Global capital markets are unsettled, with wave after wave of uncertainty and economic shocks clouding the ability to forecast company value and share prices accurately. Lord Jonathan Kestenbaum has argued that market anxiety is likely to continue, and that transparency is needed to retain shareholder confidence and drive intrinsic fair value within exchanges.
Market turbulence is evident as issues in the Strait of Hormuz align with a 9% decline in the S&P 500, while some sectors reach new highs. AI-related stocks have surged, and initial public offerings from innovative firms like SpaceX and Anthropic have stretched valuation limits. Simultaneously, bond yields are climbing due to rising national debt and increased spending in affluent nations.
Causes of Market Uncertainty
The situation at the Strait of Hormuz has coincided with a 9% fall in the S&P 500 and record highs in other areas. Lord Jonathan Kestenbaum, a non-executive director at JP Morgan Japanese Investment Trust in London, suggests that market uncertainty is likely to persist.
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Public markets have yielded significant returns in recent years, but these gains occurred during a period of generally low yields. This trend is shifting, as high market valuations now increasingly reflect higher term premiums demanded by investors, driven by concerns about fiscal stability.
Impact on Investment Trusts
Investment trusts disclose their net asset values (NAV), providing clear instances of market over- or underpricing. When NAV exceeds the share price, the stock is trading at a discount relative to its underlying asset value.
Average discounts for investment trusts in certain asset classes rose from 2.5% at the end of 2021 to 18.8% by October 2023. Richard Stone, CEO of the Association of Investment Companies, notes that investment trusts have undergone significant transformation in recent years, marked by increased mergers, share buybacks, mandate adjustments, and fee reductions to benefit shareholders.
Several notable examples on the London Stock Exchange, like Caledonia, RIT, Scottish Mortgage, and Alliance, have all experienced considerable fluctuations in their ratings. When a listed investment company trades at a large discount, with the share price running below NAV, this often reflects a combination of concerns – strategic drift, liquidity, transparency, sustained investment underperformance, patchy communication, wider geopolitical concerns, a lack of investor awareness, and an overall geopolitical discount.
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Narrowing the Discount
Lord Kestenbaum has stressed the importance of transparent information flow. While calmer geopolitical conditions would help, clarity is equally key. He has previously noted that market volatility affects not only institutional investors but also individual retail investors.
In a Select Committee meeting, Lord Kestenbaum described market instability as both episodic and systemic. He suggested that companies could improve by clarifying their exposure to geopolitical risks and being more transparent about the gap between their NAV and share price. The Financial Conduct Authority could also enhance cost-disclosure rules, but investment managers, particularly those with retail investors, must prioritize consistent and creative communication with shareholders.
Discounts can offer buying opportunities, as Warren Buffett noted, ‘it makes sense to buy a dollar for 90 cents.’ However, investment trusts are finding that retail investors base their decisions on a balance between fear and greed.