Spanish Arbitrage Opportunity

One of my favorite strategies is to arbitrage international closed end funds when they start selling at too steep of a discount or a premium. I will either buy or short the closed end fund and take the opposite position with a similar ETF. I almost always make money doing this.

Well, a while back I noticed that the Spain Fund (SNF) occasionally trades at a bit of a premium. The premium has recently ranged between 1% (on December 21) and 25%. You can see the historic data here. Why would you pay a 25% premium to invest in a country that you can invest in through an ETF with no premium? I doubt that SNF's stock picking ability is that awesome. I just don't understand why anyone would own The Spain Fund when it's at a high premium.

I first noticed the premium back in July, at which time I shorted The Spain Fund while buying the Ishares MSCI Spain Index fund (EWP). In approximately 3 months I made a 10.4% return on my money. If you are interested you can see the details here.

Since then I’ve been keeping an eye on the situation and, sure enough, the premium on the Spain Fund is baaaack. On Friday it closed at about 19.5% but that changes hourly. So once again I've entered into the same trade that I did in July but this time I’m investing more money. My broker had to go out and find the shares for me to short but that wasn't too difficult. The only downside is that I will be charged about a 9% annual borrowing cost on the shares. As long as the premium dissipates fast enough I'll be OK with that.

Disclosure: Author has a short position in SNF

Comments

[rh32:]

May I ask what broker you're using? I've tried shorting closed end funds in the past, but Ameritrade just rejects it. Any suggestions for a broker who could help with these types of trades? Thanks!

2008 Jan 23 11:44 PM

[User 149689:]

I have the same qquestion.

2008 Feb 09 02:56 AM

[Gary Lucido:]

I use Fidelity. There are three possible scenarios:
1) Shares show up as available
2) Shares are available but Fidelity has to release them first
3) Fidelity has to borrow them for you and will charge you interest.

2008 Feb 18 06:28 AM

[Gary Lucido:]

In case you are interested, I recently unwound this arbitrage and made a nice little profit. The details are here:
www.investingminds.com...

2008 Mar 18 09:20 AM

[User 140798:]

Do you think the premium might be because of the distributions SNF makes? I received a 24% distribution on 1/4/08.

2008 Mar 20 01:26 PM

[Gary Lucido:]

I don't think the distributions have anything to do with it. Distributions just give back your money to you and you get taxed on it. I think it's just because people are not aware of the ETF alternative. The premium eventually goes away.

2008 Mar 30 06:55 PM