There are many factors that can and should be used to evaluate CEFs. Total return is the most important, in my view, particularly total return on NAV. Unfortunately, different providers of investment information calculate total return in different ways.
When looking at total returns, it is important to also look at the leverage used to generate the total returns. Funds that use more leverage should generate more returns in a rising market, but that leverage works against them in a falling market. To account for the differences in returns and risk, caused by different levels of leverage, it is useful to estimate what the total returns would be without leverage, when comparing funds.
The funds being reviewed are:
- BlackRock Utility and Infrastructure Trust (NYSE:BUI)
- DNP Select Income Fund (NYSE:DNP)
- Duff and Phelps Global Utility Income Fund (NYSE:DPG)
- Wells Fargo Advantage Utilities & High Income Fund (NYSEMKT:ERH)
- Gabelli Global Utility & Income Trust (NYSEMKT:GLU)
- Gabelli Utility Trust (NYSE:GUT)
- Macquarie/First Trust Global Infrastructure/Utilities Dividend&Income (NYSE:MFD)
- Macquarie Global Infrastructure Total Return (NYSE:MGU)
- Cohen & Steers Infrastructure (NYSE:UTF)
- Reaves Utility Income (NYSEMKT:UTG).
BUI is significantly different than the other funds in this group. It is an unleveraged fund that uses options to enhance returns. In theory, this method of investing should make the fund less risky, improving returns in down markets and limiting returns in up markets when compared to leveraged CEFs. BUIs approach also makes the following analysis less useful for this fund. I included it because I believe BUI is a fund that investors in utility CEFs should be aware of.
The method used to calculate total returns in the above table is:
(Ending_NAV - Beginning_NAV + Distributions)/(Beginning_NAV)
The table above lists the funds in order of total return. MGU and UTF had the best total returns and respectively used the 3rd most leverage and the 2nd most leverage about what would be expected. The most heavily leveraged fund, GLU, actually had the worst total returns.
BUI had total returns towards the bottom end, but that would be expected, based on its method of using options instead of leverage. Overall, I believe its lower returns are acceptable, given its lower risk.
Normalized Total Returns
In the table, the funds are sorted by normalized total returns. Normalized total returns estimate the returns the funds would have generated if they did not use leverage. The formula used to calculate estimated total returns is:
(1 - Leverage) x (Total_Returns)
ERH comes out on top using this metric, because it uses only 15% leverage compared to the 24%-29% leverage used by the funds that had higher total returns. In theory this use of less leverage should make it a less risky selection.
The normalized total returns of the top five funds fall within a very tight range. The next four funds drop off significantly, with GUT and GLU taking up the rear.
In the above table, the funds are sorted by NAV growth. A growing NAV gives a fund room to increase its distributions. A falling NAV puts a fund at risk of cutting distributions. Funds with lower distributions are going to have a better chance of growing their NAV.
- MGU - Raised its distributions in December.
- UTF - Raised its distributions in March
- UTG - Raised its distribution in December.
None of the others have changed their distributions over the past year. GUTs high payout ratio was not supported by the gains and income in its portfolio, and it produced negative NAV growth. DNP has historically paid out a high return on NAV, limiting NAV growth. In GLU's case, its portfolio just did not produce good returns, one reason being it carried a high level low-paying U.S. treasuries.
When choosing an entry point for purchasing a CEF, I want a discount and I want it to be closer to the low than the high. In addition, I compare it to funds in the same industry with similar total returns.
This article examines the one-year total returns of the utility CEFs. I have a preliminary opinion on all the CEFs in the utility sector:
- Based on the total returns for the last year, I am adding ERH, MFD and MGU to my watch list, and will do further due diligence on each of these.
- I'm long BUI. I believe its option strategy reduces risk, and it has provided acceptable returns.
- DNP has had a disappointing twelve months, but I'm long due to its exceptionally consistent distributions, as I documented in an earlier article.
- I'm long UTF. It had good total returns this past year, and has had good long-term total returns, as I documented in an earlier article.
- UTG is on my watch list. It has had acceptable total returns this year and good long-term total returns.
- GLU and GUT are currently of no interest. GUT is selling at a substantial premium and has subpar returns. GLU had the worst total returns of the group.
I encourage all investors to do their own due diligence and please share your findings. I strongly believe that one of the best things about Seeking Alpha is the sharing of ideas. Please comment. Divergent opinions are welcome.
Disclosure: I am long BUI, DNP, UTF. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.