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Can LICs survive the death of commissions?

Anthony Fensom  |  27 Aug 2019Text size  Decrease  Increase  |  
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Treasurer Josh Frydenberg has put the listed investment company sector on notice with reported plans to investigate any “inappropriate advice”, including commissions paid to stockbrokers for promoting LICs to retail investors. Can the $42 billion LIC sector survive the change?

The Treasurer last month told the Australian Financial Review he had asked the Australian Securities & Investments Commission  and federal Treasury to “provide advice on the extent to which inappropriate advice is being provided in relation to LICs”.

“Financial advisers have a duty to act in the best interests of their clients when they provide personal financial advice,” he was quoted as saying.

“This means that advisers are legally required to place their clients’ interests above their own”.

The AFR suggested that while the Treasurer did not want to “unnecessarily” impose new limits on financial advisers, he would “consider a crackdown if ASIC and Treasury conclude there is too much risky peddling of listed securities”.

Investor support for the sector has seen a doubling of funds over the five years to 2018 with a surge in market value. As at 30 June 2019, LICs’ total market capitalisation amounted to nearly $42 billion, up 8 per cent on the prior financial year, with some 103 funds spanning asset classes ranging from Australian to international equities, infrastructure, property, private equity and absolute return.

A number of initial public offerings have attracted investor attention in 2019. These  include the Pengana Private Equity Trust (ASX:PE1) focused on global private equity investments, which listed in April after raising $205 million from investors, and the Regal Investment Fund (ASX:RF1), which listed in June after securing $281 million for its LIC focused on alternative investment strategies.

Both LICs were backed by a number of stockbrokers, with Pengana’s lead managers comprising Taylor Collison, Bell Potter and Shaw and Partners, while Regal’s IPO was supported by nine lead managers, including Morgans Financial, Ord Minnett and Wilsons.

Yet the model by which stockbrokers and their staff earn commissions on such floats has been called into question. According to industry sources, LIC promoters typically pay such advisers a “stamping fee” of about 1.5 per cent for placing retail (“mum and dad”) investors into such floats.

“This is quite advantageous for a retail adviser, since most of them are probably only getting around 0.5 per cent commission for a stock trade. And if they put their client base into the LIC, they will get 0.5 per cent commission to get each client out of a stock and another 1.5 per cent for putting them into the IPO,” the source said.

“A lot of advisers have been struggling over the past decade because of lower volumes and people moving to discount stockbrokers, so they see this as easy money. LIC promoters have taken advantage of this and the government has spotted that the advisers are doing it not because they think it’s a good investment, but because of the commission.”

For LICs, the large proportion of retail as opposed to institutional shareholders has made them heavily reliant on individual investors, according to the source.

If commissions are removed, will LIC IPOs be under threat?

“It will make it much more difficult – they will have to rely more on the strength of the underlying investment manager, how the LIC is structured, what they’re investing in. To make an LIC viable they really need to raise around $300 million to $500 million at a minimum, so they’re going to have to work much harder,” the source said.

Morningstar’s Ross MacMillan, senior analyst, Manager Research, says investors considering LICs must consider several factors before investing.

“Look very carefully at how it fits into your portfolio. Consider the fact that quite often LICs can trade at a discount or premium; they can trade quite irrationally, either trade at a large discount or premium, so be careful when you buy and sell,” he said.

“Look carefully at the NTA [net tangible asset] backing and the price on the market. And also look at the underlying investment manager. Do they have a history of running this sort of fund? Have they been successful previously at running this sort of investment strategy? And have a look at what else is available in the markets”

LICs favoured by Morningstar currently include Platinum Capital Limited (ASX:PMC), awarded a silver rating in March for offering “a convenient access point to an excellent global-equity strategy,” while the Magellan Global Trust (ASX:MGG) also earned a silver rating for its features including “a highly rated investment process, predictable distribution profile, and convenient exchange traded access”.

Yet with some major LIC IPOs in the pipeline, including reportedly a $1 billion IPO planned by VGI Partners for its Asian equities fund, the sector will be watching the Treasurer closely as he weighs the future of commissions. 

is a Morningstar contributor.

Any Morningstar ratings/recommendations contained in this report are based on the full research report available from Morningstar.

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