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CEF Monthly Review: February Interview - Tom Roseen



Tom Roseen
Tom Roseen, Head of Research Services with Refinitiv Lipper & author of the Fund Market Insight Report alongside the Closed-End Fund Association discuss Tom's insights on the closed-end fund market.

CEFA:

Welcome to CEF Insights, your source for closed-end fund information and education, brought to you by the Closed-End Fund Association and available on our website at www.CEFA.com. My name is Diane Merritt. Today, we're joined again by Tom Roseen, Head of Research Services with Refinitiv Lipper and author of the Fund Market Insight Report, which provides in-depth monthly commentary on the closed-end fund market. We're happy to have you with us today, Tom.

Tom:

Good to be here, Diane. Thanks for having me.

CEFA:

Tom, you recently published your report for January, 2021, which covers over 600 closed-end and interval funds. How did investment markets generally perform in January? What was the impact on closed-end funds?

Tom:

The markets had quite a bit of seesaw in it during the month. We started off the month really on a down note. People were very concerned about the rise in the coronavirus and the like. Later on, we did have some strong returns that came in over the weeks. We'd have one week positive, one week negative, but big swings towards the end of the month. I think a lot of people were looking at the short squeeze that was made on Game Stop and the increase in volatility that was out there.

But the overall monthly returns actually were not all that bad. When I say that, we saw the Russell and the NASDAQ actually hit new highs. The Russell had a 5% return for January. The NASDAQ actually was up 1.42%. but if we take a look at the Dow, the S&P, they were in negative territory. I think that's what most people grabbed onto. That was down about 2.04%.

But really this was all on I'm going to say three basic negatives out there that people I think were a little bit more or less sanguine with the markets. Basically we were looking at possibility of increased borrowing costs. We saw the yield curve rise a bit at the long end of the curve. We saw rising interest rates. We saw a slow rollout of vaccines. Again, I think all states were actually trying to do the most they can. There was a lot of vaccines that were actually sitting ready but unused because they just didn't have the distribution out there. We saw an increase in rising infection rates and like. We saw one of the first declines in non-farm payroll. We saw for the month of December, early reported in January, 140,000 loss of jobs compared to what analysts expectations thought would be about a 55,000 increase. Overall I think people were a little bit concerned.

But then what we saw was a couple of responses and this might've been what actually helped keep everything on balance and maybe even keep the out-of-favor securities, for instance, seen in the AMEX, seen in the Russell, seen in the NASDAQ even. The NASDAQ certainly has had a good run already. But the likelihood of a $1.9 trillion spending plan to actually help with stimulus package by the Biden administrations was almost baked into the cards at that point. People said, "That's going to be a plus." We also saw the Georgia runoff elections tilt towards the Democrats, which also would encourage more of the Biden administration's agenda being served. I think we've had mixed emotions, but we did see some negatives where we once saw positive, the S&P and Dow, but overall better.

How that panned out to the closed-end fund universe, on the equity universe for the third consecutive month on a NAV basis, we saw 0.84% return. On a market basis, we saw, also for the third consecutive month, 1.62% return. We're all used to seeing 5, 10, 15% returns. But if we get back to a nice 1% return each and every month, it was a solid month.

Fixed income, on the other hand, we saw it for the 10th consecutive month on a NAV basis, a 1.13% rise. This is despite having again, the yield curve tilting upward at the long end. Also we saw on a market basis them rise for the third consecutive month, about 1.15%.

How I usually break this out, I try to get a little better look. 75% of all the funds out there actually had plus side-performance. It's a nice number. However, equity suffered a little bit more, only 58% versus 88% of the fixed income funds with plus side returns. If I break that down even further for you, for the first month in nine, we saw domestic equity funds actually rise 1.19%, mixed asset funds actually had about 0.53% of their month-end returns the last month. Then we saw world equity funds rise just 0.07%.

On the fixed income side, for the first month in 10, municipals actually took the top role, up about 1.43%, domestic taxable bond funds up about 1.08%, and world bond funds actually lost about 0.31% for the month.

CEFA:

Your data breaks out closed-ends into over 20 classifications. What classifications were the best performing for the month and which sectors struggled?

Tom:

We've been talking about this, I think for the last couple, two, three months. Out-of-favor issues really came back in favor. We certainly saw that a little bit last month as well. The out-of-favor issues and also cyclical benefited. One of the big plays that happened this month is we saw about a 7.6%, it's actually some 7.58% rise in the oil prices, so near month crude oil futures basically got a pretty good shot in the arm. It pushed the related issues higher.

At the top of the group we saw, in the equity universe, energy MLP funds, which again, I'm cautious about because they lost so much money in 2020. There's some legal issues going on on how they're passing through distributions and the like. But then, nonetheless up 6.09%, third month in four they've actually seen plus-side returns. Natural resources, which is heavily made up of oil and gas and that stuff, up 3.47%. Then, because we're still having a rising market in low interest rates, haven't seen a big change in just normal interest rates. Convertibles actually went up 1.77%.

Now on the flip side, we saw developed market funds lose about 1.71%. They were the big losers. Utility funds were down 1.28%. If we look also option strategies and option arbitrage, option strategies funds lost a little bit, about 0.29% decline.

Now looking at the fixed income, though, this is where I think the story changes a bit. We saw that for the first month in six, loan participation funds were at the top of the charts. This is that people are looking at this rising yield curve at the long end, inflationary concerns, because of the $1.9 trillion spending and the several $3 trillion spending before that, et cetera. So up 1.75% for loan participation, general insured municipal debt funds leveraged, they were about 1.73% and high yield muni was up at 1.65% at the bottom.

Some of the leaders over the past couple months, emerging-market debt was doing okay. It got clobbered ... not bad, down by 1.46%. Then we saw the corporate triple B investment grade debt funds lose about 0.75% and then the leveraged version of that down about 0.37%. It didn't do quite as bad. That's kind of the story of the winners and losers for both fixed income and equity groups.

CEFA:

Now, is this a change from what you saw in December?

Tom:

On the equity side, leaderboard is similar, with a little bit of rotation, energy, more at the top again. But again, I think the bigger story, but was the steepening yield curve on the fixed income side. That's where we're seeing a little bit more focus on, if you will, interest rate plays, loan participation funds usually have a piece in it where it's a floating rate and they'll adjust as interest rates adjust. Of course, people have to know when that break point is that they actually adjust in. But I think a lot of people were betting that we are moving towards inflation, despite the Fed coming out, and most of the Fed governors and presidents coming out and saying they don't see inflation actually rear its ugly head for the next two or three years. Certainly that was where they were.

But the other piece was a little bit of maybe concern of the incoming Joe Biden administration maybe reversing on the 2017 tax cuts. We did see municipals rise to the top, first month in 10 that they were out performers. All three months in the past, we saw all of the funds classifications within that group actually on plus-side performance. That's the third consecutive month we saw that.

CEFA:

Do you expect these trends to continue into February?

Tom:

Yes I do. We did see an improvement in the non-farm payroll. That was good, but it's still on the low side. We had reports that the retail sales were negative, that's the third consecutive month that they were negative. But I think as we take a look at the Biden administration and the Senate is likely to pass another stimulus package, I think investors are going to keep an eye on, first of all, the lockdowns if the new strains are actually being more contagious, but not only more contagious, but also maybe causing more deaths. But people will keep an eye on that.

But if everything goes off and the rollout of the vaccinations go, I think that people are going to become a little bit more risk on and be able to take approach that they think that the vaccines will in fact improve. We've had a very strong three months. We'll talk about that later. I don't think it'll be quite as wild as we've seen in the big returns, but yeah, I think it'll be a similar month. Again, kind of mixed group. One part of people looking at new rotation cyclicals, maybe some of the people taking some of the money off the table from areas that they really got some nice returns over the last several months.

CEFA: Investors often monitor the way closed-end funds trade in relation to their net asset value. We often see a pickup in demand and improvement in premiums and discounts of closed-ends at the start of the New Year. What were the trends in premium discount behavior for January?

Tom:

It was somewhat mixed. Usually at the year end, we do see some of the benefits of some of the tax loss harvesting. But I think because we did see a decline and we saw a lot of volatility in the market, particularly towards month end. We did see a little bit of change. We did see a widening or worsening in the overall discount that was applied to the ... it's a median discount, by the way, not the average, but the median discount for all equity and fixed-income funds, 37 basis point widening to 8.67%.

Now on the flip side, equity funds actually experienced a narrowing, about 22 basis points narrowing. They're still, on January 29th, still trading on a median discount of 10.13%. Fixed-income funds suffered a little bit. Obviously, when I told you the "all funds" suffered a widening, a 34 basis points widening for the median fixed income fund to a 6.13% discount.

CEFA:

How do current premiums and discounts compare to the historical averages?

Tom:

Well, again, we're seeing a basic improvement, I think, in general. If I took a look again at all of the discounts and premiums added together, I don't care if it's fixed income or whether it's equity. The 7.29% is better than we saw 12 months ago on February 28, 2020, was at a 8.08% discount. Also, it is better than the moving-average median of 8.67%. We're right around the same area we were about a year ago, about 100 basis points better though, in some cases right around that area. However, if we take a look at equity funds, they are in a worse position as of 1/29/2021. Again, I already said it, but the median discount was at about 10.13%. If we look at 2/28, February 28th, 2020, 12 months ago, they were 7.72%. I guess the vote is that it's still not all that great in the markets. They hadn't gotten bid up too much.

Fixed income funds, on the other hand, have seen an improvement. On January 29th, 2021, we saw 6.13% discount, and again, a median discount, compared to a year ago, 8.38%. That is certainly a better piece. Then when we take a look at these again, I want to make sure that people know that we're not just using averages, because there are such extreme cases where we're seeing there's a fund out there that is actually at 100% premium to it's NAV right now. It's trading in that area. We try to take it out by going into the median.

CEFA:

How do current premiums and discounts compare to their historical averages?

Tom: 

They are still a bit wider than they have been in the past. Let me give an example. All funds that we're taking a look at, all equity funds and fixed income put together, as I told you, had a discount of about 6.91%. If we take a look, though, 12 months ago, which would have been 1/31/2020, it was at 4.95%. The number of funds, all funds, being at a premium was 86 on December 31st, 2020. If we look at 1/31/2020, again, 12 months ago, it was 115. So the number is a bit lower.

Where we saw maybe some similarities, we saw a degradation in equity funds. So 10.34% just recently, and if we look back a year ago, it was at 5.4%. but the fixed income funds stayed in the same area. So 12/31/2020, 5.79% just recently. 1/31/2020, 4.69%. So ballpark in the same area.

CEFA: 

Which sector saw the greatest change?

Tom: 

Well, basically we saw world equity funds narrow of 72 basis points. They improved to a 12.37% discount. Again, that's still pretty wide. Then we saw the single states actually probably take the biggest black eye, 71 basis points of widening, call it degradation to their NAV. That was at 7.28%. They're still sitting pretty good territory.

CEFA:  Tom, we have had a change in administration, continued uncertainty around COVID, but with the distribution of vaccines, some optimism for the economy, but relatively high valuations in investment markets. Are there sectors among closed-end funds where investors may find particular opportunities given where those funds are trading relative to their historical averages?

Tom: 

Well in the past, I was showing you some big moves that were made for the one-year period and we've had some pretty big moves. I still want to point out that some of the energy master limited partnerships and natural resources funds are still down significantly, 50% and 20% respectively, for a one year time period. But taking a look at what they actually did for the three month period I think puts it in a little bit better perspective for us. Energy master limited partnerships are up 31.05%. Again, remember for a one-year period, they're still down significantly. Natural resources funds are still up 24.97% and convertible securities for the three-month period, 21.27%.

Overall, they're still doing a really good job. Again, I'm cautious at looking at a one year ago time period versus the most recent one. Real estate funds probably ... They actually have had some pretty good returns, three month period is up 5.92%. But they're still languishing if you compare them to the one-year trend.

Equity funds are looking pretty good. I think people have to take a look at whether they're willing to play some of the steep, deep premium and discounts that are out there. You will see very wide discounts for energy master limited partnerships and natural resources funds. But again, I want everybody to keep in mind doing that analysis, also note that in the last three months they've done spectacular.

Let's, though, focus on the fixed income. I think that really gets down to the question. Basically, I think we may see a changing of the guard if we're keeping an eye on whether Congress and the president will pass through another stimulus bill at $1.9 trillion. I think loan participation could get another shot in the arm as people are looking for more inflationary pieces.

Then if we take a look, the two languishing areas is corporate debt, triple B rated closed-ends. They are still in positive territory. They did top performer in 2020, almost 8.9%. But for the three month period, they're still at only about 2.88%. We could say the same thing for the intermediate municipal debt funds, only up 3.81%. I say that only for a three quarter period, I mean a three month period for one quarter. That's still phenomenal. I think I'm keeping an eye on loan participation, if we in fact have a steepening of the curve and possibly more stimulus coming out.

CEFA:  Tom, you also follow interval funds, which typically offer a limited quarterly liquidity to investors. Are you continuing to see new issues coming out of the interval fund structure?

Tom:

We are. In fact, if we take a look at Q4 as an example, it wasn't a lot of a new fund action in the first month. It actually was two new funds. We'll talk about that in just a second. But if we take a look at Q4, the split was four interval funds that were created to two conventional closed-end funds that were created. We are seeing more proliferation. 2020, the number of conventional closed-end funds actually brought to market was 10. It was almost a doubling, 19 for interval funds. That is very popular, but I do want people to understand when we're talking about interval funds, and I'm talking about the numbers of increasing, that 19 could have been four different share classes for the same fund adding up to be, let's say, close to 20. So you had five different issues.

But that's not generally what happens. They usually come out with one in one period, a couple of months later, even a year later, they'll come out with another of the C share. They do have these so that they have different expense structures, different minimum initial investments and the like. People end up paying a little bit more for, I guess we'll call it servicing fees and then maybe a load-structure fee type of thing. We'll see that. I do want to say that. But really it has been the more popular way to come to market for 2020, almost a two for one difference.

CEFA:  How have interval funds generally performed as we get into 2021?

Tom: 

If we look at the actual group, they actually did for the month of January, a little bit better in some cases, a little bit worse than other cases. One of the examples I always pull out is the real estate funds, is one of the big groups there's 33 interval funds, 10 conventional funds. The 33 interval funds had an average return of a 0.67% return, while the conventional funds, conventional closed-end funds had a loss, but only a 0.23%. I mean, we're not talking a big change here.

Same with general bond funds. We have a a split of 41/25, 41 for the interval, 25 for the conventional. With that, we saw about a 1.01% return versus a 0.82% return. But I don't think it's fair that I always point out the ones that are doing just better. There are several that have done better.

But let's take a look at a category I just brought up, loan participation funds. Again, this is leveraged loan funds or bank rate loan funds, whatever you want to call them. Basically we did see a little bit of benefit being in a conventional closed-end fund, about 2.01% for the month of January versus 1.51% for the general fund. Overall, they're behaving, in many cases outpacing some of their conventional closed-end brethren. But on the flip side, I can say, if you look at it, it may not be statistically insignificant or statistically significant in the case. Those numbers are pretty close.

One last piece, we take a look at the preferred income and preferred stock funds. We had a difference of 71 basis point returns, so 0.71% for interval funds and negative 0.12% for the conventional closed-end funds. Again, very close to each other, but certainly the advantage so far, for the month of January, was towards the interval-fund side.

CEFA: 

Are there particular asset classes or investment strategies that you believe are well-suited for the interval-fund structure?

Tom: 

I do. I think that people, when they're looking at interval funds and trying to say, "Well, what are they really doing? Why are they different as closed-end fund than they are from an open-end fund?" Because they don't have a market price, they only go by NAV. Basically they're out there and the difference mainly being you can buy it on a daily basis. But usually you can only redeem during the redemption period. Usually, they offer a quarterly redemption or refunding of their funds.

Now that in mind, that allows them to buy less-liquid securities, or what a lot of people have been also pointing towards is real-asset funds. If we want to diversify into something that is, let's say less correlated or not correlated, that's hard to find anymore, but less correlated assets with our current portfolio. This gives us a possibility of getting into areas that maybe were traditionally more held towards hedge funds and private clients that were very wealthy, high-net-worth investors. Because we find in their holdings, private equity, private placement for fixed income, real assets, as I was saying, and certainly less liquid securities.

I think there are opportunities there. I don't know that I'd go whole-hog into the interval-fund space, but I do think they're a compliment to our portfolio strategy.

CEFA: 

Tom, thank you so much for taking the time to join us today.

 Tom:  Thanks for having me, Diane. Good to be here.

 CEFA: 

We want to thank you for tuning into another CEF Insights Podcast. For more educational content, please visit our website at www.CEFA.com.


Audio recorded 2/9/21.



Disclosure

Closed-end funds trade on exchanges at prices that may be more or less than their NAVs. There is no guarantee that an investor can sell shares at a price greater than or equal to the purchase price, or that a CEF's discount will narrow or be eliminated. CEFs often use leverage, which increases a fund's risk or volatility. The actual amount of distributions may vary with fund performance and market conditions. Past performance is no guarantee for future results.

 

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