Seeking Alpha
Profile| Send Message|
( followers)  

Now there really isn’t a war for income as the title might suggest, but one cannot deny the huge number of choices that compete for an income investor’s dollar. Ranging from mReits, energy companies, trusts, partnerships, shipping, pipelines, business development companies, and a host of others makes choosing difficult. Even if one decides on a specific type or kind of equity, one does not have to look far to be inundated in a sea of never ending information dealing with the companies. The lists go on and on and it is easy for income investors to get quickly bogged down in the quagmire of data. As a result of such a large amount of information, it is easy to see how smaller and less well known investment vehicles get forgotten in the thunderous roar of the markets.

There is one seemingly forgotten income investment out there that has actually produced some very competitive gains in this volatile market, and that is the Tax Free Closed-End Funds (CEFs). It is at this point that many income investors just throw up their hands and give up reading as they don’t want to deal in CEFs. This behavior is easily understandable as CEFs can and will come with some complexity built into them. For example investors have to be concerned with such concepts as where the share price trades in relation to the net asset value, payouts in relation to the return of capital, the use of leverage, and the ever present management fees. Together all of these issues can and will muddy the waters making what looks like a straight forward investment something a bit more complex in nature. That being the case though one must not simply just write off CEFs, especially the tax free ones, which we will go thru.

Instead of listing a plethora of tax free closed-end funds, let’s just stick with one of the best and most well known. That fund is Nuveen Municipal Value Fund (NUV). NUV is a closed-ended fixed income mutual fund that invests in the fixed income markets of the United States. The fund also invests some portion of its portfolio in derivative instruments. It invests in undervalued municipal securities and other related income investments, exempt from regular federal income taxes that are rated Baa or BBB or better. It employs a fundamental analysis with bottom-up stock picking approach to create its portfolio. The fund benchmarks the performance of its portfolio against the Standard & Poor’s National Municipal Bond Index. Nuveen Municipal Value Fund, Inc. was formed on April 8, 1987 and is domiciled in the United States. The fund has a good track record and quite a bit of history to draw on.

As interest rates are still at historic lows, this will play perfectly into the hands of NUV. Not being leveraged is also a plus for the fund. At the time of the writing of this article the fund trades at par to its net asset value. The distribution rate is 4.81%, which is equivalent to a taxable yield of 7.41%. The distribution is done on a monthly basis and its source is based upon a rate of 95% ordinary income and 5% long-term capital gain. All this is nice but the real question is how does this simple tax-free CEF stand up to the “rock stars” of the income investing world that all investors know and love. Now it should be known that NUV does not simply beat everyone else in the income investment world, but it is very interesting to see how competitive it is for being a pretty straight forward CEF. Also take a look at the price volatility between NUV and its competitors below. It is interesting to view as the gyrations of markets have their effect on equity prices. Finally be sure to consider that NUV’s distributions are going to be tax exempt while the other names mentioned will not be unless purchased in a retirement account.

Round 1. NUV vs. Linn Energy, LLC (LINE)

Line is currently one of the most popular income plays in the energy sector. Linn Energy, LLC, an independent oil and natural gas company, engages in the development and acquisition of oil and gas properties in the United States. The company holds interests in various properties located in Oklahoma, Kansas, Louisiana, Illinois, Michigan, and California, as well as located in the Permian Basin in west Texas, and southeast New Mexico. As of December 31, 2010, it had proved reserves of 2,597 billion cubic feet equivalent of oil and gas, and natural gas liquids, as well as operating 7,097 gross productive wells. The company was founded in 2003 and its headquarters is in Houston, Texas. The current yield is 7.3%.

Let’s see how they match up over a year’s time.

(Click charts to expand)

Winner: NUV

LINE started the year with a price of $37.65 and as of December 10, 2011 trades at $37.47. That is a very small loss of 0.48%. The distribution for the year was $2.70 per share for a yield of 7.17%. In contract NUV started the year with a price of $9.13 and as of December 10, 2011 trades at $9.72. That is a gain of 6.46%. The distribution for the year was $0.468 per share for a yield of 5.12%, but to make it equivalent to a taxable yield it would be closer to 7.87%. Taxable equivalent yield represents the yield you would need to earn on a taxable investment in order to equal the federal tax-free yield on a municipal investment. The yield shown is based on the current market yield and a federal tax rate of 35%.

Round 2. NUV vs. Teekay LNG Partners L.P (TGP)

Let’s move to the shipping sector and place NUV against Teekay Partners. Now the shipping sector has just been destroyed but TGP is still a very strong and powerful name left in the industry. TGP provides marine transportation services for liquefied natural gas, liquefied petroleum gas, and crude oil worldwide. The company charters its vessels on time and voyage basis. TGP operates a fleet of 15 LNG carriers and 3 LPG carriers; and 10 Suezmax-class crude oil tankers and 1 Handymax product tanker. Including projects currently warehoused by Teekay Corporation, Teekay LNG is the world's third-largest independent owner of LNG carriers. The current yield is 7.6%.

Let’s see how they match up over a year’s time.

Winner: NUV

TGP started the year with a price of $38.07 and as of December 10, 2011, trades at $32.41. That is a loss of 14.87%. The distribution for the year was $2.52 per share for a yield of 6.61%. In contract NUV started the year with a price of $9.13 and as of December 10, 2011, trades at $9.72. That is a gain of 6.46%. The distribution for the year was $0.468 per share for a yield of 5.12%, but to make it equivalent to a taxable yield it would be closer to 7.87%. Taxable equivalent yield represents the yield you would need to earn on a taxable investment in order to equal the federal tax-free yield on a municipal investment. The yield shown is based on the current market yield and a federal tax rate of 35%.

Round 3. NUV vs. American Capital Agency Corp. (AGNC)

Let’s pick a fight with one of the best known names for income and that is AGNC. This company is a real estate investment trust. It invests in agency pass-through securities and collateralized mortgage obligations for which the principal and interest payments are guaranteed by a U.S. Government agency or a U.S. Government sponsored entities. The company funds its investments primarily through short-term borrowings structured as repurchase agreements. As a form of protection the company has significant amounts of hedging in place. The company pays a quarterly distribution which is currently yielding a 19.4% return.

Let’s see how they match up over a year’s time.

Winner: AGNC

AGNC started the year with a price of $28.69 and as of December 10, 2011 trades at $28.90. That is a gain of 0.73%. The distribution for the year will be close to $5.60 per share for a yield of 19.52%. In contract NUV started the year with a price of $9.13 and as of December 10, 2011 trades at $9.72. That is a gain of 6.46%. The distribution for the year was $0.468 per share for a yield of 5.12%, but to make it equivalent to a taxable yield it would be closer to 7.87%. Taxable equivalent yield represents the yield you would need to earn on a taxable investment in order to equal the federal tax-free yield on a municipal investment. The yield shown is based on the current market yield and a federal tax rate of 35%.

Round 4. NUV vs. Apollo Investment Corporation (AINV)

Apollo Investment Corporation is business development company and operates as a closed-end management investment company. The company invests in middle market companies. It provides direct equity capital, mezzanine and senior secured loans, and subordinated debt and loans. It also seeks to invest in PIPES transactions. The company may also invest in public companies that are thinly traded and may acquire investments in the secondary market. It prefers to invest in warrants, makes equity co-investments, and may also invest in cash equivalents, U.S. government securities, high-quality debt investments that mature in one year or less, high-yield bonds, distressed debt, non-U.S. investments, or securities of public companies that are not thinly traded. The company typically invests in building materials, business services, cable television, chemicals, consumer products, direct marketing, distribution, energy and utilities, financial services, healthcare, manufacturing, media, publishing, retail and transportation. It primarily invests between $20 million and $250 million in its portfolio companies. The company seeks to make investments with stated maturities of five to ten years. Currently the yield is at a large 15.4%.

Let’s see how they match up over a year’s time.

Winner: NUV

AINV started the year with a price of $11.28 and as of December 10, 2011, trades at $7.07. That is a loss of 37.33%. The distribution for the year will be close to $1.12 per share for a yield of 9.93%. In contract NUV started the year with a price of $9.13 and as of December 10, 2011 trades at $9.72. That is a gain of 6.46%. The distribution for the year was $0.468 per share for a yield of 5.12%, but to make it equivalent to a taxable yield it would be closer to 7.87%. Taxable equivalent yield represents the yield you would need to earn on a taxable investment in order to equal the federal tax-free yield on a municipal investment. The yield shown is based on the current market yield and a federal tax rate of 35%.

Round 5. NUV vs. BP Prudhoe Bay Royalty Trust Co (BPT)

Next let’s tackle the titan of trusts known as BPT. BP Prudhoe Bay Royalty Trust operates as a grantor trust in the United States. The company holds overriding royalty interests constituting a non-operational interest in minerals in the Prudhoe Bay oil field located on the North Slope in Alaska. The Prudhoe Bay field extends approximately 12 miles by 27 miles and contains approximately 150,000 gross productive acres. As of December 31, 2010, its estimated net remaining proved reserves were 78.275 million barrels of oil and condensate, of which 67.401 million barrels are proved developed reserves, and 10.874 million barrels are proved undeveloped reserves. The company was founded in 1989 and is based in Austin, Texas. The company is paying a 7% yield currently.

Let’s see how they match up over a year’s time.

Winner: NUV

BPT started the year with a price of $129.16 and as of December 10, 2011, trades at $113.45. That is a loss of 12.16%. The distribution for the year will be close to $9.39 per share for a yield of 7.27%. In contract NUV started the year with a price of $9.13 and as of December 10, 2011 trades at $9.72. That is a gain of 6.46%. The distribution for the year was $0.468 per share for a yield of 5.12%, but to make it equivalent to a taxable yield it would be closer to 7.87%. Taxable equivalent yield represents the yield you would need to earn on a taxable investment in order to equal the federal tax-free yield on a municipal investment. The yield shown is based on the current market yield and a federal tax rate of 35%.

Round 6. NUV vs. Seadrill Limited (SDRL)

Finally let’s match NUV against one of the best drillers in the sea. That is Seadrill Limited, an offshore drilling contractor, it provides offshore drilling services to the oil and gas industries worldwide. It also offers platform drilling, well intervention, and engineering services. As of March 31, 2011, the company owned and operated 54 offshore drilling units, which consist of drillships, jack-up rigs, semisubmersible rigs, and tender rigs for operations in shallow and deepwater areas, as well as in benign and harsh environments. Seadrill Limited was founded in 1972 and is based in Hamilton, Bermuda. Their current yield is 6.1%.

Let’s see how they match up over a year’s time.

Winner: NUV

SDRL started the year with a price of $34.33 and as of December 10, 2011, trades at $34.32. That is really no change in price for the year. The distribution for the year will be close to $3.14 per share for a yield of 9.15%. In contract NUV started the year with a price of $9.13 and as of December 10, 2011 trades at $9.72. That is a gain of 6.46%. The distribution for the year was $0.468 per share for a yield of 5.12%, but to make it equivalent to a taxable yield it would be closer to 7.87%. Taxable equivalent yield represents the yield you would need to earn on a taxable investment in order to equal the federal tax-free yield on a municipal investment. The yield shown is based on the current market yield and a federal tax rate of 35%.

In conclusion it is interesting to see how this simple tax-free CEF was very competitive with some of the most popular income investments in 2011. Only the AGNC powerhouse with its huge yield of over 19% was able to best NUV. Obviously this will not always be the case and at some point these other entities will blow past NUV as the global economy comes back online. Also it could be argued that income investors are simply buying up these other names cheap while they wait for the economy to get better down the road. Whichever way you play it though, one cannot argue that NUV was a winner during a very rough time this last year. So I guess CEFs are not so bad after all.

Source: An Unlikely Winner In The War For Income