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Transparency Issues with Listed Investment Companies (LICs)

21 Nov 2019
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Here we discuss our views on Listed Investment Companies (LICs)...

One of the main consequences deriving from the Hayne Royal Commission is the increased transparency in the workings of the financial services industry. While the high-profile names such as IOOF Holdings (IFL) and AMP Ltd (AMP) have attracted the headlines, one area of the industry now currently under the spotlight – and a sector not enjoying the glare – is the LIC sector. LICs have long been discussed in Rivkin Virtually Live, but we thought it worthwhile to discuss our views in the context of the current public discussion and our views for the sector going forward.

For those of you who tune into Virtually Live, it will come as no surprise that we are generally quite negative on LICs. As a fund manager ourselves, we have discussed the pros and cons of launching our very own LIC but have ultimately concluded that the structure has far more benefits for the fund manager than the investor and that was a trade-off we were uncomfortable with. And, having a relationship with a number of fund managers over the years with LICs, it’s hard not to be cynical about the motivations behind them. Ultimately, LICs are attractive for fund managers because they provide a pool of capital to manage (and hence charge fees on) that can’t be redeemed, and also is a structure which allows costs for the fund manager to be passed onto the investors. Almost all LICs even start life with an NTA (net tangible asset backing) below the investment price as listing costs are paid by the LIC even though the fund manager is reaping the benefit of the listing.

One of the big new discussion points in the media is how LICs are exempt from advertising performance after fees. This is in direct contrast to the rest of the funds management industry, and means that investors can have no real confidence in the actual returns that they will see themselves. This is absolutely ludicrous and, considering its audience is largely smaller retail investors, is very misleading.

So, it’s no surprise that we have started to see a shift in the pricing of LICs on the market. Unlike unlisted managed funds, investors wishing to redeem both need to pay a brokerage fee and also find a buyer which can be difficult as most LICs are illiquid. This has meant that most LICs are now trading at discounts to their NTAs. In a conflict free world, LIC fund managers should be using the discount to NTA as an opportunity to buy back shares which would both close the discount and also increase the NTA itself, but as this reduces the pool of capital on which to charge fees you rarely see this happen. Bell Potter did a recent analysis of the 31 most popular LICs and found that 24 of them are trading at a discount to their NTAs.

The question going forward is whether this is a temporary change or a structural one. Our view is that the Royal Commission is the beginning of the end of the sector, and you will see fewer and fewer of these structures listed going forward and more like the recent Magellan LIC, which has a far better structure to reduce conflicts of interest.

And those LICs that still trade at premiums to NTA offer significant risk in our view. Take WAM Capital (WAM), the flagship LIC for perhaps the poster child of the LIC sector in Wilson Asset Management. While the vehicle has enjoyed fantastic long-term returns, the underlying performance has been short of its benchmark for the last three years and yet it still enjoys a 15% premium to NTA. And this is an NTA that is often largely in cash, so the actual premium to invested assets is even greater. It’s hard to avoid the conclusion that in time this premium to NTA will disappear.

We should note that over the years, we have advised members to invest in the Future Generation LICs. While there is no conflict in these vehicles because the fund managers donate fees to charity, there’s no doubt that the malaise starting to affect the sector could spread to them as well and both are currently trading at historically large discounts to NTA. Ultimately, we remain comfortable with members invested in them as any sustained discount would likely be combatted with share buybacks without any conflicts of interest.

While LICs offer a means for retail clients to access fund managers that would otherwise only be available to wholesale investors, Rivkin can offer clients a better solution through a Separately Managed Account structure. This allows investors to access our investment strategies while keeping the assets in the investors name. Please contact us to find out more about the Mainstream Separately Managed Account which utilises Rivkin as the investment manager.

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