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Shareholders of Closed-End Funds H&Q Healthcare Fund (NYSE:HQH) and H&Q Life Sciences (NYSE:HQL) have a short period of time for their brokers to request cash distributions on their behalf.

Each fund recently declared distributions pursuant to their distribution policy reinstatements. Personally, I bought shares of HQH ahead of the reinstatement and I desire to continue owning the shares. I will not destroy value in my investment by causing the issue of new shares at a price below Net Asset Value (“NAV”), particularly when I could readily buy more shares at the same price on the open market without destroying NAV.

Consider this example a case study because the practice of destroying NAV by issuing new shares at market price (rather than facilitating open market repurchases) is one to which investors should be alert. The second paragraph of each of H&Q Closed-End Fund distribution press release discloses the critical element which has an adverse affect on the Net Asset Value performance for all public shareholders:

This stock distribution will automatically be paid in newly issued shares of the Fund unless otherwise instructed by the shareholder. The shares will be valued at the lower of the net asset value or market price on the pricing date, June 18, 2010.

Investors can always take distributions or any of their money to buy already issued shares below NAV, without harm to NAV. But, when Closed-End Funds issue shares at a market when trading at a discount, Net Asset Value is negatively affected.

So why does this happen? Generally speaking, any Funds’ Advisor(s) benefit from maximizing assets under management. It is my opinion that distributions of shares at a discount to NAV can potentially be indicative that those making governance decisions are succumbing to conflicts of interest favoring the interests of the advisor over the interests of shareholders.

In contrast, when shareholders are paid distributions in cash, shareholders receive dollar for dollar cash money from the NAV paid out, often times after they paid less than a dollar per dollar of NAV when purchasing the fund.

I am neither stating that this investment advisor (Hambrecht & Quist Capital Management LLC), nor the Funds’ Trustees are trying to harm shareholders. H&Q’s Daniel Omstead is at least willing to discuss the situation which is more than can usually be said in the most conflicted situations. I love Closed-End Funds but they should only exist if they create value for their shareholders. For a Closed-End to create value is easy. I hope to talk to Mr. Omstead again because if his Funds’ spirit is truly consistent with his portrayal today, HQH and HQL will prove deserving of more positive notice next time.

It is my view that Closed-End Funds are an instrument of tremendous utility to investors, but that to efficiently use the instrument one needs to be smart within this arena. Only “Mr. Market” determines over time whether such is true, and whether any of us are smart. I have already contacted my broker to chose the cash option for my distribution. Had I failed to make this election, Net Asset Value would have been destroyed by a default election to issue new shares. I do not believe in destroying value. I license portfolio data to Covestor Ltd. (“Covestor”) a Registered Investment Advisor. Accordingly, I have informed Covestor of my intentions for their own replication purposes.

Disclosure: Long HQH. No other positions in securities mentioned

Source: A Timely Understanding of the Distributions at HQH and HQL