May 2016 Closed-End Fund (CEF) Market Update

Senior Portfolio Specialist Allen Webb talks with Portfolio Manager Steve O'Neill about the closed-end fund market for the month of May 2016.


ALLEN: So, Steve, let’s talk about the month of May in the closed-end fund market. The S&P 500 was up about 1.8 percent, the Barclays Agg was flat. Other asset classes, including closed-end funds, were up somewhere between 50 basis points and 1 percent. Where does that put closed-end funds returns on a year to date basis?

STEVE: Sure. Closed-end funds have had a good year. Bond funds are up about 8 percent, both muni and taxable fixed income, and equities up about 5 1/2 percent, and so to your point, closed-end funds have been outperforming for the month, and really, year to date, and so investors are quite pleased with the performance in 2016.

ALLEN: Steve, does that speak of sentiment improving in the closed-end fund market? Clearly some of the performance numbers that you spoke about are pretty attractive.

STEVE: Yeah, you can measure sentiment by the average discount. The average discount today is at about 5 1/2 percent. That’s about 200 basis points narrower than where we started the year, and 5 1/2 is still wider than the historical average, but just by about 100 basis points. I think that it’s important to realize that when you think about the average discount, it’s—you’ve really got two different markets. You’ve got premium funds and discounted funds, and so when you look at the average discount—it’s easy to lose sight of the fact that 20 percent of closed-end funds today are trading at premiums that are net asset value, and that average premium is about 7 percent, which is, you know, for many of our viewers hard to appreciate, but the reality is many people buy closed-end funds for yield and price and they ignore the premium, and so when you look at discounted closed-end funds, there’s about 450 funds today. The average discount on those funds is about 8 percent, so it continues to be argued that you can find cheap, closed-end funds that are attractive relative to their historic average discount in many asset classes today.

ALLEN: The 5 1/2 average discount is masking the fact that there’s an awful lot for you to look at in a much more attractive, at a much more attractive discount level?

STEVE: Sure, I mean you can look at most asset classes and you could probably find a fund that’s trading at a 10 plus premium and the same asset class, at a 10 plus discount, and so really across the board, there’s a very large range between the cheapest and the most expensive closed-end funds, and again, when you think about the discount average, it’s important to understand that there are funds that trade at 50 to 100 percent premiums that are really distorting that average for the space.

ALLEN: We’ll save for another video why a fund might be trading at a 50 percent premium, because that’s interesting.

STEVE: Sure.

ALLEN: Steve, last question this week. We have not touched on the closed-end fund IPO market in quite some time. As most of our viewers know, closed-end funds do come to the market via IPO like an equity or a stock. Can you give us a sense of not only just this year, but for the last couple of years on what’s been going on in the IPO market?

STEVE: Sure, I mean, when you look at the space today, and we talked about discounts being historically wide—I said discounted closed-end funds traded an 8 percent average discount—it’s hard to bring new funds to market when there are substitute products trading at wide discounts. There’s a lot of muni funds and taxable bond funds, you know, high yield and bank loans — and if those funds are trading cheap, it’s hard to bring a similar fund to market, certainly by one of the same sponsors, and so whenever discounts are wide a lot of the activity in the primary market really shuts down until the discounts revert back towards their historical averages. What has been changing a bit is that some of the new funds that have been launched year to date, despite the fact that you can find wide discounts in many asset classes, two fund sponsors brought corporate credit funds to new IPOs today, and the difference there was that they were term trusts, and so they had a set liquidation date. One was a three year trust, and one was a five year trust, and so that’s not the same as a substitute product to a perpetual life closed-end fund. There’s a market for primary issuance and term trusts, but perpetual life closed-end funds, the activity has been limited because there’s, you know, an excess supply of cheap closed-end funds in the secondary market. That’s kind of been the case for the last couple years. It’s been a while since we’ve seen $1 billion IPO. I think that that will change if and when investors return to the space. I wouldn’t be surprised to see muni closed-end funds start to be launched again, because the average for many of those funds is a premium, and so when you look at your alternatives, you can buy a billion muni fund at a 6 percent premium, or you potentially might allocate to a new IPO, and so I think the market’s certainly cyclical. If and when discounts continue to narrow in the secondary market, you’ll start to see more primary activity.

ALLEN: Steve, thanks as always for your comments.

STEVE: Thank you.


Video recorded 6.14.2016.

Produced by RiverNorth Capital Management, LLC ("RiverNorth" "we" or "us").

Opinions and estimates offered constitute our judgment and are subject to change without notice, as are statements of financial market trends, which are based on current market conditions. We believe the information provided here is reliable, but do not warrant its accuracy or completeness. This material is not intended as an offer or solicitation for the purchase or sale of any financial instrument. The views and strategies described may not be suitable for all investors. This information is provided for informational purposes only and should not be considered tax, legal, or investment advice. References to specific securities, asset classes, and financial markets are for illustrative purposes only and are not intended to be, and should not be interpreted as, recommendations. Opinions referenced are as of the day recorded and are subject to change due to changes in the market, economic conditions, or changes in the legal and/or regulatory environment and may not necessarily come to pass.

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The price at which a closed-end fund trades often varies from its NAV. Some funds have market prices below their net asset values - referred to as a discount. Conversely, some funds have market prices above their net asset values - referred to as a premium.

Muni is short for municipal bonds.

Basis Points (BPS): A common unit of measure for interest rates and other percentages in finance. One basis point is equal to 1/100th of 1%, or 0.01% (0.0001), and is used to denote the percentage change in a financial instrument.

The S&P 500 Index is a capitalization-weighted index of 500 stocks. The index is designed to measure performance of the broad domestic economy based on the changing aggregate market value of these 500 stocks. The Barclays Capital U.S. Aggregate Bond Index is an unmanaged index of investment-grade fixed-rate debt issues with maturities of at least one year. The indices cannot be invested in directly and do not reflect fees and expenses.

Yield is the income return on an investment. This refers to the interest or dividends received from a security and is usually expressed annually as a percentage based on the investment's cost, its current market value or its face value.

An Initial Public Offering (IPO) is the first sale of stock by a private company to the public.

Source: RiverNorth, Morningstar, Inc.