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Split sector starts on long road to recovery

The split-cap investment trust crisis finally seems to be coming to a head. Last week, the industry saw another round of trusts suspend their dividends while several others fell into breach of banking covenants.

Aberdeen Asset Management&#39s share price, which seems to be directly linked to any bad sentiment in the split sector, plummeted to a six-month low last week. The company is now trading at around £2.50 a share, more than 60 per cent down on its January 2001 high of almost £7.

The industry has taken some measures to turn round the situation. Earlier this month, the AITC wrote to the boards of all split-cap trusts advising them to tighten their belts in an effort to put a stop to the sector&#39s problems.

The letter, from director general Daniel Godfrey, said: “As we stand today, it seems likely that there are a number of companies whose problems are sufficiently severe that they would require quite strong rises in markets in order to avoid further erosion in their asset base. To avoid such an outcome, it might be worthwhile to examine measures that should strengthen balance sheets and improve debt-to-asset ratios.

“The first measure that boards could take in an effort to improve the financial strength of their company in these exceptional circumstances is to look at all costs of the company, including fees paid to investment bankers for reconstructions, to see if they can be reduced. Further, they could ask the manager to waive fees on that part of the portfolio that is invested in other investment companies and on the company&#39s bank debt.”

Just three weeks later, the boards already appear to be following Godfrey&#39s lead. Last week, a handful of the major split players announced they are cutting or even waiving the fees on one or more of their split-cap trusts to help the flailing trusts restore their balance sheets to some health.

Aberdeen marketing director of investment trusts Piers Currie believes the move will be beneficial for the industry. He says: “It is mostly a defensive move to try and stop the troubled splits from having any claim on their assets at a time of extreme difficulty. I think it is important that the fund managers are seen to be sharing some of the pain that investors are feeling.”

As well as strengthening the balance sheets of the trusts, waiving the charges may well eventually start to encourage some new money into the sector. Since the splits industry has fallen into crisis, a number of fund management groups have launched recovery funds to capitalise on any pick-up in the sector. This too should provide a useful injection of capital to some of the trusts.

Christows head of investment trusts Nick Greenwood says it may take some time for money to start coming back into the sector. He says: “The sector desperately needs new money but people will have to see that and see the buying opportunities.”

Although Greenwood welcomes the recent recovery fund launches, he points out that some of them were too early into the market. “If you look at Premier recovery trust, for example, they were a little too soon into the market. They only launched a few months ago and they have already lost half of their net asset value.”

The misery may not prove to be completely over yet but many of the sector&#39s trusts are already trading at a nominal share price of 1p – these at least cannot fall any further. Aberdeen&#39s Currie believes the next two months will be difficult, with a proper recovery after that.

Signs that the crisis may be nearing its end have been welcomed by IFAs, with many now beginning to give the sector another look. With the worst of the fallout passed, IFAs are at least in a better position to advise their clients how much, if anything, they will get out of any existing split-cap investments they hold.

Whitechurch Securities senior director Warren Perry says: “As far as zeros are concerned, with some prudent management by the boards, most trusts should be able to continue and full capital repayment at maturity will probably be achieved.

“In some cases, however, trusts will inevitably have to be wound up early and this will possibly result in investors receiving back less than they expected – or even less than they invested in some cases. This does mean that investors will need to consider how best to replace their capital. The zero market should not be ignored as there are still some excellent investments to be had.”

While the end of the sector&#39s problems may be in sight there is, nevertheless, the small matter of an ongoing FSA investigation into the sector, and calls from Liberal Democrat pier Lord Newby for a DTI review on splits. These will try to uncover the so-called “magic circle” and will at least attempt to put systems in place to ensure that such a practice cannot take place in the future.

For Aberdeen, its share price is probably not yet safe. But at least the industry now seems to be taking a responsible approach to tackling its problems.


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