already conducts share buybacks after implementing a programme in 2011 following pressure from another activist investor, Laxey Partners, which has since exited its investment in the trust. Alliance Trust repurchased £240m of stock in 2011 and £113m in 2012, but buybacks have dried up significantly since, with repurchases of just £6.6m since the start of 2013, according to Numis.
Alliance Trust trades at a discount to NAV of 11.42 per cent (this has tightened since the increase in Elliott's stake was announced on 26 February). Over one, three and five years the trust has underperformed the Global sector average and the FTSE World ex UK index in NAV terms, though its share price has done better.
Activist investors
Activist investors were fairly busy before the financial crisis but since then have done far less, though are present in esoteric sectors such as hedge funds. They are typically value investors who build up a large enough shareholding in a company to enable them to put resolutions to the board to bring about change. In the investment trust sector they have often targeted trusts on a wide discount to NAV or that are performing badly, looking to close the discount or sometimes wind up the trust and distribute the proceeds to shareholders.
Not surprisingly, these value shareholders are disliked by investment trust boards, but others argue that they are helpful to smaller private investors who do not hold enough shares to take such action.
They have shaken out investment trusts that are underperforming and at a discount to NAV, achieving change and better performance, according to Simon Elliott, head of investment company research at broker Winterflood. But if you want a long-term investment from your investment trust, they can put this at risk as their actions can result in the wind-up of a trust.
