Four investment trust tips for first timers

Old habits die hard. It is now nearly two years since financial advisers were banned from taking commission on fund sales, a discredited form of payment that resulted in investors being pushed into poor value and badly run schemes.

This revolution in fund charging that took place at the end of 2012 was expected to give a big boost to one type of scheme that, in 99.99 per cent of cases, had never paid commission: investment trusts.

Given advisers addiction to their commission payments sales of investment trusts had always fallen far behind their unit trust cousins. Even advisers who called themselves independent were not keen to recommend them.

With commission gone, though, it was thought that investors and advisers would finally wake up to what they have been missing, and many have. However, some advisers and many investors remain wary of what they perceive to be more complicated investments.

Like their more popular unit trust cousins, investment trusts pool investors’ money to buy a portfolio of assets. What makes them different is that an investment trust’s share price, quoted on the London Stock Exchange, depends not just on the value of its assets but also demand for its shares. If shares can be bought for less than the value of the underlying assets it is said to be trading at a discount. When the opposite occurs and a fund is so popular its shares cost more than the value of its holdings it is at a premium.

This, say the cautious, makes investment trusts more complex and potentially risky. That may be true, but the evidence suggests that such wariness means you are ignoring some of the best performing funds around, many of which have an outstanding record of paying dividends. When Times Money took a look at the best-performing funds of the past 40 years this summer all the top ten funds were investment trusts.

If you are interested in adding investment trusts to your portfolio for the first time, or if you want to refresh what you already hold, here are four recommendations of funds to buy from a panel of advisers.

1. Mercantile for exposure

“This trust has a bias towards UK medium sized and smaller companies, so it fits nicely as one of the funds that might be used for the element of a portfolio allocated to UK equities,” said Robin Keyte of Keyte Chartered Financial Planners.

It is on a discount of 12 per cent, which Mr Keyte believes adds to its attractions: it means that you can pick up £1 worth of assets for 88p. If the discount narrows it will boost your returns. Of course, you lose out if the discount moves in the other direction.

How do you know if a fund is on an unusually wide discount? One way is to look at the sector average. The average discount for a UK all companies fund, according to the AIC (Association of Investment Companies), is 9 per cent. Also look at a trust’s typical discount trading range. Over the past year, Mercantile’s discount, for example, has reached a high of nearly 14 per cent and a low of around 8 per cent.

However, you should not pick a fund on the basis of the discount alone. Mr Keyte said: “It has a dividend yield of 2.8 per cent which is good for a fund mostly exposed to medium sized and smaller companies and helps to keep up with inflation. Finally, it has an ongoing charges figure of 0.49 per cent, which is substantially cheaper than most Oeics and unit trusts invested in medium sized and smaller companies.”

The ongoing charges figures is the Financial Conduct Authority’s preferred measure of fund costs. It includes the annual management charge and other costs that are taken directly out of the fund such as legal and custody fees, but not any performance fee.

2. Temple Bar for income

This fund is trading at a premium, though, at 1.1 per cent, not a very high one, says Anna Sofat, of Addidi Wealth. “In addition, Temple Bar has an attractive yield at 3.2 per cent,” she added.

Although that might not sound a great initial income what you are buying is an excellent track record of increasing its dividend even during tough times.

3. Scottish Mortgage for long term growth

Francis Klonowski, of Klonowski & Co, said: “Ongoing charges are only 0.5 per cent – lower than some index-tracker funds. My only issue would be that it is trading at a small premium of 2 per cent, in common with many popular investment companies just now. You are therefore buying into the investment company at a higher price than those underlying stocks, although with its long-term performance record this seems a risk worth taking.”

Over a long period any discount or premium issues tend to be ironed out.

James Pigott, of Pigotts Investments added: “I would choose Scottish Mortgage because it has a very diverse portfolio with an aggressive edge that should pay off over the medium to long term. The current commitment to technology and China has led to it being in the top quartile for all periods.”

The trust’s biggest holdings include the Chinese technology giants Baidu.com, Tencent and Alibaba as well as Amazon and Facebook.

4. Witan for diversification

The trust employs a multi-manager approach, selecting 10 to 12 managers to invest around the world. These managers can be changed if necessary, which, so the theory goes, will ensure that it remains a top performer.

“Two aspects that I particularly like about the trust are its exemplary dividend growth record and its careful control on annual fees,” said Gavin Haynes of Whitechurch Securities. “Although the trust only provides a yield of just over 2 per cent, they have managed to increase it every year for nearly 40 years.”

He added; “With regards to fees, the average overall annual fee comes in at around 1 per cent, including performance fees attached to some of the underlying managers. This compares very favourably to equivalent multi-manager unit trust funds, where overall annual fees can be over 2 per cent.”