Closed-End Fund Report Monthly Income for September 2013

Transcription

1 Closed-End Fund Report Monthly Income for September

2 September 2013 CEF Strategy As investors return from summer holidays to reconsider their portfolios, they're facing two big questions: Has the market's recent selloff been enough to make stocks attractive? And can the market rouse itself for a fall rally, even as the Middle East turns volatile and the Federal Reserve prepares to reduce the help it has been giving the economy? U.S. stocks and bonds rose for much of the year, but all kinds of investments ran into recent trouble during the summer. After reaching a high for the year on Aug. 2, the S&P 500 (SPX) has fallen 4.5%, while the Dow Jones Industrial Average (DJI) is off 5.4%. The Nasdaq Composite Index (IXIC) is down 2.8% from its 52-week high hit Aug. 5. At the same time, stocks have become more attractive on the heels of their summertime weakness. The S&P 500 is trading at a price/earnings multiple of less than 14 based on expected earnings this year. That's not a blaring buy signal, analysts say, but it suggests the stock market isn't trading at especially expensive levels another reason investors should hesitate before trimming too much from their portfolios. In the active versus passive fund management debate, it's always important to keep one thing in mind: The reason passive funds are so popular has little to do with passive management. Instead, their popularity likely has more to do with cost. For investors skeptical of the value added by portfolio managers, choosing the fund with the lowest expense ratio is as good as any other option--it just costs less. For this reason, some investors shun the high fees of many closed-end funds. But while fees are certainly an important consideration, the relationship between performance and fees is less clear when evaluating CEFs. For starters, CEFs can be incredibly cost-effective vehicles for investors looking to gain leveraged exposure to specific markets. Leveraged funds borrow at institutional rates (which are much lower than those available to individuals) and pass these lower costs onto shareholders. This is likely a cheaper alternative for individuals than buying low-cost ETFs on margin. Ultimately, total expense ratios for CEFs are higher because leverage costs are typically included in the total expense ratio, and because management fees are usually based on total assets (i.e. net assets plus the 2

3 proceeds attributable to leverage). Even unleveraged CEFs, which typically charge average fees, potentially have an advantage in that a wide discount boosts distribution payments. For example, if a fund trading at a 10% discount pays a 5% annual distribution rate at net asset value (without overdistributing), its distribution rate at share price would be roughly 5.56%.[1] That's an extra 56 basis points without adding any risk to the underlying portfolio. From a cost perspective, the increased yield can offset some of the fund's expenses. Even if investors assume that managers add little to no value to the underlying portfolio's performance, the benefits of large discounts can offset the disadvantages of an above-average expense ratio. 3

4 Table 1: Best Price Performance (YTD) - CEFs in Top 20% with High Yield CEF Name Symbol Price (Today) Prem/ Disc (1 Month Average) Dist Freq Distrib Rate ( Price) Price Perf (YTD) Leverage Ratio Expense Ratio Adjusted Return of Capital (TTM) NAV Return (Month- End 1 Yr) Price Perf (Last 52 Wk) NEUBERGER BERMAN MLP INCOME COMMON NML $ % Monthly 6.53% 47.82% 0.00% % H&Q HEALTHCARE INVESTORS COMMON HQH $ % Quarterly 7.54% 34.84% 0.00% 1.42% % 33.14% H&Q LIFE SCIENCES INVESTORS COMMON HQL $ % Quarterly 7.53% 28.14% 0.00% 1.72% % 24.11% PIMCO GLOBAL STOCKSPLUS & INC COMMON PGP $ % Monthly 9.91% 24.57% 38.78% 2.10% % 0.69% KAYNE ANDERSON MLP COMMON KYN $ % Quarterly 6.24% 21.48% 34.51% 2.60% % 17.38% CORNERSTONE STRATEGIC VALUE COMMON CLM $ % Monthly 16.85% 21.32% 0.00% 1.40% % -2.03% SALIENT MIDSTREAM & MLP FUND COMMON SMM $ % Quarterly 6.09% 21.18% 28.99% 4.69% % 7.70% KAYNE ANDERSON ENERGY TR COMMON KTE $ % Quarterly 6.53% 19.64% 30.97% 2.00% % 9.57% NUVEEN TAX-ADV TOTAL RETURN COMMON JTA $ % Quarterly 7.32% 19.51% 29.19% 1.41% % 15.76% GABELLI MULTIMEDIA COMMON GGT $ % Quarterly 8.55% 19.14% 16.54% 1.48% % 25.54% FID/CLAYMORE MLP OPPORTUNITY COMMON FMO $ % Quarterly 6.43% 17.78% 24.02% 1.49% % 11.28% GABELLI CONVERTIBLE & INCOME COMMON GCV $ % Quarterly 7.69% 17.07% 22.40% 1.94% % 9.74% NUVEEN CORE EQUITY ALPHA COMMON JCE $ % Quarterly 6.98% 15.96% 0.00% 1.05% % 11.77% LIBERTY ALL-STAR EQUITY COMMON USA $ % Quarterly 6.63% 13.84% 0.00% 1.07% % 14.80% EV TAX ADV GLOBAL DIVIDEND INC COMMON ETG $ % Monthly 8.04% 12.67% 25.73% 1.26% % 11.43% PIMCO HIGH INCOME FUND COMMON PHK $ % Monthly 12.40% 12.50% 22.78% 1.05% % % EV TAX ADV GLOBAL DIV OPPS COMMON ETO $ % Monthly 7.99% 12.15% 25.21% 1.30% % 17.34% ALLIANZGI NFJ DIV INTEREST & PREM COMMON NFJ $ % Quarterly 10.30% 11.99% 0.00% 0.97% % 1.63% KAYNE ANDERSON ENERGY DEV CO COMMON KED $ % Quarterly 6.35% 11.78% 17.17% 3.00% % 5.24% EV ENHANCED EQUITY INCOME II COMMON EOS $ % Monthly 9.01% 11.59% 0.00% 1.12% % 6.49% EV ENHANCED EQUITY INCOME COMMON EOI $ % Monthly 8.72% 11.54% 0.00% 1.15% % 9.08% PETROLEUM & RESOURCES COMMON PEO $ % Quarterly 6.01% 11.37% 0.00% 0.65% % 6.52% DELAWARE INV DIV & INC COMMON DDF $ % Monthly 7.15% 11.24% 26.26% 1.21% % 7.18% ALLIANZGI EQUITY & CONV INC COMMON NIE $ % Quarterly 6.12% 9.98% 0.00% 1.09% % 6.21% JH HEDGED EQUITY & INCOME FUND COMMON HEQ $ % Quarterly 7.74% 9.44% 0.00% 1.14% % 2.96% 4

5 Table 2: Largest Discount in Top 20% with High Yield CEF Name Symbol Price (Today) Prem/ Disc (1 Month Average) Dist Freq Distrib Rate ( Price) Price Perf (YTD) Leverage Ratio Expense Ratio Adjusted Return of Capital (TTM) NAV Return (Month- End 1 Yr) Price Perf (Last 52 Wk) PETROLEUM & RESOURCES COMMON PEO $ % Quarterly 6.01% 11.37% 0.00% 0.65% % 6.52% ZWEIG FUND COMMON ZF $ % Quarterly 6.70% 7.57% 0.00% 1.15% % 6.34% MADISON STRATEGIC SECTOR PREM COMMON MSP $ % Quarterly 8.94% 4.87% 0.00% 0.98% % 2.47% ALLIANZGI GBL EQUITY & CONV INC COMMON NGZ $ % Quarterly 8.23% 8.08% 0.00% 1.29% % 9.62% ALLIANZGI EQUITY & CONV INC COMMON NIE $ % Quarterly 6.12% 9.98% 0.00% 1.09% % 6.21% JH HEDGED EQUITY & INCOME FUND COMMON HEQ $ % Quarterly 7.74% 9.44% 0.00% 1.14% % 2.96% BLACKROCK ENHANCED CAP & INC COMMON CII $ % Quarterly 9.35% 3.30% 0.00% 0.94% % -3.10% BLACKROCK INTERN'L GRTH & INC COMMON BGY $ % Quarterly 8.94% 2.18% 0.00% 1.11% % 1.08% ZWEIG TOTAL RETURN COMMON ZTR $ % Monthly 8.05% 4.14% 1.38% 0.95% % 2.81% BLACKROCK ENERGY & RESOURCES COMMON BGR $ % Quarterly 6.32% 8.79% 0.00% 1.22% % 2.73% FIRST TRUST ACTIVE DIV INCOME COMMON FAV $ % Quarterly 7.41% 7.28% 0.00% 1.48% % 0.25% LIBERTY ALL-STAR EQUITY COMMON USA $ % Quarterly 6.63% 13.84% 0.00% 1.07% % 14.80% EV TAX-MANAGED GLB B-W OPPS COMMON ETW $ % Monthly 10.35% 5.52% 0.00% 1.08% % 2.73% EV TAX-MGD GBL DIV EQUITY INCOME COMMON EXG $ % Monthly 10.47% 5.79% 0.00% 1.06% % 7.75% EV ENHANCED EQUITY INCOME COMMON EOI $ % Monthly 8.72% 11.54% 0.00% 1.15% % 9.08% NUVEEN EQUITY PREM ADVANTAGE COMMON JLA $ % Quarterly 9.21% 3.70% 0.00% 0.99% % -0.64% DELAWARE INV DIV & INC COMMON DDF $ % Monthly 7.15% 11.24% 26.26% 1.21% % 7.18% EV ENHANCED EQUITY INCOME II COMMON EOS $ % Monthly 9.01% 11.59% 0.00% 1.12% % 6.49% NUVEEN EQUITY PREMIUM & GROWTH COMMON JPG $ % Quarterly 8.07% 7.35% 0.00% 0.96% % 3.35% ADVENT CLAYMORE CONV & INCOME COMMON AVK $ % Monthly 6.50% 7.57% 36.88% 1.72% % 9.13% NUVEEN CORE EQUITY ALPHA COMMON JCE $ % Quarterly 6.98% 15.96% 0.00% 1.05% % 11.77% EV TAX-MANAGED BUY-WRITE OPPS COMMON ETV $ % Monthly 10.17% 4.64% 0.00% 1.09% % 1.00% KAYNE ANDERSON ENERGY DEV CO COMMON KED $ % Quarterly 6.35% 11.78% 17.17% 3.00% % 5.24% EV TAX ADV GLOBAL DIV OPPS COMMON ETO $ % Monthly 7.99% 12.15% 25.21% 1.30% % 17.34% NUVEEN TAX-ADV TOTAL RETURN COMMON JTA $ % Quarterly 7.32% 19.51% 29.19% 1.41% % 15.76% 5

6 Re-Evaluating PIMCO's Income Funds Around this time last year we wrote an article looking at the prospect of PIMCO Dynamic Income, comparing it with sister fund PIMCO Income Opportunity. At the time, both funds were hot: PDI had just launched, raising close to $1 billion, and PKO was flirting with a double-digit premium. One year later, the funds have fallen out of favor along with a broader sell-off in fixed-income closed-end funds. PDI and PKO now sport 7.5% and 5.9% discounts, respectively. But while both funds certainly have their pros and cons, the discount pricing certainly makes each of them more attractive. With many investors newly interested in the funds, now is a good time to revisit the pair. High Risk, High Returns Right off the bat, it's worth noting that both funds are very risky bets. As of March 31, 2013,* 32% of PDI's assets were unrated, while another 33% were rated CCC or below. Moreover, its current leverage ratio (total assets/net assets) of 1.91 greatly amplifies the credit risk. Meanwhile, PKO's portfolio was slightly less risky (with 34% assets unrated and another 23% rated CCC or below) and less leveraged (its leverage ratio is 1.60). Both funds invested in high-yield, emerging-markets, and investment-grade corporate debt, but mortgage-backed securities made up the lion's share of assets. In addition, they each made ample use of interest-rate and currency derivatives for hedging and speculative purposes. Although the portfolios don't appear to be particularly interest-rate-sensitive (PDI and PKO had durations of 4.7 and 3.9 years, respectively), rising rates would still increase leverage expenses, which would eat into the funds' income-generating capabilities. Even after accounting for their hedges, the majority of the leverage in each portfolio was unhedged. Risk-averse investors, especially those worried about portfolio liquidity, will have no trouble justifying the large discounts. As of their last portfolio dates, PDI and PKO had about 8% and 5% of assets, respectively, invested in Level 3 securities (that is, there were significant unobservable inputs in determining asset prices). Considering the general illiquidity of other low-rated bonds held in the portfolio, skepticism regarding the quoted NAVs 6

7 is not entirely unwarranted. On the plus side, illiquidity often equates to market inefficiency, which can create substantial opportunities for talented managers to add value. Head manager Dan Ivascyn's track record suggests that he is more than capable at navigating these markets. PKO has logged a 17.7% annualized NAV return over the trailing five-year period, while his similar open-end fund PIMCO Income returned an annualized 12.5% over the same period. Even after adjusting for volatility, both funds have 5-star Morningstar Ratings compared with other multisector-bond funds. Although PDI is barely a year old, it has been on a tear since its IPO, with its NAV gaining 26.8% over the last year. It is also somewhat reassuring to see that Ivascyn has some skin in the game. A recent Form 4 filing shows that he picked up 30,000 shares of PDI in July, bringing his total stake to 370,000 shares (that is, about $10 million). He owns comparatively less of PKO (about $1.6 million). Are the Funds Good Deals? Despite the risk/return profile of both funds, they each charge staggeringly high fees: PDI charged 2.91% for its past fiscal year, while PKO charged 2.03% for the first six months of fiscal 2013 (both figures include leverage costs). But even though this is quite expensive on a NAV basis, we can use the approach outlined here to attempt to determine how much value their respective discounts add. While PDI and PKO have distribution rates of 7.00% and 8.17% at NAV, respectively, their discounts bring the distribution rates to 7.59% and 8.55%. This means that investors in the funds earn an extra 59 basis points of return for PDI and 38 basis points for PKO on an annualized basis without the underlying portfolio having to take on any more risk. Ultimately the discounts help offset some of the high fees, but not by much. The funds are only "good deals" if you believe Ivascyn can consistently add more than 2.32% in risk-adjusted performance for PDI and 1.61% for PKO. It's also worth noting that neither fund is in imminent danger of cutting their distributions: Both have overearned their distributions by wide 7

8 margins. While investors might not enjoy this extra income at present, the funds are required to pay out 95% of earned income for the year. In other words, hefty year-end distributions are likely for both funds. However, this brings up an interesting issue with respect to taxes. A Fork in the Road On one hand, the tax inefficiencies for both funds come to the forefront for taxable investors; on the other hand, they present an interesting opportunity for tax-sheltered investors. Ultimately, many investors will find that the tax consequences of each fund could be a deciding factor. As stated above, both funds have been drastically overearning their distributions. They are required to pay out most of this--eventually. But in the meantime, this extra income is included in the NAV. When the funds pay this extra income at year-end, their NAVs fall by the amount of the distribution. Those holding one of the funds in a taxable account would then have to pay income tax on this distribution. Conversely, those holding a fund in a tax-sheltered account would pay no taxes; if the fund trades at a discount at the ex-dividend date, share prices would likely fall by a smaller absolute amount than the NAV, which would be accretive to shareholders. In fact, the discount might narrow slightly with the thenlessened tax liabilities. Given the infrequency of the disclosure of earnings and undistributed net investment income, or UNII, balance (and the absence of a crystal ball to tell us what future earnings will look like), coming to a precise conclusion about this is difficult. Nevertheless, PIMCO estimates that both funds have accumulated a large amount of UNII so far this year, which means that a year-end distribution is likely even if earnings suddenly fell. Overall, the accrued tax liabilities might outweigh any benefits derived from the funds' discounts for many investors. But for tax-sheltered accounts, the funds are certainly attractive options for PIMCO fans, high fees and all. 8

9 Disclaimer: Important: The information in this presentation is not for general circulation and should not be considered an offer, or solicitation, to deal in any of the mentioned funds. The information is provided on a general basis for information purposes only, and is not to be relied on as advice, as it does not take into account the investment objectives, financial situation or particular needs of any specific investor. Any research or analysis used to derive, or in relation to, the information herein has been procured by Get Rich Investments for its own use, and may have been acted on for its own purpose. The information herein, including any opinions or forecasts have been obtained from or is based on sources believed by Get Rich Investments to be reliable, but Get Rich Investments does not warrant the accuracy, adequacy or completeness of the same, and expressly disclaims liability for any errors or omissions. As such, any person acting upon or in reliance of these materials does so entirely at his or her own risk. Any projections or other forward looking statements regarding future events or performance of countries, markets or companies are not necessarily indicative of, and may differ from, actual events or results. No warranty whatsoever is given and no liability whatsoever is accepted by Get Rich Investments or its affiliates, for any loss, arising directly or indirectly, as a result of any action or omission made in reliance of any information, opinion or projection made in this presentation. The information herein shall not be disclosed, used or disseminated, in whole or part, and shall not be reproduced, copied or made available to others without Get Rich Investments expressed written permission. Get Rich Investments reserves the right to make changes and corrections to the information, including any opinions or forecasts expressed herein at any time, without notice. 9