Get ready for part two of the great income trust selloff.
Over the next three months, investors are expected to unload a vast mix of closed-end funds, an investment class with more than $10-billion in assets tied to the performance of income trusts. A long list of boutique money managers may see an exodus of investment dollars, including Acuity Funds Ltd., Sentry Select Capital Corp. and Brompton Group.
Ottawa's decision to tax trusts in 2011 is a double whammy for closed-end funds, whose popularity has risen in lock-step with income trusts over the past decade. Since Oct. 31, the value of trust-linked funds have fallen from 10 to 20 per cent.
Now, many funds are bracing for a wave of redemptions. Closed-end funds have an annual redemption feature that allows the investor to sell units for net asset value without incurring transaction costs at or near the anniversary of the original purchase date. Historically, the bulk of fund sales occurred in December, January and February. Client statements reflecting November's weak returns will be arriving in the next few weeks.
"There is going to be a lot of people exiting that space and looking elsewhere for income solutions," said Steven Marshall, president of alternative investment firm OpenSky Capital. He expects redemptions of the $21.7-million OpenSky Capital Managed Protection Income Trust Fund -- a two-year old principal-protected closed-end fund -- "could be fairly high" in February and March next year.
"The general market expectation is, yeah, there are going to be some pretty heavy redemptions," said Neil Murdoch, president and chief executive officer of Connor Clark & Lunn Financial Group. This month alone, the $59.9-million CCL Conservative Income Fund II has reported redemptions of about 14 per cent.
Closed-end funds must sell trust units to cover redemptions and at least one fund manager fears income trust valuations will tumble further.
"Big economies of scale will kick in," said the Toronto portfolio manager, who asked not to be identified. "There will be a disconnect between the fundamental valuations and the fact that certain people need to raise money in these funds and will sell these securities. Who are going to be the buyers? Is it going to be other retail investors? Maybe. Is it other institutions? That I don't know."
Despite the sense of uncertainty, many fund executives are optimistic.
Brian McOstrich, vice-president of marketing at Sentry Select, said the federal government's tax proposal "will slow things somewhat" but added that the Toronto firm remains committed to the asset class. Sentry Select oversees about $8-billion in assets, including $3-billion held in income trusts.
Luck -- good and bad -- has played a role. On Oct. 27 -- three business days before Finance Minister Jim Flaherty's tax policy announcement -- Barclays Global Investors Canada Ltd. sold $800-million in closed-end funds to Brompton. Four of the five funds hold income trusts.
"When we landed the Barclays deal we thought it was a bit of a coup and I guess a lot of our competitors right now are relishing the fact that we gave up some assets. But we are all in the same boat frankly. We all gave up assets to some degree," said Brompton president Mark Caranci. About two-thirds of the firm's $3.5-billion in assets under management are held in trusts and to date, year-end redemptions have been a "pretty palatable" and below levels in 2005, he said.
Meanwhile, First Asset Funds Inc. filed its Utility Split Trust offering on Oct. 24, giving the money manager a brief window to raise money before November's uncertainty. In mid-November, the Toronto firm used $112-million in proceeds to buy utility trusts on weakness.
"I would like to say we were geniuses," said Paul Dinelle, executive vice-president. "We've just been very fortunate."
Some of Canada's largest closed end funds could see heavy redemptions in coming months, compounding their recent declines.
|Fund||Assets ($million)||% change Nov.|
|EnerVest Diversified Income Trust||$1,600||-15.4%|
|Sentry Select Diversified Income Trust||1,1000||-18.6|
|Citadel Premium Income Fund||584||-15.2|
|Acuity Focused Total Return Trust||451||-19.4|
|Brompton Tracker Fund||337||-18.4|
|Brompton Equal Weight Oil & Gas Income Fund||305||-21.7|
|Citadel Stable S1 Income Fund||332||-12.2|
|Indexplus Income Fund||316||-14.6|
|Series S1 Income Fund||295||-17.0|
SOURCE: BLOOMBERG FINANCIAL SERVICES
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