Occasionally anomalies appear in the financial markets. They may not last long, but if you’re quick you can take advantage.
And I’ve just found one.
Right now, if you want to put some money into the stock market, but you’re worried the markets may crash, then there is a way to get full exposure to any upside and cap your losses at 11.5%. The beauty of this trade is that this insurance is absolutely free.
There’s no such thing as a free lunch….. is there?
Opportunities for a free lunch crop up from time to time. Let me show you how to find them…
The best places to look for these deals are where no one else is looking (in fact, these are the only places). These deals can only really be exploited by small investors.
If a fund manager saw the anomaly that I’m going to describe and decided to buy into it, then the weight of money behind his trade would cause the price to rise.
The anomaly would disappear immediately. That’s why large investment funds don’t really bother hunting around for the deals that I like to look for.
The opportunity here is in investment trust warrants. Don’t worry, it’s not that complicated. First, we’ll look at the investment trust, then move onto how the warrant works and how it’s offering a free insurance policy against a crash.
Introducing the Midas Income & Growth Trust Plc
Investment trusts are a bit like unit trusts in that they are pooled investment funds. There are important regulatory differences, you can find out more about them here.
One of the benefits of investment trusts is that you can trade them directly through your normal stock broker. Fund management fees are lower than for most unit trusts – so why don’t we hear more about them?
Call me a cynic, but the fact that IFAs don’t earn bloated commissions from investment trusts probably has a lot to do with it!
The Midas Income & Growth Trust aims for an absolute return of 8% per annum. They’re interested in steady returns with low volatility. The latest factsheet shows asset allocation as follows
| UK Equities | 29.4% |
| Overseas Equities | 19.6% |
| Fixed Interest | 21.4% |
| Alternative assets | 20.4% |
| Property | 8.2% |
| Cash | 1.0% |
The trust is pretty well diversified and its split of assets looks similar to other long-term investment funds that you’ll find.
It pays a 6% yield.
It can be bought through your stock broker, and will cost you £1.13 a share.
Buying this trust may be a good investment, but it wouldn’t offer you any of the free insurance that I’m talking about.
For that, we need to look at the warrants….
How the warrants work
An alternative to buying the investment trust is to buy its warrant, also traded through your stock broker (but not in a Sipp, or ISA). The warrant gives you the option to buy the investment trust at a later date.
Midas warrants (LSE:MIGW) allow you to buy the investment trust at the end of August this year at £1.00 and currently cost 13 pence.
So, if instead of buying the investment trust at £1.13, you buy the warrant (and then buy the fund later), you’ll end up paying exactly the same price. That is 13 pence for the warrant, plus the conversion price of £1.00, i.e. £1.13.
This is the anomaly. Normally, a warrant will have what’s known as ‘time value’ in the price. The warrant should cost more than 13 pence to take account of the fact that you aren’t taking on the full risk of the investment.
Let’s look at how this translates into free insurance…
Why is this a good deal?
If you want to buy 1,000 units of Midas, you need to invest £1,130 (£1.13 x 1,000).
To get exactly the same exposure to the trust, through the warrant, all you need to invest is £130 (13 pence x 1,000).
If the markets go down, all you can lose with the warrants is £130 – whereas if you buy the investment trust, your full £1,130 is at risk.
With the warrant, you have exactly the same upside potential – if the market carries on its upward trajectory, your investment will too. At the end of August, your stock broker will ask you for £1,000 to convert the warrants into shares.
If the market has crashed, you say no thank you and your loss has been capped at £130 (or 11.5%) – while others in the market may be nursing much larger losses.
So there you have it – all the upside if the market goes well, and your losses limited at 11.5% if the market crashes.
Good investing...
Bengt Saelensminde
For The Right Side
P.S. There are some very good reasons why the markets might crash by the end of the summer. This insurance policy will cover you either way.
P.S. If you enjoyed this article you can find out more about our free email, The Right Side by clicking here.
