Closed-End Funds and Business Development Companies: Key Trends for AST Fund Solutions, LLC

Transcription

1 Closed-End Funds and Business Development Companies: Key Trends for AST Fund Solutions, LLC 0

2 Agenda Recent Developments Impacting Closed- End Funds and BDCs-Key Trends for 2016 Overview Key Market Trends Strategic Transactions Shareholder Activism in Closed-End Funds and BDCs SEC - Hot Topics for Closed-End Funds and BDCs Questions Presented By Paul Torre Executive Vice President AST Fund Solutions, LLC Frank J. Maresca Executive Vice President AST Fund Solutions, LLC James Burke Vice President Editor, CEFinsight.com AST Fund Solutions, LLC Eyal Seinfeld Partner Ernst & Young 1

3 Overview Key Trends The number of U.S. listed and OTC-traded closed-end investment companies fell in 2015 due to fund consolidation and a slow pace of new offerings. At calendar year end: Takeouts IPOs CEFs # The CEFs total Net fell Assets to 558 ($B) U.S. listed est. and OTC-traded $269 closed-end $230 funds (CEFs), managing approximately BDCs # $230 billion of net assets, and 56 listed 57 and OTC-traded 56 BDCs, 2 with 1 approximately BDCs Net Assets $37 billion ($B) of est. net assets. $36 $37 There are another 18 CEF takeouts in the pipeline for the top drivers in are sponsors consolidating product lines, most notably among municipal bond funds at Nuveen and BlackRock, and fund liquidations (6 in 2015). In 2015, CEF/BDC IPOs raised a combined $2.51 billion in gross proceeds vs. $5.05 billion in 2014 (8 CEFs and 5 BDCs). The pace of new offerings was slower due, in part, to market volatility (most notably in terms of fewer BDC IPOs). A large pipeline of CEF takeouts (18), a limited pipeline of potential IPOs (CEFs /BDCs), and factors driving recent market volatility all point to these trends continuing this year. 2

4 Overview Key Trends The past year has seen a substantial increase in the number of closed-end funds (CEFs) and BDCs facing shareholder activism and proxy contests (a trend we expect to continue this year). Top activist investors are Bulldog Investors, LLC and Karpus Investment Management. Ancora Advisors LLC, a firm with a significant history of shareholder activism involving issuers that are not CEFs, is now targeting a closed-end fund. Some typically passive investors are now taking active stances in connection with their holdings of selected CEFs and BDCs: Saba Capital Management, Relative Value Partners, RiverNorth Capital Management, and Mariner Investment Group. There has been a significant increase in the number of funds that are adopting plans of liquidation, term limits, or converting to open-end funds following pressure from shareholder activists. 3

5 Recent Volatility in Closed-End Funds and BDCs Debt-Muni Convertible Securities Debt-Corp High Yield Energy-MLPs Debt-Muni Equity-U.S Energy-MLPs Real Estate CEF group price indexes (AST) Avg. % price changes rebased to 100 BDCs Jan 25 Jan 19 Jan 12 Jan 6 Jan 30 Dec 24 Dec 18 Dec 14 Dec 8 Dec 2 Dec 25 Nov 19 Nov 13 Nov 9 Nov 3 Nov 28 Oct 22 Oct 16 Oct 12 Oct 6 Oct 30 Sep 24 Sep 18 Sep 14 Sep 8 Sep 1 Sep 26 Aug 20 Aug 14 Aug 10 Aug 4 Aug 29 Jul 23 Jul 17 Jul 13 Jul 7 Jul 30 Jun

6 4% 2% 4% 2% 0% -2% -4% -6% -8% -10% -12% -14% 0% Recent Volatility Average Discounts to NAV Convertible Securities Debt-Corp High Yield Debt-Muni Equity-U.S. Energy-MLPs Real Estate CEF group averages (AST) As of 1/29/16, the listed BDC average was 28.07% (using latest available NAVs) 36 of 52 listed BDCs were trading with discounts wider than 20% -16% -18% -20% -2% -4% -6% -8% -10% -12% -14% -16% -18% -20% 5 25 Jan 19 Jan 12 Jan 6 Jan 30 Dec 24 Dec 18 Dec 14 Dec 8 Dec 2 Dec 25 Nov 19 Nov 13 Nov 9 Nov 3 Nov 28 Oct 22 Oct 16 Oct 12 Oct 6 Oct 30 Sep 24 Sep 18 Sep 14 Sep 8 Sep 1 Sep 26 Aug 20 Aug 14 Aug 10 Aug 4 Aug 29 Jul 23 Jul 17 Jul 13 Jul 7 Jul 30 Jun

7 Closed-End Fund Net Share Issuance ($ Millions) $40,000 $30,000 28,369 Bond Funds Equity Funds $20,000 $10,000 $0 $10,000 $20,000 $30, Q'15-3,259-22,298 13,742 11,315 5,430 6,018 4,766 2,030 Data from the Investment Company Institute. Net share issuance is defined here as the dollar value of gross issuance (proceeds from initial and additional public offerings of shares) minus gross redemptions of shares (share repurchases and fund liquidations). 6

8 IPOs Listed U.S. Closed-End Funds $8,000 $7,000 $6,000 (#)Millions * 8 6, ,427 $5, , $4,000 3,410 3,499 $3, ,368 $2, , , $1, Closed End Fund IPOs in 2015 By Investment Focus ($Millions) $580 $330 $75 $385 $892 Closed End Funds Convertible Securities Debt Corp High Yield Equity Dividend Income Equity Europe $0 $128 Equity Health & Biotech * Gross proceeds. The volatility impacting many debt-focused fund groups since May 2013 and energy-focused funds in 2015 have contributed to the slowdown in the overall pace of IPOs since

9 IPOs Listed BDCs $700 $600 (#)Millions * 4 $591 $500 4 $449 $400 $300 Increasing Market Volatility for BDCs 2 $200 $100 1 $85 1 $92 1 $58 $180 1 $111 1 $120 $0 $0 $0 $0 $0 $0 $0 $0 $0 1Q'12 2Q'12 3Q'12 4Q'12 1Q'13 2Q'13 3Q'13 4Q'13 1Q'14 2Q'14 3Q'14 4Q'14 1Q'15 2Q'15 3Q'15 4Q'15 * Gross proceeds. 8

10 IPOs Notable Features of Recent CEF Offerings Contingent Conversion to an Open-End Investment Company First Trust Dynamic Europe Equity Income Fund (FDEU) RiverNorth Opportunities Fund, Inc. (RIV) Eagle Growth and Income Opportunities Fund (EGIF), with term limit Term Limits AllianzGI Diversified Income & Convertible Fund (ACV) 15 years Calamos Dynamic Convertible and Income Fund (CCD) 15 years Miller/Howard High Income Equity Fund (HIE) 10 years Nuveen High Income 2020 Target Term Fund (JHY) - 5 years Nuveen Municipal 2021 Target Term Fund (NHA) 5 years Nuveen High Income December 2018 Target Term Fund (JHA) 3 years Quarterly Special Distributions Based on NAV Performance First Trust Dynamic Europe Equity Income Fund (FDEU) 9

11 Rights Offerings and Tender Offers The number of CEF rights offerings fell from eight in 2014 (with $713 million in gross proceeds) to five in 2015 ($373.3 million in gross proceeds). The number of tender offers by listed CEFs increased in 2015 to 22 (totaling $1.019 billion of shares purchased) compared to 14 tender offers in 2014 ($756 million of shares purchased). Three of the tender offers in 2015 followed agreements with shareholders compared to seven in For more detail on IPOs, rights offerings, and tender offers please see the Special Reports section of CEFinsight.com. 10

12 Strategic Transactions During the last several years the BDC space has seen several transactions completed or proposed Business combinations PFLT acquired MCGC Investment advisor contract acquisition Oakhill Advisors acquired the contract to manage NGP Capital Resources Proposed transactions TICC had 2 entities wanting to acquire the investment advisory contract (Benefit Street Partners, NexPoint) and an offer to merge with another (TSLX) With several BDCs trading at a significant discount to NAV, activist investors have started taking an interest in the BDC space Fifth Street Finance (RiverNorth), KCAP Financial (DG Capital), American Capital (Elliot Management) 11

13 Joint Ventures (JVs) Typical structure: Ownership of JV 87.5%/12.5% BDC/JV partner (financial institution, insurance company) Power over significant decisions is shared 50/50 Consolidation for financial statement purposes is not required due to shared power Investments typically in low yielding assets but the JV incurs significant debt that BDCs are not counting as senior securities in the Asset Coverage test Current JV owners include: Ares Capital, Capitala Finance, Fifth Street Finance, Golub Capital, Goldman Sachs BDC, New Mountain, Solar Capital, THL Credit SEC Staff requests disclosure in the BDC s financial statements of the JV s summarized balance sheet and income statement and the JV s investment portfolio BDCs that have not obtained preclearance from the SEC will usually receive a question from the SEC regarding consolidation of the JV 12

14 Shareholder Activism in Closed-End Funds and BDCs An increase in activism and proxy contests has been driven by a combination of: Market factors (funds trading with sustained discounts wider than 10%); Greater activity by traditional activists like Bulldog Investors, LLC (Special Opportunities Fund) and Karpus Investment Management; and, A growing number of passive investors taking active stances in special situations, such as Saba Capital Management, Relative Value Partners, and RiverNorth Capital Management. The most common issue for activists remains pressing for tender offers, but an increasing number of fund boards are opting to convert to open-end funds or liquidate in response to certain activists. Other issues include contests over director/trustee seats and investment advisory agreements. Looking ahead, our analysis of the shareholder bases and discounts of all closed-end funds and BDCs shows that there are more than 25 CEFs/BDCs facing a significant risk of a shareholder initiative this year. Page 13 13

15 Activists and Followers Activists Bulldog Investors, LLC Special Opportunities Fund, Inc. (SPE), managed by Bulldog Investors Karpus Management, Inc. (dba Karpus Investment Management) Ancora Advisors, LLC Brigade Capital Management, LP Ironsides Partners LLC Elliott Associates, L.P. (BDCs) Raging Capital Management, LLC (BDCs) Followers Occasionally taking active stances and involved in shareholder initiatives City of London Investment Management Co. Ltd. DG Capital Management, LLC (BDCs) Mariner Investment Group, LLC Relative Value Partners Group, LLC RiverNorth Capital Management LLC Saba Capital Management LP Sit Investment Associates, Inc. Wolverine Asset Management LLC Recently Active As of Jan

16 ACTIVIST OWNERSHIP VS. FUND DISCOUNTS Accumulations by activists/followers, news of activist initiatives, and fund responses (such as announced plans of liquidation/conversion) typically result in a compression of the targeted fund s discount. Note the #of funds with discounts wider than 10% that also have more than 5% of their outstanding shares held by activists and followers. 25% 20% Engaged with activists 15% Discount/Premium to NAV 10% 5% % O/S held by activists and followers 0% 0% 5% 10% 15% 20% 25% 30% 35% 40% 45% 50% 55% 60% -5% -10% -15% -20% -25% December

17 Activism: Case Studies Ancora Advisors LLC sent a letter in late December to The Zweig Total Return Fund, Inc. (ZTR) pressing to let shareholders decide on whether to open-end or liquidate the fund. Global High Income Fund Inc. (GHI) approved a plan to liquidate the fund, subject to shareholder approval. The announcement followed a standstill agreement between UBS Global Asset Management (Americas) Inc. and Bulldog Investors, LLC. AllianceBernstein Income Fund, Inc. (ACG) announced in August that the fund s Board had approved a plan to convert into an open-end fund. The move followed a long-running struggle over various issues with Karpus Investment Management, and a shareholder vote in April approving a non-binding stockholder proposal requesting that the Board consider authorizing a self-tender offer for all outstanding common shares of the Fund at or close to net asset value. Page 16 16

18 Activism: Case Studies Deutsche Global High Income Fund, Inc. (LBF) and Deutsche High Income Opportunities Fund, Inc. (DHG) approved amendments to each fund's Articles of Incorporation requiring the liquidation and dissolution of each fund within a specific time frame (September 30, 2017 for LBF and March 30, 2018 for DHG) following a standstill agreement that the adviser and the funds had entered into with Bulldog Investors, LLC. MFS InterMarket Income Trust I and Alliance New York Municipal Income Fund, Inc. saw their Boards move to liquidate the funds in 2015 citing the ownership and actions of activists. LMP Real Estate Income Fund Inc. (RIT) is pursuing the conversion of the fund to an open-end fund this year following an agreement with Bulldog Investors, LLC. Federated Enhanced Treasury Income Fund was reorganized into an open-end fund following agreements by the fund s adviser with two of the fund s largest shareholders (holding more than a majority of the outstanding shares). The fund s two largest shareholders were Karpus Management and Sit Investment Associates. Page 17 17

19 Activism: Case Studies - Defeating Activist Initiatives PIMCO Dynamic Credit Income Fund (PCI) announced on May 7 that the fund s shareholders had overwhelmingly defeated trustee nominees proposed by the hedge fund Ironsides Partners. Adams Diversified Equity Fund, Inc. (ADX) announced that at the fund s annual meeting of stockholders (on April 30), a stockholder proposal requesting that the fund s board authorize a tender offer for all outstanding common shares of the fund at or close to net asset value (NAV) had been overwhelmingly defeated. Special Opportunities Fund, Inc. (SPE) had submitted shareholder proposals to ADX, Tri- Continental Corporation (TY), General American Investors Company, Inc. (GAM) and Central Securities Corporation (CET). For CET the proposal was a request to consider liquidating the fund. The proposals submitted to ADX, TY, and GAM requested that the Boards authorize tender offers for all of their outstanding common shares at, or close to, NAV. None of them were approved. Clough Global Equity Fund (GLQ) announced in July that a shareholder proposal requesting that the board authorize a self-tender offer for all of the fund s outstanding common shares had been defeated with only 21.7% of the shares present and entitled to vote supporting the proposal (from Opportunity Partners L.P. [Bulldog Investors]). Page 18 18

20 Activism: Case Studies 2015 Business Development Companies Crossroads Capital, Inc. (XRDC), then named BDCA Venture (BDCV), saw stockholders elect three directors nominated by Bulldog Investors, LLC and approve a shareholder proposal requiring the Board to consider a plan to maximize shareholder value within a reasonable period of time. RiverNorth Capital Management, LLC delivered a letter to Fifth Street Finance Corp. (FSC) nominating three director candidates and submitting a proposal seeking stockholder approval to terminate the investment advisory agreement between the issuer and Fifth Street Management LLC. Elliott Associates, L.P. (Paul E. Singer) disclosed in November that it had sent a letter to American Capital, Ltd. (ACAS) in which it opposed the company s plan to spin off investment assets into a new business development company and create a stand-alone, external asset manager. Fifth Street Senior Floating Rate Corp. (FSFR) disclosed in December 2015 that the company had received a letter from Ironsides Partners Special Situations Master Fund II L.P. indicating that it intends to submit two director nominees and two proposals. Raging Capital Management, LLC stepped into the middle of the struggle over TICC Capital Corp. (TICC) with a letter calling on TICC to postpone its scheduled special meeting and engage an investment bank to conduct a strategic review of options for maximizing value. In October 2015, TICC publicized an agreement in which RCM would vote in favor of all of the company's proposals, while TICC agreed to appoint an additional non-interested director recommended by the shareholder if the company s proposals are approved. Page 19 19

21 SEC - Hot Topics for Closed-End Funds and BDCs Unfunded commitments Over the last year, the SEC had questioned whether BDCs should include unfunded commitments as senior securities in the Asset Coverage test SEC proposal on the Use of Derivatives and its impact on the determination of senior securities The proposal on the Use of Derivatives indicates the SEC believes that certain derivatives and financial commitments, including unfunded commitments are senior securities However, we understand that recently, BDCs have indicated in correspondence to the SEC staff in connection with registration statement review comments, that they have sufficient unencumbered liquid assets to cover their unfunded commitments and are not treating unfunded commitments as senior securities when calculating asset coverage 20

22 SEC - Hot Topics for Closed-End Funds and BDCs SEC Staff Comments on non-gaap measures The SEC Staff continues to focus on the use of non-gaap measures, specifically whether the disclosure of the non-gaap measure is misleading and does it have more prominence that the GAAP measure Request for Comment on S-X Rules and 4-08(g) and the implications for BDCs Current requirement: Include financial statements for majority owned unconsolidated subsidiaries (20% significance test) and include summarize financial information for unconsolidated subsidiaries (10% significance test). Criteria: Asset test, Investment test and Income test Wide diversity in practice within the BDC space in the calculation of the tests SEC requested comments on: Should the 3-09 and 4-08(g) tests be applied to BDCs? If yes, should the criteria for BDCs differ from the criteria for commercial enterprises? If yes, how? 21

23 Questions? 22

24 CEFINSIGHT.COM Weekly Updates Monthly Reports Timely alerts, special reports, and more on CEFinsight.com Subscriptions are free. 23

25 AST SERVICES FOR CLOSED-END FUNDS AND BDCS AST Fund Solutions provides the following services for funds facing challenges from shareholder activists: Activism Risk Analysis (customized reports and consulting services), including materials for Board-level presentations. AST Fund Solutions generates unique and confidential assessments of the funds most at risk of facing new activist initiatives based on our analysis of fund discounts and ownership behavior by activists and followers (event-driven traders). We ll show you where your fund ranks. Quarterly reports on trends in fund ownership, including ownership identification integrating confidential data, and customized profile pages of key activists with positions in the fund (service provided by our AST Ownership Intelligence unit). Surveillance of trading (using confidential DTC data and other sources) for funds at risk of a significant accumulation by a shareholder activist (service provided by our AST Ownership Intelligence unit). Proxy Solicitation 24

26 Contact Information Paul Torre Executive Vice President, AST Fund Solutions, LLC Frank J. Maresca Executive Vice President, AST Fund Solutions, LLC James Burke Vice President, AST Fund Solutions, LLC Eyal Seinfeld Partner, Ernst & Young DISCLAIMER: Some elements of this report reference information, data and statements made by third parties. AST Fund Solutions, LLC is not responsible for any errors, omissions or inaccuracies contained in this report or any liabilities that may result from reliance thereon. Nothing in this presentation should be considered or used as legal or financial advice. 25