Charges are a bugbear for investors and trying to calculate costs when performance fees come into the picture can be even more of a headache.
Investment trusts steered clear of performance fees for many years but today almost half of all trusts charge for returns above a particular benchmark.
The industry standard for calculating ongoing charges on trusts has been set by the Association of Investment Companies (AIC) and includes management charges, directors’ fees and administration costs. It also calculates the fee based on the trust’s net asset value (NAV) with its debt, or gearing, at fair value.
However, performance fees are not included in the ongoing charge which can be confusing as there are a wide range of performance fees using different benchmarks to calculate whether the fee is due or not.
10 trusts with highest ongoing charges
|Investment Trust||Ongoing Charges %|
|British & American||2.66|
|Aberdeen Smaller Companies High Income||1.81|
|UK Select Trust||1.62|
|Diverse Income Trust||1.52|
|BlackRock Income & Growth||1.49|
|Troy Income & Growth||1.4|
|Value and Income||1.35|
|Montanaro UK Smaller Companies||1.34|
Most expensive investment trusts investing in the UK
In seeking out the most expensive trusts in the UK we selected all trusts from the UK Growth, Growth & Income, High Income and Smaller Companies AIC sectors and looked at their ongoing charges. All performance figures have been supplied by Morningstar and are shown after ongoing charges, which are calculated according to AIC guidelines. The average ongoing charge on trusts in these UK sectors is 1.1%.
British & American, an investment trust that invests in other trusts, is the most expensive with an ongoing charge of 2.66%, although it has no performance fees. The trust sits in the High Income sector and with a yield of 10% has attracted a great deal of investor interest which has pushed the share price 33% above the net asset value (NAV) of its investment holdings.
After charges British & American has generated a toal return of 11% for its shareholders over the past five years. This is below the High Income sector average of 15%.
Richard Scott, manager of the Phoenix Hawksmoor Vanburgh fund, which also invests in funds and investment trusts, says a 'fund of fund' approach can be expensive. He explains: ‘The management fee on British & American isn’t huge but it’s all the additional fees that create the high charge.
‘It’s also a sad fact of life that the cost of being an investment trust continues to rise as costs and the payment of non-executive directors gets more expensive,’ Scott adds.
In second place is Crystal Amber, a Guernsey-based investment company that takes an active approach to the small number of outside the FTSE 100 in which it invests. Crystal Amber is an unsual fund in that it is prepared to seek a seat on the board of business with which it is engaged. Currently its largest holding is TT Electronics, which accounts for 20% of its assets. It has ongoing charges of 2.62%, not far behind British & American.
Unfortunately, investors are not seeing much of a return on their money. Over the past three yeas the smaller companies fund has delivered a negative total return of -15% compared to its benchmark, the FTSE Small Cap excluding investment trusts index, which has produced total returns of 19%.
Iain Scouller, head of Oriel investment funds team, says: ‘Crystal Amber is an activist fund and they have been involved in a few interesting situations over the past few years. Because they’re activist they’ll say we get a higher fee because we’re more proactive than lot of managers who are index hugging or just putting together conventional portfolios.
‘It’s quite esoteric and a bit of a hybrid compared to most mainstream investment funds and it’s listed on AIM [Alternative Investment Market]. It has a concentrated portfolio and they’re the sort of people who will get involved in boards so they’re doing a different job to mainstream equity.’
Aurora, managed by James Barstow, comes in third place with ongoing charges of 1.91%. It’s in the UK Growth sector and is invested in shares and bonds. The trust has also lost shareholders 15% of their money in the past five years, way behind the FTSE All Share's postive total return of 10%.
Small trusts come out as most expensive
The three most expensive investment trusts are all small trusts which have underperformed their rivals or benchmark. British & American has £26.5 million of investors' money under management; Crystal Amber has £67.3 million; and Aurora £25 million.
Scott adds: ‘Size is not a reason to charge more but it does have an impact and these are all small trusts. To spread their fixed costs across a small base can lead to quite high charges.’
Highest charging trusts with performance fees
|Investment Trust||Ongoing Charge including performance fees %|
|Invesco Perpetual Select UK Equity||2.17|
|Montanaro UK Smaller Companies||1.93|
|Henderson High Income||1.92|
|Value and Income||1.84|
|Schroder UK Mid Cap||1.43|
|Dunedin Smaller Companies||1.39|
|Invesco Perpetual UK Smaller Companies||1.2|
|Perpetual Income & Growth||1.15|
Given the number of trusts which have performance fees we have also looked at the most expensive trusts when these charges are included.
But caution should be taken in looking at the figures as only trusts which charged a performance fee in the past year have been included and there may be many other trusts with performance fees, which if charged could appear in the top ten. In this case the reason they won’t appear here is because they have not met their performance targets in the past year.
For example, if Crystal Amber beat its performance hurdle and charged a performance fee it may be at the top of this table. However, as the trust did not earn a performance fee in 2011 it doesn’t feature in the above table.
Throgmorton trust has highest performance fee
The most expensive trust when performance fees are included is Throgmorton, which has a poor short-term performance but has beat its benchmark over the longer term. Shareholders in the smaller companies trust have reaped a total return of 37% over the past five years, ahead of the HG Smaller Companies (excluding investment trusts) index which has generated a total return of 29%.
The performance charges on the trust are complicated and in 2011 Blackrock, which manages the trust was entitled to 12.5% of any NAV outperformance of the benchmark HG Smaller Companies plus AIM excluding investment companies index. This meant shareholders could pay performance fees when the trust is losing money if the benchmark falls. For the year ending November 2011 the trust charged a performance fee of £1.8 million.
Although the trust changed its performance fee for 2012 and capped it at 3.5% of net asset value (NAV), managers can still make money when the trust is losing money and can roll over excess outperformance to future years.
The performance fee was flagged up by analysts at Oriel Securities earlier this year as a negative aspect of the trust.
Scouller adds: ‘Throgmorton has an unusual fee structure and quite a lot of it has to do with its use of CFDs [contracts for difference]. It’s high compared to its peer group but the rationale is because they’re running it in a hedge fund type way and historically hedge funds have had higher fees than long only trusts, that’s the justification for it. I think they would argue that the CFD position has been adding value and they did bring the performance fee down but it’s still high.’
One reason for Value & Income's high charges may be its gearing (or borrowing) as the trust has expensive debt with an interest rate of 11% a year.
Scott explains: ‘Gearing can make the charges on your debt seem a lot higher and Value & Income has 11% debt which is fixed until it redeems in January 2021 so they have nine more years to pay 11% on that debt.
‘The logic behind the trust is they have a portfolio of properties so at the time they took out the loans they could buy investment properties yielding far above the cost of their debt but interest rates having come down to record lows and the coupons they’re paying look really high relative to current interest rates.’
Are performance fees worth it?
A number of other investment trusts, including the Invesco Perpetual Select UK Equity and Perpetual Income & Growth trusts run by Mark Barnett, appear in the top ten when performance fees are included. But the most expensive trusts including performance fees are still lower than those with the highest ongoing charges.
The debate on whether performance fees are justified is a grey area and some would argue certain investment trusts aren’t expensive when put in the context of the returns they generate.
Scouller says: ‘You can have an outperformance fee if you are delivering for shareholders but the problem is if the fee is kicking in and you’re not getting much return.
‘The question is have they performed ahead of the benchmark significantly? If they have delivered shareholders might be quite happy to pay the fee but people aren’t keen to pay high fees when you’re only getting performance in line with the benchmark or a bit below the benchmark.’
Unfortunately some performance fee structures can mean shareholders pay performance fees, even when they are losing money and it’s important to look at performance fees in your trust’s annual report.
But performance fees don’t deter all investors. Scott adds: ‘Charges are one factor and they can be a make-or-break factor on occasion but there are times when it can be justified if you’re buying a really good manager in an asset class that looks very interesting.’