Different objectives and a diverse mix of investments
When it comes to investing, there are several avenues to explore. One such route is through investment trusts. An investment trust is a public limited company that raises capital by selling shares to investors. This pooled money is used to buy and sell a broad range of shares and assets. Each investment trust will have different objectives and a diverse mix of investments.
Understanding Investment Trusts
Investment trusts differ from unit trusts in their ability to borrow money to buy additional shares – a process known as ‘gearing’. This leverage can amplify gains in rising markets and accentuate losses when markets fall. Generally, investment trusts have more freedom to borrow than unit trusts available for purchase by the general public.
Buying and Selling Shares in Investment Trusts
Unlike unit trusts, an investor must find another buyer if they wish to sell their shares in an investment trust. Typically, this is done by selling on the stock market. The investment trust manager is not obliged to repurchase shares before the trust’s winding-up date.
The price of shares in an investment trust can be lower or higher than the value of the assets attributable to each share. If the share price is lower, it’s said to be ‘trading at a discount’; if it’s higher, it is ‘trading at a premium’.
Types of Investment Trusts
Conventional Investment Trusts
Conventional investment trusts, constituted as public limited companies, issue a fixed number of shares, making them closed-ended funds. These shares are traded on the stock exchange like any other public company. The price of an investment trust’s shares depends on the value of its underlying assets and market demand for its shares.
They can borrow money which can be used to buy shares or other assets. This is often referred to as ‘gearing and can enhance returns in a rising market but detract from returns when a market falls. Different investment trusts will vary in their level of gearing. Before investing, checking the gearing level is essential, as it can significantly influence your investment’s risk and return.
Split Capital Investment Trusts
Split capital investment trusts have a specified term, usually five to ten years. However, investors are not tied in for this period. This type of trust issues different shares, which payout in a specific order at the end of their term.
Investors can choose a share type that suits their risk tolerance and return expectations. Typically, shares that pay out later carry greater risk but offer higher potential returns.
Factors to consider when investing in Investment Trusts
Before investing in an investment trust, consider the following factors:
Asset Type: The risk and return levels depend on the chosen investment trust. Understanding the type of assets the trust invests in is crucial, as some are riskier than others.
Discount or Premium: Investigate the difference between the investment trust’s share price and the value of its assets. This gap could affect your return. If a discount widens, this can depress returns.
Borrowing Money: Determine if the investment trust borrows money to buy shares. If so, the potential returns might be higher, but the losses could also be greater.
Tax-Efficiency: Many unit trusts can be held in an Individual Savings Account (ISA), making your income and capital gains tax-efficient. Any profit from selling shares outside an ISA may be subject to Capital Gains Tax.
Investment trusts provide a unique opportunity for investors to diversify their portfolios. However, as with all investments, it’s important to understand the potential risks and conduct thorough research before committing to an investment strategy.