Buying into investment company IPOs can sometimes require a leap of faith by investors with little or no track record to form an opinion.
Deciding whether to back a newly-launched investment company can be fraught process particularly with the closed-end sector’s record in recent years.
While there are a number of funds with long histories such as Foreign & Colonial IT (launched in 1868) and Alliance Trust (1888), longevity is not always guaranteed, as illustrated by the fate of many of the investment company IPOs between 2000-2009.
Indeed, two-thirds of investment companies launched during the period have since closed, according to research by Numis Securities, with 218 of the 326 launches no longer operating.
Fate of trusts launched since 2000
Source: Numis Securities Research
Charles Cade, head of investment companies research at Numis Securities, noted: “Furthermore, a further 26 (8.0 per cent) have adopted a realisation strategy, while five (1.5 per cent) have merged with another fund.
“This means that only 77 funds (23.6 per cent) of funds launched over the decade have survived.”
The most common reasons for investment companies ceasing to trade include poor performance, mandates that are no longer relevant, wide discounts and a failure to grow assets.
With such a high attrition rate and with the difficult uncertain market conditions of 2016, just six investment companies listed during 2016, raising capital of £810m, down from 23 IPOs in 2015 which raised £3bn, as the below graph shows.
Source: Numis Securities Research
Cade said: “It is far tougher to launch a new investment company than to raise secondary capital for existing funds. This is because there are a relatively limited number of institutions that are able to cornerstone the launch of a new issue.
“The major multi-asset investors appreciate the benefits of the closed-end structure in specialist asset classes. However, they are wary of illiquidity and increasingly want vehicles to be at least £200m.
“This is often a ‘tall order’ at IPO stage, particularly for funds investing in asset classes that are unfamiliar to most investors.”
Despite the difficulties of last year, Cade says he still expects to see a more active IPO market for new issues in 2017 than last year.
One already lined up is The People's Trust from former head of both the AIC and the Investment Association Daniel Godfrey. He has raised his target of £100,000 through crowdfunding to cover the initial development costs of the new multi-manager investment trust.
It will have a seven-year, total return performance measurement period via low-turnover, high conviction approach and is one of three trusts (including Jupiter Global Emerging Markets Income and Impact Healthcare REIT) earmarked for launch this year already.
However, new launches with an equity mandate (excluding Woodford Patient Capital) can be more difficult IPOs typically raising between £50m-100m and many failing to reach their target size.
Another issue faced by equity-focused investment trusts is the discount, with many of the vehicles launched in recent years trading at modest discounts to NAV.
“Large premiums are rare for equity investment companies as most will look to issue shares on a regular basis to satisfy shareholder demand,” said Cade.
Therefore, more recently, issuance has been focused on alternative income mandates, Cade says, “typically in asset classes with low volatility and little correlation to equities”.
Still, this can be tricky, with some investment trusts going to premiums and holding them, while others start life at NAV and may drift lower to a discount, according to Rowan Dartington investment director Tim Cockerill.
"As with any investment trust purchase it’s important to ensure it is suitable, meets your risk profile and that you understand them, especially the downside. This is just as relevant for IPO’s - my advice is don’t buy them simply to try and make a fast buck buy them for the long term," he said.
Below, FE Trustnet looks at two trusts launched within the last five years that Winterflood Securities are recommending this year, and sees how they have performed relative to their peers.
The most notable fund to launch in the last five years is the Woodford Patient Capital – mentioned above – run by FE Alpha Manager Neil Woodford.
The fund was the largest IPO in 2015, raising £800m at a time when equity funds are averaging a listing of less than £100m.
Performance of fund vs sector since launch
Source: FE Analytics
Since its launch the fund has lost 7.49 per cent, compared to the sector which has returned 14.49 per cent.
Having traded at a significant premium to NAV following its launch in 2015, the fund’s shares were de‐rated post ‘Brexit’ and are currently at a 4.1 per cent discount according to the latest figures from the AIC.
Despite this, Winterflood Securities included the trust in its recommendations for 2017.
“Since launch, NAV performance has been below the 10 per cent per annum target and has also lagged the FTSE All Share, despite a bright start,” the research house said.
“However, the investment approach is long‐term and therefore it remains too early to judge performance, although we are encouraged by progress in holdings such as Purplebricks and Mereo Biopharma, which have both IPOed since the fund’s launch.”
Away from equity, while 2017 is unlikely to be a strong year for IPOs (though likely better than last year) Numis says those that do list will likely be those providing access to long-term asset classes that cannot easily be accessed by most investors (e.g. infrastructure, renewable energy and specialist property) as these sectors remain well placed to take advantage of the closed-end structure.
Indeed, many IPOs over the last five years have had an alternative theme, with 15 specialist property and infrastructure funds launched since 2012.
Among them is John Laing Environmental Assets Group, which is on a 2 per cent premium and has £350m under management.
The trust has been a strong performer since inception and is currently marginally ahead of the IT Infrastructure sector average.
However, investors that waited a year before investing would have missed out, as over the trust’s first 12 months it returned 12.08 per cent (6.64 percentage points ahead of the sector).
Had investors waited a year before investing for the fund to gain (an albeit small) track record, the fund would have returned 9.72 per cent (6.89 percentage points below the sector).
Since its launch in 2014 the trust has delivered a NAV internal rate of return (IRR) of 4.8 per cent and a share price IRR of 8.1 per cent, compared with its target IRR of 7.5‐8.5 per cent.
The fund is also mentioned as one to hold for 2017 by Winterflood Securities, which said: “Since launch the fund has benefitted from its diversification across a number of asset types, with its waste and wastewater assets softening the impact of falling power prices.
“The allocation to renewable energy assets has been gradually increasing as the fund has grown. With power prices rebounding, this could provide a tail wind, although the fund has the lowest sensitivity to power prices in the environmental infrastructure peer group.
“Based on the current share price, the prospective dividend yield is 5.7 per cent and, importantly given current inflation expectations, almost 70 per cent of the fund's revenues are linked to inflation.”