Turmoil could increase investment trust discounts

9 August 2011

All segments of the UK market have been impacted by the sell off, which started earlier this month and was exacerbated by Standard & Poor’s downgrading the US credit rating to AA+ on Friday.

Investment trusts shares have so far lagged market falls. The discounts at which investment trust sectors trade to the value of their assets have narrowed in the last couple of days because net asset value falls have outpaced share price declines.

The research team, however, expects this to be only a temporary effect.

“Given the market backdrop, it is worth considering whether discounts are about to widen out across the sector,” writes Simon Elliott, the head of research. “Depending on ongoing market conditions it is possible that discounts could widen again.”

Industry experts like Elliott witnessed a similar effect in 2008 after the collapse of US investment bank Lehman Brothers. Investment trusts, in particularly those investing in less liquid asset classes, such as funds of hedge funds and private equity, saw their discounts widen.

Gearing and widening discounts mean that investment trusts suffer during market falls. While sophisticated investors can buy out-of-favour asset classes on wide discounts, Elliott says there is not as much value in the investment trust sector as one might expect.

However, he adds that there are “some pockets of value” presenting interesting opportunities for investors who are prepared to be contrarian and take a long-term view.

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