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Train sets for grown-ups [Members]
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Thanks for the thoughts. I was a recent shareholder in BBGI and sad to see it go. I also own some HICL.
Most of the dividend paid by HICL is now an interest payment, and the balance a dividend. I think once upon a time it was all/mostly dividend. The tax treatment of each is different, and particularly so if held in a corporate. Do you have any insight as to how the split is driven, and what it may be in future? Thanks.
@Daz — Cheers! Yes it still pays between 70-80% as an interest payment most quarters I believe. I know changes are driven by shifting portfolio mix and some non-operational stuff, but I don’t recall that they’ve ever given shareholders any visibility as to how to predict it. Probably because it is not predictable, especially given the portfolio shuffling of late.
I did have a section planned on this but as the word count approached 6,000 words (!) a lot got chopped. Also I presumed most readers like me would nowadays own a high yielder like HICL in an ISA or SIPP. Perhaps I should have flagged it in a quick line though.
Incidentally (everyone!) this post was meant to be scheduled for last Thursday but real-life events took over and I couldn’t do my last checks to get it posted. (Maybe I should be less precious about typos etc, and just get it posted?) With hindsight I probably should have left it until this upcoming Thursday and incorporated at least a quote from today’s new update (link in short update at bottom of post and below) but fortunately I don’t think anything material has changed, except for the welcome new £100m buyback announcement:
https://www.londonstockexchange.com/news-article/HICL/interim-statement-and-capital-allocation-update/16921045
@all — Hmm, looks like I have finally written enough to word-count everyone into submission!
Will try for shorter (as usual) next time. It’s difficult to know where to pitch things — I could lose a lot of the ‘explainer’ stuff and tilt up the opinion/judgement part, but I do feel the explainer bit is a nice bridge for Monevator content.
The big advantage of being shorter would be turnaround. I could usually get the posts written in 2-3 days if they were say 2000-3000 words, which would mean less price/announcement risk in the meantime!
I did have a question but was holding back to give others a chance.
So my question is rather obvious but I think important and relates both to the Mavens/Moguls Part 1 and this Moguls only Part 2.
So I have to ask:
You’ve very eloquently and persuasively set out a powerful and persuasive case for infrastructure ITs generally and HICL as a particular solid example in the sector. FWIW I agree with your analysis for the reasons you’ve very cogently set out.
But you then go on to conclude at the end of Part 2, unexpectedly for me, by stating that: “I wouldn’t go crazy loading up on infrastructure, even in deaccumulation mode. But I do think a 5-10% allocation on today’s discounts makes sense”.
That seems quite low compared with:
– the strength of your reasoning about infra (and the evidence you cite),
– the ‘crocodile jaws’ gap which has opened up since 2021-22 between premiums pre-covid and discounts today (even as NAVs have advanced), and
– the relative attraction of an inflation coupled (0.7 correlation for HICL for example) high yield (7.5% there) which is backed by real assets and actual legal contracts applying for a long horizon (nearly 30 years weighted average).
Compare that (as one has to, as an investor, because ultimately capital allocation is all about choices between different asset types, sectors and securities) to a US large cap earnings yield of less (significantly so) than the 10 year T Bill (or 10 year Gilt) and a quite plausibly negative prospective US large cap ERP.
In those circumstances, I’m trying to understand how you get to 5% to 10% (and are opting towards the lower end of that range yourself)?
@London Yank went (IIRC) for 15% when the discount gap appeared in 2022-23 and I think – if I’ve understood correctly from the comments here – has since upped this to 20%.
Frankly infra seems so compelling compared with the alternatives that I’d been thinking directionally similar.
So why the caution on your part in your conclusion?
It’s not a challenge to your conclusion, but rather a real query, and not least because (before that idiot Trump threw a tariff wrench on the currently 50% of the portfolio in the US) the difference between your preference for just 5% in infra and @London Yank’s 20% would be an extra £170k moved in the ISA and SIPP out of XSPX ETF (now down over 7% in £Stg since it’s ATH after the Nov election) and a Russell 2000 tracker (the less said about that particular investment the better) and into UK infra trusts.
It seems you’ve made a stronger argument for UK infra than say BHMG or PSH; and it’s not like the sector is cheap relatively but then has an inherent issue, like not paying yield/divi/interest (the problem with commodo and gold, at the end of the day, even following @TA’s excellent pieces on the same).
So the degree confidence in the infra IT sector, and also the conviction to allocate really meaningfully to it, are really important to understand.
Are you able, therefore, to elaborate on your thinking here with your 5% to 10% range?
@Delta Hedge — Thanks for the thoughts. And yes, given that Trump has actually gone ahead with the biggest US trade tariffs since the 1930s, I am definitely looking at the top-end of that range at the moment. I bought more HICL this morning, for example, and I suspect that £100m share buyback will help in the medium-term, plus its update yesterday really underwrites my own analysis. (Of course my analysis is based on its numbers, so if it’s wrong or misleading…) And I’ve added to INPP. I might look again at the renewables, too, though one of my two current holdings, TRIG, is not making it easy to return to the hot stove
As for why not more, well, it’s always possible I will do more. As I always stress my portfolio is a movable feast!
But I do think 10% is pretty chunky, especially for any sort of long-term hold (as opposed to a shorter-term trading/tactical position).
Remember this 10% has to come out of equities, really, so in a 60/40 you’re taking it from your 60% risk assets. So 16% going to infrastructure, say, if that’s your allocation.
Downside does appear capped from a NAV perspective — we’ve seen it can run wild from a discount perspective but as I belaboured above I think the worst move there from 30% premiums to nearly the same as a discount must be done.
However upside is also capped, barring a short-term closing of the discount which is always possible but has yet to happen with these trusts outside of takeovers (BBGI).
Ignoring the discount closing and you’re not going to get much more than 10% p.a (and HICL can get 11% on buybacks). That’s obviously good versus historical equity returns, if we presume lower risk, and with a big payout coming as a dividend it should hopefully be a smoother too.
But without wishing to stoke expectations etc, it is less than I’ve achieved historically and it’s at a time when plenty else (e.g. UK small cap, or indeed to a lesser extent UK investment trusts more generally) also seem to offer plenty of distressed value too.
Investing is always a comparison game. You can’t look at anything in isolation. This is why I always stress members do their research and think about their own investing and their own portfolios, not just follow my lead if I say I like something for my portfolio.
This bigger picture thinking is what I’m trying to get across with Moguls (and your question is helpful in prompting this reply, to that end
)
For some readers more than 10% may be very appropriate. Some readers should own none.
Finally these trusts are not risk-free at all, even on these discounts and with BBGI taken out for par. There are untested issues about lifecycle risk of PPP contracts, for example. There is the fact they can’t really raise new cheap equity at these valuations, and that was a big part of the biz model for the past 20 years. And the government/public sector partnership landscape is utterly different now for HICL compared to when it launched.
All those are risks, and they are pretty idiosyncratic to a sector which would only sum (guess) £10bn or so totted up. Barely a fifth of a Diageo.
Few investors will be well-served by a career making very large concentrated bets. If a particular member is one of the few then they certainly will — that’s maths.
But I prefer to stay humble. I’ve seen too many good things go wrong over the years!
I’ve made a couple of small ish buys of discounted trusts the last few months, but HL not letting me buy certain trusts is not ideal (though perhaps them not letting me buy TRIG has been a blessing, for now at least).
Renewables trusts seem attractive to me (I bought some ORIT), not just for the discounts but also because I figure AI is likely to drive energy demand. Perhaps I could express that via an energy producers ETF but the discounts on renewables ITs seem like a nice margin of safety.
Re article length, having seen the lenght I waited until I had some time to read it, but still read it all.
@DH. My take is that you need to be more careful with how much weight you attach to the discount to NAV with infrastructure trusts. For a more vanilla equity or bond trusts, you can see the components, you know the price in real time. You could short each component in the correct weight and effectively isolate the discount (though there are questions are how you fund and margin those shorts). Nonetheless, it’s hard for the NAV to be very wrong. The discount is more easily defined.
With an infrastructure trust, the assets are harder to value and less liquid. Moreover, they are somewhat like very long-duration bonds, and as a result their “equity duration” is long. A small change in the assumed discount rate will move the NPV by a substantial amount. Effectively that discount rate has to have components that are a function of govt bond yields, credit spreads, equity risk but also needs a “risk premia” factor above that to take account of the lower liquidity, opaqueness and the higher return volatility.
I’m not implying that the NAVs are wrong or overestimated. I’m just saying that a 1-2% total perturbation of some of the discount factors could move the NAV 15-30% When the market sees the risk skew toward yields lower, then infrastructure trades toward the top of the “error bars”, when it sees yields as skewed, we trade at the lower end.
This is not to imply that these trusts are not genuinely undervalued. If you like infrastructure then this is clearly a great time to buy.
A very useful and much appreciated analysis @ZX. Thank you
I’ve been meaning for a while to start to move to something less aggressive than my current allocations of 50% US (via XSPX & RTWP ETFs) / 50% RoW equities (with a notable overweight to RoW SCV and EM) as I head into my fifties.
Time is no longer on my side and the annual ISA and SIPP contributions don’t move dial like they did and I’m not benefiting so much overall from investing fresh capital when equities tumble lots, as most recently in 2020 and 2022.
I’d already before these last two Mogul articles been planning on moving to (using 1.2x leverage, so 120%): 6% infra ITs; 6% commodities; 6% gold; 6% RoW SCV; 6% BHMG; 6% in misc (inc non commercial REITs and EM); 24% long duration TIPS; and using WGEC ETF (1.5x levered 60% DM equity & 40% high qual glob gov bnds) to add 36% in DM equity; and 24% glob bnds. Rescaled to 100%; that’d be 40% bonds, 35% ord equities and 25% alternative potential diversifiers (inc 5% for infra).
But these last 2 pieces have me thinking about upping infra share 3x or 4x, from 5% to 15% or 20%, and reducing the TIPS element from 24% to either 9% or 14%.
Perhaps I’d be running different duration risks to similar effect with a long TIPS ETF and with infra ITs?
Rate hikes hit the long TIPS as the higher yielding new debt issues from the US gov reduce the valuations of the existing ones in the secondary market; and rate rises hit infra due to both the increased discount rate on (and the increased uncertainty about) future income streams, as well as by exacerbating risks around future funding costs for replacement projects.
Or am I missing something here and they’re not comparable risks at all?
Having typed that out, I now realise that what I’d actually be doing here would be reducing TIPS allocation from 24/120 (20%) to either 6/120 (5%) or to 12/120 (10%). Obvious error on my part and my apologies for any confusion caused with the reference to 9% and 14% above.
This looks very tempting, but I might hold off till the new tax year so the fund can be put in a new ISA/SIPP.
I know you don’t have a crystal ball, but anything obvious going on in the market I should be aware if I were to wait a month till then?
So I read this, inwardly digest, prepare to press the button to add to my existing holding, and I find that HICL is down 3.5% this morning. Is this (a) a special cheapo sale deal, like a 2for1 at Tesco; (b) something’s going on that I am ignorant about or (c) the Curse of Monevator?
…..think I’ve answered my own question: it’s (d) stock has today gone XD. Concentrate, boy!
AOL.
BBGI is also ex div today. 4.2p
The buy out price also gets revised down by the dividend.
@Christopher — Sorry for the delay, I’m on a mini break this week I presume HICL is moving up and down partly with the wider Trumpy volatility we’ve seen this week. With that said, it did spike a couple of percent on Monday with the update and confirmation of the share buyback (and market moving Monevator post?!
) so perhaps it’s settling back from that?
The mechanism for bothering the price re: Trump etc is that bond yields have been rising, more than the equity volatility I’d suggest. All equal higher bond yields will be negative for HICL.
Some of these trusts are illiquid enough that the buyback activity itself seems to boost prices a bit in the very short term (just buy adding to today’s demand I mean, not on any long term fundamentals).
Sorry no good answers in there, but tbh 3.5% isn’t a crazy move for a somewhat obscure and unloved stock like HICL, even with the chunky market cap.
Personally I tend to buy in stages when I’m worried about this sort of thing. So an half and then another half (or in thirds) some time later. And in six months it’s usually all forgotten anyway!
@Christopher — Just had a chance to check in properly on stock prices etc mid mini-break — also note HICL went ex dividend this week, to the tune of 2p
AlphaArchitect/Larry Swedroe today on infra as an asset class:
https://alphaarchitect.com/infrastructure-investments/
It’s a bit of a tangent to infrastructure but KKR’s bid for Assura today is interesting, to my mind it is further support for the basic thesis around seeking out defensive income plays amongst discounted trusts, healthcare real estate in Assura’s case but the principle, I think, is comparable. To the extent you can buy into defensive 7-10% dividend yields with an embedded call option on discount narrowing or takeovers it seems compelling risk reward
@Aol — Agreed. Assura has done even better given that this was a revised bid. It must be up 20%+ since the start of the year.
I’ve held Primary Health Properties occasionally over the years, bailing after a small-ish loss on my last stint as it tracked bonds down and worries grew about the debt. To my mind it’s always looked a more attractive company to me than Assura, albeit with a bit of idiosyncratic key man risk with leadership. Perhaps I should take another look.
But yes, I’m of a similar mind re: alternatives in general (and trusts in general) hence my larking around in these waters so much over the past 18 months. Do have to watch debt though.
Popping my head above the parapet to say “Hello”!
I’m relocating back to the UK from Switzerland this summer, and will have some significant liquidity to invest when home… foreign pension funds cashed out.
HICL / other infra / structured credit ITs are all on the list to generate significant income which can then be recycled into ISAs, this topic is very timely for me
Waking up to a 30% increase to water bill as authorised by Ofwat in order to pay for upgrades to water infrastructure.
Does this mean more or less risk, and more or less opportunities, for infrastructure ITs (and then which infra ITs, if so), both in relation to this and other ‘public goods’ type privatised sectors facing similar bill rises?
If the regulators are forcing through the increases to pay for the ‘improvements’ (I will believe in them when I see the actual results), then surely some companies somewhere have to benefit from it commercially?
It can’t all be a lose-lose surely?