The use of gearing to enhance returns over the long term is a key advantage for investment trusts, providing the trust’s underlying investments increase in value. But when markets fall heavily, gearing has the reverse effect: investors will suffer greater losses per share (see below for a more detailed explanation).
After the disastrous suspension of Woodford Equity Income this spring, the board of Woodford Patient Capital (WPCT) felt compelled to act quickly to reassure shareholders. The closed-ended fund does not face the same liquidity issues as its sister vehicle, but the board was under pressure to prove its independence – and it had a good idea of how to do so.
Borrowing to invest comes with risk warnings attached – but it can boost returns in a big way if used with sufficient care and attention, as Fiona Hamilton explains.
The use of gearing to magnify returns adds a layer of complexity and risk to trusts that puts off some investors.