While the 17th and 18th centuries saw the development of new financial institutions, with banks, insurance companies, and exchanges sprouting up, especially in Britain, these inventions generally served the financial needs of relatively few. It was the 19th century when they began to serve even ordinary people, or at least the growing middle classes, in large numbers. The same is true of professional investment firms. One of the first to make investments in burgeoning markets more accessible to smaller investors was the Foreign and Colonial Government Trust; today it is perhaps the oldest surviving mutual fund in the world.

Investment Environment

           Falling government bond yields characterized the 19th century investment environment in Britain. Yields on perpetual British consols fell from 6% in 1800 to 3% by the 1860s and would fall below 2% at the end of the century. By the 1860s, speculative excess was no stranger to investors. The previous decades had seen an impressive boom in emerging market sovereign bond investing that had begun in the 1820s. Investors had reason to be skittish by the middle of the century though, especially after the failure of the bank Overend, Gurney & Co. caused six other British banks to fail in arguably the century’s most memorable financial crisis, at least in Britain.

           Regardless, the crisis did not extinguish the appetite of new investors and, now more conservative in the aftermath of the crisis, they were increasingly appreciative of the importance of diversification. However, it was difficult for small investors to diversify their portfolios. Mutual funds and similar products were largely nonexistent; there were few pooled investment vehicles around. Perhaps the only exception were certain Dutch investment funds that have been reckoned the first mutual funds in history, although they were by now largely a thing of the past.           

Offering

           It was into these circumstances that ‘The Foreign and Colonial Government Trust’ launched in 1868. Foreign and Colonial is a candidate for the oldest surviving mutual fund in the world. It was founded by a man named Philip Rose, a law firm partner who had gone on to become a financial advisor to the Prime Minister, Benjamin Disraeli. As it happens, this Philip Rose was a great grandfather of Ian Fleming, the author of the James Bond novels.

           In any case, Rose had an impressive biography. Though of modest roots, he had been among the founders of London’s Royal Brompton Hospital while still in his 20s. Besides the law, he was also familiar with finance. In his legal career, Rose became familiar with overseas bonds, knowledge gained by working on numerous transactions for foreign firms and governments. Rose was now attempting to make those investment offerings more accessible to investors of more ‘moderate’ means.

Sir Philip Rose, 1st Bt, DL, JP (1816-1883), portrait by Pieter van Havermaet

           The newly established Foreign and Colonial Government Trust intended to invest in riskier and higher yielding foreign securities but with a diversified approach. No more than 10% of the portfolio could consist of a single security. The trust’s portfolio achieved an 8% yield by holding bonds issued by governments in Austria, Egypt, Italy, Latin America, Australia, Canada, Portugal, Russia, Spain, Turkey, and the United States. For comparison, British consols were yielding just 3.3% at the time.

           Foreign and Colonial’s first investment offering consisted of debentures with a twenty-four-year fixed term. Indeed, the fund began its history issuing bonds and not shares. The bonds had a £100 par value, on which 6% interest was paid semiannually. They were sold at an offering price of £85, but in keeping with the manner in which many public offerings were done, capital would be paid-in over time by investors, a few months in the case of Foreign and Colonial’s offering. Of course, the portfolio earned more than the debentures paid to investors, so surplus funds could be used to provide a cushion in case of any defaults or delays in payment. Whatever excess remained each year would then be applied to randomly redeem the bonds at par, a lottery feature that improved returns to those investors repaid early at a considerable premium to their purchase price.

From the prospectus of the of the Foreign & Colonial Government Trust. as printed in The Saturday Review of Politics, Literature, Science and Art on 21 Mar. 1868.

           Despite the seemingly alluring prospective returns, the offering was not an instant success. Foreign and Colonial had planned to sell 11,765 certificates at £85 each to raise an intended £1 million with which to implement its investment strategy; however, it raised only half that. Neither had that amount come from people of truly moderate means. Just £500,085 was raised in its first offering of debentures, mostly sold to wealthy investors putting up between £15,000 and £30,000 each. Nonetheless, four further offerings over the next few years alone saw participation from smaller investors, bringing the average invested amount in the investment trust down to just £570. By 1873, £3.5 million had been raised and the fund became quite well known to the investment community.

Restructuring

           In 1879, in response to a legal challenge to the trust structure, Foreign and Colonial converted into a joint stock company and began to issue shares rather than debentures, a structure more familiar to mutual fund investors today. The lottery redemption structure was also removed. The accountancy firm Price, Waterhouse & Co., ancestor to the ‘Big Four’ firm of today, was hired to handle the conversion.

           The new company issued both preferred shares and deferable common stock, the former senior to the latter in order of dividend and liquidation preference and thus offering a safer, and a lower yielding, return. By the time the debentures were swapped for shares, returns to the original investors had averaged 6.5% per annum since inception. By now, Foreign and Colonial looked like a modern closed-end fund and like modern closed-end funds, investors could not redeem their shares for cash from the issuer but had to trade them on a stock exchange or elsewhere in order to liquidate their position.

Management

           To manage the firm, five trustees with distinguished backgrounds, including Philip Rose himself, were appointed. These trustees were appointed for life so investors had to believe they would perform their duties well. This was also an era in which many safeguards protecting investors today were absent. For example, the foreign bonds the company invested in were bearer bonds, ones for which there was no central registry of legal owners. Investors had to trust that the bonds would not be lost or stolen. Thus, the reputation of the management, perhaps even outside of financial matters, mattered a great deal.

           To assist in the management of the company, several other parties were hired. A bank, Glyn, Mills, Currie & Co., was employed to act as trustee and pay out the dividends. Further, Philip Rose’s law firm, Baxter, Rose, Norton & Co., the large firm now known as Norton Rose Fulbright, handled legal work for the investment trust’s offerings. The bankers, lawyers, and accountants, together with an independent actuary, served to verify the trust’s projections, procedures, assets, and valuations. These controls proved worthwhile. In 1879, an annual inspection by Glyn, Mills, Currie & Co. revealed that some of the firm’s bonds were embezzled by a clerk who was subsequently imprisoned.

           What the firm did not need were many portfolio managers. Foreign and Colonial’s portfolio had very low turnover. The fund was largely a buy-and-hold investor of perpetual or otherwise very long-term bonds. Common and preferred stock together made up just 10% or so of the portfolio through the end of the century. This approach kept management and transaction costs low, equivalent to an expense ratio of 0.20-0.25%. The firm also applied no leverage to enhance its returns.

           The simplicity of the fund reveals its true value to investors. The underlying securities, though of foreign issuers, were already traded in London, there was no leverage applied, and the assets were rather passively managed. The innovation that was Foreign and Colonial did not come from the savvy or novel strategies of portfolio managers but in the form of the vehicle itself, which offered diversification to even the smallest investors. Further, being an unlevered closed-end fund allowed Foreign and Colonial to maintain its buy-and-hold approach regardless of the vagaries of the market, especially valuable when investing in less liquid emerging market bonds.

Investment Portfolio

           The original trust’s 1868 portfolio was comprised almost exclusively of government securities, mostly from issuers in Europe or South America. The largest components of the eighteen-security portfolio marketed to investors in the trust’s prospectus included almost £100,000 each invested in Austrian, Chilean, Egyptian, Italian, Peruvian, Spanish, and Ottoman bonds. Perhaps reflecting the recent end of the civil war there, American securities were given just a small allocation, smaller even than that of Portugal. Regardless, this was a risky portfolio, the highest yielding holding was a 5% Ottoman bond then trading at just 36% of par value, for an actual yield to prospective buyers of over 13%.

           The portfolio evolved quite a bit from there. Over time, Foreign and Colonial invested more money in railroad bonds and those from issuers in North America. By 1910, just 5.7% of the portfolio was allocated to issuers from Europe, which once had the largest allocation, and sovereign bonds made up less than a quarter of the total portfolio. This may have helped keep investors’ returns high; over the period from 1879 to 1912, common shareholders in the firm earned an average return of 6.9%.

           Foreign and Colonial spawned many imitators, enhancing the firm’s historic significance. By 1875, there were twenty investment trusts listed on the London Stock Exchange and their numbers continued to grow until the Barings Crisis of 1890 upset interest in emerging market debt. Seventy-two were listed in London between 1887 and 1890 alone. Many of these were more speculative in nature than Foreign and Colonial; some even supplemented their portfolio income by collecting underwriting commissions and fees for promoting companies. Their portfolios were occasionally more illiquid and less diversified as well. As it happens, twenty-four such trusts were liquidated during or soon after the Barings Crisis.

           Foreign and Colonial was renamed the ‘Foreign & Colonial Investment Trust’ in 1891. Removing ‘Government’ reflected that it had by now branched out beyond investing in government securities alone. Since industrial and railroad securities were increasingly present in the portfolio, it became even better diversified. The holdings, which included just eighteen securities from fourteen countries in 1868, grew from still under ninety securities in 1879 to 280 by 1905. Foreign and Colonial was never wound up; it still exists today as part of BMO Global Asset Management, likely making the firm the oldest surviving closed-end mutual fund in the world.

Lesson

           The 19th century history of the Foreign and Colonial Government Trust tracks investor interests, at least in Britain. When the investment trust was established in 1868, it was focused mainly on emerging market sovereign bonds, those issued outside of the more prosperous economies in Northwestern Europe. This was an asset class that saw strong investor demand for most of the century. However, as time went on, railroad securities became the fixation of investors, and gyrations in their prices increasingly set the tune of financial markets more broadly. Foreign and Colonial was invested in such securities throughout this period but did relatively little active trading; its true value add was the manner in which it opened such investments up to people of more ordinary means.

More from the Tontine Coffee-House

          Read about the Dutch firm said to have been the first mutual fund in history and the hedge fund launched by Alfred Winslow Jones, arguably the oldest hedge fund. Learn of other ways in which new financial firms began serve ordinary people in the 19th century, from state-subsidized savings banks to postal banking systems. Also, consider subscribing to this blog’s newsletter here.

Further Reading

1.      Chambers, David, and Rui Esteves. “The First Global Emerging Markets Investor: Foreign & Colonial Investment Trust 1880–1913.” Explorations in Economic History, vol. 52, 2014, pp. 1–21.

2.      Morecroft, Nigel Edward. “Philip Rose and the First Investment Company, 1868–1883.” The Origins of Asset Management from 1700 to 1960, 2017, pp. 55–101.

3.      Morecroft, Nigel, and David Chambers. “Why the First Investment Company Matters.” CFA UK, CFA Society of the UK, 17 Oct. 2018.

4.      Rutterford, Janette. “Learning from One Anothers Mistakes: Investment Trusts in the UK and the US, 1868–1940.” Financial History Review, vol. 16, no. 2, 2009, pp. 157–181.

5.      “The Foreign & Colonial Government Trust.” The Saturday Review of Politics, Literature, Science and Art, 21 Mar. 1868.

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