Why are investment trusts ideal for ISA savers

For more than 150 years, the investment trust sector has thrived, surviving wars, financial crises, epidemics and demonstrating a remarkable ability to evolve and remain relevant. UK investment trust assets now stand at £270 billion today¹. Many factors have driven the sector’s growth, but the role of the Individual Savings Account (ISA) should not be underestimated.

Capital at risk. The value of investments and the income from them can fall as well as rise and are not guaranteed. Investors may not get back the amount originally invested.

The democratisation of UK investment

Originally introduced in 1986 as the Personal Equity Plan (PEP),² the aim was to encourage the “democratisation” of investment, by offering a tax-efficient avenue into the stock market to a broader range of savers. The amount investors can shelter from the tax authorities has increased over the years, but has remained at £20,000 per person since 2017.³

There is little doubt that the ISA has been a tremendous success in fulfilling its original objectives. In total, more than 22 million people currently use the ISA wrapper to help build their long-term wealth.⁴

What makes investment trusts an attractive option for ISA investors?

The ISA’s role in democratising investment in the UK has helped catalyse the significant growth we have seen from the investment trust industry. BlackRock manages nine investment trusts focused on specific market niches and, for more than 30 years, has been helping investors access their distinct advantages which are described below. For these reasons, we believe investment trusts can work well for ISA investors.

Independent governance

One of the key benefits of the investment trust structure is the presence of an independent board of directors. The board acts as a robust and effective governance and risk management system, overseeing the trust’s investment strategy and ensuring alignment with its stated objectives. In turn, this helps to promote transparency, accountability and underpins investor confidence. All investment trusts charge a fee for managing the assets. It is the board’s responsibility to negotiate that fee with the investment manager.

Liquidity and ease of access

Investment trusts are listed on the stock market, which provides a simple and liquid route for buying and selling their shares, via online trading platforms or through an independent financial adviser. A listing also provides visibility and credibility, which help to ensure the continued attractiveness and relevance of investment trusts to the modern ISA investor.

Gearing can enhance returns

Investment trusts can also borrow to increase the amount of assets that are available for investment. This amplifies the potential return available by providing additional capital to invest in the underlying assets. This allows investors to benefit from increased exposure to rising markets over the long term, but exposes them more to potential price declines in the short term. The level of borrowing, or “gearing” as it is known, is set by the board, which helps to ensure that it remains sensible in the context of a trust’s mandate and objective.

Income advantages

Investment trusts have the ability to reserve income from their underlying holdings when times are good, and pay them out when times are tougher. Investment trusts can also pay income from capital growth. This is designed to smooth the return to investors and provide a more consistent dividend stream. Within an ISA, this dividend can be reinvested or paid out tax-free.

Opportunity to buy at a discount

As ‘closed-ended funds’, investment trusts have a finite number of shares in issue. Supply and demand are balanced by the stock market through movements in the share price. This can often move away from a trust’s net asset value (NAV), which means investors can sometimes find investment trusts at a discount, when the share price is trading below NAV.

Investment trust discounts recently at widest levels since the financial crisis

This last point is particularly valid in the current environment, because investment trust discounts have been much wider than usual.⁵ Recent analysis from The Association of Investment Companies (AIC) demonstrates that investing when investment trust discounts have been this wide could lead to higher returns.⁶ Obviously, we need to remember that past performance is not a guide to the future, but this suggests that undervalued opportunities can potentially be found by astute ISA investors.

This is particularly true for UK investments, which have been out of favour. Investment trust ISAs are a good way to back British businesses. The UK equity market has had a difficult run, but it has left many UK-listed businesses trading at a meaningful discount to similar companies that are listed elsewhere. This represents a real opportunity should the situation normalise. The ISA tax wrapper continues to evolve. From the start, it has been a highly suitable home for investment trusts and that continues to be the case today. Investment trusts are as relevant as they ever have been, including for ISA investors.