The recovery of investments trusts looks to have begun, and these companies could provide investors with a way to diversify, access niche areas and gain returns in the process.

In this column, at Ryan Lightfoot-Aminoff, Investment Trust research analyst at Kepler Partners, explains how investment trusts have adapted across a century’s hardships. 

With its place in the middle of the FTSE100, Scottish Mortgage (SMT) is about as close to a household name the investment trust industry has. 

With its market capitalisation of £12billion – which for context is almost double the size of the likes of Sainsbury’s and Rightmove – it is one of the largest listed investment vehicles, and therefore often held up as an example of what the closed-ended structure can offer, with large holdings in companies, including some private ones, that have provided strong excellent long-term growth and supported the trust’s long-term returns.

Whilst this growth approach has remained consistent over many years, the profile of the holdings has varied considerably over the trust’s history. 

SMT, at the time the Straits Mortgage and Trust Company, started out in 1909 and invested in the likes of the rubber industry in Malaya (now Malaysia) which the managers believed could grow as demand for tires increased following the adoption of the automobile. 

BlackRock World Mining invests in a variety of commodities that are key to global growth, such as the increased demand in copper by the likes of AI and the energy transition

This proved to be very shrewd and set the trust on the path it has followed today, with SMT continuing to invest in high growth areas investors may otherwise struggle to get access to, and doing so at a competitive cost – SMT current ongoing charge is just 0.31 per cent. 

This is exemplified by SMT’s current largest holding, SpaceX. This is a private company that has been a pioneer in bringing down the cost of space exploration, supporting a boom in the emerging and unique industry, with the company even planning to establish a colony on Mars.

Looking back, the development from investing in rubber plantations to space colonies is massive, although this arguably encapsulates the ability of investment vehicles to evolve. 

The closed-ended structure is a key factor in facilitating this evolution and access to interesting investment opportunities. 

By having a fixed pool of capital, managers of investment trusts have assurance they won’t have to manage a portfolio around flows, and can therefore invest for the long-term, knowing they won’t be inundated with redemption requests in more challenging periods.

As a result, investment trusts can provide investors access to more unusual assets classes, as well as using some interesting investment tools to help generate additional returns.

One example is International Biotechnology Trust (IBT), managed by Ailsa Craig and Marek Poszepczynski. 

The biotechnology asset class is at the forefront of scientific innovation and, whilst exhibiting notable risk, it can also provide considerable upside potential for those who can pick the winners. 

Ryan Lightfoot-Aminoff, research analyst at Kepler Partners, explains how investment trusts have adapted across a century’s hardships

IBT is currently tilted towards the smaller companies in the sector as Ailsa and Marek believe they can benefit from a pick-up in M&A, as larger pharmaceutical companies look to replace expiring patents. 

Furthermore, the managers also have access to an externally managed fund of private holdings which are often in their earlier stages and therefore offer greater upside potential – something retail investors are unlikely to gain access to elsewhere. 

Finally, the managers capitalise on the nuances of the investment trust structure by paying a dividend to shareholders of four per cent, despite biotech firms rarely being income generators. 

This could help attract income-focused investors looking for portfolio diversification.

Another example of an investment trust using the structure to create a unique offering is BlackRock World Mining (BRWM). 

This trust invests in a variety of commodities that are key to global growth, such as the increased demand in copper by the likes of AI and the energy transition. 

Managers Evy Hambro and Olivia Markham have a very flexible mandate to pick what they believe are the best opportunities, including the ability to invest in the likes of royalties (which gives the owner rights to a share of revenues over the life of the underlying assets), debt and private equity. 

These offer diversification benefits as well as high return potential and have contributed notably to BRWM’s performance over multiple time periods. 

The asset class is also often a strong hedge against inflation, especially considering the often large gold allocation.

A final example is Shires Income (SHRS) which capitalises on the closed-ended investment trust structure to create a higher yield than most of its peers in the UK equity income sector. 

Alongside his high-conviction stock selection, manager Iain Pyle has c. 20 per cent of the portfolio in preference shares. 

These are a type of equity that offer a higher, more reliable dividend but can be quite illiquid. 

However, due to the fixed pool of capital inherent to the investment trust structure, this is less of a problem for Iain, allowing him to capitalise and get a premium income. 

The allocation to these has been funded through additional borrowing, which has been done at a lower rate to what the manager was generating, allowing for what’s known as a ‘positive carry’ to boost income. 

This has contributed to SHRS’ attractive yield of 5.1 per cent.

These investment trusts go to show that the sector has many attributes that allow investors to allocate to unique assets classes with some special characteristics. 

This is arguably why many have been able to adapt and survive for over 100 years, despite the many periods of adversity faced in that time. 

Though the industry has seen a challenging period in recent years, with increased consolidation and wide discounts, it is arguably now in a recovery phase. 

But the investment trust landscape remains very dynamic, with a wide variety of opportunities that can not only generate attractive returns for shareholders, but also provide diversification opportunities for investors’ portfolios.

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