CEFs to Weather a Continued Storm in Equities

2008 was a year filled with ups and downs: market down big time; bankruptcies, job losses, mortgage foreclosures up big time.

All in all, a year of infamy filled with surprise bailouts, re-counted elections (still counting), and a world record ponzi scheme still unraveling. Now what will 2009 bring?

Our guess is more of the same: a continuing downward drift of the market with enough volatility to make trading interesting and profitable. The melt-down of commercial real estate we warned about several months ago is still in its early stages, but will pick up steam as more retailers drop out, mall vacancies rise, and factories close. Add to these woes the world’s anxiety about the value of all that paper money being doled out as fast as it can be printed. We are fast losing our economic super-power status, and our creditors (think China, Russia, Saudi Arabia, et al) at some point will want greater collateral than our zero coupon bonds. Eventually interest rates will have to rise, or President-elect Obama will have to put us back on the gold standard. (A rising price of gold will be the signal that the world is giving our US dollar a vote of “no confidence”.)

The world’s hot spots continue to simmer; and the next event is more likely to be a negative than a positive for the markets.

Do not be fooled by the year-end upswing or any late-in-the-day boosts which the PPT (Plunge Protection Team, run off-books by the Treasury) so quietly provides. Corrections are in the offing. Our compass still points to continuing volatility, including those 3 digit drops that were so frequent last year. These 100 point swings can be an advantage when they carry your favorite trading vehicles down into the Entry Zone and then back up into the Exit Zone. Using Ultra ETFs will give you two or even three times the change in the Index they track. One of our favorites is SDS because of its very close adherence to the S&P 500, and its high daily volume.

But what about those who consider themselves investors, not traders? What should they do?

If they have not already designated a portion of their capital as “risk capital”, they should consider doing so now. The percentage will depend on their time frame: obviously, the younger they are, the more time they have to recoup losses sustained in 2008. Retirees who have taken a hit will have to re-think their strategy according to their needs and their proclivity for risk.

There are many closed-end funds (CEFs) that are currently selling at a discount to net asset value (NAV), and which offer a steady dividend flow. These should be considered for both income and growth as the discount shrinks back to its historical norm. And because these are funds, they offer some necessary diversification.

In this category we like the following (in alphabetical order):

click to enlarge

Best wishes to all for a happier, and more prosperous New Year.

Comments

[richandmer:]

Curious why you would recommend these CEF? They have all seen their dividends and the stock price consistently drop over time. There is not a single one with a stock price higher than its IPO price.

The only possible value is a trade. They have all dropped significantly and may see a bounce, but as an investment - NO.

Jan 05 07:08 PM

[richandmer:]

Curious why you would recommend these CEF? They have all seen their dividends and the stock price consistently drop over time. There is not a single one with a stock price higher than its IPO price.

The only possible value is a trade. They have all dropped significantly and may see a bounce, but as an investment - NO.

Jan 05 07:08 PM

[richandmer:]

Curious why you would recommend these CEF? They have all seen their dividends and the stock price consistently drop over time. There is not a single one with a stock price higher than its IPO price.

The only possible value is a trade. They have all dropped significantly and may see a bounce, but as an investment - NO.

Jan 05 07:09 PM

[richandmer:]

Curious why you would recommend these CEF? They have all seen their dividends and the stock price consistently drop over time. There is not a single one with a stock price higher than its IPO price.

The only possible value is a trade. They have all dropped significantly and may see a bounce, but as an investment - NO.

Jan 05 07:10 PM

[Old Trader:]

CEFs are tricky critters....be careful. Often, a high dividend is the result of a "return of capital", rather than "investment income". Also, like with an OE fund, mgmt. fees matter. On that basis alone, I wouldn't even bother looking any further at CWF.

Not saying there's no value in the sector...just that there's more to it than might meet the eye. (Fwiw, I own a couple in my portfolio).

Jan 05 11:18 PM

[granger:]

Buy when there is blood in the street, especially in CEF's.

Focus on buying when they are at a discount to NAV. Not just current NAV, but near or lower than their historical low premium/discount range.

Or, when you know the value of the underlying assets and can easily prove you are getting a discount and understand why.

Jan 06 02:55 AM

[User 161034:]

In answer to Rich:
IPO price seems meaningless at this point. Value is in the recovery of the current discount, plus some divvys. These were meant mostly for seniors who are looking for income, plus some growth.

OldTrader: Yes, CWF has high mgnt fee, but their Income Yield as opposed to Distribution Yield, is worth noting.

Granger: Thanks, you caught the message ! All these are near their max discount to NAV, and growth should come as the discount trends back to historical norm. True, NAV could continue to shrink, which is reason for diversifying, and avoiding those with excessive leverage and/or questionable FMP assets (Funny Money Paper).

Thanks to all of you for your comments, and best wishes for success in 2009.

Jan 06 10:42 AM

[User 161034:]

Rich, This just in form ING - - - they gave notice of a share repurchase program, up to 10% of outstanding common stock. Purpose is to reduce or eliminate the discount.

Others could be planning the same move to enhance share value of their CEF's.

This is what I meant by possible growth, along with the dividends.



On Jan 05 07:09 PM richandmer wrote:

> Curious why you would recommend these CEF? They have all seen their
> dividends and the stock price consistently drop over time. There
> is not a single one with a stock price higher than its IPO price.

>
>
> The only possible value is a trade. They have all dropped significantly
> and may see a bounce, but as an investment - NO.

Jan 06 03:38 PM

[Elliott:]

Good article. Heavily discounted CEFs with high dividend yields are a very good investment especially with dividend reinvestment. Good diversification in your list although I think it could be diversified even more by adding a CEF that focuses on non-US government debt. When Lehman collapsed there was indiscriminate selling of international bonds and these now have good value. I think the high yields overstate the default risk for many nations.

My pick in this area is Western Asset Emerging Debt Fund (symbol ESD). Holds high yielding bonds from Brazil, Mexico, Turkey, Russia and more. Discount -16%, Income Yield 6%, Investment Yield 13.3%, pays monthly.

Jan 06 11:18 PM

[Qniform:]

Another caution for due diligence is in order when picking CEFs. Check the use of leverage used in the purchase of the fund's assets and the liquidity position of the fund to maintain the div. Typically assets purchased w/ leveraage are financed with short term paper, which can lead to forced asset sales to maintain regulatory ratios if asset prices (NAV) drop.

I think any discussion of CEFs should include these issues.

Jan 07 11:47 AM

[User 161034:]

Qniform:
You are absolutely right.
Leverage IS one of the issues we check - - - should have included that column in the chart!

Thanks for calling my attn to this. I will look more closely when attaching charts .

Jan 07 05:13 PM

[gypsytrucker:]

any opinion on alpine cefs. agd aod awp

Jan 09 10:18 PM

[Elliott:]

gypsytrucker: Alpine funds have a very good reputation. I would hesitate on the dividend funds, AGD and AOD, because they are selling at a premium. These are corporate dividend CEFs and I would worry about the companies cutting divvies, meaning Alpine would have to cut distributions in turn, bringing a risk to the downside for the CEF as a whole. AWP -- good that it's discounted; concern is 50%+ holding in one company, Unibail-Rodamco (lack of diversification).

Jan 09 11:36 PM