In the North American sector, the best-performing fund over 2022 was North American Income Trust (NAIT ), which grew total net asset value (NAV) by 7.3% and oversaw a 12.8% total return to in shareholders driven by the resurgence of value relative to growth.

Look longer term, however, and the clear sector leader is Pershing Square Holdings (PSH ), the £5.7bn FTSE 100 investment company which has delivered underlying NAV returns of more than 128% over three years and 300% over five years.

PSH operates with a highly focused portfolio of liquid North American companies. It holds sizeable stakes in some of these, which might affect its ability to turn the portfolio into cash in a hurry, but this is an insufficient argument to explain the very wide 35% discount.

I bought some back in April 2021 when the discount was closer to 25% and I am pleased to say that I have made money since then despite the discount widening, helped a bit by the strong dollar. However, as the discount has widened, I am wondering about adding to my position.

I struggle to come up with any valid reason why the discount is so wide, and, at the closed-end fund’s annual investor meeting last Thursday, the feedback from fund manager Bill Ackman and chair Anne Farlow was they felt the same. PSH offers a growing dividend, although the yield is modest at 1.5%, and it regularly buys back its shares. By value, it is one of the largest repurchasers of shares in the sector – buying back about £238m worth in 2022 alone, more than Scottish Mortgage, and $1.1bn worth since it started its buyback policy.

The concentrated portfolio, bias to high-quality growth stocks, and Ackman’s hedging strategies mean that PSH’s performance does sometimes deviate markedly from index benchmarks such as the S&P 500. Blending returns from PSH, which listed in 2014, and its predecessor (a limited partnership vehicle), gives returns since 2004 that are a multiple of those of the index. However, the fund went through a difficult time in 2015-2017 and this prompted a rethink, with a greater focus on managing money rather than asset gathering.

In another welcome change of strategy, following a high profile and ultimately fruitless attempt to profit through a short on Herbalife (the US dietary supplements group), the fund shifted away from shorting stocks and indices to using derivatives to take positions that offer the prospect of asymmetric returns. By risking relatively small amounts of capital to make outsized returns, usually when markets are in a tailspin, profits can provide capital to invest in the portfolio at depressed prices.

At the start of Covid, PSH made and realised extraordinary gains on shorts on credit default swaps (CDS), and the fund has made good money since on interest rate swaps to hedge against inflation. These were the largest positive contributors to returns over 2022, helping the fund to almost 10% outperformance of the S&P 500 over the year.

To give some examples of similar trades, today, Ackman believes that yields on long-dated US Treasuries are too low. He thinks inflation may remain above the Federal Reserve’s 2% target and investors will demand higher real returns on these investments.

He also has positions that would pay off if the Japanese central bank rowed back on its yield curve control policy (where it tries to keep borrowing rates artificially low to stimulate economic activity) or if the authorities in Hong Kong abandoned the Hong Kong dollar’s peg to the US dollar. He also thinks that higher energy prices may be here for a while yet.

The main body of the portfolio is invested in large, well-known companies such as Lowes (DIY stores), Restaurant Brands (franchiser of Tim Hortons, Burger King, Popeyes, and Firehouse Subs), Chipotle, and Hilton Hotels (another franchising business). Most of these companies’ share prices fell in 2022 (Restaurant Brands was a notable exception) but the businesses are growing.

Not everything works: a foray into Netflix was short-lived and costly, but commendably, Pershing cut its losses as soon as it became clear that the investment thesis was flawed.

The largest position is in Universal Music. The plan had been to buy a stake in that company from Vivendi through a special purchase acquisition company (SPAC) called Pershing Square Tontine Holdings (PSTH), but the US Securities and Exchange Commission would not approve the deal, so PSH bought most of it instead and PSTH was wound up last July.

Ackman and the team are working on a new version of a SPAC whereby investors would hold unlisted rights to participate in an acquisition that would only be called upon (and become tradeable) once a target has been identified and the SEC approved a prospectus. The rights price would be flexed to match the deal size. PSH and the other funds managed by the team would get 5% of the company in warrants priced 20% out of the money.

If the SEC rubber stamps the idea, this could be a low-cost way for an unlisted business to achieve a flotation, which widens the universe of potential investments for PSH considerably.

Some investors might be put off from investing in PSH by the charging structure, which includes a performance fee. Ackman counters that it needs a high fee to attract talent and has achieved impressive returns even after fees have been deducted.

What PSH won’t do is internalise the management contract to become an operating business. Ackman feels that properly incentivising staff in a public company would be problematic. It also wouldn’t get around the US regulator treating it as an investment company.

One radical way that PSH could address its discount would be to find a way of listing the company in the US. Ackman raised this topic last year and PSH is actively exploring mechanisms for reversing the company into a larger US business, such as Howard Hughes Corporation, the real estate company in which Pershing holds a 30% stake.

That idea could still fall foul of the US regulators, and at the meeting Ackman said HHC was too small to be the right vehicle. However, the fact this is being considered and the potential upside from the elimination of the discount is attractive. My inclination is to top up, but to avoid any conflict, I will wait for a week or so to pass after this is published before doing so.

James Carthew is a co-founder and head of investment companies research at QuotedData. Any opinions expressed by Citywire, its staff or columnists do not constitute a personal recommendation to you to buy, sell, underwrite or subscribe for any particular investment and should not be relied upon when making (or refraining from making) any investment decisions. In particular, the information and opinions provided by Citywire do not take into account people’s personal circumstances, objectives and attitudes towards risk.