An “unexpected” investment trust merger has been described as an attractive offer for shareholders in persistent underperformer UK Mortgages (UKML) but one analyst is calling on the board of the Twentyfour Income Fund to let investors vote on the proposals.
The merger of the investment trusts, both managed by Twentyfour Asset Management, would create a strategy with a market capitalisation of over £700m, according to Tuesday’s share price.
UKML received much attention from UK intermediaries when it launched in 2015, but the portfolio of UK mortgages underperformed and the illiquid trust was trading at an 8% discount leading up to the merger announcement.
‘Very welcome’ announcement for beleaguered UKML
The offer has been touted as attractive for UKML shareholders.
Liberum said the investment trust was sub-scale and unlikely to grow given the board’s policy of not reinvesting capital while the discount was greater than 5%. Although the fund had just started to meet its return targets its discount remained persistent, Liberum said.
The transaction will be priced at 83.32p net of costs for UKML. In August 2020, M&G made a bid for the investment trust at 68.5p meaning this is a substantially better outcome for shareholders. The UKML board came under fire for rejecting M&G’s advances and was forced to sweeten shareholders by launching a strategic review and reinstating its dividend, which had been ceased due to the Covid-19 pandemic.
Stifel described the M&A news as unexpected, having anticipated UKML would move towards a wind-up, but “very welcome”.
“Today’s deal involves two trusts from the same manager in a deal which will be tax efficient for the shareholders of the target. The combined entity will have a lower TER, more liquidity, and a more diverse shareholder register.”
TFIF’s three-yearly realisation vote falls in Q4 meaning UKML shareholders would have a chance to exit their position at close to NAV within an imminent timeframe.
TFIF shareholders should get a vote
But although the regulatory filing from TFIF said certain major investors had been consulted on the merger, Stifel was surprised a vote was not being sought from shareholders.
“While we are not against the proposed merger and can see the benefits of such a transaction, we think TFIF shareholders should have the ability to provide their support through a vote given the mandate of the fund will be blurred to some extent,” said analyst Sachin Saggar.
“This should be abundantly clear following the missteps that occurred regarding the M&G bid for UKML in 2020. Alternatively, the transaction could be viewed as good for the manager (retention of assets) at the expense of TFIF shareholders.”
‘A very different set of risk and return characteristics’
There is also a lack of clarity about what the portfolio will look like after the merger.
“There is clearly a big difference in portfolios across the two funds, given TFIF’s significant weighting in CLO and UKML’s exposure to residual tranches of UK RMBS transactions,” Liberum said.
Stifel said TFIF’s focus on debt tranches of CLOs and residential mortgages had helped protect the portfolio during market volatility, notably during the pandemic. In contrast, UKML had exposure to equity tranches of UK mortgages “and so provides a very different set of risk and return characteristics”.
Today’s announcement had not been clear about whether the UKML strategy would continue within TFIF or run down over a long period of time, Stifel said.
