VCTs set for record-breaking year

Are venture capital trusts finally claiming a place in the investment mainstream? The signs are certainly that they are moving onto the radar, particularly for long-term investors looking for tax efficiency and a reliable income stream.

According to the latest figures from the Association of Investment Companies, VCTs (which comprise portfolios of equity or debt positions in small unquoted or AIM-listed companies) have delivered average growth of 8-9% a year over one, three, five and ten years. Almost three quarters of them are yielding more than 5%.

And expectations are that the 2013/14 VCT season will be a very successful one. Already, VCT funds under management are at their highest ever level, at almost £3 billion as of 5 January.

Moreover, the AIC reports that VCT fund inflows for the "non-season" between April and December 2013 are up almost 70% on the same period 2012. Exclude enhanced share buybacks and that percentage rises to 94%.

Generalist VCTs, which invest in a broad portfolio of unquoted businesses, have done particularly well, outperforming over all timeframes and pulling in the lion's share of investor funds.

At Octopus (the largest VCT manager), for example, fund manager Alex Macpherson reports that "our own VCT inflows to date are over ten times what they were this time a year ago".

There is talk of a "sweet spot" for VCTs at present, with strength on both sides of the demand and supply equation.

Investors are hungry for reliable income streams, which VCTs can supply. And the imminent lowering of the cap on annual and lifetime pension allowances (from £50,000 to £40,000 and from £1.5 to £1.25 million respectively) means many are looking for alternative tax efficient investment options.

But investor interest is also a reflection of the fact that VCTs are no longer seen as the "tax-efficient way to lose money" that they were ten or 15 years ago.

The leading ten or so VCT managers now have demonstrable and attractive track records based in portfolios of largely successful small companies, and are "less and less of a super-high-risk punt", according to Eliot Kaye, director of Puma Investments.

He reports that while large investments from high net worth investors are on the increase, many more Puma investors are putting in the minimum £5,000 contribution as another string to their collective investment bow.

Meanwhile, corporate demand for VCT backing is booming as the economy strengthens and M&A activity picks up. It's bolstered by the continuing lack of bank lending to small companies, coupled with VCTs' reputation for bringing experience and involvement as well as cash to their investments.

As Jason Hollands, managing director of communications at broker Bestinvest, observes: "UK domestic recovery is creating strong pipelines of new investment opportunities, as appetite for expansion and MBOs creates demand for financing."

However, Hollands emphasises that these remain relatively risky investments. He suggests that the ideal candidates for VCT investment are "very much higher earners who already have portfolios of mainstream investments and can add a small weighting to VCTs."