Investment trusts are popular among DIY investors but activist investor Saba Capital Management may have rattled some nerves as it starts the new year with a bang.
Already it has initiated a second attempt to oust the board of Edinburgh Worldwide, but the proposals were rejected. It has also revealed a 5.3% stake in GCP Infrastructure, and seemingly got its way on converting Smithson to an open-ended fund.
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While some experts have questioned Saba’s motives, others say some kind of intervention was overdue: boards had become complacent, with discounts too wide, performance lacklustre, and fees uncompetitive.
Why are activists interested in trusts?
Saba, run by former Deutsche Bank trader Boaz Weinstein, has stakes in 46 of the 305 UK-listed investment trusts, with positions of at least 10% in 16 of them. Its biggest stakes are in Herald Investment Trust (30.7% as of mid-January) and Edinburgh Worldwide (30.1%).
But it is not the only activist in town. Allspring has stakes in 46 investment trusts, and 1607 Capital Partners in 40, according to wealth manager AJ Bell. Plenty more are operating on a smaller scale.
A wide discount is often likely to pique an activist’s interest. Investment trusts trade at two prices: the net asset value (NAV) is the value of its underlying assets divided by the number of shares, and the share price, which is what investors actually pay to buy and sell shares.
When the share price is higher than the NAV, the trust is trading at a premium. When it is below the NAV, it is trading at a discount. At a 10% discount to NAV, investors can effectively purchase 100p worth of assets for 90p. If the discount closes, they make a profit – this is often the main goal of an activist.
Large discounts and vulnerable trusts
There may be reason to worry about trust discounts. Look out for trusts that have persistently underperformed their peers and are trading on a wider discount than their sector average. For example, the average discount in the Global sector is 8%, but Lindsell Train’s is 21.3%. Over three years, the trust has returned -27.7% versus a sector average of 37.9%, Trustnet data shows.
Consider sectors, too. Just three of the 19 trusts in the UK Equity Income sector have beaten the market over ten years. This could make the group a target as investors may be more likely to ditch underperforming active investments in favour of passive ones that track the market.
Dan Coatsworth, head of markets at AJ Bell, suggests Scottish American as potentially vulnerable; an underperformer trading at a 9.2% discount, significantly wider than the 3.1% average for its Global Equity Income sector. Coatsworth says: “The trust is managed by Baillie Gifford, which runs various other trusts already subject to campaigns by Saba. The activist might feel compelled to turn the screws on Baillie Gifford given the latest Edinburgh Worldwide defeat.”
Some infrastructure trusts are being targeted because their assets are in demand but the sector is not popular with investment trust users.
Thomas McMahon, head of investment companies research at Kepler Partners, says: “In this scenario, a better return can be made by selling the assets or buying back large amounts of stock, rather than investing in the portfolio. Sometimes external activists can see this more clearly, while the manager may have their head in the sand.”
Watch for notifications. A trust must alert the stock exchange if their holding in a company passes 3%, and then each time that stake moves up or down by 100 basis points. That should mean the arrival of an activist doesn’t come as a surprise.
This can be more difficult to gauge if the shares are owned through other vehicles or derivatives, says McMahon, but investment boards and market commentators can help decipher these holdings.
While the arrival of an activist can cause a stir, it isn’t necessarily a sell signal. Depending on their motivations, activist investors can be a force for good.
James Carthew, co-founder of Quoted Data, says: “When you have a strategy that isn’t working and investors are selling but the board isn’t taking action, then someone pushing for change can be a good thing.”
He points to Alliance Trust as one example. After the activist Elliott appeared on its register, major changes were made to the running of the trust, which eventually merged with Witan. “That was a catalyst for positive change,” says Carthew.
Even if an activist’s proposals are not passed, their presence can jolt a board into action. That can be seen in the industry’s behaviour since Saba emerged. The average discount has narrowed from 15% at the end of 2024 to 12% today, according to the Association of Investment Companies (AIC), an industry body.
Annabel Brodie-Smith, communications director at the AIC, says: “Boards have been taking steps to protect themselves. Last year saw a record 27 deals, including mergers, acquisitions and liquidations. It was also a record year for share buybacks and fee changes.“
But Saba has been accused of trying to make a quick buck, rather than pushing for meaningful changes in the long-term interests of shareholders. Carthew says: “Normally activists don’t buy enormous stakes and try to force things to happen. They buy smaller stakes, suggest ideas and take other shareholders along with them.”
To determine whether an activist has shareholders’ best interests at heart, look at their track record to see what they have done before. Read their proposals and the response from the investment trust board to get a feel for both sides.
Weigh up their motivations against your own and don’t get distracted by a potential short-term gain. Look at CQS Natural Resources, says Carthew: the trust announced a tender offer last May, giving investors the option to sell at NAV. Its discount had already narrowed from 15% to 5%, but many investors exited. But the share price has since doubled, giving those who stayed a far more significant gain.
Why investors should vote
Consider why you hold the trust. If your original reasons for investing still stand, don’t get side-tracked, and be sure to vote on any proposals. Brodie-Smith says: “Remember that investment trusts are not for a quick buck, they provide a long-term approach to investing, and many offer consistent and rising income over time.”
With so much drama surrounding the industry, some investors could be tempted to eschew trusts altogether. Carthew believes that would be a mistake. Activists are a normal and healthy part of the market and, while they create a lot of noise, they are a relatively small piece of the pie.
Investing in potential activist targets could even be a good strategy, says McMahon, if their goal is to unlock value. Coatsworth adds: “Boards have realised that trusts cannot limp along and hope for the best – when something isn’t working, the alternatives must be explored.”