What is a Listed Investment Company?
A Listed Investment Company (LIC) is a listed investment vehicle that offers investors access to a diversified portfolio of shares in other companies also listed on the stock market. In this way, it is great ways to diversify risk through holding a single stock. LICs are listed on the ASX just like BHP or CBA.
A major benefit of the LIC structure is that it is a ‘closed end’ pool of capital. By this we mean that if an investor wants to leave, he or she sells shares in the usual way. No money leaves the fund and only the shareholders change. This is an important difference from a managed fund or unit trust structure, where an investor leaves by withdrawing their money from the fund, forcing the manager of the fund to sell at what might be low prices. In fact, most investors depart a fund when stocks have fallen significantly, which historically has proven to be the best time to buy, not to sell.
So, with LICs, the manager of the fund does not have to sell stocks in the portfolio to raise cash for a departing investor.
Conversely, most money pours into the market when stock prices are soaring. The manager of the managed fund or unit trust may then be forced to buy companies at inflated prices due to their strict mandates. This type of momentum investing can cause a serious destruction of capital when a bull market ends.
As a LIC is ‘closed end’ it does not have these problems.
LICs are unique investment vehicles because they can trade at a discount or premium to the assets that they own. When investors want to sell shares in the LICs, the share price may fall below the value of its net asset backing (or NTA). The net asset backing per share is what you would get per share if all the underlying shares were sold on the stock market.
We refer to this as trading at a discount to NTA. This can provide a great buying opportunity for investors, because they can buy into a portfolio of shares at less than it would cost to buy them separately on the ASX.
On the other hand, when the shares in a LIC rally, the share price may trade higher than the value of the assets it owns. In other words, you could buy the shares in the portfolio cheaper on the stock market (on average). This is referred to as trading at a premium to NTA. This situation can provide a selling opportunity for investors.
The following report by Patersons will assist investors understand the difference between LICs and managed funds.