Two new studies of fund performance have added fresh fuel to the unit trust versus investment trust debate. Within hours of TD Direct Investing unveiling their list of the top UK unit trust performers over the past ten years, JPMorgan Cazenove responded with a list of the best UK investment trusts over the same timespan.
When examined side by side, the studies showed that, on average, investment trusts enjoyed a small but significant performance advantage over their unit trust rivals. While the top ten unit trusts returned an average of 11.5 per cent a year, the best investment trusts trumped that with a return of 13 per cent.
The top unit trust — Standard Life Investments UK Smaller Companies — produced an annualised return of 14.2 per cent in the ten years to the end of June. This was bettered by the top-performing investment trust — Standard Life UK Smaller Companies — which returned an even more impressive 17.4 per cent. Only three unit trusts would have made it into the investment trust top ten.
It is revealing to find that the top investment trust and the top unit trust were both from the same stable — Standard Life — were managed by the same man — Harry Nimmo — and had very similar portfolios. Yet the investment trust produced significantly better returns.
The performance gap
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A difference of 1.5 percentage points a year between the average return from the top ten unit trusts and the top ten investment trusts might not seem like very much, but it grows into a very big figure when compounded over time.
Someone who invested £10,000 in June 2005 into the top ten unit trusts would have achieved an average return of 11.5 per cent a year, which would grow into a lump sum of £29,699 over ten years. However, the higher average return of 13 per cent for the ten investment trusts would give investors a sum of £33,946 — more than £4,000 extra.
Someone who invested £10,000 over the same period into Harry Nimmo’s UK Smaller Companies unit trust, with an annualised return of 14.2 per cent, would have ended up ten years later with £37,563.
However, if the same sum had been put into Mr Nimmo’s UK Smaller Companies investment trust, the higher annualised return of 17.4 per cent would have translated into a lump sum of £49,768 — a difference of more than £12,000.
What this shows is what Sir Dave Brailsford, the former performance director of British Cycling and now manager of Team Sky, would call the power of “marginal gains”.
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Small improvements in performance, when added together, can make a crucial difference, whether you are talking about a boost to your long-term investment returns or Sir Chris Hoy and Victoria Pendleton picking up gold, rather than silver, at the Olympic Velodrome.
Reasons for better yields
The JP Morgan Cazenove team picks out two main factors. First, investment trusts, unlike unit trusts, are allowed to borrow money to buy extra shares, a process known as gearing. This tends to accentuate performance, both in rising and falling markets. Since markets rise more often than they fall, gearing tends to boost performance over the long term.
The second advantage trusts have traditionally held is that they tend to have lower fund charges than their unit trust rivals and thus suffer less of a drag on performance.
However, this “charge gap” has been significantly narrowed since the Retail Distribution Review (RDR) ushered in an overhaul of the fund industry’s charging structure, starting in January 2013. Since then commission has been stripped out of fund charges for new purchases and this cut in charges is set to feed through into better unit trust performance figures over time.
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A third potential advantage investment trusts hold is that the price of their shares is determined not by the value of the underlying shares in the portfolio, but by supply and demand. So, if demand is weak, shares in a trust can be purchased at a discount to their real value, or net asset value (NAV), though the flipside is that they may end up being sold at a discount as well.
Justin Modray, of Candid Financial Advice, says: “Both investment and unit trusts have their fair share of successful and failing funds, but in rising markets investment trusts can have the edge by increasing market exposure with borrowed money, known as gearing.
“Of course, this brings added risk, so isn’t for everyone.”
TOP TENS
INVESTMENT TRUSTS
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1. Standard Life UK Smaller Companies
Return: 17.4 per cent
Manager: Harry Nimmo
2. BlackRock Smaller Companies
Return: 17.1 per cent
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Manager: Mike Prentis
3. Henderson Smaller Companies
Return: 15.7 per cent
Manager: Neil Hermon
4. Schroder UK Mid-Cap
Return: 14.5 per cent
Manager: Rosemary Banyard
5. Invesco Perpetual UK Smaller Companies
Return: 14.4 per cent
Manager: Jonathan Brown
6. Mercantile
Return: 12.8 per cent
Manager: Martin Hudson
7. Montanaro Smaller Companies
Return: 12.6 per cent
Manager: Various
8. JPMorgan Mid-Cap
Return: 12.6 per cent
Manager: Various
9. JPMorgan Smaller Companies
Return: 12.4 per cent
Manager: Georgina Brittain
10. Finsbury Growth & Income
Return: 12 per cent
Manager: Nick Train
UNIT TRUSTS
1. SLI Smaller Companies
Annualised return: 14.2 per cent
Manager: Harry Nimmo
2. Old Mutual UK Smaller Companies
Return: 13.9 per cent
Manager: Dan Nickols
3. Lindsell Train UK Equity
Return: 12 per cent
Managers: Michael Lindsell, Nick Train
4. Liontrust UK Smaller Companies
Return: 11.9 per cent
Managers: Anthony Cross, Julian Fosh
5. Majedie UK Equity
Return: 11.2 per cent
Managers: James de Uphaugh, Chris Field
6. Aberforth UK Small Companies
Return: 11.0 per cent
Managers: Richard Newbery, Alistair Whyte
7. Schroder UK Smaller Companies
Return: 10.6 per cent
Managers: Andy Brough, Rosemary Banyard
8. Old Mutual UK Alpha
Return: 10.4 per cent
Manager: Richard Buxton
9. Woodford Equity Income
Return: 10.3 per cent
Manager: Neil Woodford
10. Kames Ethical Equity
Return: 10.3 per cent
Manager: Audrey Ryan