Eureka Correspondence

Azure takeover offer, bond ETFs, understanding LICs and performance fees, and SMSF model portfolios.

Azure takeover offer

Big congratulations to Simon Dumaresq, who found Azure and wrote about it.  It has now received a takeover proposal.  What is likely to happen next?
TS

Editor’s response: Thanks for your letter. On top of summarising the takeover bid in Eureka Report’s live markets, Simon has provided an in-depth analysis in today’s edition, which can be found here.

Investing in bond ETFs

Your recent article The $6,000 diversified bond portfolio interested me. However, it seems to involve buying a number of individual stocks. I was wondering if you could write an article (or point to me an existing one) about some good bond funds that an investor may purchase as an exchange-traded fund with some diversification, without having to assemble all of these stocks?

Name withheld

Editor’s response: Thanks for your question. Our new bond and ETF expert, Rosemary Steinfort, recently wrote an article on this very topic, discussing the increasing range of investment options for Australian bond ETF investors.

Understanding LICs and their performance fees

How encouraging to see another informative article on LICs. These investments are far less well understood than they should be, especially as an alternative to managed funds. That may be because there is no commission to advisers in promoting them, which is why Eureka Report is doing a great job in explaining them. From my experience they offer considerable benefits additional to those that Scott Francis describes, including the ability to get into and out of them instantly without tiresome paperwork, costly delays and any fees. More on LICs, please.
RM

Earlier in the article LICs with an instant yield booster, it referred to other LIC management fees, and gave examples of fees around 0.2%.

It then went on to talk about this LIC’s discount to NTA and the effect of yield. But it totally neglected to mention the management fees, which is 15% of any outperformance over the All Ordinaries index, or 45 times the example given earlier. I find this a very significant omission, as a reasonable reader might infer that LICs have negligible management fees, whereas the actual management fee is a major reason for the discount to NTA, and should have been discussed in the article.

You don’t know what you don’t know. In this case I was aware of the effect of management fees on discounts to NTA, so went looking. Other readers might not.
TL

Scott Francis’s response: Thanks for your letter. To clarify, the three LIC’s that I mentioned with the statement about LIC management fees of 0.2% do not charge performance fees, but the LIC Contango Microcap (CTN), which I used as a case study of an LIC trading at a discount to the value of its portfolio, charges a performance fee of 0.15% of the outperformance above the ASX All Ordinaries index – which can potentially be a significant amount. It has not charged a performance fee over the past two years.

As an example of what this fee might be, if the outperformance of Contango is 4% in a year (the S&P/ASX 200 Index provides a return of 12% and Contango provides a return of 16%), that is an extra fee of 0.6% (15% of the 4% outperformance). Around the time that Contango launched there were a lot of LIC’s that seemed to use a fee model of around 1% to 1.5% plus a fee for outperformance, and investors certainly should be aware of their total fees for any investment.

As you imply, there are a wide range of potential fees that an investor can pay for an LIC - from very cheap LIC’s like AFIC (AFI) and Argo (ARG), to an LIC like Contango which has a different value proposition as an active manager in a specialist area of the market and a higher fee structure.

One way to incorporate the value of a fee into considering the benefits of buying an LIC at a discount to the NTA is to calculate the annual fee (in the case of Contango 1.4 cents per year) and divide it by the assumed rate of earnings from the sharemarket (say 12% as an approximation), which will give us a ‘net present value’ of all future fees - in this case equal to about 11.7 cents. This calculation gives us an approximation of the value of all future fees, and we can subtract it to the NTA to see if there is still a discount after taking fees into account (albeit that I have not included any potential performance fees in this calculation - you can make an approximation of the value of what a performance fee might be and add it into the calculation).

In the case of Contango, subtracting the 11.7 cents as the value of all future fees to the NTA of $1.22 (which assumes that they will not realise too much capital gains tax in the fund through trading that realises capital gains), then the NTA after fees becomes around $1.10, still a premium to the current share price of $1.02.

An SMSF model portfolio

I have recently set up a SMSF with my husband. I have held shares privately for some years although I have not been an active trader, more a set-and-forget type of investor. 

However, now that I have a SMSF I am very interested in a suggestive model portfolio, be it for income or growth. I would like to be more proactive without having to continually trade. Being advised to sell or reduce, buy or hold shares in the portfolio every three to four months would be great (depending on the reasoning behind the change in recommendation).

I now subscribe to the Eureka Report and would value your advice on SMSFs and how to diversify across different investment options, e.g. shares, fixed interest, bonds from within the SMSF etc.

Please keep in mind that I am not a financial guru, I am blonde (but not dumb) and value being able to sleep at night without worrying about my SMSF.

I understand that your advice can only be in general terms and all investors should seek their own individual advice.

Your ‘suggestive portfolio’ or ongoing education for SMSF is appreciated.
RP

Editor response: Thanks for your query. For now, Eureka Report offers individual stock recommendations on blue-chip and small-cap stocks. However, a number of our experts also have their share portfolios displayed on the website, which you can find here.

We also deliver timely and relevant SMSF advice every Monday from our key contributors Bruce Brammall and Max Newnham. It would be beneficial to read over their recent articles as well, which you can find by clicking their names under ‘The Team’ tab on the website.