Ugly ducklings win admiring glances

Investment trusts were once seen as something of an ugly duckling. But the oldest form of collective investment has become more popular. The first trusts were set up over a century ago by Scottish investors. This makes them much older than unit trusts, which have been around more or less in their present form for fewer than 70 years.

Yet many investors have shied away from them, maybe because unit trusts are easier to understand. Investors give their money to a unit trust manager to invest in quoted shares. At any time the price of each unit is determined by dividing the value of the assets by the number of units in issue. New units are created to meet increasing demand. They may have to be cancelled and shares sold when unit holders decide to sell, which can lead to further price falls.

Investment trusts are different. They are themselves listed on the stock market. Unlike unit trusts they can invest in private, unquoted companies and property. They can also borrow money if the managers think it can be invested for a greater return than the interest they pay.

Investment trusts have only a limited number of shares in issue. Price is determined by investor demand in the market. It is quite often below the net asset value, a discount to the underlying worth of each unit. If there is great demand for the shares, they can be at a premium. The average investment trust is on a 14 per cent discount.

Many of the oldest investment trusts have lower charges than unit trusts. Annual management charges can be below 0.5 per cent, which compares with annual fees of 1 per cent or more on many unit trusts.

Because of their gearing and volatile share prices, investment trusts tend be riskier than unit trusts and of more appeal to sophisticated investors. But they have proved their worth over the long term, 10 years or more. Results show they have on average outperformed unit trusts.

One of the largest stables is run by Fleming Investment Trust Management, which manages more than pounds 5bn in 19 trusts. These range from the pounds 50m Fleming Indian trust, whose share price is now almost half the 100p launch price, to its largest fund, the pounds 710m Mercantile, which has been revitalised. Formed in 1884, it used to have nearly a third of its assets in the US. But the management decided to perk up performance in the 1990s so that it now specialises in small and medium-sized UK companies. Its share price of around 370p represents a 13 per cent discount to its net asset value. "Investment trusts fell out of favour for some time partly because performance became dull," said Ian Overgage, marketing manager at Fleming. "But they are growing again in popularity with private investors."

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