Page 16 - DIY Investor Magazine | Issue 39

QD VIEW: IS THERE AN EASY FIX TO THE SECTOR’S DISCOUNT PROBLEM?
Nov 2023 16
DIY Investor Magazine ·
Over the past 18 months or so, share price discounts to NAV on a wide variety of investment companies have widened considerably. Higher interest rates are one factor in this but there are other factors at play, including one serious issue that dates back to 2013 – by James Carthew
There is a long, complicated, and rather technical history to this 10-year issue. In summary, various factors are combining to lock funds of funds, wealth managers, IFAs, pension funds and now – in some cases – even private investors out of investment companies.
The main problem boils down to the presentation of costs. In a world where we are repeatedly reminded that past performance is no guide to the future and that attempting to forecast short- term market moves is a mug’s game, one of the few things
that investors can latch onto is how much will this investment cost me? The problem is that the way that costs are disclosed on investment companies is not the same as for open-ended UCITS funds.
Back in 2013, the EU implemented a piece of legislation – the Alternative Investment Fund Managers Directive (AIFMD). It was designed to bring in some investor protection for investors in things like hedge funds.
Here in the UK, a decision was made to ‘gold plate’ the legislation by bringing investment companies within its scope, designating them as Alternative Investment Funds (AIFs). No other EU member did this and we did not have to.
Then another piece of EU legislation – MiFID II – introduced in 2018, set out rules around how funds including AIFs should disclose their charges.
This required them to aggregate all of the costs that impact on the value of an investment, which results in one number, the total cost figure and this is input into a system used by all professional investors.
‘THE MAIN PROBLEM BOILS DOWN TO THE PRESENTATION OF COSTS’
That number includes the cost of running the fund, plus – if it holds other funds – the cost of running those funds too.
One big problem for the investment companies’ industry was that UCITS open-ended funds did not have to do this cost aggregation as UCITS funds were covered by a separate set of rules.
So immediately, a whole raft of investment companies looked more expensive than equivalent open-ended funds. We were promised that PRIIPs rule changes would bring UCITS funds into line in January 2023. However, this did not happen, as PRIIPs is to be scrapped.
That weighed on the sector for a long time, but a move last year by the open-ended fund industry to get their members to fall into line – ahead of a planned rule change that has since been scrapped – has actually made things worse. Suddenly those open-ended funds of funds that are complying with the request are looking much more expensive to run.
They have been shrinking and switching out of funds, including investment companies, into ‘normal’ companies where they can. There is a clear illogicality to this. There are quite a few funds that do very similar things to ‘normal’ companies.
For example, The Renewables Infrastructure Group holds a diversified portfolio of onshore and offshore wind, solar and energy storage projects.