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Carthew: the fliers and flops of the trust class of 2017

Carthew: the fliers and flops of the trust class of 2017

It has been a fairly busy year for new issues and we still might see a few more make it over the finish line before Christmas.

Property, in various forms, has been popular but we have also seen a handful of new equity orientated funds launched. One of these is Jupiter Emerging & Frontier Income; we have just published a note on it.

The fund raised £90 million and has continued to expand. Another, Aberforth Split Level Income, was a rollover of an existing fund; and Downing Strategic Micro-Cap I have written about already. The smallest of these issues was ScotGems, which launched in June.

Brought to you by Stewart Investors and managed by Ashish Swarup, ScotGems is a global smaller companies fund. It defines small cap as anything with a market cap less than $2.5 billion. It is aiming to provide long-term capital growth and Swarup stresses that preserving investors’ capital is as important as growing it.

ScotGems raised capital at £1. Stewart Investors agreed to cap the issue expenses at 1% of the gross proceeds and so ScotGems started life with a net asset value of 99p.

Today (close of business on 30 November) the NAV is 96.3p, which is unfortunate, given the emphasis on capital preservation. The share price has been really weak recently. As I write it is languishing close to 90.5p, a 6% discount, although it seems to have just spiked out and so it might not be as wide as this by the time you read this article.

Stewart Investors also agreed to cap the ongoing charges at 1.5% which is great but still leaves it quite a bit more costly than its closest peers, F&C Global Smaller Companies and Edinburgh Worldwide (0.61% and 0.92% respectively).

You can never extrapolate from short-term performance but I am surprised as to how ScotGems’ NAV has fallen by 2.7p over its short life. The teething troubles are a little unnerving as – according to the latest factsheet, which has data as at the end of September 2017 – it still had 76% of its assets in cash at that date. By contrast, the peer group reported modest but positive (3%/4%) NAV performance.

ScotGems is trying to build a concentrated portfolio of 20-30 stocks with a maximum position size of 15%. It can go anywhere in the world and there are no restrictions on geographic or sector weightings.

In practice though, it says that Asia Pacific (ex Japan) and emerging markets will be favoured because they offer superior long-term growth prospects. The process emphasises stock selection and benchmark weights are not taken into account.

The other defining characteristic of the portfolio is the focus on choosing companies ‘controlled and run by responsible stewards and effective management’.

What this means in practice is that it wants companies with good corporate governance; management teams that they like and trust; and a track record of treating customers, employees and suppliers fairly. This conservative style of investing is common to other funds managed by the group, including Pacific Assets.

Pacific Assets is a fund I hold. It has a decent long-term track record, but over the past year, its performance has been trailing most of the funds in its peer group. A widening discount has also been unhelpful.

In Asia, the technology sector has been driving stock markets and, since growth forecasts in China have perked up, investors have become less risk averse. This market does not seem to be suiting the stewardship focused approach. When markets turn, their relative performance might improve.

I think this ‘risk-on’ environment is affecting ScotGems too. The investment process stresses the importance of not overpaying for investments and it could be that the rapidly rising market is putting it off committing capital.

Stewart Investors is a long-term investor with a three to five-year time horizon and an absolute return mindset. It is unlikely to feel pressured to get the issue proceeds invested in a hurry. The prospectus actually gives it a year from the issue date to reach full investment.

There is a presumption amongst many investors that open-ended funds are better vehicles for funds focused on equity investments. I disagree. The great beauty of the closed-end fund structure is that it gives the manager the ability to take a genuinely long-term view. It also makes it easier to hold smaller, more illiquid companies.

As I said above, it is way too early to draw any conclusions from ScotGems early performance, although some explanation for the recent weak NAV would be useful.

In the medium term, the biggest challenge ScotGems faces is probably its small size (the F&C fund has a market cap of £800 million, for Edinburgh Worldwide the figure is £346 million).

The cap on ongoing charges helps but I would like ScotGems to be more on the front foot about controlling its discount and, down the line, look for ways to expand. Buybacks are not much help for a fund of this size. Its best bet might be to focus on how it communicates with potential investors.

James Carthew is a director of Marten & Co, and the company's head of investment trust research

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Ashish Swarup
Ashish Swarup
157/175 in Equity - Asia Pacific Excluding Japan (Performance over 1 year) Average Total Return: 4.44%
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