Will the IPO boom in LICs continue?
If the Ashes are any guide, LIC investors may be onto a winner should more companies follow Magellan's lead.
The Year of the Rooster has been the year of new listings for listed investment companies (LICs), with debutants such as Magellan Global Trust (ASX: MGG) adding to the increasing number of LICs on the Australian bourse. Will the trend continue in 2018?
October's IPO by global equities fund MGG, which raised $1.55 billion, has capped off a year of strong growth in LIC listings. Other large raisings have included VGI Partners Global Investments (ASX: VG1) and MCP Master Income Trust (ASX: MXT), which both raised more than $500 million.
Overall, LICs enjoyed the strongest percentage growth in the number of listings in the year to October, rising by 19 per cent to a record 105. The market capitalisation of such LICs increased by nearly 25 per cent to $37 billion, putting them ahead of exchange-traded products on $33 billion, according to ASX data.
Morningstar's Michael Malseed, senior analyst, manager research, attributes the surging interest in LICs to investors wanting to access professionally managed funds via the stock exchange, instead of more traditional investment platforms.
"The trends in LICs are similar to what's being seen in the exchange-traded fund and exchange-traded managed fund markets," he said.
LICs have been particularly popular among self-managed super fund investors seeking direct access to fund managers, with the benefit of predictable dividend streams, simpler tax treatment, and potential capital growth.
There has also been an increasing number of boutique fund managers, as seen in December's listing of Spheria Emerging Companies (ASX: SEC), which raised $150 million with a focus on actively managed Australian and New Zealand small and micro companies.
Performance premium
While performance has varied by manager and investment strategy, Malseed said one feature of the current market is the number of LICs trading at a premium to their net tangible asset (NTA) backing.
This can be attributed to a number of reasons, including management, investment performance, dividend payments, and effective marketing and communications that raise an LIC's profile.
For Magellan, the group's reported $20 million deal to secure naming rights for the Ashes and other home cricket tests was attributed to its desire to raise brand awareness in an "attractive demographic".
Asked whether the LIC IPO boom would continue into 2018, Malseed suggested it could ease slightly, depending on market conditions.
"Given the large amount of capital raised in 2017, we may see a pause in early 2018 as the market takes time to digest the recent raisings. However, as long as equity market conditions remain buoyant, there is certain to be more managers looking to tap into investor demand and raise new capital," he said.
He noted that the LIC market has historically been "highly cyclical," with more IPOs occurring during favourable conditions when LICs can sustain prices close to their NTA or at premiums, compared to weaker markets when prices can trade at "sizeable" discounts to NTA.
Evaluating LICs
For investors looking to dip their toes into the sector, Malseed said Morningstar generally favoured traditional LIC managers, which are "low-fee, low-turnover, and focussed on delivering sustainable, franked dividends to investors".
"Our two highest rated LICs are large-cap-focussed Australian Foundation Investment Company (ASX: AFI) and small-cap manager Mirrabooka Investments (ASX: MIR), which both earn a 'Silver' rating. Both have been managed well, delivered good outcomes for investors, and have very attractive fee structures," he said.
When evaluating LIC IPOs, Malseed said Morningstar's "five Ps" of people, process, parent, performance, and price were key, along with liquidity.
"As a listed vehicle, it's important for LICs to be of sufficient size or market capitalisation to help them trade in a rational manner. The potential for a LIC to trade at a discount or premium to NTA is an additional risk that investors bear with this product structure. It should be noted, though, that even if a LIC is large, there is no guarantee a discount won't emerge during times of market stress," he said.
"Investors should also pay close attention to the costs of any IPO, and who is paying for them. Many LICs deduct listing costs from the proceeds of the raising, which means your investment is immediately worth 1 to 3 per cent less than what you paid for on day one.
"One positive feature of the MGG IPO was that the parent company, Magellan Financial Group, paid for all costs and incentives related to the offer. We considered this a positive development, which we would hope to see more of in future."
If the Ashes are any guide, LIC investors may be onto a winner should more companies follow Magellan's lead.
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Anthony Fensom is a Morningstar contributor. This is a financial news article to be used for non-commercial purposes and is not intended to provide financial advice of any kind. Opinions expressed herein are subject to change without notice and may differ or be contrary to the opinions or recommendations of Morningstar as a result of using different assumptions and criteria. The author does not have an interest in the securities disclosed in this report.
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