Manager of the MIGO Opportunities Trust plc
For information purposes only. Any views and opinions expressed here are those of the authors at the time of writing and can change; they may not represent the views of Premier Miton and should not be taken as statements of fact, nor should they be relied upon for making investment decisions.
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Recent months have proved extremely tough for the investment trust industry. A collapse in demand for income generating funds has led to a dramatic widening in the discounts of investment trust prices to their net asset values (“NAVs”). A discount is when the share price of an investment trust is trading below its NAV, it is said to be trading at a discount.
We believe this represents a significant underperformance of investment trust share prices relative to their underlying investment portfolios. The key driver behind this is the rise in interest rates. A useful income can now be generated from conventional sources such as gilts (government bonds) or cash on deposit. Therefore, it now makes sense to switch out of, say, an infrastructure trust yielding an income of 5% for example. It has become clear that many of these trusts had originally been bought purely in response to low interest rates, because they offered an income rather than for underlying investment reasons.
Land of the giants
A further challenge is the ongoing consolidation of the wealth management industry. The latest merger will see the amalgamation of Investec and Rathbones, creating a giant with sizeable assets under management. The fear is that in the medium term this vast pot of money has become just too big to buy many investment trusts, given their size. The number of shares available to buy in each trust may not be sufficient for large wealth managers to add them to client portfolios in sufficient scale.
Against this background it is pleasing that we have managed to avoid many of the problem areas. We held large levels of cash investment to protect the portfolio.
Despite being a relatively small holding for the portfolio our exposure to aircraft leasing via Amedeo A4 was positive for us. A few months ago, many of this investment trust’s aircraft were in storage in the Middle East. The recent rapid recovery in air traffic has led to many of them being called back into service. Furthermore, serious delays in the production of the next generation of wide-bodied passenger jets means that Amedeo’s A380s may be generating cash far longer than originally intended, given most of the current aircraft leases have been extended to 2035 or 2036.
Georgia remains an unrealised opportunity
Counterintuitively Georgia’s economy has been boosted because of Russia’s invasion of Ukraine. A significant number of professionals, notably within the information technology industry, have moved over the border into Georgia. In February, Georgia Capital announced that its NAV had risen during the previous three months. Nevertheless, the shares’ wide discount to the NAV remains stubborn. Their management team own a significant number of shares themselves and it seems inconceivable that when the time comes for them to sell that they would accept a low valuation.
We have reacted to recent market developments by seeking opportunities where investment trust share prices have been harshly treated, reaching unsustainably low levels as perfectly good assets are owned by investment trusts which have failed to attract investor interest. Should there be no recovery then these assets may be seized via takeovers or mergers. The first example of this within our portfolio came in early April when Industrials REIT, which owns a portfolio of mixed light industrial parks across Britain, received a takeover bid from US private equity group Blackstone.
There are opportunities to take advantage of the apparent contradiction that while lack of demand has led to growing discounts, the assets themselves are keenly sought after. An example is renewable power, where share prices have moved from premiums to discounts and has therefore become a potential area of interest to us. At the end of 2022 we started a holding in Aquila European Renewables, which operates solar plants in Iberia and Greece as well as wind farms in Scandinavia.
A wide range of methodologies are employed by the various renewable trusts in valuing their assets, made up of assumptions such as cost of capital, asset lives and predictions for future inflation. Such an approach may usually lead to a very different value from that which could be achieved by simply selling the assets. At present wind farms and solar plants are much in demand and open market prices are believed to be significantly higher than their stated NAVs, leaving the sector vulnerable to opportunistic takeover bids.
Change in Japan…
After decades of being told that Japanese corporate governance was improving only to be disappointed, we were cynical when Nippon Active Value originally launched, it is a smaller companies investment trust. We opportunistically acquired a holding on a wide discount when the shares were harshly treated in last summer’s market fall. Smaller companies in Japan are often very lowly rated compared to other markets.
The Tokyo Exchange recently introduced several reforms, notably requiring company management to explain their strategy should their shares trade consistently below book value. A company’s book value reflects the total value of a company’s assets that shareholders of that company would receive if the company were to be liquidated. Naming and shaming works in Japan. There has been a dramatic increase in shareholder activism in recent years, and this represents a catalyst for change.
…and in a new Indian investment
Another new entrant in the portfolio is JP Morgan Indian Investment Trust. In the aftermath of a change in the management team of an investment trust, its discount often continues to reflect the track record of the vehicle rather than its new managers. This is true at present of JP Morgan India which continues to languish on a wide discount despite the new team performing well.
Looking forward – reasons for cautious optimism
Looking forward through 2023 we remain cautious. Abundant liquidity supported a widespread rise in asset prices following the Global Financial Crisis. Governments’ largesse has now come to an end in this respect and the process may move into reverse suggesting the main stock market indices around the world may drift. The tide may be against us although the authorities may be limited in how fast they can drain liquidity from the financial system given the fragility of stock markets.
Should the global economy prove resilient this may only increase the risk of further interest rate increases. Rate rises recently put in place may take time to take effect. Notwithstanding these challenges, there may be many opportunities for us to exploit overlooked corners of the world.
The challenges facing investment trusts may not be resolved quickly but there are self-help measures that can be taken. Investment trusts that still have ambitions to appeal to the wealth management industry can merge with like-minded investment trusts to become large enough for the major chains to support.