Any Value to Income Trust Indexing?

[worthy]

Are trust pickers just wasting their time trying to beat the market? Mightn't they be better off simply indexing with funds that mimic indexes such as the S&P/TSE Capped Income Trust Index or Scotia Capital's Income Trust Index?

Is there any "proof" one way or the other? Perhaps trusts have not been around long enough to judge.

FWIW, I've largely gone from selecting trusts individually, to large holdings in broadly-based funds, particularly Sentry's SDT.UN, which is leveraged and Enervest's EIT.Un. Plus, some individual O&G trusts STA.5-6 and long- time holdings in Summit's REIT, SMU.UN.

[scomac]

Are trust pickers just wasting their time trying to beat the market? Mightn't they be better off simply indexing with funds that mimic indexes such as the S&P/TSE Capped Income Trust Index or Scotia Capital's Income Trust Index?

This is something I've spent a fair bit of time contemplating over the last couple of years.

For the purpose of income stream generation, the CEF route certainly does the trick....with little effort and much less risk than owning individual trusts. But, this calls into question the confidence one has in the trust structure and the asset class as a whole.

ISTM that over the last couple of years the proliferation of new trusts could have more to do with existing business owners maximizing the value in their repective businesses than converting to a more appropriate ownership structure. Time and again, I read managements suggesting that the conversion to a trust structure will allow them easier access to capital and a higher value placed on the company's internal capital when it comes to pursuing growth strategies. Simply put, it makes the business worth more to the market.

As I've looked at a number of trusts over the years, I'm less than comfortable with the sustainability of the business models inlight of the payout levels. My feeling is that this is a widespread phenomenon within the sector. Only time will tell how this plays out as most trusts have never been tested under the fire of a strong economic downturn or in a high interest rate environment.

Until these outcomes become clear, I chosen to select trusts on an individual basis with sustainability of the business model (and hence payouts) being the key selection driver. With this in mind, my motivation is more about preserving capital than it is about beating the market.

Scott

[westinvest]

Are trust pickers just wasting their time trying to beat the market? Mightn't they be better off simply indexing with funds that mimic indexes such as the S&P/TSE Capped Income Trust Index or Scotia Capital's Income Trust Index?

I don't believe there are any "pure" income trust index funds at this time. There are closed end trusts such as SCITI (SIN.un) that invest in a portfolio of trusts that make up the Scotia Income Trust Index, but even SIN uses up to 20% margin, and thus is leveraged - as are the other major diversifieds you mentioned, EIT.un and SDT.un. The leverage helps these diversifieds offset their MER as long as the market is heading up, but if there was a sustained downturn that margin would make the damage more dramatic than that suffered by the index. EIT.un and SDT.un are actively managed, and their investment strategies are quite different, so neither would represent a passive index approach.

That said, given the proliferation of new business trusts most retail investors would be hard pressed to do the DD required on a reasonably diversified business trust portfolio, so the diverified trust of trusts approach offers some protection agains a certain number of duds that will hit the market. In this scenario, the actively managed diverifieds may be able to dodge a few bullets while the index based trusts buy the market, warts and all.

I would personally prefer a passive index approach, and I'm hoping someone will introduce a pure diversified without margin.

[worthy]

EIT and SDT strategies seem pretty similar. Both seek to "maximize distributions" using broad-based portfolios. Sentry, however, is more aggresssive with leverage than EIT, which limits itself to a maximum of 10% leverage. Also, EIT says it seeks undervalued assets; but that's not clear, at least to me, from comparing its holdings to those of SDT. They're both working with the 110 or so of the biggest trusts and trusts of trusts that everybody else is.

I hope we're not all shuffling the same deck chairs on the Titanic.

[westinvest]

EIT and SDT strategies seem pretty similar. Both seek to "maximize distributions" using broad-based portfolios.

Agreed - the major difference is in how they manage capital gains and distributions.

EIT tends to have a lower turnover, so a larger proportion of their gains are unrealized gains that increase NAV but do not increase distributable cash. This does not deter them from paying out the gains in distributions anyway, they normally pay out more in distributions than they take in. This means that a larger proportion of their distributions are ROC - and in this case it probably is true return of capital.

SDT is a more active trader. Their normal distributions are lower than EIT, but they typically have one or more special distributions during the year where they pay out the accumulated cash from realzied capital gains.

SIN does not normally pay out distributions for realized capital gains. If they realize a capital gain because of rebalancing of the index the gains are re-invested in the portfolio.

[worthy]

Dominion Bond Rating Service has posted its criteria for evaluating income trusts. http://www.dbrs.com/web/sentry?COMP=2900&DocId=143422

In evaluating broad-based trust funds, it's interesting to see how many of them are top-heavy with STA 5-6 trusts. And dismaying to think how many retirees view trusts as substitutes for fixed-income investments without fully realizing the risk.

[George$]

Eric Reguly (who I try to read as often as possible) has a Globe and Mail column this morning "Bay St.'s rich secret: churning income trust funds"

I am not familiar with what he describes.

Reguly describes how once a year trust fund owners (only true for "closed-end" income trust funds?) can redeem their assets at net asset value (NAV). This apparantly is exploited by advisors and leads to abuse of the client.

He goes on to discuss all the fees and charges and how the client gets hosed in the process of switching from one fund to another.

Is the churning of trust funds a real problem? Sounds a bit bizare.

[Shakespeare]

Here's the Reguly column:

Bay St.'s rich secret: churning income trust funds

[George$]

again "thanks" Shakes

[Bylo Selhi]

Here's the article: Bay St.'s rich secret: churning income trust funds

Is nothing beneath the dignity of investment "professionals"?

[Small Investor Activist]

With analysts like Al Rosen calling up to 50% or more of trusts "ponzi schemes", and now even the Alberta energy minister calling for a tax I'd avoid this sector all together until the shake out ends.

[c emptor]

If you're like most unwealthy investors, you buy a closed-end income trust fund as opposed to an individual trust because there is security in diversity. There are a ton of options, including the Faircourt Split Seven Trust, Fairway Diversified Income and Growth and Skylon Growth and Income Trust. Most have performed well.

The funds are usually priced at $10 a unit. But there are costs. An "agent's" fee of 5 per cent comes off the top. That essentially covers the underwriting charge, which is split between the underwriter and the retail broker. The fee does not include assorted lesser expenses, such as legal fees. Include them, and you get close to 6 per cent. So you're down to perhaps $9.40.

Why is the unwealthy investor necessarily buying a diversified? What right does Reguly have to make this asssumption? Plenty of them buy individual trusts. If they buy a diversified why are they buying the IPO necessarily? He offers no supporting data. Maybe they are buying at $9.40 in the aftermarket.

If you're happy with the redemption feature, the underwriters and the brokers are even happier. First, you get charged a 1-per-cent fee to sell. Then, guess what? You're put into a new fund that charges you another 5-per-cent agent's fee.

Nonsense!
Redemption doesn't automatically put you into anything . You get the cash. Where is his evidence that this happened? I have read that there are a some skilful investors who specialize in making capital gains from playing redemptions.

That's partly because trusts are spreading like a cancer over the Toronto Stock Exchange.

Anyone who uses such hateful language is biased
and has an axe to grind and is incapable of making a contribution to understanding trusts .

[Small Investor Activist]

The problem with trusts isn't necessarily their structure it's the sometimes fraudulent players who bring them to market.

[Springbok]

Why is the unwealthy investor necessarily buying a diversified? What right does Reguly have to make this asssumption? Plenty of them buy individual trusts. If they buy a diversified why are they buying the IPO necessarily? He offers no supporting data. Maybe they are buying at $9.40 in the aftermarket.

You are right - Most of these diversifieds have been around for quite a while and most investors would buy at market price.

If you're happy with the redemption feature, the underwriters and the brokers are even happier. First, you get charged a 1-per-cent fee to sell. Then, guess what? You're put into a new fund that charges you another 5-per-cent agent's fee.

Nonsense!

Redemption doesn't automatically put you into anything . You get the cash. Where is his evidence that this happened?

I could not see how Reguly could say that this happens - May be a few isolated case where investors rely on unscruplulous brokers to manage their accounts, but surely the investor would not go for this?

I have read that there are a some skilful investors who specialize in making capital gains from playing redemptions.

Do you know how much of the NAV an investor in a diversified closed end fund would get if he/she redeemed their units at year end as compared with just selling the units on the open market?

[steamboy]

Whenever you have a "professional" between you and the stock, there is going to be some skinning involved. Bet on it. They work in carpeted offices and drive Jaguars - who do you think is paying for this?

[worthy]

According to Reguly, trading volume near redemption time pushes up the market price, reducing the discount to NAV. Putting aside the fact that volume can push prices both ways, isn't this an argument for not redeeming, but instead selling at market price? After all, discount brokers' commissions are in most cases a fraction of 1%. Query, do trust unit discounts to NAV narrow at redemption time?

[Springbok]

According to Reguly, trading volume near redemption time pushes up the market price, reducing the discount to NAV. Putting aside the fact that volume can push prices both ways, isn't this an argument for not redeeming, but instead selling at market price? After all, discount brokers' commissions are in most cases a fraction of 1%. Query, do trust unit discounts to NAV narrow at redemption time?

Here are the historical discounts for SIn.UN. Something happened at end of 2003, but not as much in 2004. I believe they accept retractions up until Dec 15th and then implement them by year end, which perahps affects price between 15th and 31st?

You can get this info from SCiti Site

Code: Select all

Date         Price       NAV       Premium(%)
11/06/03      10.62      10.94      -2.92
11/13/03      10.60      10.89      -2.66
11/20/03      10.63      10.84      -1.93
11/27/03      10.59      10.97      -3.44
12/04/03      10.95      11.20      -2.19
12/11/03      11.13      11.36      -2.02
12/18/03      11.35      11.61      -2.22
12/23/03      11.96      11.56       3.42
12/31/03      11.70      11.96      -2.21
01/08/04      11.60      11.84      -2.03
01/15/04      11.53      11.66      -1.09
01/22/04      11.50      11.94      -3.69
01/29/04      11.22      11.87      -5.51

Code: Select all

Date         Price       NAV       Premium(%)
12/02/04      13.28      13.38      -0.75
12/09/04      13.45      13.53      -0.57
12/16/04      13.56      13.96      -2.89
12/23/04      14.10      14.29      -1.30
12/30/04      14.00      14.31      -2.18
01/06/05      13.85      14.09      -1.68
01/13/05      13.78      14.27      -3.42
01/20/05      13.96      14.46      -3.48
01/27/05      14.74      15.00      -1.71

[worthy]

Historically, in the case of SDT.UN, which is redeemable at the end of November, in most instances you'd be better off redeeming than selling at market value.
http://www.sentryselect.com/it_ditNAVs.html