IT Discounts

Doceo

For what was behind the February pick-up in year-high discounters, broker Winterflood writes in its monthly summary of the sector: “Investment Trust sector average discount at 29 February was 15.9% vs 14.2% at 31 January, 12.9% at the end of 2023 and 11.3% at the end of 2022. Discount moves remain closely correlated with Gilt yields, with the sector discount widening so far this year coinciding with a rise in yields. The vast majority of sub-sectors were de-rated last month, with still none trading at a premium at the end of February.”

“…discount widening so far this year coinciding with a rise in yields” – could this be the cause of the UK equity income sector’s malaise? After all, yield is a key attraction of the sector – all 10 funds generate yields at or above 3.9%: AEI (8.4%); CTY (5.1%); DIG (4.7%); EDIN (3.9%); LWI (5.4%); MRCH (5.3%); MUT (4.6%); SCF (5.3%); SHRS (6.6%); TMPL (4.0%).

So, when yields on risk-free Gilts rise, those of other asset classes competing for the investor’s pound, such as UK equity income funds, rise too so that they remain attractive. For yields to rise, dividends need to be raised and/or share prices need to fall. And when share prices fall, discounts widen (assuming net assets remain constant). Just as they have been for other interest rate sensitive sectors, such as renewables and property, rising Gilt yields, the source of discount woe for UK equity income funds, it seems.

And because we have a plausible cause of February’s discount widening, it follows we have…

A trigger
…for a future narrowing in discounts in the UK equity income space – falling Gilt yields. The trigger for falling Gilt yields? Confirmation that interest rates are on a downward trajectory would likely help. Sadly, that was something the Chancellor did not say during the Spring Budget. Perhaps that’s it – it was all down to what the Chancellor did not say…