Bargain Hunter: five investment trust discounts that look unjust

Bargains are not thick on the ground, but some highly regarded trusts can be picked up at an attractive price.

2021 has so far been a positive one for the investment trust industry in general, and for UK-focused trusts in particular, as the country slowly regains a semblance of normality.

Reflecting continuing enthusiasm among investors, the average share price discount to net asset value (NAV) for investment trusts has remained almost exclusively in the -5% to par range since the start of the year, and currently sits at -2.8%, so bargains are certainly not thick on the ground.

Nonetheless, there are a few parts of the market where highly regarded trusts can currently be picked up at a relatively attractive price.

The technology sector is one, having underperformed this year after covering itself in glory during 2020’s lockdown. “Since the news that vaccines were likely to be effective, value, commodities and other sectors and assets sensitive to the reopening of economies have outperformed,” explains Pascal Dowling of Kepler Partners.

The market rotation out of growth stocks has left one of the leading tech trusts, Allianz Technology Trust (LSE:ATT), trading on a discount of 5%, well below its 0.4% 12-month average, indicating such a discount is unusually wide compared to the past year.

However, while tech may be temporarily out of fashion, that widening discount does not reflect managerial failings. Simon Elliott, head of research at Winterflood, stresses the experience of manager Walter Price and his team, and their “willingness to back the next generation of technology companies that are not yet household names”.

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Dowling agrees. “The trust’s allocation remains underpinned by key secular trends, which will only accelerate post-pandemic. The technology sector is still likely to be a source of earnings growth and therefore share price growth over the long run, and a wide discount on ATT could represent an interesting long-term entry point.”

In the European sector, both analysts also pick out the concentrated, growth-focused European Opportunities Trust (LSE:JEO), currently trading on a discount of 13%.

Star manager Alexander Darwall’s high standing and the trust’s NAV were both impacted last year by the fallout from its large holding in collapsed German pay processor Wirecard, and NAV performance, like that of ATT, has since struggled to recover in the face of the market rotation from growth to value stocks.

However, as Dowling points out, Darwall has “an outstanding long-term record”, which arguably counts for more than the Wirecard fiasco in assessing the trust’s prospects.

“Alexander Darwall left Jupiter Fund Managers in 2019 to establish Devon Equity Management and the investment trust duly followed,” adds Elliott. “We suspect that he is very focused on rebuilding his reputation as one of the sector's leading stock pickers and, if he is successful, we would expect to see the trust's discount narrow.”

At Kepler Partners, analysts also see opportunities continuing in the private equity sector, and Dowling picks out NB Private Equity (LSE:NBPE) as his preferred choice.

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The trust’s performance during the first half of 2020 has been outstanding, with NAV gains of 32% over the past six months (to 24 May) against a sector average of 13%, according to Winterflood data. Yet it trades on a discount of 27%, the second widest in the sector.

This performance, Dowling says, “is illustrative of the manager’s investment selection, but also of private equity-backed companies’ ability to respond quickly to change”.

Dowling believes the current discount does not properly reflect NBPE’s prospects, given the strength of realisation activity among its holdings. Interestingly, he says, this is “not driven only by the top 15 companies in this increasingly mature portfolio. This gives hope that the momentum will continue, which should hopefully see valuations underpinned by realisation activity.”

Both Elliott and Dowling also suggest undervalued routes to play the UK smaller companies space.

Elliott sees this as a chance to pick up Standard Life UK Smaller Companies (LSE:SLS), run by the respected veteran Harry Nimmo and sitting on a 7.5% discount as of 24 May.

Nimmo has an impressive longer-term track record, based on “an investment process that seeks to identify growth indicators among UK small companies”. However, he has lagged sharp rallies in smaller companies historically, as these tend to be led by companies that have previously been de-rated.

That has been the case over the past six months, as cyclical companies have come into their own. SLS’s net asset value performance of 16% over that period is well below the sector average of 26%. 

Elliott adds that the trust's board has historically looked to defend discounts of more than 8%, providing investors with protection against further possible downside discount risk.

Dowling opts for Invesco Perpetual UK Smaller Companies (LSE:IPU). “It has experienced a savage de-rating: having traded on a premium to NAV in early 2020, it now trades on a discount of -9%.”  

But he argues that the fundamental attractions of the trust haven’t changed. The managers follow a strict investment discipline and stuck to it, despite the full market cycle that evolved over the past 12 months.

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They aim to invest in growth companies at a reasonable price, but also, when prices become unreasonable, to sell. Dowling describes the result as “a dynamic portfolio that, during 2020, took a barbell approach, with around 50% of the portfolio in solid, defensive, growth companies and 50% invested in companies exposed to a cyclical recovery”.

He suggests this may make it less vulnerable than its peers to swings in performance as a result of changes in investment style; and resilience is also strengthened by a yield of 2.9%. “Investors looking for a balanced way to take advantage of a UK recovery could well consider IPU,” he observes.