LIC discounts not always a great bargain

Listed investment companies trading at a discount to net tangible assets may be discounted, but that does not make them a bargain.

The ASX is a powerful vehicle for investors to access portfolios of investments managed by professional fund management firms. Picture: Getty Images

There have been several high-profile listed investment companies and listed investment trusts that have launched on the Australian Securities Exchange in the past 12 months.

We have seen Magellan’s best international stock ideas wrapped up in the $900m high conviction trust (MHH). American investment firm Kohlberg Kravis Roberts also launched its $650m credit income fund (KKC) as did VGI Partners with the $470m Asian Investments LIC (VG8).

But why are so many of these investments trading at a discount to net tangible assets? KKC, which listed on the ASX in November last year for $2.50, is trading at $2; however, the NTA is $2.28 so the investment is trading for 13 per cent less than the assets inside the vehicle — it’s a 13 per cent discount to NTA. On the other hand, in a much better deal for investors, the $1.4bn market darling WAM Capital is a listed investment company that trades at a 23 per cent premium to NTA.

To understand why some LICs trade at a premium while most trade at discounts, we need to look at how these structures work.

The ASX is a powerful vehicle for investors to access portfolios of investments managed by professional fund management firms.

However, it can be confusing to differentiate and distinguish between all the options available from a listed investment company, listed investment trust, exchange-traded fund, unlisted managed fund (mFund) or an active ETF.

Adapt Wealth certified planner Reuben Zelwer says: “LICs are closed-ended structures. They start by raising a quantum of funds in the primary market (usually sold via stockbrokers) and investors can trade between themselves on the ASX, much like any other share.”

In other words, an LIC itself is almost like a commodity. Coming back to Wilson Asset Management’s WAM Capital (WAM), why would an investor pay more than the value of the underlying investments? Even though the investments inside WAM are valued at $1.57, it is trading on the ASX at around $1.93. The reason: because investors are willing to pay more than the value of the assets to get into the fund and allow chairman Geoff Wilson and co to invest their money.

Conversely, some LICs such as KKR’s global credit fund trade at a discount to the value of their assets and this can sometimes be a trap for the novice investor. What seems like a great deal buying into an LIC at sometimes up to a 30 per cent discount ends up being a trap when the investment perpetually trades at a strong discount to the net asset value because of a lacklustre interest from investors.

Another example of an LIC trading at a discount is WCM Investment Management’s global growth LIC (WQG). Although it has provided investors with a healthy 20 per cent return each year since inception, it is trading at $1.20 whereas the net tangible asset is $1.46, representing an 18 per cent discount to NTA.

The discount or premium can close over time and move back towards NTA. A discount to NTA reduces if the manager wins awards or receives new interest from investors through a period of strong performance relative to peer funds. The accolade of trading at a premium to NTA can dissipate for the opposite reasons: underperformance, increase in fees or key staff departures, to name a few common reasons.

Magellan recently released a hybrid of an LIC and an exchange-traded fund called an active ETF with the Airlie’s Australian Share Fund, which has a neat feature of being able to purchase the same investment on market or off.

In essence, there is one registry of investors consisting of a sub-register with listed investors and unlisted unit holders. A benefit to this is that an investor into AASF could initially invest using the traditional paper-based application form and in the future decide to sell and do this via the ASX and vice versa.

Magellan chief executive Brett Cairns says: “We want to welcome all investors and allow them the flexibility to choose how they wish to access the fund. It should not make a difference how an investor gets into a fund; rather, the focus should be on the capabilities and expertise of the manager and performance of the fund.”

But regardless of what structure you use, the key is that you understand the strategy, the risk, the fees and the underlying investments held, and compare the performance to similar funds and broader market indexes. And for LICs, there is the additional consideration of whether it is trading at a discount or premium to NTA, and whether that is likely to change in your favour in future.

James Gerrard is principal and director of Sydney financial planning firm FinancialAdvisor.com.au