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Equity investment trusts offer tender treatment to investors

More trusts have adopted performance-linked measures, but they are likely to remain in the minority
Equity investment trusts offer tender treatment to investors
  • Last year saw equity trusts attempt to reassure shareholders about performance risks
  • Yet some of these measures, such as performance-linked tender offers, are still far from common

If last year’s frenzy of investment trust fundraising largely focused on alternative asset classes, the old guard is not going out without a fight. Equity trusts still account for a significant share of the investment trust world, with more than 25 of the Association of Investment Companies’ (AIC) sectors focusing predominantly on portfolios of shares.

With competition from both passives and open-ended active funds refusing to go away, such names have had to adapt. From underperforming funds such as Scottish Investment Trust (SCIN) merging with peers to other measures, a good deal of last year’s corporate activity involved existing trusts adapting to investor demand.

A lesser-known measure has returned to the spotlight amid all this. Three investment trusts, Scottish Oriental Smaller Companies (SST), Abrdn China (ACIC) and Asia Dragon (DGN), introduced performance-related tender offers last year, while the board of Aberdeen Standard Asia Focus (AAS) proposed to do the same. These give investors a chance to sell out at a price closer to the value of the portfolio's underlying assets if a performance target is missed – an enticing prospect if shares are trading at a discounted level. Yet they seem less likely to proliferate than some might assume.

Investors have witnessed a couple of tender offers in fairly short order: Fidelity Emerging Markets (FEML) held one in October to accompany a change in investment manager, while BlackRock Latin American (BRLA) recently announced its failure to hit a performance target obliged it to do the same. It will tender 24.99 per cent of issued share capital, excluding treasury shares, at net asset value (NAV) minus 2 per cent and any related portfolio realisation costs.

Such measures may well reassure shareholders.

“Performance-linked tender offers appear a good idea in one respect as they give investors in trusts trading at a deep discount to NAV a chance to sell some shares nearer to the underlying value," said Falco Financial Planning’s Matthew Bird. “Also, the fact that such a policy exists may act as a stabilising mechanism.”

The first point certainly seems relevant to holders of BlackRock Latin American, whose shares recently traded at a 6.7 per cent discount to NAV.

 

Rare beast

But such arrangements are still a novelty: data provided to Investors’ Chronicle by the AIC shows that of 337 trusts (excluding VCTs), just 12 are committed to performance-related tender offers. That equates to just 3.6 per cent, rising to 4 per cent if Aberdeen Standard Asia Focus joins the crowd. Other policies aimed at placating shareholders are much more common, with 44.5 per cent of the AIC sample offering regular continuation votes and roughly three-quarters operating a discount control policy.

So far, only equity vehicles come with performance-linked tender offers. But of some 160 trusts in dedicated equity sectors, just 7.5 per cent came with this arrangement. Notably, all 12 that do so have a focus on Asia or emerging markets.

One major downside of a tender offer relates to the liquidity of a fund’s portfolio. In almost all of our 12 examples the trust in question can tender up to a quarter of its shares – something that can necessitate hefty portfolio redemptions.

“The trust’s managers may be forced to liquidate certain holdings that they were not planning on selling, which may compromise performance going forward,” Bird said. He added that this problem could be “particularly acute” if the fund were to hold illiquid investments.

Kamal Warraich, an investment analyst at Canaccord Genuity Wealth Management, said that if a tender allows some investors to exit, those remaining "get very little uplift out of the deal", with no solution provided for long-term issues.

"Tenders serve a very particular purpose, but I don’t see them gaining widespread traction in the near future," he added.

A more reassuring aspect of the AIC data is the widespread use of discount control policies, which Warraich sees as much less contentious.

"We do have evidence that current discount control mechanisms work very well – namely, the board buying and issuing shares, as well as those trusts that offer a dividend to tempt additional investors," he said. 

"I’m a supporter of both of these mechanisms. I’m also a supporter of continuation votes, as they help to keep those running the trusts on their toes."