Dealing and broking costs can push up the total an investor pays by a surprisingly high amount, while investors have to pay an additional 0.5 per cent or more to hold the products in an ISA.
With RDR is pushing down charges on open-ended funds, many multi-mangers and experts question whether trusts have a fee advantage worth the name.
Mike Webb, chief executive of Rathbones Unit Trust Managers, said: “There’s an assumption that investment trusts are cheaper than funds, but I don’t think the price advantage is all that relevant anymore,” he said.
“When you take into account the commission and trading costs you pay on them, the gap narrows significantly.”
Gary Potter (pictured), co-manager of the Thames River Distribution fund, said: “It’s often the smaller investors that trusts appeal to, but small transactions aren’t all that cost effective.”
“On average, the charges on investment trusts come in cheaper, but it’s really not as straight forward or clear cut as that.”“There are a lot of generalisation statements made about their cost advantage, but you’ve got to do your homework.”
The Scottish Mortgage Trust, run by Baillie Gifford’s James Anderson, is one of the most viewed investment trusts on FE Trustnet and also extremely cheap.
The trust is a top-quartile performer over three years in the IT Global Growth sector with returns of 39.79 per cent.
Performance of trust versus sector and benchmark over 3yrs
Source: FE Analytics
The trust, which invests in global equities, has ongoing charges of just 0.51 per cent.
However, if you were to buy the trust through Hargreaves Lansdown you would be charged an additional £11.95 for the transaction – analogous to the brokerage costs you pay through a stockbroker.
For investors putting small amounts in, this can have a massive effect on the percentage of their investment lost to charges.
If you invested £500 in the trust, you would be paying an additional 2.39 per cent – although this is a one-off charge and wouldn’t repeat each year.
Hargreaves also charges 0.5 per cent a year to hold a trust in an ISA, meaning that the total charge for holding the trust in the first year would be 0.51 plus 2.39 plus 0.5.
There is also stamp duty of 0.05 per cent to pay, making the charge in the first year 3.45 per cent and in following years 1.01 per cent.
You have to pay £11.95 when you eventually sell the trust too.
Of course, the effect of brokerage costs diminishes if you invest larger amounts. If you are investing £5,000 in the trust you will pay just 1.299 per cent in the first year and 1.01 per cent in following years, but that is already comparable to the cheaper funds in the IMA Global sector, and Scottish Mortgage Investment Trust is unusually cheap.
The Murray International IT, another highly-regarded trust, has a current ongoing charges figure of 1.01 per cent according to the AIC , inclusive of its performance charge.
It would therefore cost 3.95 per cent in the first year you held £500 in an ISA and 1.06 per cent in following years.
Hargreaves are very open about their costs, which makes it easy to do the calculations, and they are one of the few routes open to retail investors who want to purchase the products.
Fidelity, Cofunds and Skandia are yet to add the products to their offerings, citing lack of demand.
Adrian Lowcock (pictured left), senior investment manager at Hargreaves, points out that their brokerage costs are competitive, and that they are lower for frequent traders.
Investors pay £8.95 if they carry out 10-19 deals in the preceding month and just £5.95 if they carry out 20 or more. Moreover, the 0.5 per cent cost for holding the trust in an ISA is not applicable if it isn’t held in the tax wrapper, but for those investing less than £11,280 in a year an ISA is the first port of call thanks to the tax advantages.
The figures suggest that for most retail investors – who don’t make so many trades and tend to put smaller amounts in each fund – the price advantage of trusts is smaller than it may seem.
Webb also alludes to the fact that the price advantage is under pressure from the opposite direction: RDR is pushing down the AMC on open-ended funds.
“Post RDR, you’ve also got the removal of adviser commission of funds,” he said. “These clean share classes will further narrow the gap.”
“I’m not saying investment trusts aren’t cheaper in some cases, but I think talking about price as a specific advantage that they have over funds isn’t all that relevant anymore.”
Pottter holds a number of investment trusts in his portfolio, and he highlights the lowering of AMCs as a key factor.
“The price structures are changing for open-ended funds, with the introduction of clean share classes. This makes the playing field much more level now.”
Potter explains that the typical 0.5 per cent trail commission that goes back to the adviser will be removed in the post RDR world, which in the past inflated open-ended funds’ annual management charges (AMC).
“You’re not going to be comparing apples with apples,” he explained. “There’s no set date for when these clean share classes will be offered by everyone, but it will happen sooner rather than later.”
Potter says the total expense ratio (TER) of his Thames River Distribution fund will come down around 50 basis points once it falls into a clean share class. The TER is currently at 2.41 per cent, according to FE data.
Rob Gleeson, head of research at FE is another to think the advantage is disappearing.
In a recent piece on the advantages of investment trusts he didn’t list cost. He explains that once unbundled share classes become widespread the price advantage of trusts disappears, and that although some trusts still have a price advantage this is becoming rarer.
Annabel Brodie-Smith, head of communications at the AIC, fervently denied the claims that trust are losing their cost-advantage, however: “Thirty-five per cent of our member companies – not including VCTs – have ongoing charges under 1 per cent, so we still have a considerable stock of companies which are competitive on charges.”
Lowcock says that price shouldn’t be the only factor when looking at investment trusts, and investors should be more worried about their structure and the effects of premiums and discounts.
He says they still tend to favour the specialist traders more than the average retail investor due to these elements to the structure and the effect on price.
“We do offer investment trusts and they have a role to play. However, they are really best for discretionary managers who can use them by monitoring discounts.”
He says one of the problems for platforms when it comes to trusts is that marketing them can be difficult.
“One of the factors is the nature of the investment and trading liquidity which make it challenging for us to promote them.”
“If we went out with a mailing to all our clients that is going to move the price. The market makers will pick up on it, so it would be a breach of our responsibilities to our clients.”
Brodie-Smith points out that many of the platforms that are open to advisers such as Transact and Standard Life offer investment trusts, and she expects at least some of the retail-friendly platforms to follow-suit in the future.