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Trust Insider: thin pickings in deep discounts

Trust Insider: thin pickings in deep discounts

Recently I have been wondering what to buy for my personal portfolio. Although the market is a little off its highs, we have had such a good run over the past two or three years that I think it is getting harder to find many funds that look especially cheap.

I started off by looking down the list of the worst performers so far this year, in the hope of spotting a fund that might be oversold. The list is headed (unfortunately, as I already own some!) by International Oil & Gas (down 57%).

I thought this company, which focuses on new technology in the oil and gas sector, was a great idea when it launched, but the fund has been hamstrung by a falling out between the principals within the management company.

Not only is the fund overshadowed by litigation brought by the former manager, but there have also been disappointments in the portfolio. As is often the case with venture funds, some of the companies had technology that initially looked very promising but they could not translate this into profitable businesses.

The bulk of the net asset value, estimated by the company at $3.81, is accounted for by just one company – Strata Energy Services – and that is “working with its primary lender to resolve covenant issues” after adverse weather in Canada affected its 2013 trading.

The litigation should, hopefully, be drawing to a conclusion and there is a chance that Strata will rebound in 2014; this will give a better picture of the true net asset value. International Oil & Gas is in realisation mode so I am hanging on in the hope that the 69% discount on the fund closes. I do not think I will be buying more however.

Indian set-up

Next on the list is Infrastructure India (-45%). The fund is trading at an 84% discount, but its board is not independent. A company related to the manager owns a majority of the shares and the manager’s contract runs until 2020. Its latest news was that it was borrowing $8 million from an affiliate of the manager at a 15% interest rate to shore up its Vikram logistics business (loans Vikram had taken out previously were starting to amortise; this should have been met by cashflows from the project but it is behind schedule).

Reconstruction Capital II (-36%) is also borrowing money from its manager – it is seeking to issue a convertible to repay this. In February, the fund took a big hit when it wrote down the value of one of its largest investments, East Point Holdings, to zero. It now trades on a 60%+ discount.

Political strife

Eastern Europe is out of favour at the moment – partly owing to events in Ukraine, and partly because of the political situation in Turkey – and I may have a look at some of these funds over the next couple of weeks. JP Morgan Russian falls into this group; it has fallen by 18% so far this year, but I think we are some time away from investors piling back into Russia.

Another way of identifying cheap funds is to look at discount z scores – measures of how cheap a fund is in discount terms relative to its average discount. On that basis, Ground Rents Income looks attractive – but it has just moved from a high premium (over 10%) to a lower one (around 1.5%) so I do not think that justifies piling in.

Better Capital 2012 has moved to a small discount (4%) from trading at a premium. I have talked about the Better Capital funds in the past. Better Capital 2009 and Better Capital 2012 were the darlings of the private equity sector and traded at significant premiums to asset value. In April 2012, the last time I wrote about them, I questioned the rating on the two funds but conceded that at that point the performance looked good.

Somehow, the 2009 pool had seemed to have dodged the J curve associated with most private equity funds. It turned out, though, that there were a couple of bad apples in the portfolio after all. The net asset values as at end March 2014 should be released within a couple of weeks. At the moment, I am not convinced these funds are cheap enough to buy.

Looking at wide discounts, most seem to be associated with excessive leverage. Invesco Property Income still has a negative net asset value, Asian Growth Properties superficially looks very attractive, because it is trading on an 85% discount with little leverage, but has almost no free float – making it uninvestable. Infrastructure India I have mentioned above (notionally it is on an 84% discount but the net asset value dates from September 2013).

Invista European Real Estate (82% discount) falls squarely into the excessive leverage category but it is interesting because, after much angst, it has managed to renegotiate its debt; borrowing €220 million for three years from an affiliate of Blackstone.

The new terms are not especially attractive for shareholders; the interest rate is 770 basis points over Libor, which will mean the lender gets most of the fund’s returns for now. However, Invista European is selling off its property – it says it has €50 million under offer. If it can get its outstanding balance down to €135 million and the loan to value falls below 70%, the interest rate will fall to 470 basis points over Libor and, in theory, Invista European might be in a position to start paying dividends again.

So, in conclusion, nothing much stood out as a must buy on these measures but I think it might be worth having a closer look at Eastern Europe.

James Carthew is a director at Marten & Co

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