This is not substantive investment research or a research recommendation, as it does not constitute substantive research or analysis. This material should be considered as general market commentary.
Investment trusts, compared to open-ended funds, have the ability to borrow and potentially enhance returns through leverage. Of course, this approach adds to risks. But over the long term gearing should enhance returns, as long as the cost of gearing remains lower than the returns the manager is able to achieve from investing.
However we believe the style in which trusts employ gearing should ideally match the style in which managers invest. In our opinion, managers who are less ‘valuation-aware’ might be best suited to structural gearing. On the other hand, managers who invest with strong price discipline – in both buying and selling – might suit a more tactical use of gearing.
When all is said and done investment trusts suit long-term investors, and have historically outperformed open-ended funds through a variety of different means. Gearing is one of them. We believe that, at the margin, trusts should embrace this advantage for their investors to help them outperform over the long term.
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