Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 94

Capital management techniques in LICs

In the last five years, the Australian Listed Investment Company (LIC) sector has grown at a rapid pace to reach a market capitalisation of over $26 billion. The last year alone saw 15 new LIC offerings and total capital raised touching $1.5 billion. LICs continue to be a popular investment choice for investors on the hunt for dividends in an environment where other asset classes have been struggling to provide similar levels of yield.

In October 2014, I wrote an article about why LICs trade at premiums or discounts to net tangible assets (NTA). In the last three years, the overall LIC sector discount to NTA has narrowed significantly, driven by many factors, including the increased popularity of LICs following the introduction of the FOFA (Future of Financial Advice) reforms and the proliferation of SMSFs. There still remains a small part of the sector trading at a discount to their NTAs, and as a result, we have seen the number of capital management initiatives increase compared to previous years.

Two key techniques to narrow the discount

  1. Share buy backs

Share buy backs have had mixed success rates over recent decades. While the technique has worked quickly and effectively for some in narrowing the discount to NTA, it has not been the case for others who have seen their buy back programmes prolonged with no or little narrowing and leading to eventual abandonment of the initiative.

Focusing on more recent times, given the proliferation of LICs in the last few years, uncovers some examples.

Hunter Hall Global Value (ASX: HHV) announced on 27 November 2014 a share buy-back of up to 10% of issued capital. At the date of the announcement, HHV traded at a 9% discount to NTA and had been trading at a discount for the last few years, averaging 16% in the last three years. Five weeks later, the discount to NTA had narrowed to 4%, despite the fact that the company had not started implementing its buy back mechanism. In this case, announcing the buy back on its own seemed to have the desired effect.

Premium Investors (formerly listed on the ASX under the code PRV), a LIC part of the Treasury Group, traded at a discount of 15-25% for many years. It had various buy backs of up to 10% of stock under way over some years, which didn’t narrow the discount to NTA to the Board’s satisfaction. In August 2012, it announced a buy back of up to 75% of stock, citing the discount to NTA over a prolonged period as the main driver. This particular LIC was sub-scale with around $86 million of funds under management and had a sporadic history of paying dividends. WAM Capital Limited merged with Premium Investors on a NTA for NTA basis in December 2012.

  1. Dividend policies

Newer but more established LICs trading at a discount to NTA have been providing shareholders with a formal dividend policy and more forward-looking dividend payment information.

In October 2012, two LICs which are part of Perth-based financial services group Euroz Limited, Westoz Investment Company (ASX: WIC) and Ozgrowth Limited (ASX: OZG), announced the payout of a minimum of 50% of realised profits each year and provided dividend guidance for the following two years. Before the announcement, Westoz was trading at a discount to NTA of 36% and Ozgrowth at 34%. This compares to a much narrower discount at the time of writing of 2% at Westoz and 4% at Ozgrowth.

As mentioned, one of the key drivers of the proliferation of the LIC sector is the chase for fully franked dividends and LICs are now becoming more open in providing dividend policies and guidance, which in my opinion will help narrow the discount to NTA.

Funds may liquidate if discounts persist

In the past decade in Australia, we have seen various LICs either wind up or be taken over in M&A transactions, where the discount to NTA has persisted over protracted time periods. The largest incidence of note was Ellerston GEMS Fund which listed in July 2007. It had a proven track record, a strong investment team, a flexible mandate and raised $600 million in the listing. Just over a year later, and despite a strong outperformance of the fund versus the market during the GFC, the discount to NTA widened to a hefty 24%. The company announced that redemption facilities would be put in place for shareholders to realise NTA over a three-year period and that the LIC would be delisted from the ASX. It delisted in November 2011.

Souls Private Equity Limited was a LIC focused, as the name suggests, on the private equity space. In September 2011, parent company, Soul Pattinson (ASX: SOL), made a takeover bid at NTA for the company, which was trading at a 60% discount to NTA prior to the announcement.

Strong demand for LICs but some discounts persist

Even though we are in a ‘golden decade’ for LICs in Australia, some LICs, particularly the smaller ones, continue to trade at a discount to NTA. More recently issued new LICs which are examples of this include NAOS Emerging Opportunities Company Limited (ASX: NCC), trading at a 12% discount to NTA and Acorn Capital Investment Fund Limited (ASX: ACQ), trading at a 15% discount to NTA at time of writing.

Other factors that we consider to be determinants of trading at a premium or discount to NTA are the liquidity of the stock, the level of marketing by the company or by the contracted investment manager and general levels of shareholder engagement such as direct presentations to shareholders, media exposure and other marketing related activities.

No single method always works

While buy backs have had mixed levels of success in narrowing the discount to NTA, there is no clear evidence that it enhances the share price relative to NTA. In more recent times, some LICs have been providing more dividend guidance and there is evidence to suggest that this has worked for those able to follow this route.

 

Chris Stott is Chief Investment Officer at Wilson Asset Management. His views are general in nature and readers should seek their own professional advice before making any financial decisions. Wilson Asset Management is a major manager of LICs.

RELATED ARTICLES

International LICs can have a fully franked future

Managing LIC discounts and premiums

The merits of investing in LICs at a discount

banner

Most viewed in recent weeks

Who's next? Discounts on LICs force managers to pivot

The boards and managers of six high-profile LICs, frustrated by their shares trading at large discounts to asset value, have embarked on radical strategies to fix the problems. Will they work?

Four simple things to do right now

Markets have recovered in the last six months but most investors remain nervous about the economic outlook. Morningstar analysts provide four quick tips on how to navigate this uncertainty.

Three retirement checks for when you have enough

Not every retiree needs to gun for higher returns, but a conservative portfolio can court its own risks, especially with bond rates so low. But some retirees prefer to settle for a lower income.

How the age pension helps retirees cope with losses

It's often overlooked how wealthier couples can fall back on the age pension if a market loss hits their portfolio. The reassurance is never greater than in a financial (and now epidemic) crisis.

Have stock markets become a giant Ponzi scheme?

A global financial casino has been created where investors ignore realistic valuations in the low growth, high-risk environment. At some point, analysis of fundamental value will be rewarded.

Interview Series: Why it’s gold’s time to shine

With gold now on the radar of individual investors, SMSFs and institutions, here's what you need to know about the choices between gold bars, gold ETFs and even gold miners, with Jordan Eliseo. 

Latest Updates

Weekly Editorial

Welcome to Firstlinks Edition 377

The most significant change in asset allocation by Australian investors in recent years has been the move into global equities. It's been a canny trade for those who focussed on the US, especially great companies such as Apple, Microsoft, Amazon and Google. International equities experienced net inflows into ETFs of $722 million in August 2020 versus only $181 million for Australian equities. 

  • 30 September 2020
Superannuation

The elusive 12%: is superannuation at a turning point?

Such is the concern among unions and Labor about Government plans to undermine superannuation that an 'Emergency Summit' was called this week, and pioneer Bill Kelty evoked a social commitment.

Interviews

My lessons from five decades of investing

As she retires after 47 years of investing, Claudia Huntington explains the art rather than the science of the trade, the value of a great leader and culture, and the insights she gives to new colleagues.

SMSF strategies

The impact of our marriage breakdown on our SMSF

Even if a marriage ends amicably, there are complications when partners share an SMSF. You can't simply 'split' the assets on a handshake, and who takes the capital gains and what's the impact on an estate?

Investment strategies

The future is always clearest once it is in the past

It's one of those times when a case can be made that the market is expensive on some measures, but reasonable on others. Better to do what the great companies do: instead of guessing the future, they create it.

Investment strategies

Emerging markets: Should I stay or should I go?

For long-term investors, the most important factor driving returns is the price paid to acquire a stock. Emerging Markets stocks exhibit favourable valuations on both an absolute and relative basis.

Superannuation

20k now or 50k later? What’s driving decisions to withdraw super?

The amount of retirement savings withdrawn under the Superannuation Early Release Scheme has surprised many. This comprehensive survey of thousands of members of Cbus explains their motivations.

Economy

The surprising resilience of residential housing and retail

With a pandemic, a recession and high unemployment, there's every reason to expect residential property and retail sales to be collapsing. But data shows both are resilient, so what is happening?

Sponsors

Alliances

© 2020 Morningstar, Inc. All rights reserved.

Disclaimer
The data, research and opinions provided here are for information purposes; are not an offer to buy or sell a security; and are not warranted to be correct, complete or accurate. Morningstar, its affiliates, and third party content providers are not responsible for any investment decisions, damages or losses resulting from, or related to, the data and analyses or their use.
Any general advice or class service prepared by Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892) and/or Morningstar Research Ltd, subsidiaries of Morningstar, Inc, has been prepared by without reference to your objectives, financial situation or needs. Refer to our Financial Services Guide (FSG) for more information. You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser. Articles are current as at date of publication.
This website contains information and opinions provided by third parties. Inclusion of this information does not necessarily represent Morningstar’s positions, strategies or opinions and should not be considered an endorsement by Morningstar.