Hi all. Some great comments here. It's clear that LICs and franking credits are hotly debated topics. I'll respond to a few questions briefly. Rodney, yes we agree URB has been good value recently. It's one of our top 10 holdings at the moment because of the discount. We expect the manager is in a good position to do something about this over time. We're less sold on their potential as investors to outperform the market, but time will tell. Robbie, no not related to Geoff Wilson, but we are big fans of the WAM team - exceptionally talented managers. To the John's and Neil - thanks for pointing out the extra "than" in the article - it was a mistake and has been corrected. To John Bird and Neil - essentially any franking credits received in a year by an LIT can be passed through in that year (they are included as a tax credit available for the investor in the tax statement sent to all holders at the end of each tax year). The LIT manager has some flexibility as to when the cash from a dividend received can be distributed by the LIT - see the comment below. The tax benefit arises from the LIT not having to pay tax on profits. I'll look to write more about how this happens, perhaps with an example in a future article. To Ed, I'm not a tax expert, but as I understand it, converting to an LIT means the LIC effectively sells everything for tax purposes and unrealised gains turn into realised gains, tax is paid and franking credits distributed. So this can be a problem for LICs with a large amount of unrealised gains or losses. The gains cause tax to be paid in order to convert (probably offset to a degree by a franking credit paid out to investors). Any tax losses are likely to be lost on conversion, so that can be a negative. As an LIT, the idea of a profit reserve is irrelevant. One of the benefits of an LIT is the manager is essentially free to determine the level and timing of distributions, which makes it easier to smooth them over time. Luke, there are quite a few LICs we could have chosen from for this article. SEC stands out partly because of the discount and partly because of the excellent long term track record of the team (including a long period before forming Spheria) despite fairly average short term performance. You are right in that they do not come cheap, but in our experience, very few managers who have a genuine chance of outperforming by a reasonable amount, ever charge a low fee. Of course, you never know exectly when a better performance period will come along, or when a discount will start to close up, and we may well just end up being wrong. To Simon, while activism is not our style, we try to encourage and talk with managers where we think there are things they can do better. We think we will see more examples of activist investors entering the space if these discounts persist. Thanks for all your comments. Keep them coming.
Hi Ian. You raise a very good point. Much like property and infrastructure, there tends to be a lag between valuations for PE businesses and market pricing. This can work in your favour when markets are going well, but the reverse is true in downturns. It can also be useful to review the valuation policy of the manager. Overall, we tend to look for a bigger discount than normal for any LIC investing in illiquid assets such as private equity.
Hi Tony. The LICs I referred to were the Asian Masters Fund (EAF) which was previously AUF. The Australian Governance Masters Index Fund (AQF) has also recently approved a similar restructure. Both are part of the Dixon/Evans and Partners stable of LICs.
Hi Peter. There are some ETF's that are short the market (e.g. Betashares Equities Bear Fund, ASX code: BEAR), but no LICs that we are aware of. Some LICs, such as ALF or CDM could potentially be net short at times, but I would say it would be rare.
Some great comments in here and it’s probably worth highlighting how we assess the likely winners. Certainly, to be first over any extended period in the LIC space, you need to have good investment performance from the manager. So, every one of our 24 runners are ones we think can outperform markets over the long term. But to come first, second or third needs something extra. In the case of LIC’s, that extra usually comes from positive changes in the discount/premium to NTA. For example, if a LIC goes from a 5% discount to a 5% premium, the total return for a shareholder is improved by 10%. Our favourites are those we believe have the best combination of potential for good investment performance AND potential for improvement in the NTA discount/premium. These are unlikely to be last year’s winners, nor those already trading at decent premiums to NTA.
On If 24 LICs ran the Melbourne Cup... which would be our favourites? -
Michael, I think there's merit in both. Both ETFs and LICs continue to grow strongly. We like LICs because of the price inefficiencies we can exploit. But you're right about ETFs - there's more choice and price/NTA certainty. We sometimes use ETF's as an alternative if we just want pure market exposure. Each investor will have their own preferences and it's good to have a choice.
Thanks Jordan. It's certainly something we try to keep a very close eye on. A decent fall in house prices is probably going to have a very big impact on our economy. We want to know about it as early as we can..
Thanks Adam. We're about to make the Affluence Fund available to retail clients in the next few days and we're targeting research for later this year.