£14bn Scottish Mortgage downgraded for double fees – should you be worried?

Britain’s largest investment trust has been downgraded by analysts because its appetite for borrowing means its fees are double their advertised level.

Charges at the £14bn Scottish Mortgage trust, which invests globally, jump from 0.36pc to 0.77pc when the costs of borrowing, also known as “gearing”, are included.

This prompted Morningstar, the financial research group, to downgrade the fund’s rating from the highest, gold, to silver.

Analysts at Morningstar said the actual cost of investing in Scottish

Mortgage was not as competitive as the management fee suggested, although it was “still attractive as the trust offers investors access to private companies”.

Investment trusts, which are essentially funds listed on the stock market, are often seen as the gems of the much criticised active investment management industry. This is because of their dedication to long-term investing (some date back more than 100 years) and a structure that allows them to safely hold unlisted stocks.

Trusts have lower costs on average than “open-ended” funds and differ because they can borrow money in an attempt to increase returns.

Scottish Mortgage has been the pick of the bunch for savers. It returned 65pc this year due to large stakes in Amazon, Netflix and Tesla, which are thriving under lockdown conditions.

But should investors be put off the trust because of its borrowing? Its debt currently amounts to 6pc of assets.

Ian Sayers of the Association of Investment Companies, the trusts’ trade body, said gearing costs should not be included with the costs of managing an investment trust to reach a conclusion about whether it was “expensive” or not, as Morningstar had done. “This will potentially mislead investors as you could have an investment company that has a lower ongoing charge and a large amount of cheap gearing showing up as more expensive than another one with a higher ongoing charge and a smaller amount of more expensive gearing,” he said. Mr Sayers said gearing had added to the performance of investment trusts over the long term.

“Unlike any other expenses, gearing results in the investment company acquiring additional assets that generate returns,” he added.

James Budden of Baillie Gifford, which manages Scottish Mortgage, said: “If you believe that stock markets go up in the long run, then gearing can be used to enhance those returns.

“This is particularly effective when borrowing is cheap, such as today. The effect of gearing – namely outperformance when done correctly – is not reflected in the management charge and therefore the cost should not be included in it.

“Our management charges have been going down as assets have grown and so we offer value to investors.”

Adrian Lowcock of Willis Owen, the fund shop, said it was important to look at costs but value for money should be the decider when you pick a fund. “Scottish Mortgage still offers excellent value for money. It has one of the leading growth investing teams in the world,” he said.

65%

The returns of Scottish Mortgage this year while global stocks have been flat