Activist Investors Targeting Trusts: Risks and Opportunities

Investment trusts remain a favorite choice for self-directed investors, yet the aggressive moves by activist investor Saba Capital Management at the start of the year have stirred considerable unease in the sector.

The firm has launched a fresh bid to replace the board at Edinburgh Worldwide, though shareholders once again turned down the suggestions. Additionally, Saba disclosed a 5.3% holding in GCP Infrastructure and appears to have succeeded in pushing Smithson toward conversion into an open-ended fund structure.

Why are activists drawn to investment trusts?

Led by Boaz Weinstein, a former trader at Deutsche Bank, Saba holds positions in 46 out of the 305 investment trusts listed in the UK, including stakes exceeding 10% in 16 of them. Its largest investments include Herald Investment Trust at 30.7% and Edinburgh Worldwide at 30.1%, based on mid-January figures.

Saba is far from alone in this space. Allspring maintains stakes in 46 trusts, while 1607 Capital Partners is involved in 40, as reported by wealth manager AJ Bell. Numerous other players are active on a more modest scale.

Activist interest often sparks when a trust trades at a substantial discount. These vehicles operate on dual pricing: the net asset value (NAV), which reflects the per-share worth of underlying assets, and the market share price that investors use for transactions.

A share price above NAV signals a premium, whereas below indicates a discount. At a 10% discount, buyers effectively acquire 100p of assets for just 90p. Narrowing that gap can yield profits, which frequently drives activist strategies.

Spotting trusts at risk from wide discounts

Concerns over persistent discounts in investment trusts are valid and warrant attention from investors. Vulnerable candidates often lag behind peers in performance while sporting discounts far broader than their sector norms. For instance, the Global sector averages an 8% discount, but Lindsell Train trades at 21.3%. Over the past three years, it has delivered a -27.7% return compared to the sector’s 37.9%, per Trustnet statistics.

Sector dynamics matter greatly as well. In the UK Equity Income category, only three of 19 trusts have outperformed the broader market across a decade. This poor track record positions the group as a prime target, especially as investors pivot from lagging active strategies to passive index trackers.

Dan Coatsworth, AJ Bell’s head of markets, flags Scottish American as particularly exposed. This underperformer trades at a 9.2% discount, well above the 3.1% average for Global Equity Income peers. He notes: “Managed by Baillie Gifford, which oversees other Saba-targeted trusts, it could face heightened pressure following the recent Edinburgh Worldwide rebuff.”

Infrastructure trusts are also in the crosshairs, despite demand for their assets, due to waning appeal among trust enthusiasts.

Thomas McMahon, head of investment companies research at Kepler Partners, explains: “Here, superior returns might come from asset sales or aggressive share repurchases rather than portfolio growth. External activists often spot this clarity, while managers remain overly optimistic.”

Keep an eye on regulatory notifications. Trusts must inform the stock exchange when stakes surpass 3%, with updates for every 1% change thereafter. This transparency typically prevents activist arrivals from blindsiding the market.

Deciphering complex holdings via derivatives or intermediaries can prove trickier, McMahon concedes, but trust boards and analysts routinely unpack these for clarity.

An activist’s emergence might unsettle the status quo, but it does not automatically signal a need to sell. Their interventions can prove beneficial, contingent on intentions.

James Carthew, co-founder of Quoted Data, observes: “If a strategy falters, outflows mount, and the board stalls, external pressure for reform can benefit everyone involved.”

He cites Alliance Trust as a prime case. Elliott’s stake prompted sweeping reforms, culminating in a merger with Witan. “That external nudge sparked meaningful progress,” Carthew affirms.

Even rejected proposals can spur action. Saba’s rise has coincided with industry-wide improvements: average discounts shrank from 15% at the close of 2024 to 12% now, per the Association of Investment Companies (AIC).

Annabel Brodie-Smith, AIC communications director, elaborates: “Boards are proactively fortifying positions. 2024 marked a peak with 27 transactions like mergers, buyouts, and wind-downs, alongside unprecedented buybacks and fee adjustments.”

Critics, however, charge Saba with prioritizing short-term windfalls over enduring shareholder value. Carthew counters: “True activists typically secure modest stakes, propose thoughtfully, and build consensus rather than bulldozing through.”

Gauge an activist’s alignment by scrutinizing their history, dissecting proposals alongside board rebuttals, and aligning motives with your goals. Avoid chasing fleeting pops in price. Carthew references CQS Natural Resources: a May tender at NAV followed a discount compression from 15% to 5%, prompting exits. Yet shares subsequently doubled, rewarding patient holders handsomely.

Why shareholders should engage and vote

Reflect on your investment thesis. If core rationales endure, stay the course and participate in votes. Brodie-Smith reminds: “Investment trusts suit long-haul strategies, often delivering steady, growing income streams—not quick flips.”

Amid the turbulence, some might swear off trusts entirely. Carthew deems that shortsighted. Activists represent a standard market feature, fostering vitality despite the headlines, and comprise just a sliver of overall activity.

Targeting potential activist plays could even enhance returns if value unlocking materializes, McMahon suggests. Coatsworth concurs: “Boards now recognize complacency’s perils—when issues persist, restructuring options demand serious consideration.”