Investor demand for LICs on the rise
The trend for managers to absorb listing costs, and a crackdown on financial adviser product-pushing are combining to increase the appeal of listed investment companies and listed investment trusts.
Investor demand for listed investment companies (LICs) and listed investment trusts (LITs) continues to rise, with 181 as at 30 April 2018. This number is up from 157 in April last year, with the category's market capitalisation up 23 per cent to $39.4 billion.
Last year was a big year for initial public offerings, with 13 new listings, the largest of which was Magellan Global Trust, which raised $1.5 billion. IPOs raised $3.7bn from LICs and LITs, with a further $1.2bn raised via secondary market raisings, according to the Bell Potter Listed Investment Companies Update for the December quarter of 2017.
This year's largest listing is the L1 Capital Long Short Fund, which was heavily oversubscribed and raised $1.33 billion in April.
"That showed significant demand for the LIC and absolute-return style investment. Initially the manager had hoped to raise $600 million, but due to significant demand, the size of the raising was increased to $1.33 billion," says Michael Malseed, Morningstar senior analyst, manager research.
He notes the main investment trends for LICs are global equities investment and long-short style investment strategies, "which have been raising a significant amount of funds." Absolute return LICs can make money when markets fall by shorting assets, as well as deliver a return when markets are rising.
The L1 Capital IPO highlights a trend of investment managers absorbing listing costs, rather than passing them on to investors. Historically, the cost of an IPO was 2 to 3 per cent of a company's assets, which was transferred to shareholders at listing. But now, investment managers are absorbing these costs.
The is true of the WAM Global IPO, which is open and aiming to raise $550 million ahead of a June listing, and the Magellan Global Trust IPO. The managers of Spheria Emerging Companies and VGI Partners Global Investments also absorbed IPO issue costs.
"In all these IPOs, the listing costs are being absorbed by the management company, though the mechanism by which each is doing this is slightly different, of which investors should be aware. But it's a positive trend," says Malseed.
This has helped to raise the popularity of LICs among investors. According to a paper from broking house, Bell Potter "LICs no longer have to offer options as an IPO sweetener".
It notes several LICs came to market without an option attached, "removing the overhang that is cast around LICs close to option expiry". The report's authors anticipate interest will continue to build, tipping larger capital raisings that are likely to exceed $500 million.
The removal of financial planner commissions for the sale of managed funds has also added to the appeal of LICs, with managed funds not being sold as aggressively by advisers.
In addition, many LICs offer a grossed-up yield higher than the forward yield on the ASX/S&P 200, which is about 5.6 per cent. The ever-growing self-managed superannuation sector is also pushing up demand for LICs, chasing liquid income sources.
LICs are like managed funds in that they are actively managed and similar fees. But they are listed, so investors can simply buy or sell existing shares on the ASX. LICs are closed-ended so they do not regularly issue new shares or cancel existing ones. This means they are not forced to sell assets to meet the withdrawal demands of investors.
In addition, there is no requirement for LICs to be fully invested at all times, unlike many managed funds. As a result, LICs can hold high levels of cash to hedge portfolios at appropriate times, according to LIC manager NAOS Asset Management.
They are differ from exchange traded managed funds (ETMFs) in that units in the latter trade near net tangible asset (NTA) value, as a market maker ensures pricing efficiency against the fund’s assets. Conversely, LICs may trade below or above their NTA, depending on demand for shares in the underlying product.
However, Morningstar's Malseed cautions that demand for LICs is highly cyclical. "Managers have been capitalising on buoyant conditions to launch new funds, but demand can just as quickly dry up.
"History has shown that LICs can trade at a meaningful discount to their net asset value during market downturns, which is an additional risk investors must consider," he says.
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Nicki Bourlioufas is a contributor for Morningstar Australia.
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