Investment trust
Encyclopedia
An Investment trust is a form of collective investment found mostly in the United Kingdom
. Investment trusts are closed-end fund
s and are constituted as public limited companies.
The name is somewhat misleading, given that (according to law) an investment "trust" is not in fact a "trust" in the legal sense at all, but a separate legal person or a company. This matters for the fiduciary duties owed by the trustees and the equitable ownership of the fund's assets.
comprising only non-executive director
s. However in recent years this has started to change, especially with the emergence of both private equity groups and commercial property trusts both of which sometimes use investment trusts as a holding vehicle.
Investment trust shares are traded on stock exchanges, like those of other public companies. The share price
does not always reflect the underlying value of the share portfolio held by the investment trust. In such cases, the investment trust is referred to as trading at a discount (or premium) to NAV (net asset value
).
The investment trust sector, in particular split capital investment trusts, suffered somewhat from around 2000 to 2003 after which creation of a compensation scheme resolved some problems.
One of the key differences between an investment trust and a unit trust
, is that an investment trust manager is legally allowed to borrow capital to purchase shares. This leverage
may increase investment gains but also increases investor risk.
, started in 1868 "to give the investor of moderate means the same advantages as the large capitalists in diminishing the risk of spreading the investment over a number of stocks".
Every Split Capital Trust will have at least two classes of share:
In order of (typical) priority and increasing risk
The type of share invested in is ranked in a predetermined order of priority, which becomes important when the trust reaches its wind-up date. If the Split has acquired any debt, debentures or loan stock, then this is paid out first, before any shareholders. Next in line to be repaid are Zero Dividend Preference shares, followed by any Income shares and then Capital. Although this order of priority is the most common way shares are paid out at the wind-up date, it may alter slightly from trust to trust.
Splits may also issue Packaged Units combining certain classes of share, usually reflecting the share classes in the trust usually in the same ratio. This makes them essentially the same investment as an ordinary share in a conventional Investment Trust.
recognised by the Financial Services Authority
. They must distribute at least 90% of their income.
An approved investment trust must
The company must not hold more than 15% of its investments in any single company (except another investment trust); must not be empowered to distribute capital gains as dividends to shareholders, and must not be a close company.
United Kingdom
The United Kingdom of Great Britain and Northern IrelandIn the United Kingdom and Dependencies, other languages have been officially recognised as legitimate autochthonous languages under the European Charter for Regional or Minority Languages...
. Investment trusts are closed-end fund
Closed-end fund
A closed-end fund is a collective investment scheme with a limited number of shares. It is called a closed-end fund because new shares are rarely issued once the fund has launched, and because shares are not normally redeemable for cash or securities until the fund liquidates.Typically an...
s and are constituted as public limited companies.
The name is somewhat misleading, given that (according to law) an investment "trust" is not in fact a "trust" in the legal sense at all, but a separate legal person or a company. This matters for the fiduciary duties owed by the trustees and the equitable ownership of the fund's assets.
Organization
Investors' money is pooled together from the sale of a fixed number of shares which a trust issues when it launches. The board will typically delegate responsibility to a professional fund manager to invest in the stocks and shares of a wide range of companies (more than most people could practically invest in themselves). The investment trust often has no employees, only a board of directorsBoard of directors
A board of directors is a body of elected or appointed members who jointly oversee the activities of a company or organization. Other names include board of governors, board of managers, board of regents, board of trustees, and board of visitors...
comprising only non-executive director
Non-executive director
A non-executive director or outside director is a member of the board of directors of a company who does not form part of the executive management team. He or she is not an employee of the company or affiliated with it in any other way...
s. However in recent years this has started to change, especially with the emergence of both private equity groups and commercial property trusts both of which sometimes use investment trusts as a holding vehicle.
Investment trust shares are traded on stock exchanges, like those of other public companies. The share price
Share price
A share price is the price of a single share of a number of saleable stocks of a company. Once the stock is purchased, the owner becomes a shareholder of the company that issued the share.-Behavior of share prices:...
does not always reflect the underlying value of the share portfolio held by the investment trust. In such cases, the investment trust is referred to as trading at a discount (or premium) to NAV (net asset value
Net asset value
Net asset value is a term used to describe the value of an entity's assets less the value of its liabilities. The term is most commonly used in relation to open-ended or mutual funds because shares of such funds registered with the U.S. Securities and Exchange Commission are redeemed at their net...
).
The investment trust sector, in particular split capital investment trusts, suffered somewhat from around 2000 to 2003 after which creation of a compensation scheme resolved some problems.
One of the key differences between an investment trust and a unit trust
Unit trust
A unit trust is a form of collective investment constituted under a trust deed.Found in Australia, Ireland, the Isle of Man, Jersey, New Zealand, South Africa, Singapore, Malaysia and the UK, unit trusts offer access to a wide range of securities....
, is that an investment trust manager is legally allowed to borrow capital to purchase shares. This leverage
Leverage (finance)
In finance, leverage is a general term for any technique to multiply gains and losses. Common ways to attain leverage are borrowing money, buying fixed assets and using derivatives. Important examples are:* A public corporation may leverage its equity by borrowing money...
may increase investment gains but also increases investor risk.
History
The first investment trust was the Foreign & Colonial Investment TrustForeign & Colonial Investment Trust
Foreign & Colonial Investment Trust is a publicly-traded investment trust. It is listed on the London Stock Exchange and is a constituent of the FTSE 250 Index.-History:...
, started in 1868 "to give the investor of moderate means the same advantages as the large capitalists in diminishing the risk of spreading the investment over a number of stocks".
Split Capital Investment Trusts
"Traditional" investment trusts normally issue only one type of share (ordinary shares) and have a limited life. Split Capital Investment Trusts (Splits) have a more complicated structure. Splits issue different classes of share to give the investor a choice of shares to match their needs. Most Splits have a limited life determined at launch known as the wind-up date. Typically the life of a Split Capital Trust is five to ten years.Every Split Capital Trust will have at least two classes of share:
In order of (typical) priority and increasing risk
- Zero Dividend Preference shares: no dividends, only capital growth at a pre-established redemption price (assuming sufficient assets)
- Income shares: entitled to most (or all) of the income generated from the assets of a trust until the wind-up date, with some capital protection
- Annuity Income shares: very high and rising yield, but virtually no capital protection
- Ordinary Income shares (AKA Income & Residual Capital shares): a high income and a share of the remaining assets of the trust after prior ranking shares
- Capital shares: entitled most (or all) of the remaining assets after prior ranking share classes have been paid; very high risk
The type of share invested in is ranked in a predetermined order of priority, which becomes important when the trust reaches its wind-up date. If the Split has acquired any debt, debentures or loan stock, then this is paid out first, before any shareholders. Next in line to be repaid are Zero Dividend Preference shares, followed by any Income shares and then Capital. Although this order of priority is the most common way shares are paid out at the wind-up date, it may alter slightly from trust to trust.
Splits may also issue Packaged Units combining certain classes of share, usually reflecting the share classes in the trust usually in the same ratio. This makes them essentially the same investment as an ordinary share in a conventional Investment Trust.
Real estate investment trusts
In the United Kingdom, REITs are constituted as investment trusts. They must be UK resident and publicly listed on a stock exchangeStock exchange
A stock exchange is an entity that provides services for stock brokers and traders to trade stocks, bonds, and other securities. Stock exchanges also provide facilities for issue and redemption of securities and other financial instruments, and capital events including the payment of income and...
recognised by the Financial Services Authority
Financial Services Authority
The Financial Services Authority is a quasi-judicial body responsible for the regulation of the financial services industry in the United Kingdom. Its board is appointed by the Treasury and the organisation is structured as a company limited by guarantee and owned by the UK government. Its main...
. They must distribute at least 90% of their income.
Taxation
Provided that it is approved by HM Revenue & Customs, an investment trust is taxed in the normal way on its investment income, but its capital gains are not taxed. This avoids the double taxation which would otherwise arise when shareholders sell their shares in the investment trust and are taxed on their gains.An approved investment trust must
- be resident in the United Kingdom
- derive most of its income from investments
- distribute at least 85% of its investment income as dividends (unless prohibited by company law)
The company must not hold more than 15% of its investments in any single company (except another investment trust); must not be empowered to distribute capital gains as dividends to shareholders, and must not be a close company.
See also
- Closed-end fundClosed-end fundA closed-end fund is a collective investment scheme with a limited number of shares. It is called a closed-end fund because new shares are rarely issued once the fund has launched, and because shares are not normally redeemable for cash or securities until the fund liquidates.Typically an...
- Income trustIncome trustAn income trust is an investment that may hold equities, debt instruments, royalty interests or real properties. The trust can receive interest, royalty or lease payments from an operating entity carrying on a business, as well as dividends and a return of capital.The main attraction of income...
- Real estate investment trustReal estate investment trustA real estate investment trust or REIT is a tax designation for a corporate entity investing in real estate. The purpose of this designation is to reduce or eliminate corporate tax. In return, REITs are required to distribute 90% of their taxable income into the hands of investors...
- Venture Capital TrustVenture Capital TrustA venture capital trust or VCT is a highly tax efficient UK closed-end collective investment scheme designed to provide private equity capital for small expanding companies and capital gains for investors...
- Investment companyInvestment companyAn investment company is a company whose main business is holding securities of other companies purely for investment purposes. The investment company invests money on behalf of its shareholders who in turn share in the profits and losses....