Bargain Hunter: catch a cheap UK trust while you can

Investors need to be quick off the mark to take advantage of potential discount opportunities. 

For a couple of years the UK has been one of the world’s most loathed stock markets but, following the announcement of a potential vaccine for Covid-19, it could go from zero to hero overnight as far as investors are concerned.

Time will tell, but the positive development may act as a catalyst for domestic and international investors to re-examine the UK market’s “cheap” valuation versus its own history and compared to other countries.   

The early signs seem positive with the UK market rallying strongly following the news earlier this week that Pfizer (NYSE: PFE) has developed a vaccine that is “more than 90% effective in preventing Covid-19”.  

As our Bargain Hunter column has previously pointed out, UK-focused investment trusts offer investors the chance to buy the cheap UK market at an even cheaper price. 

However, following the last two trading sessions of big gains for UK shares, the discounts of UK trusts have started to narrow – notably in some cases. If the market continues to rise, UK trust discounts are likely to further tighten, meaning investors may need to act quickly to pick up a bargain.

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Fidelity Special Values (LSE: FSV), which is managed by contrarian investor Alex Wright, was last at close of trading last Thursday (5 November), trading on a discount of 6.3%. But, as of close of trading yesterday (10 November), the discount had reduced to 1%, data from Winterflood shows.

Investment trust broker Numis issued an analyst note last week when its discount stood at around 8%. At the time, Numis said “there is limited downside from the current discount, given that the board has commitment to protect a single-figure discount through buybacks and that the shares offer value”.  

The broker added: “We believe there remains a place in investors’ portfolios for managers with a value style and Fidelity Special Values is our favoured fund for exposure to the UK with a value style.”

Darius McDermott, of fund research rating agency FundCalibre, is also backing the trust’s performance to pick up. He notes that Wright’s value approach of investing in out-of-favour companies “could do well now until the end of the year” providing that “the vaccine news flow remains positive”.

“Value funds have had a torrid time over the past decade, as growth strategies have enjoyed the tailwind of a low-growth, low interest-rate world. But these funds/trusts will also have benefited the most from the rally this week, being already invested in out-of-favour companies,” says McDermott.

While Fidelity Special Values has seen its discount narrow towards par, there are four trusts in the AIC’s UK All Companies sector trading on double-digit discounts: Artemis Alpha Trust (LSE: ATS), Henderson Opportunities (LSE: HOT), Independent Investment Trust (LSE: IIT) and Keystone (LSE: KIT). 

Artemis Alpha Trust is trading on a discount of 16.4%, Henderson Opportunities 16.7%, Independent Investment Trust 10.4% and Keystone 17.1%. 

In the AIC UK equity income sector, five trusts are currently trading on discounts in excess of 10%: Aberdeen Standard Equity Income (LSE: ASEI), BMO UK High Income (LSE: BHI), Invesco Income Growth (LSE: IVI), Temple Bar (LSE: TMPL) and Value and Income (LSE:VIN). 

Aberdeen Standard Equity Income is trading on a discount of 12.8%, BMO UK High Income 11.3%, Invesco Income Growth 13.9%, Temple Bar 10%, and Value and Income 30.4%. 

Negative investor sentiment towards the UK is not the only reason some of these trusts are trading on double-digit discounts. For some trusts, sluggish performance over both short-term and longer-term time frames versus other trusts in their sectors has also played a part in weakening investor demand for their shares.  

There are plenty of double-digit discounts in the AIC smaller companies sector, with the average trust discount among the 15 trusts standing at just below 10%.

Fund manager Vincent Ropers’ preferred pick in this sector has one of the lowest discounts. The co-manager of the Wise Multi-Asset Growth fund favours Odyssean investment trust (LSE: OIT) , which has a current discount of 0.8%. At the close of trading last Thursday (5 November), the discount stood at 6.4%.

This is another example of how swiftly discounts can change and how investors need to be quick off the mark to take advantage.

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“Odyssean are UK small companies investors applying a private equity approach to listed markets. This translates into a concentrated portfolio of influencing stakes, taken with a long-term mindset,” says Ropers.

“This differentiated approach is often welcome by company management, which allows Odyssean to engage with them to find the best pathway to generate growth. This is a time-consuming and specialist approach, which is why the managers concentrate on the niches they are experts in, namely TMT, services, healthcare and industrials.”

While markets exploded with euphoria on Monday (9 November), Jason Broomer, an investment director at fund research business Square Mile, sounds a note of caution.

He says: “The light is now at the end of tunnel for the pandemic, although it will continue for several more months as the vaccine is manufactured, distributed and administered in bulk. With luck, the news today about the vaccine will not be the only successful one and other options will shortly become available. Stock markets around the world have jumped on the news, understandably so, and many of the worst-affected sectors have rebounded.”

Broomer warns that governments cannot borrow indefinitely and that economically “we are on the road to an unknown destination and we should step forward into what today feels like a brightening world with a degree of caution”.

He adds: “However, this does not alter the unprecedented fiscal backdrop. Interest rates will remain at zero and government borrowing levels will continue at mind-boggling levels. This is not something that we have ever seen in modern economic history, and even prior to then. We don’t know how this will end.” 

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