The big broad-based listed investment companies, such as Australian Foundation (AFI) and Argo Investments (ARG) are super cheap, in fact, approaching record levels of “cheapness”. By “cheapness” I mean trading at material discounts to their NTA (net tangible asset value).
The “big daddy” of them all, Australian Foundation, which invests in a diversified portfolio of Australian shares, closed Friday at an 10% discount to its NTA, that is, it’s trading on the ASX at $7.46 and its NTA is about $8.27. This is up from a 2% discount of the start of the year, which can be seen by its flat share price. It started the year on the ASX at $7.45 and closed Friday at $7.46, and that’s despite the market having added more than 8% this year.
The graph below from Argo shows premiums (green) or discounts (red) to NTA over the last 30 years.
The discount in 2024 is approaching the record “high” in 2000.
Why are the big LICs at a discount?
There are three reasons why the LICs are trading at a discount. The first is structural, the second cyclical and the third arises due to poor management and promotion.
The structural reason is that LICs are losing the battle to ETFs, both active and passive. Despite LICs being “structurally” better than ETFs (a company structure that allows the smoothing of distributions, share purchase plans, simpler tax statements and a finite investment pool that should make it easier for the investment manager), ETFs, which employ a trust structure, are seen by investors as more transparent, easier and fairer to deal in and are often lower cost. A ban on advisers receiving “selling commissions” has halted the origination of new LICs.
The cyclical reason is that LICs tend to get left behind in strong bull markets and hold up in bear markets. As the chart above shows, discounts are the norm in bull markets and premiums the norm in bear markets.
Finally, the big LICs have performed “ok” but haven’t set the world alight. They have done little to improve transparency (some now provide weekly NTAs, few provide a daily NTA), performance data is patchy, and the marketing effort is poor. They are being out marketed by the ETFs.
What’s the play?
I think there are two plays.
If you are bullish over the medium/long term, buy the big, listed investment companies and be patient. You can expect close to market index performance, and a stream of fully franked dividends yielding about 4%. It may take some time for the discount to close, and may widen further first, but it will close.
If you already own one of the big index ETFs such as Vanguard’s VAS, iShares IOZ, Betashares A200 or State Street’s SPDR (STW) (the former tracks the S&P/ASX 300, the latter three essentially track the S&P/ASX 200), sell the ETF and buy the LIC. That is, switch from the ETF to the LIC.
You will be giving up index less a small fraction performance for the ETF and substituting for close to market index performance for the LIC but buying the LIC at a 10%+ discount.
How can you calculate the discount?
The big LICs publish their NTAs monthly, and in most cases, weekly. You can calculate the discount by comparing the published NTA with the closing ASX price on the day. The table below shows the discounts on 30 September.
Discounts at 30 September 24
To calculate the discount/premium mid-month for the big broad-based LICs, you can estimate the NTA (with a reasonable degree of accuracy) by taking last month’s closing NTA and adjusting for the performance of the market in the current month. Because the big LICs largely invest like the “index”, their performance is going to closely match the index.
The table below shows my estimated discounts last Friday. This uses Friday’s closing ASX prices and estimated NTAs based on the performance of the S&P/ASX 200 index in October of -0.7%.
Estimated Discounts at 25 October 24
Which “big” LIC to invest in?
There are 6 major broad-based listed investment companies. While actively managed, they essentially have the same investment objectives and run portfolios that closely resemble the ASX 100.
Argo’s objective, for example, is to “maximise long-term shareholder returns through reliable fully franked dividend income and capital growth”. AFI’s is “to provide shareholders with attractive investment returns through access to a growing stream of fully franked dividends and enhancement of capital invested over the medium term.”
AFI is the largest at $10.5 billion, followed by Argo at $6.8 billion, WAM Leaders at $2.0bn, Australian United at $1.6bn, BKI at $1.5bn and Djerriwarrh at $0.9bn. Most have low management fees: for example, AFI is 0.15% pa, Argo is also 0.15% pa and BKI 0.17% pa.
Each of the LICs benchmarks to the S&P/ASX 200 Accumulation Index. For AFI, the top 25 shareholdings represent 79.8% of the portfolio. CBA has the largest weighting at 9.3%, followed by BHP at 9.2% and CSL at 7.1%. Argo’s top 20 account for 62.9% of the LIC, with Macquarie its largest exposure at 7.8%, followed by BHP at 6% and CSL at 5%. BHP is the largest holding for BKI, while AUI has CBA at 9.3%.
As might be expected, portfolio performance is “around” index, minus a small amount. For example, Argo’s 10-year portfolio performance (after fees and expenses) is 7.9% pa compared to the index’s 8.9% pa. BKI’s is better at 8.7% pa, while AFI adjusts for franking credits and reports 9.8% pa (adjusted for franking) compared to the index’s 10.5% pa (adjusted for franking).
Here’s my view…
Based on size, liquidity, cost, historical performance and current discount, Australian Foundation Investment Company (AFI) is my choice.
Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regards to your circumstances.
