Comment: Unlisted companies offer rewards and risk

Columnist Bill Jamieson. Picture: Ian Rutherford
Columnist Bill Jamieson. Picture: Ian Rutherford
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For many private investors, the 102 year-old Scottish Mortgage Investment Trust (SMIT) has become an effective one-stop shop. Why look for diversification elsewhere when this giant £3.7 billion investment trust has a truly global reach and roams freely across world markets, cherry-pickling the best opportunities, whether giant corporations or “small cap” firms?

Its performance has been outstanding. Over the past 12 turbulent months shares in the trust have risen by 9.3 per cent. Over three years they are up by 80.5 per cent, and over five years by 121.2 per cent. And over each of these periods it has handsomely outperformed the global investment trust sector average.

This makes SMIT, the flagship trust of Edinburgh-based fund manager Baillie Gifford, a no-brainer for private investors and independent financial advisers alike, and surely a core holding in any share portfolio.

But SMIT is far from a risk-free investment. In recent years, as I have highlighted here, it has pushed into the high tech sector, bio-medical businesses and robotics. If you think that SMIT is an easy proxy for the FTSE 100 Index, or the Global Top 100 Index, think again.

And now it is pushing into the unquoted, private equity sector – an area that many investors would regard as high risk – and certainly would not undertake on their own.

Now Tom Slater, who stepped up to the joint manager role in January of this year, is pushing ahead with a growing number of investments in unlisted stocks.

Is SMIT on track – or wandering off piste? Not really. It can trace its origins to the credit crisis – not the 2008-09 debacle but the Panic of 1907. By 1909 the growing popularity of the motorcar was creating significant demand for tyres. Rubber planters in south-east Asia were keen to exploit, but credit was still difficult to obtain. In Edinburgh, the partnership between Colonel Augustus Baillie and Carlyle Gifford spotted an opportunity and established The Straits Mortgage and Trust Company Limited to lend money to the planters.

These were high-risk investments, in a world innocent of the regulatory protocols of today’s publicly listed company and the corporate governance system that now obtains.

In an interview with Investors Chronicle personal finance writer Kate Beioley, Slater reveals he has just returned from Silicon Valley and meetings with high tech corporate bosses.

He is backing a new wave of consumer, biotech and retail companies not quoted on world stock markets but are currently sporting hefty valuations on the back of private cash.

All told, some 10 per cent of Scottish Mortgage is now invested in up-and-coming unlisted companies such as music site Spotify (0.4 per cent of assets), peer-to-peer loan company Lending Club (0.6 per cent) and file storage site Dropbox (0.7 per cent).

“In the past six months”, he told Beioley, “our newest holdings have been from the unlisted market. That’s where the most interesting ideas are coming from.

“The regulatory hurdles associated with public markets have made it unappealing to companies that would have otherwise gone public and they can easily attract capital in private markets now.”

This strategy begs two questions.

The most pressing is whether the price tags of £1bn or more on some of these private companies points to a bubble overdue a burst. That impressive record could take a hit if some of these valuations prove vulnerable to a change in market sentiment.

The second relates to the trust’s dividend payment. Up until a few years ago, SMIT’s appeal lay in its ability to combine both a strong capital performance and a significant dividend yield – by no means among the highest in the sector but sufficiently high to attract and retain income conscious investors.

Today SMIT’s dividend yield is down to just 1.18 per cent. The managers could argue that this is as much a result of the fund’s capital growth success – in fact the shares are standing at a 2.6 per cent premium to net assets – rather than a conscious decision to reduce the dividend payout.

But it runs the risk of narrowing SMIT’s appeal from that of a broad based “trust for all seasons” to a high-growth fund with a higher-than-average risk profile. This shouldn’t be an immediate worry so long as private equity holdings don’t come to count for significantly more than 10 per cent of the total portfolio. And for the moment, shareholders have very little to complain about. SMIT remains a quality holding and in the fine traditions of its history.