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24. Uncovering Trusts – Saba Capital Campaign
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In this episode, our director of content, investment trusts Milosz Papst discusses the recent campaign of Saba Capital targeting seven UK-listed investment trusts. He discusses Saba’s plan with respect to removing the existing board members, introducing its own proposed directors, as well as the potential future changes in investment mandates of these trusts. He highlights that Saba will likely favour a plain opportunistic arbitrage strategy to exploit the discounts to NAV among UK-listed investment trusts (by replicating the strategy of a US fund it manages, the Saba Closed-End Funds ETF), coupled with growing its own assets under management and fee income, as opposed to providing shareholders with a truly differentiated value proposition tailored to each of these trusts. He also outlines key flaws of Saba’s proposal, including risks to corporate governance, the lack of important details related to the liquidity events, change in mandate and protection of the rights of minority shareholders, as well as the biased narrative it is presenting.
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About ‘Uncovering Trusts’
'Uncovering Trusts': is a podcast run by Edison analysts released every two weeks. Subscribe to hear analyst interviews on how investment trusts maximise returns while managing risks for investors.
About Edison:
Edison is a content-led IR business. We believe quality investment content should inform all investors, not just brokers. Our mission: engage and build bigger, better-informed investor audiences for our clients.
Edison covers 50+ investment trusts, read about them here: https://www.edisongroup.com/equities/investment-companies/
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Transcript
Introduction to Uncovering Trusts Podcast
00:00:05
Speaker
Welcome to Uncovering Trusts, a podcast by The Edison Group, a content-led IR business integrating analyst content, digital targeting, and investor engagement.
Investment Ideas and Updates
00:00:16
Speaker
Tune in to find an interesting investment ideas and to stay on top of what's happening in the investment company sector. And recently, there has been quite a bit happening, and we're going to hear about that.
Interview with Milos Pabst on SABBA Campaign
00:00:26
Speaker
I'm your host, Will Manuel, and today I'm joined by Milos Pabst, Director of Investment and Company Content at the Edison Week, for a special episode of our podcast covering the SABBA Capital Campaign. So Milos, thanks for joining us today. I'm excited to join you again to discuss SABBA. Before you share your opinion on SABBA's proposal, ah can you maybe provide some background to the recent developments?
00:00:49
Speaker
Yes, sure. Saba Capital Management is a US hedge fund pursuing credit relative value, pale hedge and closed end fund strategies. Throughout the discussion, the most important is the latter strategy, which focuses on investments in closed end funds trading at significant discounts to an AV.
00:01:08
Speaker
Saba's investment approach is either to benefit from the higher yield these funds offer compared to the yield of the underlying fixed income instruments, or to pursue an activist approach to drive core productions as a tool to unlock value by monetizing the discount to NAB.
00:01:23
Speaker
Now, SAVA Capital has built stakes in many UK-listed investment trusts in recent years and has been aggressively increasing its holdings to around 20-30% in seven trusts in recent months. um These trusts include Bailey-Gifford US Growth Trusts, CQS Natural Resources Growth and Income, Edinburgh Worldwide, the European Smaller Companies Trust, Easton Positive Change Investment Trust, Henderson Opportunity to Trust and Herald Investment Trust.
00:01:50
Speaker
um Until recently, no one knew what Saba was exactly up to, but on the 18th of December, Saba published an open letter to shareholders of these trusts to inform them that they requisitioned general meetings for these trusts, proposing to replace their current boards of directors. ah They claimed that the current boards had failed to hold the investment managers accountable for the trusts' wide discounts to net asset value and their inability to deliver sufficient shareholder returns.
00:02:16
Speaker
Right, so thanks for that introduction.
Saba's Strategy and UK Discount Arbitrage
00:02:18
Speaker
um Now, if we can move on to what exactly SABR's intentions are in the event they succeed in replacing the ports. SABR highlighted that if the new directors it has proposed are appointed, they will transparently assess all go-forward options, including determination of the trust's current management agreements, replacing their current investment managers, and the refocusing their investment mandates on purchasing and or merging with other discounted trusts.
00:02:44
Speaker
in Importantly, they want to propose themselves as the investment manager. So basically, Saba's intention is to use the targeted trusts as a platform to build a UK discount arbitrage franchise, which goes beyond pure investor activism seeking to extract the discount to NAV. And I think this is very important, a very important element of Saba's campaign, which investors of the targeted trust should be aware of.
00:03:06
Speaker
In our opinion, SABAR will likely favor a plain opportunistic arbitrage strategy to exploit the discounts to NIV among UK-listed investment trusts by replicating the strategy of a US fund manager, the SABAR closed-end fund CTF, coupled with growing its own assets under management and fee income, as opposed to providing shareholders with a truly differentiated value proposition tailored to each of these trusts.
Governance Structure and Conflicts of Interest
00:03:30
Speaker
Right, I see. So I'm wondering what implications does this have for the trust's corporate governance? Well, we believe that the proposed new boards and SABAS appointments as the new investment manager would result in a corporate governance structure that does not fulfill the investment company industry's best practices and FCS listing rules with respect to board independence. Please imagine a scenario in which an activist hedge fund is a significant shareholder driving the replacement of the current boards with its proposed directors and subsequently is appointed as the trust's investment manager.
00:03:58
Speaker
Well, this creates a conflict of interest, especially when setting the terms of the new management agreement. And I believe that this is particularly important given that we don't really know exactly what Saba's future holdings in this trust will be once it is appointed as the Trust Investment Manager. Yeah, that makes sense. So um were there any similar deals Saba's done in the US? Yes, they have done two similar deals in the US, targeting Voya Prime Rate Trust and Templeton Global Income Fund. In both cases, Saba significantly reduced their stake after becoming the funds manager.
00:04:29
Speaker
um It is therefore possible that Saba is primarily interested in the AOM and fees of the targeted trusts rather than retaining its initial level of skin in the game in the long run. Okay.
Board Member Proposal Concerns
00:04:39
Speaker
Can you maybe tell our listeners more about the board members that Saba is proposing? I believe there are just two per trust. Correct. ah Saba initially proposes only two board members for each trust, one of which is either Paul Kazarian, Saba's principal executive officer, or Boris Weinstein, Saba's founder and chief investment officer.
00:04:58
Speaker
ah Mr. Weinstein is proposed for the board of Bailey Givett U.S. Growth Trust, while Mr. Kazarian is to join the boards of the other six trusts, which, by the way, raises questions over the you know attention he can devote to each of the trusts. ah Yeah, I guess that's right. um And would you say that the other board members are independent?
00:05:16
Speaker
Well, Saba considers them to be independent. It also highlighted that if the new boards decide to replace the existing manager and introduce a new investment policy, um the intention will be to appoint at least one third independent director per trust as soon as reasonably possible following the trust journal meetings. Saba also made the commitment that if the new boards decide to vote on the appointment of Saba as the investment manager,
00:05:39
Speaker
ah Both Mr. wein Weinstein and because Mr. Kaziran were recruited themselves from voting on board decisions related to Saba. However, I find it hard to believe that the other proposed board members will provide an independent perspective of on the best way forward for these targeted trusts, rather than just pursue Saba's agenda, even if they are not part of Saba's team and have no formal business ties to Saba.
00:06:02
Speaker
Furthermore, Saba has not shared any details on the process that will be followed for selecting further board members. Right, thank you.
Critique of Saba's NAV Discount Focus
00:06:10
Speaker
What do you think about Saba's claims around the NAV total return performance and discounts to NAV of the targeted trust?
00:06:19
Speaker
Well, it is obviously difficult to comment on the performance and discounts to an AV of each of the seven targeted trusts in a single conversation. That said, I i would like to raise a few important points. um Let's start with the fact that the mandate of these trusts is tilted towards asset classes which are more sensitive to the market cycle and interest rate movements than the broader markets. They invest in small and mid-cap stocks, growth tech businesses, and CQS invests in equity and fixed income securities of mid-cap mining companies.
00:06:48
Speaker
The last three years, so the investment period, Saba cherry-picked for the purpose of its narrative, we have experienced an unnaturally narrow bull run driven by few mega cap stocks ah coupled with significant headwinds from interest rate normalization waning on several other asset classes. ah These uncommon market conditions have been at rock on the relative performance of the above mentioned investment trusts compared to the broader equity markets.
00:07:12
Speaker
And I guess that these trusts have a longer investment horizon than just three years. Yes, exactly. So I believe that investors should consider their performance beyond this timeframe when evaluating SABAS claims. While I don't want to give investors specific directional calls, I would encourage them to make their own independent assessment of whether exiting these trusts or a change of the mandate at this stage of the market cycle is the best investment decision.
00:07:39
Speaker
I would also highlight that SBA contrasts the performance of the targeted trust with the returns posted by SBA closed-end funds at EF, which is an actively managed fund that seeks to generate significant income by investing in closed-end funds trading at discount to an AV, and hedging the portfolio's exposure to rising interest rates. However, as this fund has many income-oriented funds in its portfolio, it is what we a poor comparator for the mostly growth-oriented equity strategies of the targeted UK investment trusts.
00:08:07
Speaker
I would also note that most of the trusts have a much longer history of executing differentiated investment strategies than the duration of SBA's investment mandate for the SBA close and fancy TF and its two other publicly listed income opportunities funds.
00:08:22
Speaker
ah Finally, the SBA closed-end fund CTF has quite a modest NAV of around $250 million, dollars which represents only a small part of SBA's total assets under management investment trusts and closed-end funds of $6.6 billion. dollars And it is also where below the aggregate NAV of the seven UK investment trusts it targets.
00:08:42
Speaker
Right, interesting. um And how about Saba's claims with respect to discounts to NAB? As I mentioned earlier, Saba's narrative is centered around claims that the trust in boards fail to address the wide discounts to NAB. Now, a comprehensive discussion of the appropriateness this of the measures introduced by the respective boards to address this issue is outside the scope of a single podcast episode.
00:09:05
Speaker
That said, I would remind investors that the wider discounts to NAVA are an industry-wide phenomenon, rising at least partly ah um due to factors that are beyond the direct control of the trust sports, such as headwinds from cost disclosure issues, which have been resolved just recently.
00:09:20
Speaker
um the consolidation of the wealth managers industry, and the general rise in passive investing, um as well as the fact that some investors decided to crystallize capital gains ahead of the expected increase in capital gains tax proposed by Rachel Rich last year. This resulted in selling pressure from certain investor groups. And I will also note that discounts to NAV are often affected by investor sentiment, which tends to be cyclical.
00:09:43
Speaker
and a narrowing of discounts when the sentiment towards the trust sweet spot assets improves may amplify positive returns. Finally, I think investors should evaluate Saba's claims in the context of Saba's own two closed-end US funds on which it applied its strategy in the past, which um currently trades at a discount to an AV of around 10%, although to be transparent the Saba closed-end funds ETF trades close to an AV.
00:10:08
Speaker
Right, so understand your points on corporate governance, Saba's agenda of growing its AUM and fees and the bias narrative that it presents.
Trusts' Response and Industry Trends
00:10:18
Speaker
But I guess that some investors frustrated by the discounts to NAB may still find the potential for a cash exit at NAB appealing.
00:10:26
Speaker
Yes, I understand that, but please note that, except for Herald Investment Trust, Sabah has so far not provided any details in terms of the level of liquidity he wants to provide to the other shareholders. um Initially, they just set significant and immediate liquidity, but in the case of Herald, they are now saying that the 100% cash exit at 99% of NAP would be available at least a year after introducing a fully independent board.
00:10:49
Speaker
um I would say that the lack of detail is a general flaw of Saba's proposal, especially around liquidity for shareholders, the new investment mandate and the company portfolio transition, as well as measures to protect the rights of minority investors. Understood. um Can you tell us more about the alternatives offered by the boards of these trusts?
00:11:08
Speaker
Yes, the boards of several of these seven trusts already offer shareholders liquidity options, or the possibility to vote for one. On the 20th November last year, the board of Edinburgh Worldwide announced changes to the team composition, investment process and portfolio structure, coupled with a commitment to return up to £130 million pounds to shareholders in 2025, which were approved at a shareholder meeting in December.
00:11:33
Speaker
The Board of Keystone Positive Change proposed to wind up giving shareholders the option to either exit their holdings for cash at a 1% discount to NAV or roll over the investment in a tax-efficient manner into the open-ended Bailey-Gifford Positive Change Fund. Similarly, the Board of Henderson Opportunity Trust announced on 8 January this year that it will offer a shareholders a full cash exit at NAV and or the option to roll over their investment into the open-ended Janus Henderson UK Equity Income and Growth Fund.
00:12:02
Speaker
um The European Smaller Companies Trust announced on the 8th of January that it intends to introduce a three-year performance conditional tender offer for up to 15% of its issued capital at a 2% discount to NAV, and that the trust will continue to pursue its active buyback program with the aim of maintaining a mid-single-digit discount and normal market conditions.
00:12:23
Speaker
ah Now, the Board of CQS Natural Resources, Growth and Income announced that it is evaluating a wide range of measures, including the provision of liquidity options to shareholders via buybacks, vendors or similar actions, um the introduction of an increased dividend paid partly out of capital, ah further discount management mechanisms a for cash exit at an AV, and a potential merger with another investment trust or open-ended fund.
00:12:47
Speaker
ah Finally, Harold, the European Small Companies Trust and CQS Natural Resources and Growth and Income all have upcoming continuation votes at this year's ADEPS. Now, I don't dispute that at least some of the most recently introduced measures were encouraged by Saba's appearance on the shareholder register, and that's But you know, activist campaigns in general may have a positive outcome in the form of increased shareholder engagement and a sharpened focus by investment transport on driving positive change. But as I said before, Saba's agenda goes beyond that, given that they want to take over the investment mandates and create a platform for building a discount arbitrage business in the UK.
Episode Conclusion and Further Resources
00:13:23
Speaker
and And please keep in mind that the introduction of new shareholder-friendly measures is not limited to the targeted trust, as the broad UK investment trust industry has also seen a pickup in similar measures. For instance, ah many investment trusts have merged with another trust that resulted in a strengthened franchise rather than a U-turn in their investment mandate like the one Saba is proposing, and without the additional risks and certainty and the brute force approach associated with Saba's campaign I've just outlined.
00:13:54
Speaker
Right. Thank you very much, Milos. It's so very interesting times in the trust sector, and I'm sure um we're going to revisit this theme in the weeks and years ahead. So you've been listening to Uncovering Trusts, a podcast by the Edison Group. If you want to explore more content on Cyber Capital's campaign, please visit www.edisongroup.com.