Why the VCTs love the credit crunch

Small firms are turning to venture capitalist trusts, says Rob Griffin. Should you?

Volatile stock markets and the damaging effects of the credit crunch may be worrying investors around the world, but the economic conditions are good news for one particular group of people: venture capitalist trust (VCT) managers.

As the tightening of lending criteria makes it more difficult for businesses to attract funding, VCTs have been provided with a golden opportunity to take advantage, says Ben Yearsley, an investment manager at Hargreaves Lansdown. "The banks have shut up shop so small businesses looking to expand or acquire now have to approach VCT managers," he says. "In the absence of other sources of funding, VCTs have all the bargaining chips and can drive better deals."

Considering that the global economic outlook remains uncertain, the future appears very bright for VCTs, which were introduced by the Government in 1995 as a way to encourage investment in smaller, unquoted companies by providing generous tax breaks.

VCTs are listed on the London Stock Exchange and have to be approved by HM Revenue & Customs, which lays down strict limits governing the amounts being invested and the assets that can be purchased.

Although the regulations have changed over the past 13 years, VCT investors still benefit from a 30 per cent income-tax rebate on new issues, which must be held for five years. If sold before this date, then the rebate is lost. In addition, there is no capital gains tax liability – even if the VCT shares are subsequently sold for a handsome profit.

There are downsides, however. The charges levied for these products are higher than most other types of investment. Initial charges, for example, are typically 5 per cent, with ongoing costs weighing in between 2.5 and 3.5 per cent.

They also tend to be higher risk – by virtue of the fact that they invest in small, younger companies in fast-growing sectors – and the lack of a vibrant secondary market for these shares can make them harder to sell.

As well as investing in companies not quoted on a stock market, VCTs can invest in those on the Alternative Investment Market, which caters for growing firms. Since its launch in 1995, AIM has seen more than 2,500 companies join, and £34bn raised.

Rival VCTs have differed enormously in their performances, according to statistics compiled by Martin Churchill of the Tax Efficient Review website (taxefficientreview.com). "The star performers are turning in high single-digit, low double-digit annual rates of return, 8-11 per cent," he says. "Unfortunately, there are some that have suffered, usually from falls in the AIM market, which are heavily underwater."

For example, one of the best performing VCTs of the past decade is the Baronsmead fund, which has delivered an annual return of more than 6 per cent. One of its big hits was investing in the Fat Face clothing chain. The Foresight 3 VCT (previously known as Advent), however, has lost an average of 7.58 per cent a year since lanch.

"VCTs have generally performed very well for people," says Churchill. "If you're making 8 per cent per annum without the tax break, you are probably looking at doubling that rate of return when you bring it into the equation."

There have also been mitigating circumstances that could help explain why some VCTs have plunged into negative territory. "The poor performers have been those involved in technology stocks purchased in the run-up to the crash of 2000/01," he says. "People that came into this late and went into technology have been very badly mauled."

However, choosing the right VCT can be fraught with difficulties, as the performance figures illustrate. So how can you improve your chances of picking a manager capable of delivering consistently high returns?

"You are looking for a decent fund-management team that you can trust with your money," says Yearsley at Hargreaves Lansdown. "They will need to be well resourced, with the experience and contacts to make profitable investments."

So are VCTs a worthwhile investment, or should people steer clear? Andy Gadd, head of research at Lighthouse Group, is an advocate of VCTs, but warns that they won't be right for everyone – only for those willing to accept a fair degree of risk and to invest over the long term.

"It is sensible for investors, as part of a balanced investment portfolio, to consider putting money into small-cap stocks," he says. "This is provided that it represents no more than 10 per cent of their equity holdings and that they are willing and able to lock this money away for a minimum of five years."

As the usual minimum amount needed to invest is £5,000, this would mean you would need a fairly substantial equity portfolio of between £50,000 and £70,000 before considering putting your money into a VCT. But people attracted to the sector will find the management teams at the helm of the current crop of VCTs far more amenable to their needs than previously, says Yearsley.

"There is much more awareness of shareholders than was the case seven or eight years ago. VCT boards are paying much more attention to issues such as linking performance fees and paying regular dividends, which is good news."

There was further good news for VCTs in this week's Budget: from the beginning of October this year, they will be exempt from VAT on management fees. Daniel Godfrey, director general of the Association of Investment Companies, was delighted by the news. "This is a very welcome boost to the industry and to VCT investors, who will benefit from this cost saving over the long term," he said.

Most VCT managers are upbeat about the prospects for 2008, and are not fazed by the prospect of a further market slowdown over the coming months. Mark Wignall, the chief executive of Matrix Private Equity, insists it is a great time to be involved in the industry. "The slowdown in economic growth and highly volatile markets will feed through to ideal conditions for buying into companies at much lower prices later this year," he says. "VCTs are well-placed to meet strong demand at much more attractive prices."

However, warns Andy Gadd at Lighthouse Group, investors still need to approach the field with their eyes wide open – and to be careful not to allow themselves to be seduced by the superficial benefits of investing in VCTs.

"Investors need to understand the risks associated with VCTs," he says. "The attractive tax breaks are in place to create demand for investments that otherwise might be considered too high-risk for many investors."

Four of this year's best new funds

We asked Ben Yearsley, head of VCT research at Hargreaves Lansdown, to recommend some trusts that might be worth a look.



Edge Performance

It invests in live events, which is a fast-growing sector and has proven to be extremely cash generative. It is also completely unrelated to stock markets and equities, so is a great diversifier. In addition, Harvey Goldsmith is involved in the VCT. He was behind Live Aid and Live 8, so the team is very well connected.



Noble Aim

This is managed by Paul Jourdan, who is a top-quality AIM fund manager. It is a bit riskier, as it invests in small companies, but is an exciting option.

Matrix Income & Growth

This is a traditional venture capital trust, investing in opportunities such as management buyouts and profitable small companies, with a very well resourced and dedicated management team at the helm.



Northern 2

This is very similar to Income & Growth in as much as it is very well resourced with a good management team, and invests in a lot of management buyouts. It began in 1999 and has net assets of £43m.

Independent Partners; request a free guide on NISAs from Hargreaves Lansdown

Arts and Entertainment
The Doctor and Clara have their first real heart to heart since he regenerated in 'Deep Breath'
TV
Life and Style
Apple showed no sign of losing its talent for product launches with the new, slightly larger iPhone 6 making headlines
techSecurity breaches and overhyped start-ups dominated a year in which very little changed (save the size of your phone)
Arts and Entertainment
Jamie Oliver
filmTV chef Jamie Oliver turned down role in The Hobbit
News
The official police photograph of Dustin Diamond taken after he was arrested in Wisconsin
peopleDownfall of the TV star charged with bar stabbing
PROMOTED VIDEO
Arts and Entertainment
Jeremy Clarkson, left, and Richard Hammond upset the locals in South America
tvReview: Top Gear team flee Patagonia as Christmas special reaches its climax in the style of Butch and Sundance
News
people
Sport
Ashley Barnes of Burnley scores their second goal
footballMan City vs Burnley match report
Arts and Entertainment
Peter Mayhew as Chewbacca alongside Harrison Ford's Han Solo in 'Star Wars'
film
News
i100
Arts and Entertainment
Man of action: Christian Bale stars in Exodus: Gods and Kings
film
Arts and Entertainment
Tracy Emin's 1998 piece 'My Bed' on display at Christie's
artOne expert claims she did not
News
Ernesto Che Guevara and Fidel Castro, right, met at Havana Golf Club in 1962 to mock the game
newsFidel Castro ridiculed the game – but now investment in leisure resort projects is welcome
News
Hackers revealed Oscar-winning actress Lawrence was paid less than her male co-stars in American Hustle
people
Arts and Entertainment
Clueless? Locked-door mysteries are the ultimate manifestation of the cerebral detective story
booksAs a new collection of the genre’s best is published, its editor explains the rules of engagement
Sport
Robin van Persie is blocked by Hugo Lloris
footballTottenham vs Manchester United match report
Finacial products from our partners
Property search
Latest stories from i100
Have you tried new the Independent Digital Edition apps?
Independent Dating
and  

By clicking 'Search' you
are agreeing to our
Terms of Use.

ES Rentals

    iJobs Job Widget
    iJobs Money & Business

    Selby Jennings: VP/SVP Credit Quant- NY- Investment Bank

    Not specified: Selby Jennings: VP/SVP Credit Quant Top tier investment bank i...

    Selby Jennings: Quantitative Research | Equity | New York

    Not specified: Selby Jennings: Quantitative Research | Global Equity | New Yor...

    Selby Jennings: SVP Model Validation

    Not specified: Selby Jennings: SVP Model Validation This top tiered investment...

    Selby Jennings: Oil Operations

    Highly Competitive: Selby Jennings: Our client, a leading European Oil trading...

    Day In a Page

    A timely reminder of the bloody anniversary we all forgot

    A timely reminder of the bloody anniversary we all forgot

    Who remembers that this week we enter the 150th anniversary year of the end of the American Civil War, asks Robert Fisk
    Homeless Veterans appeal: Former soldiers pay their respects to a friend who also served

    Homeless Veterans appeal

    Former soldiers pay their respects to a friend who also served
    Downfall of Dustin 'Screech' Diamond, the 'Saved By The Bell' star charged with bar stabbing

    Scarred by the bell

    The downfall of the TV star charged with bar stabbing
    Why 2014 was a year of technological let-downs

    Why 2014 was a year of technological let-downs

    Security breaches and overhyped start-ups dominated a year in which very little changed (save the size of your phone)
    Cuba's golf revolution: But will the revolutionary nation take 'bourgeois' game to its heart?

    Will revolutionary Cuba take 'bourgeois' golf to its heart?

    Fidel Castro ridiculed the game – but now investment in leisure resort projects is welcome
    The Locked Room Mysteries: As a new collection of the genre’s best is published, its editor Otto Penzler explains the rules of engagement

    The Locked Room Mysteries

    As a new collection of the genre’s best is published, its editor explains the rules of engagement
    Amy Adams on playing painter Margaret Keane in Tim Burton's Big Eyes

    How I made myself Keane

    Amy Adams hadn’t wanted to take the role of artist Margaret Keane, because she’d had enough of playing victims. But then she had a daughter, and saw the painter in a new light
    Ed Richards: Parting view of Ofcom chief. . . we hate jokes on the disabled

    Parting view of Ofcom chief... we hate jokes on the disabled

    Bad language once got TV viewers irate, inciting calls to broadcasting switchboards. But now there is a worse offender, says retiring head of the media watchdog, Ed Richards
    A look back at fashion in 2014: Wear in review

    Wear in review

    A look back at fashion in 2014
    Ian Herbert: My 10 hopes for sport in 2015. Might just one of them happen?

    Ian Herbert: My 10 hopes for sport in 2015

    Might just one of them happen?
    War with Isis: The West needs more than a White Knight

    The West needs more than a White Knight

    Despite billions spent on weapons, the US has not been able to counter Isis's gruesome tactics, says Patrick Cockburn
    Return to Helmand: Private Davey Graham recalls the day he was shot by the Taliban

    'The day I was shot by the Taliban'

    Private Davey Graham was shot five times during an ambush in 2007 - it was the first, controversial photograph to show the dangers our soldiers faced in Helmand province
    Revealed: the best and worst airlines for delays

    Revealed: the best and worst airlines for delays

    Many flyers are failing to claim compensation to which they are entitled, a new survey has found
    The stories that defined 2014: From the Scottish independence referendum to the Ice Bucket Challenge, our writers voice their opinions

    The stories that defined 2014

    From the Scottish independence referendum to the Ice Bucket Challenge, our writers voice their opinions
    Stoke-on-Trent becomes first British city to be classified as 'disaster resilient' by the United Nations

    Disaster looming? Now you know where to head...

    Which British city has become the first to be awarded special 'resilience' status by the UN?