Short-Selling generally comprises around 1% of my overall personal investing picture, and I frequently use Closed-End Funds among underfollowed securities for long positions. But, if or when I believe to anticipate that demand of a Closed-End Fund is likely to wane, I will open short positions based not on fanfare, but on objectivity.
Pimco Global Stocks Plus (NYSE:PGP), which I am short in accounts licensed to Covestor’s Long/Short Opportunistic Model and Covestor’s Pure Short Opportunistic Model, is unusual among my favored short theses in that Fridays closing 57.65% market trading premium to its $14.05 Net Asset Value (“NAV”) may represent a particularly large supply/demand inefficiency. This is particularly surprising within a well known fund complex which has open-end mutual fund siblings like PIMCO StocksPLUS Total Return. Yes, PSOCX is available at NAV to those who want the mutual fund product without extraordinary fear of the valuation ramifications of a possible distribution cut, and without paying an outrageous premium to get its outlier current distribution yield on NAV.
Such premiums as PGP’s today are often reserved for the Cornerstone Funds (CFP, CLM, CRF) which have frequently been compared to Ponzi Schemes on Seeking Alpha. Those funds are well recognized, frequently shorted, and their premiums may find sustenance from ill-timed shorts. I believe requiring a higher standard is an appropriate cautionary step when I consider short selling a particularly high premium fund.
What is PGP and how do peers trade?
PGP is frequently considered an Option Strategy Closed-End Fund specifically or Closed-End Income Fund generally, both peer groups which frequently trade on yield. The notion of Closed End Funds trading on yield is not obsolete; neither generally, nor among Allianz governance umbrella funds.
What is the Allianz Distribution Governance, and would consistency normalize PGP’s price?
Let’s look at Distribution Governance of a few Allianz Governance Closed-End Funds. I believe the most obvious comparison to PGP is another options strategy Fund with a similar NAV performance history, NFJ. There appears to be little self interest in Allianz’ distribution Governance because a premium valuation would not create the illusion of value for an open-end sister fund.
After its governance cut its distribution, NFJ now pays only about 3.2% annually on a recent $18.80 NAV and trades around a 15% discount. PGP has not made a similar cut to date, and currently pays about 15.7% annually on a recent $14.05 NAV.
Does Allianz get high on the helium in a the PGP balloon?
PGP trading at a premium (whether manipulated by inconsistent governance or not) may demonstrate its open-end counterpart to possess illusory value to the retail public at NAV. In short, the PGP premium may have a marketing benefit for open end funds like PIMCO StocksPLUS Total Return (also PTOAX, PTOBX, PSTDX) yielding about 21% and and PIMCO StocksPLUS (PSPAX, also offered in offered in Class B, C, D, R, Administrative, and Institutional shares) yielding about 8%.
Illusory or otherwise, the perception of value can be important to an Asset Manager’s ability to attract interest. The above referenced Pimco open-end funds have ratings of two and three stars from Morningstar. Morningstar’s rankings are only quantitative, and while such may be highly relevant to mutual funds, I hesitate to perceive much relevance in quantitative-only analysis of Closed-Ends Funds. There are numerous nuances in Closed End Funds, which I believe create market inefficiencies that cannot be recognized by quantitative analysis alone.
Closed-End Fund experts might recall an open-end sister fund was also present while Alpine’s AOD (and AGD) traded at a massive premium prior to eventually making meaningful slashes to their distributions. My observations regarding the Advisor benefit, as well as an apparent governance path of self-liquidation at Alpine was published as Seeking Alpha’s June 22nd “Investment View”.
A Practice of Self-Liquidation
I believe the magnitude of PGP's current distribution yield on NAV is indicative of a self-liquidation model for its particular strategy. That is my opinion, and others may hold alternate opinions.
Perhaps the greatest irony of AOD, AGD, and PGP’s historical governance distribution choices is that a self-liquidation model is very well recognized in the Cornerstone Funds. The Cornerstone Funds’ (CFP, CLM, CRF) disclosures as to their practices appear particularly candid, and they still tend to be the simplistic Closed-End Fund observers’ primary focus of price manipulation angst. Such disclosures that Cornerstone provides when announcing such high payouts include:
The Board remains convinced that a managed distribution policy of this kind enhances flexibility for shareholders in managing their investment in the Fund… A return-of-capital is the return of a portion of the investor's original investment. Given the current economic environment and the composition of the Fund's portfolio, a substantial portion of the Fund's distributions made during the current calendar year is expected to consist principally of a return of the investor's capital. Accordingly, these distributions should not be confused with yield or investment return on the Fund's portfolio… If, for any fiscal year where total cash distributions exceeded Net Earnings (the "Excess"), the Excess would decrease the Fund's total assets and, as a result, would have the likely effect of increasing the Fund's expense ratio. There is a risk that the total Net Earnings from the Fund's portfolio would not be great enough to offset the amount of cash distributions paid to Fund shareholders. If this were to be the case, the Fund's assets would be depleted, and there is no guarantee that the Fund would be able to replace the assets….
Bill Gross recently called Qualitative Easing a “Ponzi Scheme”. Such is quite the candid comment. Mr. Gross is unlikely concerned of being sued by the US Treasury for inflammatory remarks and may have simply been offering his observations or judgments with sensational flare. I make no similar allegation about anyone, but I do think the QE remark (merited or otherwise) came from a source whose business may be generally untouchable by the media and sell side analysts. When I’ve asked sell-side CEF analysts about PGP, they simply state that they don’t cover it. Entrenched business, a tidy advertising budget and deep pockets for litigation comes with its benefits. I’d be curious to hear a candid appraisal from a Bank of America (NYSE:BAC) executive about the unique pressure to which they were exposed in arrears of Pimco’s unfortunate mortgage investments.
Like Allianz, I offer no Explanation
I have no desire to attempt to define the motivations of PGP’s distribution governance. While my observations are relevant to my personal opinion, my observations are only that, one man’s observations. I have been interested to hear an explanation about the distribution governance variances direct from Allianz, but my ongoing requests for explanation have been refused entirely after a their Closed-End Fund rep conferred with Steve Plump (Head of Mutual Fund Distribution) and public relations.
Allianz’ Distribution Governance Pattern extends beyond NFJ
Although NFJ may be PGPs nearest peer, it is not the only of the Allianz governance umbrella Closed-End Funds to adapt to very conservative distribution policies. On Friday October 15th, MTS announced a distribution cut from 22 cents to 17 cents. Based on that evening’s $17.53 closing Net Asset Value (“NAV”), the new distribution represented an annualized rate of nearly 3.8%, down from an excess of 5%.
Discussion of Short Selling
In full disclosure, I am also short MTS in accounts licensed to Covestor’s Long/Short Opportunistic Model and Covestor’s Pure Short Opportunistic Model because I believe its shares will trade largely on yield. I should also mention that I am long NFJ in a long only account of mine, licensed to Covestor’s Core Total Return Model. I am very content with my observations being exposed to healthy skepticism because of my short positions. That is appropriate for anyone “talking book” for shorts, and I invite higher standards of critique for my long theses too.
I do discourage the misinterpretation of my written contribution here to be an advocacy of short-selling. I am not of the belief that short selling singular is a superior strategy to blending approaches, primarily long strategies. Roughly 99% of my personal investing picture is long positions. My short positions in each MTS and PGP are each well below 500 shares. I wish no ill-will on any of their shareholders and I welcome all comments as challenges to my observations. I also welcome additional positive observations about PGP and positive interpretations.
The basic valuation issue is well recognized by anyone smart enough to read a newspaper. Any absurd market valuation should be assumed well-recognized by all market participants. Short selling an Allianz’ fund is far less popular than short selling a Cornerstone Fund, which is one of the reasons that the Cornerstone Funds may prove even harder to be successful in shorting.
There are usually at least two contrasting, reasonably smart views to every security’s investment merit. So what is the “smart” money behind PGP? Further review of the Claymore Advisors / Guggenheim lonely significant institutional position reported in their 13-F suggests the position may not be supported by any long thesis at all, rather a static holding to eventually be liquidated. Claymore Advisors / Guggenheim has a number of CEF products that are created by design, but then not actively managed. I have confirmed PGP as a preexisting holding in several. It is not apparent that Claymore Advisors / Guggenheim is actively choosing to buy or hold PGP at Fridays $8.10 above the $14.05 NAV instead of the mutual fund at NAV. There are ramifications of products whose design impairs the advisor’s ability to make constituent changes under rational circumstances.
What Sustains the Premium?
In my opinion, the only helium in the PGP balloon is the collective unsuspecting ordinary investors. Perhaps there is also a crowd of technical traders trying to anticipate short-covering rallies. Absent ordinary investors believing the current distribution is a realistic sustainable dividend from a respected name in Pimco, the supply/demand dynamics of PGP would appear likely to normalize near NAV.
If and when PGP's distribution reflects a similar governance stance to Allianz umbrella peer(s), I believe this lofty balloon is likely to introduce itself to the level ground. The worst of all social effects would be a distribution governance change in arrears of the large passive institutional holders’ anticipated liquidation. If that happens, the shareholder base that ultimately absorbs the tab for the empty container of helium would then appear among the least savvy of all investor bases.
Disclosure: Long NFJ and short PGP, MTS, AOD