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Weekend reading: Investment trusts ought to tread carefully when talking about market setbacks

What caught my eye this week.

I was a little disappointed to hear (via DIY Investor UK [1]) the Chairman of City of London Investment Trust making vaguely fearful noises about the liquidity risks of Exchange Traded Funds (ETFs).

City of London has a very good story to tell – its charges are low, and it’s beaten the market over three, five, and ten-year periods. It doesn’t get much better for an active fund, really.

And to be fair, compared to some outlandish charges [2] you hear, the passive swipe made in its final results [3] is pretty innocuous:

It also remains to be seen whether passive funds such as Exchange Traded Funds provide sufficient liquidity in a bear market because they have not been tested in their current size.

By contrast, City of London’s gross assets now exceed £1.5 billion and its market capitalisation stands at just under that figure.

Our size means that we provide investors with a ready liquid market in our shares and our closed end status enables us to ride out market setbacks without being forced into selling sound investments at inopportune moments.

But while all that’s technically true, I don’t think issues about the size and structure of the ETF market are very relevant to investors in City of London.

Yes, the ETF market is far larger than it was a few years ago. And yes, during moments of dislocation, ETF liquidity can be interrupted [4].

However these interruptions have tended to be very brief – think minutes, not days. Most of the time only smaller ETFs investing in much less liquid [5] securities see any sustained mispricing. (I’d be cautious with so-called ‘liquid alt’ ETFs for that reason).

Moreover, as an active investor I see investment trust prices jumping around and spreads widening and shrinking all the time. Trading at a discount (or premium) [6] to underlying assets is pretty much a feature not a bug for investment trusts. Indeed during the last bear market, the discounts to net assets on income investment trusts soared – as I flagged up [7] at the time.

It’s true that the closed-ended nature of an investment trust means it does not need to sell underlying assets in a panic, which can be a benefit – especially if you want exposure to those less liquid assets where niche ETFs may struggle.

But the share price of the trust itself always fluctuates. And when the underlying market they invest in is in freefall – such as in a market crash – you can be pretty confident a growing discount will reflect that strain.1 [8]

Less knowledgeable investors who bought into reassuring words about the size and strength of a particular trust might be somewhat surprised if and when this happens. Especially as I am confident the biggest ETFs trading in the sort of liquid blue chip shares that big income trusts own will more or less function as normal and trade in line with assets for 99.9% of the time, even during a bear market.

Brief disruptions to ETF pricing may be a problem for some kinds of investors – say the hedge funds who use them in place of direct shareholdings to quickly shift their exposure to markets.

But most long-term private investors – exactly the sort who might favour investment trusts – would probably prefer the twice-a-decade 20-minute interruption to smooth pricing that an ETF might suffer over a persistent discount to the worth of their fund in a bear market.

I like the City of London Investment Trust – and not coincidentally my mum is a shareholder – but I’m not sure a fight with, say, a cheap and liquid ETF [9] like the iShares Core FTSE 100 ETF is one it wants to pick.

From Monevator

Our updated guide to help you find the best broker – Monevator [10]

From the archive-ator: You don’t have to go nuclear on work – Monevator [11]


Note: Some links are Google search results – in PC/desktop view these enable you to click through to read the piece without being a paid subscriber.2 [12]

London house prices fall for first time in eight years… – Guardian [13]

…and are a ‘high risk bubble’ claims UBS – ThisIsMoney [14]

Stamp duty receipts have soared 33% since ‘paralysing’ reforms – Telegraph [15]

Krugman: There is “zero chance” of Brexit being good for UK economy – Independent [16]

Carney gives strong hint of an imminent rate rise – ThisIsMoney [17]

Complaining on social media could leave you open to fraud – ThisIsMoney [18]

Why robot traders haven’t replaced all the humans at the NYSE, yet – Quartz [19]

Data showing how one Uber driver's earnings were hit by ban talk.

A London Uber driver’s day on the road mapped out [Search result]FT [20]

Products and services

Metro Bank’s new 1.95% one-year fixed savings rate is a table topper – ThisIsMoney [21]

Economy Energy has launched the cheapest tariff on the market – ThisIsMoney [22]

Forget pension freedoms, we want annuities again – Telegraph [23]

New Amazon smart home devices include the Echo Show and Echo Spot – Amazon [24]

P2P lender Zopa is et to reopen to new investors [Search result]FT [25]

Hargreaves Lansdown will pay £20-£500 cash back for transfers – Hargreaves Lansdown [26]

Not only do you get £10 off your first Thriva blood test kit with the following link, you can use the code SUM50 at checkout to get a further 50% deduction – Thriva [27]

Comment and opinion

Saving money and running backwards – Morgan Housel [28]

Has Neil Woodford lost it? – UK Value Investor [29]

Three slogans that don’t work for money managers, but should – Validea [30]

Active funds? What we really need are inactive ones – Evidence-based Investor [31]

Why the Equifax breach stings so bad – New York Times [32]

Market myths that hurt investors – Ben Carlson [33]

Nobody knows how this share trading A.I. is making money – Bloomberg [34]

Cryptocurrencies and blockchain investments [Wealth warning!]Wexboy [35]

New highs should be bought, not sold – The Irrelevant Investor [36]

3 challenging scenarios for value-quality investors – Clear Eyes Investing [37]

Reader case study: Self-employed and free – The Escape Artist [38]

What happens when Warren Buffett runs your pension plan – Bloomberg [39]

Skilled managers “should and actually do” hold fewer stocks – Institutional Investor [40]

What kind of asset is Bitcoin? [Data crunch]CXO Advisory [41]

Interest rates and factor premiums [Geeky]Alpha Architect [42]

Off our beat

Could we already ban the sale of petrol and diesel cars? – BBC [43]

Why Larry Summers is the economist everyone loves to hate [Podcast]Freakonomics [44]

From passion to profit: Turn your hobby into a business – Guardian [45]

A half dozen lessons about writing and getting a book published – 25iq [46]

Crotch Crescent, Titty Ho, and other hard-to-sell addresses – Telegraph [47]

And finally…

“Every morning Jared had to call his chaperone and tell him what he was working on that day. The only thing that made it different from preschool was that you got to carry a gun.”
– Nick Bilton, American Kingpin: Catching the Billion-Dollar Baron of the Dark Web [48]

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  1. Presuming there’s no discount control mechanism in place – and that the trust retains sufficient financial flexibility to use it as the crash continues. [ [51]]
  2. Note some articles can only be accessed through the search results if you’re using PC/desktop view (from mobile/tablet view they bring up the firewall/subscription page). To circumvent, switch your mobile browser to use the desktop view. On Chrome for Android: press the menu button followed by “Request Desktop Site”. [ [52]]