The Financial Times ran an interesting story on Monday entitled “Activist Minnows Eye Investment Trusts”. The article suggested that many UK investment trusts (closed-end investment funds that trade like equities) offer great value because they are on sale at substantial discounts of up to 50% of their net asset value. The FT article also suggested that hedge funds are excited by the value that they see in the sector with one fund, Charlemagne Capital, set to raise $100m specifically to take advantage of the discounts. We initially found this intriguing, but still wanted to know more. Firstly, are there really investment trusts selling at a 50% in the UK? Secondly - given our main preoccupation at Market Folly - which hedge funds already have holdings in the investment trusts that are trading at large discounts?
We focused on investment trusts (ITs) that primarily hold publicly traded equities and disregarded those that primarily invest in property, venture capital or private equity. Some of the funds in the table contain a mix of assets but we have tried to limit inclusion to those ITs that hold predominantly publicly traded equities. We also focused on ITs that have some institutional ownership to some extent as we thought this might provide some insight into where the so-called “smart money” was already allocated (e.g., investment banks, hedge funds, investment advisors, mutual funds). A list of ITs meeting these criteria is provided in the table.
|Investment Trust||Discount to NAV||Large shareholders||% equity|
|Majedie Investments||-20.1||Barclays Global Investors||1.42|
|Smith & Williamson Investment||3.6|
|Rathbone Investment Management||2.04|
|Strategic Equity Capital||-22.3||Midas Capital Partners Ltd.||7.19|
|Schroder Investment Management||5.37|
|Advance UK Trust||unknown|
|Herald Investment Trust||-23.1||Insight Investment Management||8.94|
|Asset Value Investors Ltd.||7.43|
|Rathbone Investment Management||5.25|
|Advance UK Trust||unknown|
|Value and Income Trust||-26.7||Brewin Dolphin Ltd.||6.45|
|Smith & Williamson Investment||4.98|
|Barclays Global Investors Ltd.||3.94|
|North Atlantic Sml Comps||-28.5||Insight Investment Management||9.59|
|Findlay Park Partners LLP||4.01|
|CG Asset Management||3.55|
|Principle Capital IT||-34.3||CG Asset Management||3.64|
|QVT Financial LP||2.99|
|Invesco Asset Management||21.12|
|Equity Partnership Cap||-49.5||Midas Capital Partners||1.5|
|Cayenne Asset Management||0.47|
Discount to net asset value data: Trustnet.com
Large shareholders data: ft.com
The table shows that there are several predominantly equity based ITs trading at a greater than 20% discount to NAV. Readers that are interested in other sectors such as venture capital, property or private equity will find that trusts in these sectors on average trade at even bigger discounts.
In terms of institutional involvement, we are a bit disappointed in that very few large hedge funds are involved. Only two of the large shareholders are hedge funds: Barclays Global Investors (BGI) and QVT Financial. BGI is London based and is one of the world’s largest hedge funds. It has medium-sized stakes in Majedie Investments and Income and Value Trust. QVT Financial is a New York-based multi-strategy hedge fund with a reputation for confrontational activism. Last year QVT were involved in a bloody spat with Principle Capital IT (see table) which for the time being it appears to have lost. It was an interesting contest not least because Principle Capital which is led by Brian Myerson, is also an activist. In recent months QVT have reduced their stake in Principle substantially.
This territory is not limited to hedge funds, as there are other activists that specialize in exploiting the pricing inefficiencies of the closed-end funds. Cayenne Asset Management, for example, is an independent investment manager. Cayenne argue that their approach tends to be constructive, rather than aggressive. They have a small stake (0.47%) in Equity Partnership. Additionally, Advance UK Trust is another small activist in the sector. It is a fund of funds that focuses on out of favor ITs trading at wide discounts. Like Cayenne, they are proactive and often work with boards, managers and advisers in an attempt to recognize shareholder value. A commonly used strategy by activists is to try to get ITs to buy their own shares in order to narrow the discount. Advance UK have holdings in Herald IT and Strategic Equity Capital (see table). For those interested their top 10 holdings can be viewed here.
Two factors are likely to be very important in determining whether the large discounts will be closed. Firstly, IT discounts tend to narrow in bull markets and widen in bear markets. Those who don’t believe that we are going to stay in a bull market for some time should steer clear of this sector. At best, the discounts will take time to narrow. In addition, some IT shares are fairly illiquid which can make them difficult to exit if you're in a hurry. The spreads are, at the best of times, eye-wateringly wide and potentially shocking to US investors. Secondly, will the activists show up to speed things up? At face value there certainly do appear to be opportunities for proactive funds. Market Folly looks forward to keeping you posted on any exciting developments regarding hedge fund activism in this sector during the coming months.