In an investing world increasingly dominated by exchange-traded funds (ETFs), it can be easy to forget about good old listed investment companies (LICs) and listed investment trusts (LITs). Yet, unlike ETFs, LICs and LITs have been around in Australia for a long time — about 95 years in fact.
Perhaps it’s this wealth of experience that has led to LITs and LICs holding up well in 2020 so far, a year that has seen its fair share of sharemarket turmoil and volatility.
According to the Listed Investment Companies and Trusts Association (LICAT), the sector’s market capitalisation has dropped just 2% over 2019-20. That compares favourably with a 10.9% drop in the market capitalisation of the S&P/ASX 200 Index (ASX: XJO) over the same period.
The advantages of the LIC, LIT structures
Unlike an ETF, LICs and LITs are usually ‘closed-ended’. That means that there is a finite number of shares issued under each structure. ETFs, by comparison, are normally ‘open-ended’. That means new shares are issued every time a buyer makes an investment (and cancelled when the units are sold).
As such, the value of the shares of a LIT or LIC can depart from the ‘true value’ of the assets that it might hold. This can give LIC or LIT investors an advantage over ETF investors.
Let’s look at an LIC as an example: WAM Global Ltd (ASX: WGB). As of 31 July, WAM Global reports it has $501.6 million in assets within the company. That works out to be worth $2.33 per share. Yet today, WAM Global shares are trading for just $2.07. That means a potential investor is only being asked to pay $2.07 for every $2.33 in assets. You are effectively getting a 12.5% discount on those assets compared to buying the underlying holdings yourself. Or buying dollar bills for 87.5 cents each, as Warren Buffett might say.
What about dividends?
An LIC (although not an LIT) also has another built-in advantage. It can ‘store’ dividend payments in reserve to smooth out income payments to its shareholders in tough times. In contrast, ETFs and LITs are trust structures. That means they are legally compelled to pay out all income to their beneficiaries every year. The LICAT released quotes from Geoff Driver, General Manager of one of the ASX’s oldest LICs, Australian Foundation Investment Co. Ltd (ASX: AFI) in this respect:
During the (COVID market crash) period, AFIC continued to adjust the portfolio and took advantage of the decline in share prices to increase holdings in companies in which it wanted to own more. This included participation in the recent deeply discounted capital raisings that have occurred… Drawing upon reserves, the final dividend was maintained despite the fall in income. We think this speaks to the strength of the LIC structure in more difficult times, particularly for AFIC which has a long history”
The chairman of LICAT, Angus Gluskie, echoes these sentiments:
The efficiency and stability of their closed-end structure coupled with the corporate governance disciplines of ASX listing have proven to be far more durable than many other investment structures.
Foolish takeaway
ETFs might be all the rage with investors in today’s investing landscape But I think that LICs and LITs shouldn’t be overlooked. They offer many advantages to managed funds and ETFs. As the data shows, they can be great investments to hold in times of market turmoil.
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Motley Fool contributor Sebastian Bowen owns shares of WAMGLOBAL FPO. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.
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