By Keiron Root
By Keiron Root
19 July 2000
Warrants and Value Investment Trust, run by Scottish Value Management, is the only investment trust in the UK focusing on a portfolio of warrants.
They work in a similar way to options and are linked to individual shares. A warrant confers on the holder the right, but not the obligation, to buy shares at a fixed price on a specific date, or during a specified period, after which the warrant expires.
There is a stable of trusts at Scottish Value, a company set up in 1990 to manage funds in line with the principles of "value investing". The trust's manager, Donald Robertson, was involved at the start of the company, with the firm's founders, Colin McLean and Margaret Lawson, and has managed the trust since its launch in 1993. The rationale behind the trust is to allow investors access to the warrant market while lessening the risks of investing in individual warrants.
"Since warrants are a wasting asset, it is important to mitigate against asset losses and we do this by imposing a rigid stop-loss policy," says Mr Robertson. "The drawback of such a defensive stance is that, when you do get a very positive move up in the equity market, you tend not to participate fully in all of the gain.
"We don't worry necessarily if a warrant heads down, if it still has a reasonable amount of time to expiry, but unless we can see an immediate improvement in its market, we will exit a warrant position when it only has six months to run.
"Warrants are the opposite of equity investments, where the assumption is that they will gain in value over time. With a warrant, you have to assume they lose value as the exercise date approaches."
But warrants do offer considerable potential profits, since they enable investors to buy shares at a fixed price. If the share price rises significantly above the exercise price, large instant gains will be made. This is the "intrinsic value". They are also highly geared investments - any movement in their prices, up or down, is magnified in terms of the profit (or loss) to the investor.
Mr Robertson says: "I started at Ivory & Sime in 1982 as a junior member of the administration staff. I moved on to doing venture capital and ended up running a couple of funds."
He sees his venture capital training as important for his current fund, since the key part of establishing the intrinsic value of a warrant is assessing the prospects for its underlying share. "It was a good grounding looking at companies as companies, and not just as investments," he says.
Warrants & Value initially concentrated on warrants issued by other investment trust companies. "We didn't have to look elsewhere because there were lots of opportunities in that sector. In the subsequent retrenchment of the sector we had problems. Since warrants are a decaying asset, in a downward cycle they can destroy a portfolio.
"So, at the end of 1994, we looked to widen the net to more buoyant sectors and markets, and we had BTR, Westland Helicopters and Belgian and Indian government bonds. By the end of 1995, we were down to about two-thirds investment trusts, one-third other issues. The investment trust portion has continued to come down, and the split is about fifty-fifty.
"The year 1993 and the early part of 1994 were good times for investors and the fund went up 50 per cent in its first six months. During t hat period, you didn't have to be particularly good at investing, you just put your money into the market and watched it grow. Since then, market conditions have been more difficult.
"One-third of all of the warrant issues around in 1993 have expired worthless. Within our portfolio, the figure is about 10 per cent. Avoiding the disasters is almost as important as picking those issues that are going to give an uplift."
Mr Robertson says he focuses on intrinsic values. "Maybe by doing this we are not getting into the highly geared issues, but we are also not paying through the nose for that potential uplift. For warrants with a high level of gearing, you are often paying a premium of 10 to 15 per cent, which means your investment has to rise that much before you start to see a profit."
Warrants & Value has a global investment brief. Mr Robertson says: "The fund tends to be underweight in America, because we have roughly one-third of the portfolio in what we would class as proxies to America, ie Latin America and the Far East. Because of their link to the dollar, they are very much geared plays on the US. We have one-third in Europe, one-sixth in the UK and the remainder in what we class as defensive investments.
"We have been criticised for not going for all-out growth, but I don't think our shareholders really want a white-knuckle ride. If that's what they were after, they would invest in the underlying warrants themselves."