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The Financial Times

With a worldwide network of highly respected journalists, The Financial Times provides global business news, insightful opinion and expert analysis of business, finance and politics. With over 500 journalists reporting from 50 countries

The Financial Times Guide to Investment Trusts

Unlocking the City’s best kept secret

Second edition

John Baron

PEARSON EDUCATION LIMITED

KAO Two

KAO Park

Harlow CM17 9SR

United Kingdom

Tel: +44 (0)1279 623623

Web: www pearson com/uk

First published 2013 (print and electronic)

Second edition published 2020 (print and electronic)

© John Baron 2013, 2020 (print and electronic)

The right of John Baron to be identified as author of this work has been asserted by him in accordance with the Copyright, Designs and Patents Act 1988.

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ISBN: 978-1-292-23254-6 (print) 978-1-292-23255-3 (PDF) 978-1-292-23256-0 (ePub)

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A catalogue record for the print edition is available from the British Library

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A catalog record for the print edition is available from the Library of Congress

10 9 8 7 6 5 4 3 2 1 24 23 22 21 20

Front cover image © gemenacom/iStock/Getty Images

Cover design by Michelle Morgan At The Pop Ltd

Print edition typeset in Stone Serif ITC Pro 9.5/14 by SPi Global Printed by Ashford Colour Press Ltd, Gosport

NOTE THAT ANY PAGE CROSS REFERENCES REFER TO THE PRINT EDITION

To Thalia, Poppy and Leone, with my love

And to those who have helped me, with my thanks

Contents

About the author

Author’s acknowledgements

Publisher’s acknowledgements

Foreword

Introduction: The evolving landscape of investment (trusts)

1 What are investment trusts?

Structure and gearing

Value and calculations

Discounts and premiums

Price and size

Range and reach

Governance and cost

Pros and cons

2 Better performance

The evidence

Undertaking research

Performance nuances

Maintaining perspective

Beware unit trust tables . . . . . . and ‘sister’ funds

3 Competitive fees

Time and numbers

International comparisons

Other factors encouraging competition

Ongoing Charges calculation

Performance fees

4 Structural advantages

Merits of a closed-ended structure

Poor selling decisions

Yield and diversification

Liquidity and volatility

Less mainstream assets

5 Geared tailwinds

Mathematical logic

The logic in practice

The issue of sentiment

Understanding ‘splits’

6 Discount opportunities

Factors influencing discount levels

Profiting from discount movements

Discount control measures

Z-statistics

7 Dividend heroes

The mechanics

Revenue reserve

Dividend heroes

Capital changes

Dividend terminology

Dividend metrics

Tighter discounts

8 Independent board

An evolving role

Greater professionalism

Common interests

Monitoring holdings

Social accountability

Report and accounts

Regular communications

Marketing and distribution

Investment roadshows and seminars

The AIC

10 Comparing investment trusts

The various factors

Outlook and balance

Manager and team

Long-serving managers

Valuations

Debt matters

Fee comparisons

Income considerations

Structure and discount control mechanisms

Financial Express and Morningstar

The golden rule

11 Perspectives – three fund managers

Nick Train

Neil Hermon

Charles Jillings

12 Perspectives – the AIC and a board director

Annabel Brodie-Smith

Jonathan Davis

13 Perspectives – an analyst, a shareholder and an editor

Alan Brierley

Lord John Lee of Trafford DLFCA

John Hughman

14 Deciding investment objectives

Saving and investing

Know thyself – risk tolerances

Income requirements

Currency considerations

Choosing a benchmark

15 Accessing markets

Retail Distribution Review (RDR)

Platform providers

Robo-advisers and exchange-traded funds

Wealth managers

Do-it-yourself

16 First principles

First steps

Time in the market

Reinvest the dividends

Diversify to reduce portfolio risk

Rebalancing

Reaching investment goals

17 More considerations

Be prepared to be a contrarian

Keep it simple (and cheap)

Be sceptical of ‘expert’ forecasts

Embrace Einstein’s eighth wonder

18 Further considerations

Active versus passive

Portfolio turnover and conviction

Different investment styles

Marketability

An inconvenient truth

19 The Summer portfolio

Context

Breakdown

Equities

Thematic investments

Other asset classes

A holistic approach

A golden rule

20 Recent commentaries

Where are our pioneering giants?

Do not sell in May

Retaining faith in technology

Patience is usually a virtue

Keep calm and carry on

Index

About the author

John Baron is best known to readers of the FT’s Investors Chronicle magazine for having successfully managed and reported on two real investment trust portfolios since 2009 – as measured by their appropriate MSCI PIMFA Growth and Income benchmarks. His popular monthly column is closely followed and helps investors – private and professional – with their investments.

John has used investment trusts in both a private and professional capacity for over 35 years. After university and the Army, in a career spanning 14 years, he ran a broad range of charity and private client portfolios as a director of both Henderson Private Clients and then Rothschild Asset Management (RAM). Whilst at RAM, he was also responsible for the core UK equity portfolio.

Since leaving the City, John has helped charities monitor their fund managers, contributes to other publications including The Investment Trusts Handbook 2020, and regularly speaks at investment seminars. He remains a member of the Chartered Institute for Securities & Investment.

He has also founded Equi Ltd which manages the website www.johnbaronportfolios.co.uk. The website reports in real time to members on the progress of nine real investment trust portfolios as they achieve a range of risk-adjusted strategies and income levels. The website’s Performance page testifies to their success relative to benchmarks.

His central message is that investment trusts are the best form of funds for most long-term investors if properly harnessed, and that investment is best kept simple to succeed – complexity adds cost, risks confusion and usually hinders performance. This philosophy runs through this revealing book about the City’s best-kept secret.

Author’s acknowledgements

The writing of any book is a real team effort. This book draws on the expertise and talents of many people. My thanks go to all who have made valuable suggestions, contributed to its compilation and helped with its production.

In no particular order, I would particularly like to thank:

The team at the Association of Investment Companies (AIC): David Michael (my first point of contact) and Sophie Driscoll for their expertise and guidance, Annabel Brodie-Smith for her valued input, and Ian Sayers for his contribution and wise oversight of such a great team;

The book’s contributors in Chapters 11, 12 and 13 for their perspective and sage advice: Nick Train, Neil Hermon, Charles Jillings, Annabel BrodieSmith, Jonathan Davis, Alan Brierley, Lord John Lee of Trafford DL FCA and John Hughman;

The editorial team at Pearson Education for their patience and professionalism: Dr. Priyadharshini Dhanagopal in India, Eloise Cook, Melanie Carter and Felicity Baines in Harlow, and Suzanne Pattinson in Cambridge;

And last but certainly not least, the team at home: My wife Thalia and daughters Poppy and Leone for their inspiration and help with technology!

The book is in memory of my parents.

Publisher’s acknowledgements

xxiv Association of Investment Companies: AIC welcomes FCA’s Retail Distribution Review call for input. (2019, May 1). AIC. Used with permission from AIC; 2 Association of Investment Companies: What are investment companies? AIC. Used with permission from AIC; 3 Association of Investment Companies: How investment companies work. AIC. Used with permission from AIC; 6 Association of Investment Companies: Discounts and premiums. AIC. Used with permission from AIC; 10-13 Association of Investment Companies: AIC sector review. (2019, May 8). AIC. Used with permission from AIC; 17 Association of Investment Companies: Association of Investment Companies (AIC). Used with permission from AIC; 19 Association of Investment Companies: Henderson Smaller Companies. AIC. Used with permission from AIC; 24 The Financial Times: From Walters, L. (2011), ‘Fund performance tables hide bad records’, Investors Chronicle, 19–25 August © The Financial Times Ltd. 2019, All rights reserved. Used with permission from The Financial Times Ltd; 27 Association of Investment Companies: Association of Investment Companies (AIC) /Morningstar. Used with permission from AIC; 30 Thalia Baron: Cartoon by Thalia Baron. Used with permission from Thalia Baron; 33 Association of Investment Companies: Association of Investment Companies (AIC) /Morningstar Weighted averages. AIC. Used with permission from AIC; 35-36 Association of Investment Companies: AIC Ongoing Charges Calculation. AIC; 39 Association of Investment Companies: Investment company H1 review: secondary fundraising hits record. (2019, July 9). Used with permission from AIC; 42-43 Association of Investment Companies: Association of Investment Companies (AIC) /Morningstar (as at 14/08/19). Used with permission from AIC; 46 Association of Investment Companies: Investment company 2018 review. (2018, December 18). Used with permission from AIC; 51-52 Investors Chronicle magazine: From Investors Chronicle magazine, page 32, 17 May 2019; 57 Association of Investment Companies: Volatility. AIC. Used with permission from AIC; 64 Association of Investment Companies: Risk versus reward. AIC. Used with permission from AIC; 74 Association of

Investment Companies: Association of Investment Companies (AIC) /Morningstar Date as at 14/08/2019. Used with permission from AIC; 77 Association of Investment Companies: Investment trust discounts since May 2008. AIC. Used with permission from AIC; 80 Association of Investment Companies: Discounts and premiums. AIC. Used with permission from AIC; 89 Association of Investment Companies: Selection of investment trusts and their discount control policies. AIC. Used with permission from AIC; 91-92 Investec: Closed – end funds daily – Investec. (2019, Jun 13). Used with permission from Investec; 94 Finsbury Growth & Income Trust PLC: “Dividends.” Finsbury Growth & Income Trust PLC; 96 Association of Investment Companies: AIC Dividend hero. (2019, Jul 19). AIC. Used with permission from AIC; 99 Aberdeen Japan Investment Trust PLC: Aberdeen Japan Investment Trust PLC, Annual Report, 31 March 2019; 100 Finsbury Growth & Income Trust PLC: Finsbury Growth & Income Trust plc dividend payments: FGT dividends; 107-109 Association of Investment Companies: The AIC Code of Corporate Governance. (2019, Feb). Used with permission from AIC; 112 Baillie Gifford & Co Limited: Schroder UK Growth Fund plc Annual Report and Accounts; 124 Allianz Technology Trust PLC: Allianz Technology Trust PLC, Factsheet 31 October 2019; 126 Investors Chronicle magazine: From Investors Chronicle magazine, 26 July 2019; 129-132 Association of Investment Companies: Winners of the AIC Shareholder Communication Awards 2019. (2019, June 7). AIC. Used with permission fromAIC; 139-145 Association of Investment Companies: Half of investment companies managed by the same fund manager for more than 10 years. (2019, July 8). AIC. Used with permission fromAIC; 153 Nick Train, Finsbury Growth & Income Trust: Nick train. Finsbury Growth & Income Trust (FGT). Used with permission from FGT; 154 Janus Henderson Group plc: Neil Hermon – Janus Henderson Investors. Used with permission from Janus Henderson Group plc; 158 ICM Investment Management Limited: Charles Jillings. Utilico Emerging Markets Trust plc. Used with permission from ICM Limited; 163 Association of Investment Companies: Annabel BrodieSmith, Communications Director of the AIC. Used with permission fromAIC; 166 The Financial Times: Kay, J. (2018, January 19). Risk, the retail investor and disastrous new rules. © The Financial Times Ltd. 2019, All rights reserved; 169 Jonathan Davis: Jonathan Davis, board director.

Investment-reader; 173 Alan Brierley: Alan Brierley, Investec Securities Research; 178 John Lee: Lord John Lee, Trafford DL FCA; 180 The Financial Times: John Hughman, Editor of Investors Chronicle. © The Financial Times Ltd. 2019, All rights reserved. Used with permission from The Financial Times Ltd; 181 BMO Global Asset Management: Stated objective of the Foreign & Colonial Government Trust, 1868; 181 Association of Investment Companies: Newlands, J. (1997). Put not your trust in money. London: Association of Investment Companies; 181 Will Durant: From “The Map of Human Character” by Will Durant (November 18, 1945); 187 Association of Investment Companies: Just 26% of students and 13% of graduates expect to pay back their student loan. (2019, July 22). AIC; 196 Personal Investment Management and Financial Advice Association: Current Asset Allocation – PIMFA – Building Personal Financial Futures; 200 Association of Investment Companies: AIC welcomes FCA’s Retail Distribution Review call for input. (2019, May 1). Used with permission from AIC; 201 Association of Investment Companies: AIC welcomes FCA platform report which should benefit consumers. (2019, March 14). Used with permission from AIC; 203 Association of Investment Companies: 100% investment in investment companies (%). AIC. Used with permission from AIC; 218 John Baron: John Baron Portfolios – Diversification, http://www.johnbaronportfolios.co.uk/site/Diversification.php; 227 Mark Dampier: Mark Dampier, Research Director, Hargreaves Lansdown; 230 International Monetary Fund: The Arcane Art of Predicting Recessions –By Prakash Loungani, Assistant to the Director, External Relations Department, IMF. (2000, December 18); 231 The Economist Newspaper Limited: A mean feat. (2016, January 9). The Economist Newspaper Limited; 236 CFA Institute: Cremers, K. J. M., Fulkerson, J. A., & Riley, T. B. (2018). Challenging the Conventional Wisdom on Active Management: A Review of the Past 20 Years of Academic Literature on Actively Managed Mutual Funds. SSRN Electronic Journal. doi: 10.2139/ssrn.3247356; 252 Bridgewater Associates, LP: Saphier, M., Karniol-Tambour, K., & Margolis, P. (2019, Feb). Geographic Diversification Has Big Upside For Investors. Bridgewater Associates, LP; 256 BlackRock, Inc: Blackrock presentation on thematic investing in February 2019, Alistair Bishop. Used with permission from BlackRock, Inc; 257 BlackRock, Inc: Alistair Bishop

at Blackrock. Used with permission from BlackRock, Inc; 266 John Baron: Baron, J. (2019, February 7). Where are our pioneering giants? Used with permission from John Baron; 269 John Baron: Baron, J. (2019, May 9). Do not sell in May. Used with permission from John Baron; 272 John Baron: Baron, J. (2019, August 8). Retaining faith in technology. Used with permission from John Baron; 275 John Baron: Baron, J. (2019, October 10). Patience is usually a virtue. Used with permission from John Baron.

Foreword

In many respects, investment trusts remain the City’s best-kept secret. Despite evidence confirming they perform better and are cheaper than the unit trusts and open-ended investment companies (OEICs) which dominate the nation’s investment and savings market, too many investors continue to be unaware of them or think them too complex.

This is slowly changing. The introduction of the Retail Distribution Review (RDR) in 2013 and other changes to financial regulation are proving to be catalysts. Others include a far greater awareness of the many advantages of investment trusts courtesy of the financial media and professional organisations, including the Association of Investment Companies (AIC). Investment trusts are emerging from the shadows although there is still some way to go before they enter the investment ‘mainstream’.

At a time when there is sadly a growing financial ‘advice gap’ and the cost of advice is rising, investors would benefit from better harnessing their potential. This further edition of The Financial Times Guide to Investment Trusts will help investors better understand investment trusts and how they can be best harnessed to achieve financial objectives. Characteristics such as their structure, gearing and discounts are explained, as are their more nuanced characteristics which all help to determine how trusts perform and are perceived.

The book also highlights the stepping stones to successful investing, the principles of sound portfolio management, and how to construct and monitor a trust portfolio. We at Equi believe such knowledge is not only important but necessary. For the evidence suggests better investing can help to reduce inequalities within society. Why else do the rich keep getting richer? We are on a mission to both inform and help investors achieve better returns.

The final section of this guide will feature how we put theory into practice, for actions speak louder than words. By way of illustration, the thinking and strategy behind one of the nine real investment trust portfolios being managed in real time on my company’s website will be explained in some detail, together with the various factors we consider when selecting holdings.

If ever there was any doubt, knowledge continues to be the bedrock of successful investing. This book aims to explain the potential of investment trusts in a clear, concise and jargon-free manner. It shows their apparent complexity is a myth – a myth which has tended to obscure the many merits of investment trusts for too long. It is hoped readers will benefit from a better understanding of the wonderful opportunities on offer.

Introduction: The evolving landscape of investment (trusts)

The investment (trust) landscape has continued to evolve at a clip since this book was first published in 2013. Some aspects have changed for the better, some not, and some are progressing albeit perhaps a little too gradually. As with most things in the financial world, it’s a curate’s egg. The challenge is to focus on those parts where improvements can be best made for the benefit of investors.

What is undeniable is that those investors looking at investment trusts to help them achieve financial goals are today fortunate in that the sector is now at one of its pinnacles when viewed against its proud 150-year history. Investment trusts are better poised than ever to play an even greater role in helping informed investors achieve their financial goals.

The good

However, it remains a truism that too little is generally known about investment trusts – they have yet to enter the investment ‘mainstream’. Why is this the case? After all, they have been around for a very long time. Many can trace their ancestry back to the nineteenth century. And over this period, they have proved themselves not only to be perhaps the greatest innovation for long-term investors, but also the most rewarding.

Some of them are very large with market capitalisations exceeding £8,000 million, whilst assets under management within the sector total around £200 billion. These are significant numbers. The largest, Scottish Mortgage Trust (SMT), is now a constituent of the FTSE 100 index. Sections of the financial press often talk about the merits of investment trusts, including their better performance and cheaper fees when compared with the unit trusts that dominate the retail market.

And yet, the typical investor is unaware or cautious of them. It is one reason why, with the open-ended market valued recently by the Investment

Association (IA) at around £1.24 trillion, the investment trust sector is onesixth the size of open-ended funds (typically unit trusts and open-ended investment companies), despite their longer history and superior performance. So why is it so few investors outside the wealth managers in the City and Edinburgh benefit from them? The answers are various.

Fewer hurdles

A common thread linking them has been a competitive landscape which was tilted against investment trusts. This is now slowly changing. The key catalyst has been new regulations introduced in 2013. Hitherto, many investors had used an independent financial adviser (IFA) to help them run their portfolios. Most of these professionals earned their money not by charging the client a fee, but rather by receiving commission payments from the managers of the products they sold to the client.

Investment trusts do not pay commission to IFAs. Open-ended funds such as unit trusts did. As a result, there has been an in-built bias in favour of the latter. Some clients may have thought they were getting ‘free’ advice as they did not directly pay the fee. Most clients would have been aware of the arrangement but perhaps hazy about the scale of commission paid to their IFAs.

Much of this changed in January 2013 when new rules were introduced as a result of the Retail Distribution Review (RDR). These rules banned commissions. Instead, IFAs are expected to earn their fees by charging the client directly themselves and up front. The fee may be an hourly charge depending on the time spent or a fixed fee depending on the type of advice. Whichever, the effect will be the same – fees will be paid directly by the client.

One objective of the RDR is to make charges much more transparent. Another is to eliminate potential conflict of interest claims against IFAs regardless of how well they have served their clients. The jury is still out. But whether a success or not, investment trusts will benefit. These trusts are now competing with their open-ended cousins on a more level playing field. And, although it is early days, there are encouraging indications that investors are benefitting as a result.

Better awareness

However, this is only part of the story. Investment trusts have not always been good at setting out their stall. They are a slightly more complex instrument when compared with open-ended funds. And sometimes this complexity has been exaggerated. Yet historically there have been few marketing campaigns to put this right. Compare this to the massive marketing by the unit trust industry, especially when the new ISA season approaches.

This failure to reach out to investors has not been helped by the odd bit of bad publicity. Some investors will remember the split capital investment trust scandal. During the late 1990s, these trusts were marketed as low-risk investments, particularly for those seeking income. But high gearing and intricate cross-holdings made for a volatile mix. The detail is unimportant, but a number of investors lost out after the market crashed in 2001–2.

Though severe for those involved, the bad publicity was out of all proportion to the scale of the affair. Only a few fund managers were felled by the scandal, but it threw a dark shadow over most of the investment trust industry. The episode seemed to confirm to many that investment trusts were a ‘dark art’ best avoided. It certainly did not help the industry’s profile or appeal to investors.

This environment is now slowly changing for the better. Investors are coming to realise the many advantages of investment trusts. Progress is slow but it is inexorable. There has been more coverage in the financial press highlighting the better performance of investment trusts compared to their open-ended cousins, and often by some margin. The press has also highlighted that investment trusts are a cheaper way of gaining exposure to markets – an issue of increasing importance. These two facts are not unrelated.

There has also been the sterling work of the Association of Investment Companies (AIC), the industry’s well-respected trade body, which has done much in recent years to inform and educate. A visit to its website is well worthwhile. For example, the animated video entitled ‘Your investment journey’, launched in October 2018, explains why and how to go about investing and where investment trusts can fit in.

An evolving industry

The industry itself has continued to evolve. It has emerged from the split capital crash with an endeavour wholly conducive to investors. Part of this has been driven by necessity. The rise of passive low-cost instruments (such as exchange-traded funds and index funds), together with activist investors looking to crystallise undervalued situations, has spawned self-help and innovation.

In responding to investors’ recent search for yield, a host of ‘alternative’ assets, including renewable energy and infrastructure, have been encompassed by investment trusts as evidenced by the extent of fundraising. Whilst such assets are now well-established, other examples including trusts which aim to capitalise on recorded music rights and to provide capital to biotech companies prove innovation is alive and kicking. Once again, such examples are proving helpful to those investors seeking income and diversification.

Following the crash, regulatory and governance changes have also assisted the sector by helping to improve the way trusts are managed and by making it easier for trust boards to market their company, issue new shares and pay higher dividends out of capital, all of which benefit shareholders to varying degrees.

In doing so, more investors are coming to appreciate trusts’ other helpful features. These include the ability to ‘store’ dividends and so produce a growing stream of income even when markets are rocky – helpful for longterm planning. An increasing awareness that their structure is better suited to certain illiquid asset classes, such as private equity and commercial property, has helped – and funds have been raised accordingly from investors from both established and new investment trusts.

The rise of more conventional equity IPOs (initial public offerings) has also been a welcome feature in recent years. An IPO is the very first sale of stock issued by a company to the public. Examples in 2018 saw Mobius Investment Trust (MMIT), AVI Japan Opportunity Trust (AJOT), Baillie Gifford US Growth Trust (USA) and Smithson Investment Trust (SSON) all be created courtesy of fundraising, the latter raising a record £822 million.

Meanwhile, many well-respected investment trusts are raising their assets under management and continuing to grow by initiating regular secondary share issues courtesy of their share prices standing at premiums to their Net

Asset Value (NAV) because of investor demand. Perhaps the best example is Scottish Mortgage Trust (SMT), which has raised over £600 million in recent years. Other examples include Finsbury Growth & Income Trust (FGT) and CC Japan Income & Growth (CCJI).

Although helped by favourable markets, little wonder total assets have now doubled from the £100 billion under management since this book’s first edition in 2013. Investment trusts are now being rewarded for their endeavours, and this is beginning to combat the lack of knowledge that has characterised attitudes. The momentum continues to move in their direction. These are positive developments which are slowly benefitting investors. However, the journey is ongoing – for not everything is as it should be.

The bad

Improvements apart, investment trusts still face headwinds. The Financial Conduct Authority (FCA), the industry’s regulator, sometimes creates the impression that trusts are of little interest to them – and, as such, may be inadvertently allowing nuanced biases within the system to favour the openended behemoths that are unit trusts.

This is not withstanding the fact that the FCA ushered in the RDR reforms which aimed to remove the commission bias in favour of open-ended funds. This was welcomed by investment trust supporters including myself. Yet their focus on passive investment, while logical in one respect given the growth in that business, is illogical in another in that it tends to marginalise the role of trusts despite their superior track record.

Anomalies are therefore allowed to exist. For example, it appears the ability to apportion any part of a defined-contribution (DC) pension plan to investment trusts remains difficult. This is important given the forecast growth in DC schemes to around £1 trillion by 2029. On balance, if reasonable assets have already been accumulated, those investors wishing to meaningfully embrace investment trusts would still be better to start or transfer into a self-invested pension plan (SIPP). There is no logical reason why this should be the case.

Similarly, research from the AIC last year found that, despite seven years having passed since the introduction of the RDR rules, around just 5% of the money invested on advisor platforms was accounted for by investment trusts. Again, something is wrong when the best form of funds is being seconded by inferior instruments. Despite the best of intentions, there remain biases against trusts within the system.

It is therefore welcome news that the FCA launched in May 2019 its ‘Evaluation of the Retail Distribution Review and the Financial Advice Market Review’ which seeks feedback to assess how effective RDR has been in improving the distribution of financial services products to retail investors and establish a more effective retail investment market.

Ian Sayers, Chief Executive of the Association of Investment Companies (AIC) has said:

We welcome the FCA’s call for input in evaluating RDR The changes RDR put in place were a significant step in the right direction to improve financial advice to retail investors Purchases of investment companies by advisers and wealth managers on adviser platforms have increased five-fold since RDR, from £219m in 2012 to nearly a billion in 2018

However, there’s still more work to be done. The majority of advisors are not recommending investment companies to their clients despite investment companies’ many benefits We look forward to continuing to work with the FCA and contributing to the call for input

But perhaps the strongest evidence of any indifference shown towards investment trusts from both sides of the Channel relates to the introduction of the KID (Key Investor Document), which every trust has needed to produce in addition to its own literature. KIDs have been the product of EU regulation which attempts to help investors better understand what they are buying. This heavy-handed regulation is well-intentioned but misleading to the point of being dangerous.

It is misleading in assessing risk when comparing with unit trusts. The EU regulations use different methodologies when measuring risk to the point that investors could be led into believing investment trusts are less risky than unit trusts. It is generally accepted that, because of their particular characteristics, trusts are more volatile and therefore riskier in the short term but long-term investors are prepared to accept this because of better returns.

The KID is also misleading in relation to the projection of future returns, which are based simply on extrapolating recent returns. In a bull market, this will suggest higher returns – and vice versa. A recent AIC report suggested 42 KIDs were forecasting 20%+ annual returns in the ‘moderate’ performance category. Such returns require accepting a decent level of risk. If not stopped, it will encourage investors to ‘Buy high, sell low’, the exact opposite of what they should be doing.

One could go on. Other misleading comparisons include comparing trusts to similarly mandated ‘sister’ funds run by the same manager within the unit trust sector. No wonder the major trade organisations have expressed concern that these documents could cost investors dear. The AIC’s advice regarding KIDs is to ‘burn before reading’. The FCA initially seemed unwilling to intervene but relented by instigating a consultation (Call for input) in 2018.

It was therefore welcome that, in announcing its findings in March 2019, the FCA agreed that the summary risk indicators and performance scenarios in KIDs can indeed be misleading, and that the regulation could cause consumer harm. Its intention is to press the EU to think again. This is welcome but it will take time. The FCA needs to act promptly if investors are not to be misled into making ill-informed decisions.

Last year I met with Andrew Bailey, the then Chief Executive of the FCA, who readily agreed the KIDs regulations could then be misleading and detrimental to investors. However, its problem was that its hands are bound by EU regulations whilst the UK remains a member of the EU. The FCA fully understands that it has a duty to protect investors, given that it knows the regulation is flawed due to its own findings regarding consumer harm and the conclusion of others including the AIC.

The FCA has consulted its lawyers on the issue but promised to see what more it could do. The general consensus was that the EU had not been receptive to concerns expressed in various representations by the UK. The FCA would continue to lobby the EU to address these problems – investment trusts not being well understood or used on the continent.

The FCA also understands the need to be ready to replace or improve these regulations, and amend the guidance regarding the KIDs, once they become the responsibility of the UK upon our exit. The FCA acknowledged this point.

It was emphasised that time was of the essence. The FCA promised to work closely with the AIC and other bodies to explore options. Regulations set elsewhere are rarely an easy task.

I have also raised these issues with ministers (including the very capable John Glen MP, the Economic Secretary to the Treasury) both in Parliamentary committees and in private. The Government correctly says this is a role for the FCA to oversee. Yet Government also has a responsibility. If it wants people to take on greater responsibility for their financial futures, then they must be able to rely on the relevant information when making decisions. This information is ultimately its responsibility.

Time will tell whether these and other industry representations have the desired effect. Meanwhile, after a tsunami of complaints, the FCA has allowed trust boards to provide additional information if they believe their KID is misleading. This may just be an acceptable sticking plaster so long as a more fundamental reassessment of the necessity of KIDs is quickly undertaken. But this remains regulation born out of ignorance.

And the ugly – towards a better place

There is one further factor in this changing landscape. There is a growing realisation – in part driven by ageing demographics and poor finances – that the country’s population needs to do more for itself in financially preparing for later life. This comes at a time when there is an increasing awareness that globalisation has left large swathes of the population behind and that inequalities have widened. The two may become symbiotic as there is evidence to suggest better investing can help to reduce inequalities.

The pressure is on government finances, and this will not change for decades to come. The penny has dropped and various government initiatives abound. One example is the subtle yet significant changes to the inflation indexing of state pensions. Government work pension policies and allowing greater pension freedoms in later life are other examples. More effort to teach basic finance to school students is yet another.

In addition, people are finding it harder to access debt. The financial ‘system’ continues to be unsympathetic and this is likely to continue for some

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