Zeros, gearing and NAV: a guide to jargon - Business - News - The Independent

Zeros, gearing and NAV: a guide to jargon

JARGON is the enemy of the private investor. Investment trusts, alas, are riddled with it. Here are some common terms:

q Annuity income share: In split-capital trusts, shares which yield a very high income but with very little or no capital value when the trust is wound up.

q Asset cover: In split-capital trusts, the ratio by which the redemption value of a share is covered by the assets currently held in the trust. So if the cover is 2, the trust already has twice what is actually needed to pay off the redemption value at the end of the trust's life. Of course, the trust's assets could fall in value, but the higher the number, the greater the safety margin.

q Discount: The amount by which a trust's share price is below the value of the trust's assets, expressed as a percentage. The stock-market value of a trust's underlying investments might be worth pounds 2 for every trust share, yet the price of the trust's own shares might be just pounds 1.60. Therefore they are at a discount of 20 per cent.

q Gearing: Investment trusts can borrow money, a process known as gearing. The higher the gearing, the greater the returns when prices are rising - rather like mortgages in the days of rising house prices. You put down 5 per cent and borrowed 95 per cent. If prices rose by 10 per cent, a pounds 100,000 house would rise to pounds 110,000 but your pounds 5,000 would be worth pounds 15,000 - a 200 per cent increase. High gearing can have a similarly exaggerated effect if prices fall, so a highly geared trust carries higher risk.

q Gross redemption yield: In split-capital investment trusts, the annualised percentage return you would get on shares at today's price held until the trust is wound up, assuming certain growth rates in the trust's underlying assets. A particular share might have a gross redemption yield of 11 per cent assuming 5 per cent growth, or 15.4 per cent assuming 10 per cent growth. You have to make a judgement as to which, if any, assumed rate of growth is plausible.

q Hurdle rate: In split-capital investment trusts, the growth rate needed in the trust's assets if there is to be enough money to pay back the predetermined redemption price of certain shares. The lower the number, the better.

q Net Asset Value (NAV): The value of a trust's assets (for example, shares in Tesco and BT) expressed as a value for each trust share. If the assets are worth pounds 10m and there are pounds 5m of shares issued by the trust, the NAV would be pounds 2.

q Premium: The amount by which a trust's share price is above the real value of the underlying assets, expressed as a percentage. Discounts are more common.

q Qualifying or fully Peppable: Trusts that have at least 50 per cent of their money in European Community companies, meaning investors can invest up to pounds 6,000 each tax year in the trust through a PEP.

q Savings scheme: Schemes which enable the investor to buy investment trust shares cheaply, avoiding stockbrokers' minimum charges. They are run by many investment trust management companies, and you can buy shares either regularly or one-off.

q Split-capital investment trusts: Trusts with different classes of share which carry different entitlements to the capital growth and income earned by the trust.

q Warrants: Commonly issued when a new trust is launched, warrants give you the right to buy more of the trust's shares at a predetermined price on fixed dates.

q Zeros: In split-capital investment trusts, zero dividend preference shares pay no income, but offer a predetermined level of capital growth when the trust is wound up.

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