I’m looking for bargain stocks and I see that I can buy Scottish Mortgage Investment Trust (LSE: SMT) shares at a double-digit discount relative to the net asset value (NAV) of its underlying holdings. The Scottish Mortgage share price currently stands at 722p, but the NAV is considerably higher at 853p.
So, will I be getting a true bargain if I buy this FTSE 100 stock today? Let’s explore.
Why the discount?
A discount of this scale is a historically rare event for Scottish Mortgage. The shares often trade at a premium and there are signs the gap is rapidly narrowing. It has already fallen from 18.3% last week, which eclipsed the figure it reached in October 2008 during the global financial crisis at 16.9%.
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I see two main reasons for the wide discount. First, it indicates a potential loss of market confidence in the investment trust‘s strategy (and the departure of star manager James Anderson in April was a notable blow on this front).
Moreover, Scottish Mortgage has resolutely maintained a high focus on growth stocks throughout the S&P 500 and Nasdaq 100 bear markets. Admittedly, this approach rewarded shareholders with handsome share price returns of 585.6% over the past decade.
However, in today’s environment of rising interest rates and soaring inflation, many of the £12.4bn trust’s top holdings have taken a beating. The five largest positions represent over 30% of its total investments. Returns over the past year haven’t been pretty.
| Stock | 12-month return |
|---|---|
| Moderna | -39% |
| ASML | -30% |
| Tesla | -1% |
| Illumina | -61% |
| Tencent | -38% |
Heavy selling in these stocks has boosted the weighting of unlisted equities to over 34% of Scottish Mortgage’s portfolio. This brings me to the second reason behind the discount.
In their research on another Baillie Gifford offering, the Schiehallion Fund, analysts at Investec highlighted “a valuation lag and the significant disconnect that exists between the valuation of private holdings, and the experience of public companies with high growth characteristics”.
In a recent downgrade of Scottish Mortgage shares from ‘buy’ to ‘hold’, the analysts suggested the same could be true of Baillie Gifford’s flagship fund. Indeed, they concluded ominously that they “expect these private valuations to come under increasing pressure“.
Should I buy Scottish Mortgage shares?
Yet I’m not so sure. Despite signalling some causes for concern, the size of the current discount suggests to me that Scottish Mortgage could be oversold. Indeed, a recent defence of the trust’s valuation procedure for its private equity holdings by new manager Lawrence Burns soothed some of my fears.
The fund has an independent valuation committee that follows international guidelines. While Burns admits it’s a “difficult task”, he believes the figures represent “the amount of money we would get for this company if we were to go out into the private markets and sell it today“.
Additionally, I like Scottish Mortgage’s investments in Chinese shares that account for about a fifth of the trust’s portfolio. China is a vast, innovative economy with huge potential. Few other FTSE 100 stocks offer similar exposure to the Asian giant economy.
Overall, this looks like a good time for me to buy Scottish Mortgage shares and I’d start building a position today. I believe the trust has a bright long-term future and I suspect the big discount won’t last.
