The Great LIC And LIT Discount Dilemma – A Structural Reckoning

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The persistent discount crisis facing Australian Listed Investment Companies (LICs) and Listed Investment Trusts (LITs) represents more than a cyclical pricing anomaly.

What the market is witnessing is a fundamental structural breakdown; a slow-motion reckoning that challenges the very premise of closed-end investment vehicles in modern portfolios.

By Lily Brown

The Scale of the Problem

The numbers are stark and historically unprecedented. As of mid-2025, the average LIC/LIT trades at a -15% discount to net asset value (NAV), with smaller funds bleeding value at -25% discounts or worse.

Even blue-chip stalwarts like Australian Foundation Investment Company or AFIC ((AFI)), Argo Investments ((ARG)), and Whitefield Industrials ((WHF))—vehicles that built decades-long reputations on stability and liquidity—are trading materially below their asset backing despite delivering solid underlying performance.

Bell Potter’s research confirms these are the widest sustained discounts in the sector’s history. When flagship funds with proven track records cannot maintain NAV parity, the market is signalling a fundamental shift in investor behaviour, not merely expressing temporary sentiment.

Beyond Surface-Level Explanations

The conventional wisdom attributes discounts to a closed-end structure, limited liquidity, and fee concerns. While technically accurate, this analysis misses the deeper transformation occurring in the investment landscape around these vehicles.

The critical insight lies in opportunity cost dynamics. Ophir Asset Management identifies the core issue as “the highest interest rates seen in 10–20+ years” have fundamentally altered the risk-return equation. When term deposits yield 4-5% and government bonds offer similar returns with zero discount risk, the value proposition of LICs becomes questionable at best.

More significantly, the explosive growth of ETFs has established a new liquidity standard that closed-end funds cannot match. Investors who once accepted illiquidity premiums in exchange for professional management and franking benefits now have alternatives providing both daily liquidity and tax efficiency without structural discount risk.

The Dividend Defence: Compelling but Insufficient

LICs retain one genuinely differentiated advantage – the ability to smooth dividend distributions through retained earnings reserves. This mechanism allows established funds to maintain steady income streams during volatile periods – a feature of particular value to retirees and income-focused investors drawing regular distributions.

The loyalty this generates is quantifiable and substantial. With over 20% of self-managed super funds (SMSF) holding LIC or LIT positions, hundreds of thousands of investors clearly prioritise income certainty over capital preservation.

For these investors, a 4% fully-franked dividend from a discounted LIC (grossed up to approximately 5.7% after franking) can deliver superior after-tax returns despite the NAV discount.

However, this defence mechanism has mathematical limits. Dividend sustainability requires underlying portfolio growth, and persistent discounts eventually constrain management’s ability to raise capital or execute growth strategies.

The arithmetic is unforgiving: funds trading at persistent -20% discounts cannot compound shareholder wealth effectively, regardless of dividend policy excellence.

Management Evolution: Adaptation or Obsolescence

The sector’s response reveals telling insights about structural viability. Magellan’s conversion of its Global Fund from closed-end to ETF format represents a watershed acknowledgment that structural change trumps incremental discount management strategies.

Simon Shields’ decision to wind up Monash Investors’ LIC in favour of ETF alternatives reflects similar strategic thinking from quality managers unwilling to accept permanent discount trading as inevitable.

These moves represent strategic recognition that closed-end structures may have become obsolete for many asset classes and investor segments, rather than panic responses to temporary market conditions.

Meanwhile, boards maintaining traditional models face intensifying activist pressure that extends beyond discount management to fundamental governance questions about whether directors serve shareholder interests or protect management fee streams.

The Wealth Destruction Mechanics

The uncomfortable reality many investors have not fully grasped is that persistent discounts don’t merely reduce returns, they actively destroy wealth over extended periods through a compounding effect that overwhelms other performance metrics.

The total return equation becomes:

Underlying portfolio return plus dividend yield minus discount expansion minus fees equals actual investor return.

When discounts persist or widen, this equation turns negative regardless of management competence. This represents a lived reality for thousands of SMSF investors who constructed retirement strategies around LIC holdings, only to experience wealth destruction despite solid underlying asset performance.

As Forager’s chief investment officer Steve Johnson noted when the firm delisted its Australian Shares Fund, “we are in an environment where that risk isn’t worth where the vehicle is trading in terms of discount to NAV”.

Forager believed it wasn’t fair for investors who wanted to redeem money if they had to do it at more than -15% discount to NAV.

Chris Brycki, managing director of Stockspot, an online investment adviser, observes: “Investors buy LICs believing the discount (to asset backing) will close, but larger LIC discounts are becoming structural as more investors move to index funds”.

Such permanent shifts toward index investing capture the essential dynamic; individual investor behaviour has changed permanently, creating headwinds that tactical measures cannot address.

Three Future Scenarios and the Possible Investment Implications

Given these structural headwinds, the sector’s evolution will likely follow one of three distinct pathways, each with specific implications for investment decision-making.

1.Gradual Sector Contraction: Continued discount expansion forces systematic restructures and wind-ups. Quality managers migrate to ETF formats while weaker entities trade at increasingly punitive discounts until liquidity disappears entirely.

For investors, this scenario demands active monitoring and predetermined exit strategies, as the traditional “buy and hold indefinitely” approach becomes untenable when structural headwinds appear permanent rather than cyclical.

2.Niche Specialisation: A smaller core of income-focused investors sustains select LICs, but only those offering genuine differentiation through unique asset classes, superior dividend mechanisms, or specialised mandates that ETFs cannot efficiently replicate.

This pathway creates opportunities for retirees prioritising income certainty and franking optimisation over capital growth, where quality LICs trading at moderate discounts may justify tactical allocation, but only as minority portfolio positions with active monitoring protocols.

3. Structural Innovation: The sector evolves through hybrid mechanisms combining closed-end benefits with ETF-like liquidity features, potentially via periodic tender processes, conversion rights, or other creative structural solutions.

Such innovations could restore investor confidence by addressing discount risk while preserving dividend smoothing capabilities.

The Verdict

The discount crisis facing LICs and LITs represents more than pricing inefficiency; it reflects the market’s judgment on whether closed-end investment vehicles remain relevant in modern portfolio construction. The weight of evidence suggests they increasingly do not.

For advisers and investors maintaining LIC positions, the central question is no longer whether discounts will narrow, but whether income advantages justify structural disadvantages in an environment where liquid, cost-effective alternatives are readily available.

The sector that once provided the foundation for Australian retirement income strategies now demands careful selection, active management, and honest assessment of whether its remaining benefits outweigh its growing structural limitations.

The era of treating LICs as set-and-forget retirement investments has definitively ended.

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