The role of Closed-Ended Funds in client portfolios in the post-RDR worldStephen Peters Investment Trust Analyst,

For professional investors only

Agenda

• The benefits, the risks and the reality of the sector

• What place do Closed-Ended Funds have in a portfolio?

• Conclusions

What are Investment Trusts?

• Closed ended funds

• Shares in a company traded on a stock exchange (such as the London Stock Exchange)

• Managed by a fund manager who is responsible to a board of directors and, ultimately, shareholders

• The share price may trade at a premium or a discount to the Net Asset Value (NAV) per share

• Firms will need Part IV permission for advising or arranging on Investment Trusts

Key differences with Exchange Traded and Open Ended Funds• Exchange Traded Funds (ETFs) & open-ended funds typically trade at or

near, asset value – they can create and redeem shares according to demand

• Investment trusts should only issue shares if they trade at a premium to NAV

• Investment trusts may use borrowing with the aim of enhancing returns, unlike open ended funds

• Investment trusts have independent boards. They are responsible to shareholders and can change the manager of the fund if they deem it appropriate to do so

• Investment trusts may use a ‘revenue reserve’ to ensure dividend payments do not fall if earned income declines

• ETFs & open ended funds can only pay out income received

What are the risks of Investment Trusts?

• Complexity - leverage, discounts, data availability

• Liquidity - a problem for the whole market?

• Choice - a small number from which to choose; some are not very good; some sectors are poorly represented

• Regulation - current proposals may classify Venture Capital Trust (VCT) and Enterprise Investment Scheme (EIS) shares as Unregulated Collective Investment Schemes (UCIS)

• Therefore only suitable for sophisticated and high net worth investors

Why consider Investment Trusts?• Asset classes not investible via open-ended funds

• Different sources of income - secured loans, Private Equity

• Ability to enhance returns via the use of leverage and discounts

• Long-term outperformance of open-ended funds

• Leverage, better management, discount narrowing all possible causes

• Run by the same groups and individuals you already know

• Historically known as a ‘low cost’ investment option - but this is changing

Investment Trusts have generally outperformed Open Ended funds over 10 years

Source: Winterflood Securities, to 28th September 2012. Weighted Sector Average, Share Price, Total Return

But no guarantee this trend will continue for the next 10 yearsInvestors should be aware that past performance is not necessarily a guide to the future and

that the price of shares, other investments and the income derived from them, may fall as well as rise and the amount realized may be less than their original sum.

Leverage

• Markets or assets fall in price; borrowings magnify losses

• Borrowing covenants are breached; banks ‘call’ the loan - requiring the sale of assets at depressed prices

• Poor decisions by the board• Merchants - 1.3x leveraged, pays c8% annual interest rate on that borrowing

- until 2018 at the earliest

• The risks and the benefits of gearing need to be fully understood by advisers and clients before investing

Domestic HomeDomestic Home

£200,000 house purchase

£25,000 deposit (asset)

£175,000 mortgage (liability)

8x leveraged

Scottish MortgageScottish Mortgage

£2.31bn Total Assets*

£1.76bn of equity (asset)*

£360m of debt (liability)*

0.3x leveraged

Source: *Morningstar, 24th August 2012

Leverage

Around half of all Investment Trusts employ no leverage

Source: Winterfloods, Charles Stanley

Investment TrustsInvestment Trusts

293 trusts

£92bn of total assets

50 UK funds

7 US equity funds

6 Emerging market funds

AIC, September 2012

Open Ended FundsOpen Ended Funds

£598bn of assets (onshore)

2,866 onshore funds, 6,603 including offshore options

Morningstar, 21st August

Choice

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Not having to manage fund inflows during rising markets can be helpful forlong term returns from investment trusts

Investors should be aware that past performance is not necessarily a guide to the future and that the price of Shares ,other investments and the income derived from them, may fall as well as rise

and the amount realized may be less than their original sum.

Trusts often outperform their open ended equivalent

RIT CapitalRIT Capital

Discount Quintile

Average 1 year % return

Average 3 year % return

Average 5 year % return

Cheap 4.5 30.7 72.2

2 10.7 53.7 98.3

3 18.0 31.6 68.8

4 6.7 18.6 43.2

Dear -3.4 20.7 37.3

Alliance TrustAlliance TrustDiscount Quintile

Average 1 year % return

Average 3 year % return

Average 5 year % return

Cheap 10.4 20.4 16.8

2 4.7 8.9 18.1

3 -2.8 3.3 13.9

4 -1.8 3.5 11.2

Dear -6.0 -2.8 -2.8

Don’t buy discounts, buy funds

Analysis of buying and holding at all discount levels over 10 years Alliance Trust trades at a c15% discount, RIT at or near 0%Same sector, very different long term performance

Source: Charles Stanley, Datastream. Performance is share price Total Return, to September 30th 2012

Are Investment Trusts more volatile than open ended funds?

Source: FE, Charles Stanley

Investors should be aware that past performance is not necessarily a guide to the future and that the price of shares, other investments and the income derived from them, may fall as well as rise and the amount realized

may be less than their original sum.

Are Investment Trusts more volatile than open ended funds?

Source: FE, Charles StanleyInvestors should be aware that past performance is not necessarily a guide to the future and that the price of shares, other investments and the income derived from them, may fall as well as rise and the amount

realized may be less than their original sum.

What is the role of Investment Trusts in a post-RDR world?

• Those which are ‘better’ than an open ended equivalent should be considered

• Special situations – extreme discounts may offer the potential for higher returns in some situations

• Asset classes that cannot be bought through an open-ended fund can offer uncorrelated returns or income from non-traditional asset sources

‘Different or Better’ (than open ended funds)

Edinburgh IT

Perpetual Income and Growth

Jupiter European Opportunities

Artemis Alpha

RIT Capital

Scottish Mortgage

Murray International

International Public Partnerships

BH Macro

Electra Private Equity

Aberdeen Asian Smaller Companies

JPMorgan EM Income

Blackrock World Mining

Murray International vs. Aberdeen World Growth and Income• Similar funds, managed by Aberdeen’s Global Equity team

• Trust bigger than fund - £1.2bn, £216m

• Similar dividend yields - Trust 3.8%, Fund 4.1%

• Trust has gearing of c15%

• Trust can invest in bonds, and employs a multi currency borrowing facility

• Trust Ongoing Charges of 1.16%, Fund 1.63%

• Trust has consistently traded at a premium to NAVsince mid 2010

• Trust has higher share price volatility than fund

Sources: FE, Numis, Fund Manager, to 30th September 2012. Murray International 3 year price volatility 17.9%, Fund 14.3%, to 19th Oct 2012

Infrastructure projects – an asset class unavailable to open ended fund investors

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Investors should be aware that past performance is not necessarily a guide to the future and that the price of shares, other investments and the income derived from them, may fall as well as rise and the

amount realized may be less than their original sum.

5% Yield, low correlation with equity market returns

Listed Hedge Funds: Whilst the sector is in decline, some are still worth considering

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Investors should be aware that past performance is not necessarily a guide to the future and that the price of shares, other investments and the income derived from them, may fall as well as rise and the

amount realized may be less than their original sum.

Income from different asset classesTrust Asset Class Yield

3i Infrastructure PFI/PPP 4.8%

Greenwich Loan Income Fund

CLO Equity 9.3%

CATCo Reinsurance Catastrophe Reinsurance 5%

F&C Commercial Property UK Commercial Property 5.8%

Doric Nimrod Air Two Aeroplane leasing 8%

Princess Private Equity Private Equity 7.4%

The above are illustrative and should not be seen as recommendations to buy. Doric Nimrod Air Two and CATCo Reinsurance Fund are listed on the Specialist Funds Market of the London Stock Exchange. This is a less regulated

market and securities admitted to it are intended for sophisticated and professional investors. Greenwich Loan Income Fund is quoted on the Alternative Investment Market (AIM).

Yields as at 6th September 2012

Given the nature of these funds they may be higher risk than traditional open or closed ended funds. You should seek specialist guidance if you are unsure as to their suitability

Income from Capital GainsNew tax rules allow investment trusts to turn capital gains into income, something open ended funds cannot do

• Blackrock World Mining• 133% dividend increase in 2012

• agreed royalty off-take agreement with portfolio company

• Change in accounting for expenses

• RIT Capital • annual dividend increased from 4p to 28p per share

Investment Companies offer diverse sources of income - a key role for the sector in a post-RDR world

Split Capital Trusts

• A small and illiquid sector that has had its problems

• Analysis of split capital trusts is far more complex than just looking at hurdle rates and gross redemption yields

• Well managed and well covered split capital trusts still exist

• Only to be considered by the very sophisticated clients and investors

Conclusions• Some Investment Trusts are worth getting to know

• The sector is not perfect and has risks

• Investment Trusts are not as complex as you might think

• The structure offers some useful advantages over open- ended funds

• Consider discounts last, not first

• Closed-ended funds may be useful for clients needing income

• and within discretionary equity portfolios for larger clients

• Look at the sector in the same way as you would open ended funds

• Sector expertise is available and happy to help with the likesof gearing and discounts

Contact DetailsStephen PetersInvestment Trust Analyst

E: stephen.peters@charles-stanley.co.ukT: 0207 149 6433

Charles Stanley & Co. Limited25 Luke StreetLondonEC2A 4AR

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Important InformationThe information given in this presentation is based upon sources we believe to be reliable,but its accuracy cannot be guaranteed. The information does not constitute advice or a personal recommendation and you are recommended to seek advice concerning suitability from your investment advisor. Charles Stanley & Co. Limited and connected companies, their directors, members, employees and members of their families may have positions in the securities mentioned. Tax reliefs are those currently applying and the levels and bases of taxation can change. Investors should be aware that past performance is not necessarily a guide to the future and that the price of shares and other investments, and the income derived from them, may fall as well as rise and the amount realised may be less than their original sum.

Charles Stanley & Co. Limited is authorised and regulated by the Financial Services Authority.

Charles Stanley & Co. Limited: 25 Luke Street London, EC2A 4AR.