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By Richard Evans The stock market has taken a battering in recent days. The most important index of London shares, the FTSE100, stood at 6,585 when the market opened for business last Monday; by the close on Wednesday of this week it had slumped to 6,251, a fall of 5 In a wholesale selloff such as this, prices tend to fall indiscriminately - companies that are relatively immune from the events that have unnerved the market can see their shares dragged down along with businesses that are much more at risk. "On turbulent days you see good shares go down with the rest," as Keith Bowman of Hargreaves Lansdown, the stockbroker, puts it. So has the recent weakness thrown up any buying opportunities for bargain-hunting investors? "Defensive stocks such as Tesco or Diageo, the drinks maker, are less directly affected by the problems in the credit markets than, say, banks," says Mr Bowman, referring to the turmoil in the bond markets that has been blamed for the falls in shares. "Those two companies are broadly favoured by analysts at the moment. Meanwhile financial stocks have been at the forefront of the credit worries." But don't assume that all "defensive" shares will react to shocks in the same way. "Look at the specific circumstances of each company," says Mr Bowman. "For example, watch out for firms that are the subject of bid speculation. The credit crunch makes takeovers more difficult to pull off, so the bid premium could disappear." In other words, the share price could fall. Shares aren't the only investments that suffer in a stock market selloff - and that can bring rewards in a subsequent recovery. Many investment trusts, for example, have been dragged lower, as they consist of portfolios of shares. "When the market slides you get a double whammy with investment trusts," says Dan Kemp of Williams de Broe, the fund manager. "The underlying assets fall, and the discount often widens. But when markets recover, you should get a double benefit." Investment trusts have their own share price quote, so their value is not simply the sum of the price of their component assets. When a trust's share price is below the value of the underlying assets (expressed on a per-share basis), the trust is said to trade at a discount. Conversely, if the trust's share price is above the per-share value of its assets, it is trading at a premium. Positive market sentiment - an excess of demand over supply - will bring about a premium; the opposite conditions cause a discount. "We think investment trusts are one of the most exciting areas now. There are some fabulous trusts at good discounts - this turbulence creates some great opportunities," adds Mr Kemp. "For example, the Temple Bar investment trust trades at a discount of 8 per cent to the value of its assets - which are shares in large British companies - despite having an excellent manager in Alastair Mundy of Investec. And Fidelity European Values, managed by Tim McCarron, is now at a discount of 6 per cent; it last traded at a premium in February last year. We can see no good reason for this discount. After all, people can still buy the equivalent open-ended investment company (Oeic) at net asset value." If you do this you get the same mix of assets but no discount. Discounts on even highly regarded investment trusts reached as much as 30 per cent in 2003 as a result of the crisis in the split-capital trust sector, says Mr Kemp. "Since then discounts closed steadily until spring last year; then they began to open out again for no good reason." Among more specialist trusts, Mr Kemp picks out Merrill Lynch World Mining - "it trades at a 10 per cent discount despite being well managed and in a hot sector" - and Finsbury Worldwide Pharmaceutical. "This fund, which also invests in biotechnology companies, always commanded a premium; now it's at a discount of 10 per cent," he says. Merrill Lynch World Mining also appeals to Charles Cade of Wins Research, the funds analyst. "This trust is well managed by Graham Birch and the value of its underlying assets has risen by 40 per cent over a year and by 440 per cent over five years; the share price is up by even more." He also highlights the discounts of 11 per cent on Schroder's Asia Pacific trust and 10 per cent on Henderson TR Pacific. "Both are well managed - by Matthew Dobbs and Andrew Beal respectively - while underlying funds have risen by 45 per cent over year. Yet the discounts have widened since February and further over the past few days. These are good opportunities in our view, as is Alliance Trust, which has a discount of 16-17 per cent." Other sectors that Mr Cade regards as promising include Japan and global funds.
As Mr Cade points out, discounts don't just mean that you buy your assets more cheaply; they also boost the percentage return from any income - a benefit known as "yield enhancement". What of investment trusts' cousins, unit trusts? The main difference is that unit trusts have no stock market quote of their own; instead they are priced once a day by the management company. As a result, the price reflects the value of the underlying assets and there is no discount or premium. "With investment trusts you know what you are paying, but because unit trusts price themselves once a day you don't know the price you are buying at," says Ben Yearsley of Hargreaves Lansdown. "If the trust you are interested in is valued at 10am every day and you buy at noon today, you will pay tomorrow's price. The same applies when you sell." In fast-moving markets this lack of certainty can be offputting, although it can work in a buyer's favour as well as against. "There are buying opportunities among unit trusts given the FTSE100's steep fall," adds Mr Yearsley. "Funds that buy into large-cap stocks will reflect this decline. One example is Schroder UK Alpha, which is currently priced at 118 - it was at 126 not long ago. Richard Buxton is a great manager - and you should always buy from good managers." Another of his favourites is Bill Mott's Psigma Income. "This type of fund is good on a long-term view. Mega and large-cap shares have been pretty cheap anyway. Buy what you would buy anyway, irrespective of this correction." Mr Yearsley recommends buying from an independent financial adviser or fund supermarket. These companies will often waive the initial charge, which can be as much as 5 per cent. Unit trusts and investment trusts both levy annual charges - 1.5 per cent a year is a typical figure, although investment trusts often charge slightly less. These fees are deducted from the fund. Investment trusts, as quoted companies in their own right, are bought through stockbrokers and there is the usual broking fee and stamp duty to pay.
Meanwhile, returns on bond funds have also picked up as a result of turbulence in the credit markets. But Darius McDermott of Chelsea Financial Services reckons that investors are better off keeping their holdings in cash for the moment.
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