Lots of eggs ... one basket
A listed investment company (LIC) is one that invests in other businesses that are also listed on the stock exchange. Buying an LIC gives you indirect exposure to all the companies it holds, offering a very cost-effective way to have exposure to broad range of industries and individual businesses.
As with other low touch investments, you are entrusting the manager of the LIC to invest your money for you. But there are a few features of an LIC that separate it from other low touch investments like managed funds and ETFs. A LIC is a ‘closed-end structure’, meaning there is only a certain number of shares available to be bought and sold. This means that it can sometimes be hard to buy shares if there aren’t many sellers, or the LIC might not trade close to what it is worth (worth is known either as net asset value (NAV) or net tangible assets (NTA)).
Investment style
Most LICs buy shares with a long-term view, making them a passive investment. That said, when it comes to buying new investments for the portfolio, LIC managers will tend to look for companies that are trading at a price lower than they determine the value to be or, in some cases, high consistent dividends. This is known as value investing, and this style of picking stocks tends to mean that LICs are in with a chance of doing better than a particular benchmark.
It’s unlikely an LIC will try and track business cycles and adjust the portfolio to exploit them. While this is common with actively managed funds, it isn’t the norm for LICs, which tend to buy and hold irrespective of broader market conditions.
Benefits of an LIC
In short, LICs are a cheap way to invest in a professionally managed portfolio . Some LICs have been set up to manage the wealth of a family or trust so costs are kept to a minimum where they can. When I first learned about LICs, they were described to me as companies 'running on the smell of an oily rag’. And it’s true.
With any low touch investment, it is always preferable that those managing the fund also have a significant investment in the fund. Known colloquially as 'skin in the game', a manager and board can demonstrate their faith in their investment strategy by putting their own money into the company. You can find this out by reviewing who the top holders are, which is published in the annual report.
LICs are considerably more transparent than other low touch investments. Being listed on the ASX means each LIC must report their NAV each month. It’s useful for investors to know what their investment is actually worth, as it is possible for an LIC shares to trade at a discount or premium to the value of their investments. Some LICs will publish their top 20 holdings more frequently than just in the annual report, giving investors even more transparency.
As an LIC is actually a company, it can pay dividends with a level of franking credits. Consequently this investment structure is popular with self-funded retirees who are in the pension phase and able to get the full value of franking credits. The dividends paid out are made up of the dividend income the LIC receives throughout the year along with any capital gains.
Risks
The share price for an LIC is set by the market, meaning the buyers and sellers. As a result, an LIC can trade at a price that is more or less than what it is actually worth, referred to as its net tangible assets (NTA). Let’s assume the NTA of our LIC is $3.00.
|
Trading price |
Buyer |
Seller |
|
$3.10 |
Paying more than NTA is not ideal |
Selling for more than NTA is a bonus |
|
$2.80 |
Buying for a bargain - paying less than it’s worth! |
Selling for much less than it’s worth |
The problem is, when LICs are trading at a sharp discount, holders wanting to exit are penalised and forced to realise a lower price than the actual value. Also, if the discount an LIC trades at widens over time, the share price performance of the LIC could look worse than it actually is. This can be problematic if the market is going down in value.
By investing in an LIC you are subject to the risk that this investment might not perform as well as the index or benchmark it is trying to match. When a low touch investment doesn’t do as well as a particular measure, you could have been better off investing directly in the measure via an ETF. This risk is inherent in most low touch investments (with the exception of ETFs), but one you still need to think about.
Types of LICs available
There are many different types of LICs available! The older, traditional LICs focus on the top companies or blue chips listed on the ASX. Some of the newer LICs have broader investment mandates and look for smaller companies. LICs are not just for Australian shares either, as there are LICs focusing on international shares. Before making an investment in an LIC you should be clear on what exactly they invest in and the style of the manager. You might find brightday's Featured Funds, which is a compilation of various low touch investments including LICs, helpful.
Costs
The older LICs have costs around 0.18 per cent per annum, which is really cheap! Don’t make any judgment based on the cost to run the fund each year - check up on the performance to see how the fund has gone. Remember, paying more doesn’t mean getting a better investment result. You can view all LICs and their costs on the ASX page.
As LICs are traded on the ASX like any other share, the trading costs are the same. Through brightday it is 0.125 per cent, with a minimum of $24.95. Any trade up to $20,000 will cost you $24.95, with amounts greater than this incurring the per cent based fee of 0.125 per cent. So if you were buying $30,0000 worth of shares it would cost you $37.50 ($30,000 x 0.00125).