Banking Crisis - Treasury Contents


Memorandum from John Clare

INVESTMENT TRUST CASH DEPOSITS

  I am writing to draw your attention to the uncertainties which investment trusts are facing when depositing cash in banks whose stability may be in doubt.

  This problem was flagged up in a presentation at last Friday's AGM of the Edinburgh based Scottish Investment Trust. SIT is a large, broadly-based investment trust, with a global investment remit. Nearly two-thirds of its shares are held by more than 25,000 individuals; an average holding of about £19,000. Another 25% of SIT's shares are held by pension funds and insurance companies.

  Most if not all of its individual shareholders will have bought their shares as a long term investment in a company whose objectives are to provide above average returns through a diversified portfolio of international equities and to achieve dividend growth ahead of UK inflation.

  SIT is one of several investment trusts which seek to offer small shareholders a relatively low risk (and low cost) opportunity to benefit from global equity markets. Others include the Alliance Trust (Dundee), Foreign and Colonial (London), etc. Alliance and Foreign and Colonial are both bigger than SIT and have correspondingly many more individual shareholders; more than 50,000 for Alliance, and over 100,000 for Foreign and Colonial.

  Investors in such trusts accept that, as with any other equity-based investment, the value of their shares can go down as well as up. Nevertheless, in seeking to preserve the assets of its shareholders SIT at least has been obliged to take risks to which investment trusts shareholders are unaccustomed and to which, I believe, they should not be exposed.

  An important way in which investment trusts can manage risk on behalf of their shareholders is to temporarily reduce their exposure to volatile equity markets by converting some or even all of their equity assets into cash, for as long as such volatility persists. That facility is not available to the more popular (and, in terms of fees, more expensive) unit trusts and OEICS.

  However, in present circumstances, investment trusts such as SIT understandably hesitate before depositing as much as £100 million or more in commercial banks. Investment trusts are not of course protected by the FSCS, and the loss of such a sum (amounting to one sixth of SIT's total assets) would have serious implications for its shareholders. The only alternative would be to continue to invest most if not all of its assets in equities, which might also expose its shareholders to the risk of failing companies, and certainly to declining share values.

  The ideal solution would be for the government to give investment trusts and similar collective investment funds an assurance that their monies on deposit with clearing banks would be fully protected.

  I appreciate that such a proposal might be extremely unwelcome to the Treasury. Another option, therefore, would be for the Bank of England, or a specially constituted public sector bank such as is presently under discussion, to act as a deposit-taking institution for collective investment vehicles, and then lend those monies on, either to the commercial banks, or to individuals and small businesses.

  I accept that such an arrangement would discriminate between the shareholders in investment trusts and those in other companies, but most companies are net borrowers, not depositors. Moreover, I would argue that shareholders in individual companies, and certainly those who manage their investments on their behalf, should be assumed to have a heightened awareness of the risks they run—collective investment funds such as investment trusts are conventionally (and properly) seen as an important and valuable way of minimising risk for small shareholders with little or no knowledge or experience of investing.

  Please let me know if you like me to elaborate on any of these points.

4 February 2009





 
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