Weekly CEF Roundup: Kayne Anderson Roll-Up And Legal Victory For HFRO/NHF

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Includes: AFT, ASA, CEE, CGO, DMF, DSM, EDI, EIM, ENX, EVM, FCT, FLC, FSD, FTF, GDL, GRF, HFRO, HQH, HQL, HTY, INSI, IQI, KED, LEO, MSP, NHF, NXC, OXLC, PCM, PCQ, PTY, RQI, SPXX, SRV, SZC, TTF, TYG, VGI, ZTR
by: Stanford Chemist

Summary

A middling week for CEFs.

14 out of 32 sectors were positive by price this week, and 13 of out 32 sectors were positive by NAV.

Kayne Anderson proposes a roll-up of its funds, and a legal victory for HFRO/NHF.

The Weekly CEF Roundup will be put out at the start of each week to summarize recent price movements in closed-end fund [CEF] sectors in the last week, as well as to highlight recently concluded or upcoming corporate actions on CEFs, such as tender offers. Most of the information has been sourced from CEFInsight (email alerts) or the Closed-End Fund Center. I will also link to some articles from Seeking Alpha that I have found for useful reading over the past week. The searchable tag for this feature is "cildoc". Data are taken from the close of Friday Feb. 23, 2018.

Weekly performance roundup

14 out of 31 sectors were positive (down from 23 last week) and the average price return was -0.13% (down from +1.74%).

(Source: Stanford Chemist, CEFConnect)

13 out of 31 sectors were positive on NAV (up from 6 last week), while the average NAV return was 0.02% (up from -3.17%).

(Source: Stanford Chemist, CEFConnect)

The sector with the highest premium is MLPs (-1.25%), while the sector with the highest discount is Latin America equities (-11.95%). The average sector discount is -6.51% (down from -6.36% last week).

(Source: Stanford Chemist, CEFConnect)

U.S. real estate showed the largest premium/discount increase (+1.34%), while energy/resources equities showed the largest premium/discount decline (-1.78%). The average change in premium/discount was -0.15% (down from +0.08% last week).

(Source: Stanford Chemist, CEFConnect)

The sector with the highest average 1-year z-score is MLPs (+0.67) while the sector with the lowest z-score is CA munis (-2.60). The average z-score is -0.67 (down from -0.61 last week).

(Source: Stanford Chemist, CEFConnect)

The sector with the highest yield is MLPs (10.28%), followed by U.S. real estate (8.92%), multi-sector income (8.88%), global growth & income (8.88%), and global equity dividend (8.68%). Discounts and z-scores for the sectors are included for comparison. The average sector yield is 6.70% (up from 6.68% last week).

(Source: Stanford Chemist, CEFConnect)

Individual CEFs that have undergone a significant decrease in premium/discount value over the past week, coupled optionally with an increasing NAV trend, a negative z-score, and/or are trading at a discount, are potential buy candidates.

Ticker

P/D decrease

Yield

P/D

z-score

Price change

NAV change

(ASA)

-6.74%

0.38%

-15.34%

-5.5

-2.65%

5.10%

(ZTR)

-5.39%

11.56%

1.74%

0.3

-5.28%

-0.26%

(HTY)

-4.77%

9.40%

7.56%

1.0

-4.24%

0.00%

(NXC)

-4.00%

3.85%

-4.87%

-1.7

-4.04%

0.00%

(PCQ)

-3.95%

6.32%

8.19%

-4.2

-3.46%

0.07%

(GRF)

-3.65%

6.49%

-13.09%

-2.1

0.38%

4.60%

(TYG)

-3.28%

9.29%

5.02%

-0.8

-7.00%

-4.09%

(SRV)

-3.27%

9.51%

-7.30%

1.2

-4.94%

-1.58%

(SPXX)

-3.24%

5.73%

6.12%

1.8

-2.37%

0.60%

(SZC)

-3.05%

9.32%

-13.38%

-3.7

-3.16%

0.25%

(Source: Stanford Chemist, CEFConnect)

Conversely, individual CEFs that have undergone a significant increase in premium/discount value in the past week, coupled optionally with a decreasing NAV trend, a positive z-score, and/or are trading at a premium, are potential sell candidates.

Ticker

P/D increase

Yield

P/D

z-score

Price change

NAV change

(VGI)

6.71%

12.36%

-0.72%

0.0

7.18%

-0.07%

(HFRO)

5.73%

5.70%

6.84%

5.4

5.11%

-0.52%

(RQI)

4.54%

8.57%

-4.77%

1.4

4.40%

-0.58%

(PCM)

3.98%

8.57%

9.94%

-0.2

4.98%

1.17%

(NHF)

3.36%

9.74%

-5.23%

1.7

2.49%

-1.14%

(EDI)

3.14%

11.84%

0.98%

-0.6

2.94%

-0.26%

(CGO)

2.74%

8.12%

8.13%

1.2

2.97%

0.36%

(INSI)

2.67%

4.05%

-2.93%

1.5

2.68%

-0.15%

(PTY)

2.39%

9.55%

10.53%

-0.9

1.93%

-0.27%

(CEE)

2.35%

2.09%

-10.67%

0.9

3.77%

1.04%

(Source: Stanford Chemist, CEFConnect)

Recent corporate actions

These are from the last month and are quoted from Closed-End Fund Center or CEFInsight (email alerts); any new news in the past week has a bolded date:

January 18, 2018 | The Thai Fund, Inc. (NYSE:TTF) announced today that it will close its share register books at the close of business on January 19, 2018 and that trading of the Fund’s stock on the NYSE will be suspended before the market opens on January 22, 2018. The proportionate interests of stockholders in the assets of the Fund shall be fixed on the basis of their respective holdings at the close of business on the Effective Date, and the Fund expects to make a final liquidating distribution to stockholders as of the Effective Date on or about January 26, 2018.

Upcoming corporate actions

These are from the last month and are quoted from Closed-End Fund Center or CEFInsight (email alerts); any new news in the past week has a bolded date:

February 15, 2018 | KA Fund Advisors, LLC (“Kayne Anderson”), which serves as the adviser to Kayne Anderson MLP Investment Company (NYSE:KYN) and Kayne Anderson Energy Development Company (NYSE: KED), announced today that the Board of Directors of KYN and the Board of Directors of KED approved a proposal to merge the two companies. Subject to KED stockholder approval, KED common stockholders will be issued KYN common stock, and KYN will acquire substantially all the assets and liabilities of KED.

February 15, 2018 | KA Fund Advisors, LLC (“Kayne Anderson”), which serves as the adviser to Kayne Anderson Midstream/Energy Fund, Inc. (NYSE:KMF) and Kayne Anderson Energy Total Return Fund, Inc. (NYSE:KYE), announced today that the Board of Directors of KMF and the Board of Directors of KYE approved a proposal to merge the two funds. Subject to KMF and KYE stockholder approval, KYE common stockholders will be issued KMF common stock, and KMF will acquire substantially all the assets and liabilities of KYE.

February 8, 2018 | The Cushing Renaissance Fund (SZC) announced on Feb. 8 a transferable rights offering for holders of the fund's common shares as of the record date of February 16, 2018. Holders will receive one Right for each common share held, and can purchase one new common share for every three Rights held (1 for 3). Any record date shareholder who owns fewer than three common shares as of the record date will be entitled to subscribe for one common share. Fractional common shares will not be issued. The release noted that the subscription price will be determined on the expiration date, and will equal 90% of the average of the last reported sales price of a common share of the fund on the NYSE on the expiration date and each of the four preceding trading days. If, however, that average price is less than 78% of the fund's NAV per share at the close of trading on the NYSE on the expiration date, the subscription price will be 78% of the fund's NAV per share as of that day's close of trading on the NYSE. The subscription period will commence on the record date, and is expected to expire on March 22, 2018, unless extended. The Rights are expected trade on the NYSE under the symbol "SZC RT" during the offer. For more details on this offering, see the fund's press release, and related shelf registration statement and prospectus.

February 5, 2018 | The GDL Fund (NYSE:GDL) (the “Fund”) previously announced the approval in principle by its Board of Trustees of an offering (the “Offering”), to be made to the Fund’s existing preferred shareholders, of non-transferable rights to subscribe for and purchase newly designated Series C Cumulative Puttable and Callable Preferred Shares (the “New Preferred”). The pricing committee of the Fund’s Board of Trustees has now approved the Offering. The New Preferred will pay distributions quarterly at an annualized dividend rate of 4.00% of the $50.00 per share liquidation preference of the New Preferred for the quarterly dividend periods ending on or prior to March 26, 2019 (“Year 1”). At least 30 days prior to the end of Year 1, the Fund’s Board of Trustees will determine and publicly announce a reset fixed dividend rate that will apply for the next eight quarterly dividend periods (“Year 2” and “Year 3”). At least 30 days prior to the end of Year 3, the Fund’s Board of Trustees will determine and publicly announce a reset fixed dividend rate that will apply for all remaining quarterly dividend periods prior to the mandatory redemption date for the New Preferred of March 26, 2025. Each reset dividend rate will be determined by the Fund’s Board of Trustees or a committee thereof in its sole discretion, and such rate will be not less than an annualized rate of 4.00% and not greater than an annualized rate of 6.00%.

Recent activist or other CEF news

These are from the last month and are quoted from Closed-End Fund Center or CEFInsight (email alerts); any new news in the past week has a bolded date:

February 21, 2018 | Highland Capital Management Fund Advisors, L.P. and NexPoint Advisors, L.P. announce today that the Texas Court of Appeals confirmed an aggregate $351 million award in favor of the Highland Floating Rate Opportunities Fund (NYSE: HFRO) ("HFRO") and the NexPoint Credit Strategies Fund (NYSE: NHF) ("NHF", and together with HFRO, the "Funds"). Of this aggregate award, HFRO would receive a total of $289 million ($236.5 million in damages together with an additional $52.5 million in post-judgment interest) and NHF would receive a total of $62.3 million ($51 million in damages together with an additional $11.3 million in post-judgment interest). Each of these amounts remains subject to deduction for applicable attorneys' fees and other litigation related expenses. The judgment will continue to accrue at 9% simple interest per year until this matter is finally resolved.

February 9, 2018 | Karpus Management, Inc. (dba Karpus Investment Management [KIM]) filed a new 13D on Friday (Feb. 9) disclosing that it holds 2,545 ARPs (70.69%) issued by the Franklin Limited Duration Income Trust (FTF). Item 4 of the filing noted: KIM has purchased Shares for the Accounts for investment purposes. However, KIM reserves the right to contact management with regard to concerns that they have with respect to the Fund. This may include letters to the Board and/or other communications with Fund management. Being an independent registered investment advisor, with a specialty focus in closed end funds, the profile of this security fits the investment guidelines for various Accounts. Shares have been acquired since February 02, 2009.

February 9, 2018 | Karpus Management, Inc. (dba Karpus Investment Management [KIM]) filed a new 13D on Friday (Feb. 9) disclosing that it holds 1,477,959 shares (26.79%) of Oxford Lane Capital Corp. (OXLC). Item 4 of the filing noted that: KIM has purchased Shares for the Accounts for investment purposes. However, KIM reserves the right to contact management with regard to concerns that they have with respect to the Fund. This may include letters to the Board and/or other communications with Fund management.

February 8, 2018 | Karpus Management, Inc. (dba Karpus Investment Management) filed a 13D/A on Feb. 8 disclosing that it held 1,364,466 shares (23.5%) of the Madison Strategic Sector Premium Fund (MSP). Item 4 noted that Karpus sent a letter to the fund dated Feb. 7 containing a non-binding proposal: the shareholders of the Madison Strategic Sector Premium Fund ("MSP" or the "Fund") request that the Trustees promptly consider authorizing a self-tender offer for all outstanding common shares of the Fund at or close to net asset value ("NAV"). If more than 50% of the Fund's outstanding common shares are tendered, the tender offer should be cancelled and the Board should take the steps necessary to liquidate, merge, or convert the Fund to an open-end mutual fund or exchange traded fund.

Distribution changes this month and next

These are sorted in ascending order of distribution change percentage. Funds with ex-dates in the current and in the next month are included. Note that changes of less than 5% are not listed as those are considered to be minor. Any distribution declarations made this week are in bold. In this week's edition I've also added monthly/quarterly information as well as yield, coverage (after the boost/cut), discount and 1-year z-score information for newly added funds. However, note the yield, coverage, discount and z-score information will not be updated every week. I've separated the funds into two sub-categories, cutters and boosters, arranged in descending order of distribution change magnitude.

Cutters

  • -18.9%: (EVM) Eaton Vance California Municipal Bond Fund cuts from $0.0487 to $0.0395 monthly (ex-date Feb. 20, announced Feb. 1). Yields 4.38%, discount -9.67%, z-score -2.4, coverage 114% (as of 2/2).
  • -18.6%: (LEO) Dreyfus Strategic Municipals cuts from $0.0473 to $0.035 monthly (ex-date Feb. 8, announced Jan. 26). Yields 4.90%, discount -2.94%, z-score -1.2, coverage 115% (as of 1/26).
  • -18.0%: (FSD) First Trust High Income Long/Short Fund cuts from $0.128 to $0.105 monthly (ex-date Mar. 1, announced Feb. 20). Yields 7.92%, discount -9.40%, z-score -2.1, coverage 78% (as of 23/2).
  • -15.6%: (DSM) Dreyfus Strategic Municipal Bond Fund cuts from $0.0473 to $0.035 monthly (ex-date Feb. 8, announced Jan. 26). Yields 5.00%, discount -1.45%, z-score +0.4, coverage 111% (as of 1/26).
  • -14.6%: (DMF) Dreyfus Municipal Income cuts from $0.0473 to $0.035 monthly (ex-date Feb. 8, announced Jan. 26). Yields 4.84%, discount -7.62%, z-score -1.8, coverage 130% (as of 1/26).
  • -13.0%:(ENX) Eaton Vance New York Municipal Bond Fund cuts from $0.0515 to $0.0448 monthly (ex-date Feb. 20, announced Feb. 1). Yields 4.67%, discount -12.33%, z-score -3.4, coverage 110% (as of 2/2).
  • -8.1%: (EIM) Eaton Vance Municipal Bond Fund cuts from $0.0521 to $0.0479 monthly (ex-date Feb. 20, announced Feb. 1). Yields 4.83%, discount -10.78%, z-score -3.7, coverage 110% (as of 2/2).
  • -7.7%: (HQH) Tekla Healthcare Investors cuts from $0.52 to $0.48 quarterly (ex-date Feb. 27, announced Feb. 16). Yields 8.29%, discount -6.60%, z-score -1.4, coverage -2% (as of 16/2).
  • -7.0%: (HQL) Tekla Life Sciences Investors cuts from $0.43 to $0.40 quarterly (ex-date Feb. 27, announced Feb. 16). Yields 7.95%, discount -3.19%, z-score -0.5, coverage -4% (as of 16/2).
  • -5.6%: (FLC) Flaherty & Crumrine Total Return Fund cuts from $0.126 to $0.119 monthly (ex-date Feb. 20, announced Jan. 24). Yields 7.12%, discount -6.74%, z-score -3.5, coverage 102% (as of 1/26).
  • -5.5%: (FCT) First Trust Senior Floating Rate Income Fund II cuts from $0.246 to $0.225 monthly (ex-date Feb. 1, announced Jan. 22). Yields 5.56%, discount -8.69%, z-score -1.5, coverage 105% (as of 1/26).

Boosters

  • +6.7%: (AFT) Apollo Senior Floating Rate Fund boosts from $0.09 to $0.096 monthly (ex-date Mar. 15, announced Feb. 22). Yields 7.01%, discount -8.26%, z-score -1.2, coverage 97% (as of 23/2).
  • +5.1%: (IQI) Invesco Quality Municipal Income Trust boosts from $0.0546 to $0.0574 monthly (ex-date Feb. 14, announced Feb. 1). Yields 5.80%, discount -10.89%, z-score -3.1, coverage 124% (as of 2/2).

CEF analysis from around Seeking Alpha...

Recommended reads are in bold.

Alpha Gen Capital discusses PCI in Position For Higher Rates And Still Earn A Return (Feb. 21)

Douglas Albo presents buy/sell opportunities in Equity CEFs: Is That Insanity Or Opportunity Knocking? (Feb. 20) and Equity CEFs: Buys/Sells In An Upside Down CEF Universe (Feb. 23)

Maks F.S. looks at JPT in Nuveen Preferred And Income 2022 Term Fund - Not What You Came To Buy, But It Is On Sale (Feb. 21)

Steven Bavaria discusses ECC earning results in Eagle Point Credit: Lots Of Cash, Not All Of It 'Income' (Feb. 23)

*Stanford Chemist presents The Chemist's Quality CEF Report - January 2018 (Feb. 21), Quick Thoughts On Eagle Point Credit's Offering Of Common Stock (Feb. 22), The Chemist's 'High-High-Low' CEF Report - January 2018 (Feb. 22), Opportunity In This Target Term CEF (Feb. 23)

*To subscribers: these link to the public version of the article, which you will already have seen in the members section.

Macro/market section

Fear & Greed Trader presents S&P 500 Weekly Update: The Tug Of War Continues As The Indices Settle Into A Trading Range (Feb. 23)

Jeff Miller presents Weighing The Week Ahead: Time For An Infrastructure Bill? (Feb. 25)

Lance Roberts presents The Divergence Of Volatility (Feb. 25)

Commentary and actionable takeaway

(Normally exclusive to members of the Cambridge Income Laboratory, but is released to public as part of our free trial promotion)

Kayne Anderson announced a proposed merger of its MLP CEF line-up. As there's a lot to say about the merger I wanted to write a separate piece on the topic. Stay tuned!

The other significant news this week was the legal victory for Highland Floating Rate Opportunities Fund (HFRO) and NexPoint Credit Strategies Fund (NHF). Of the $351 million aggregate award, HFRO would receive a total of $289 million ($236.5 million in damages together with an additional $52.5 million in post-judgment interest) and NHF would receive a total of $62.3 million ($51 million in damages together with an additional $11.3 million in post-judgment interest). Each of these amounts remains subject to deduction for applicable attorneys' fees and other litigation related expenses. The judgment will continue to accrue at 9% simple interest per year until this matter is finally resolved.

Both funds popped on news of the announcement as indicated in the chart below, with HFRO and NHF gaining +5.45% and +1.57% on the week respectively. (Note that the NAVs will not yet be updated until the appeals process has been exhausted).

Chart

The case of HFRO is an interesting one. Although the HFRO IPOed in November of last year, the fund itself is actually not new. It was converted to a CEF wrapper from an open-ended structure (HFRAX, HFRCX, and HFRZX) as a means of protecting the AUM ("interests of shareholders" according to management) should the litigation be successful, given that the anticipated size of the judgement relative to the AUM of the fund. My guess is that many traders may have bought into the Highland mutual funds in anticipation of a legal victory of the fund, and may seek to cash out once the victory becomes a certainty and is allocated to the NAV. By converting the fund to a closed-end format, the managers do not have to worry about forced redemptions possibly leading to depressed asset prices in the underlying portfolio. Of course, management also benefits by preserving a higher AUM from which to collect fees from, and I doubt that the move was made solely in the "interest of shareholders" as claimed by management.

Similar sentiments were expressed by "mozart325" in this Morningstar thread.

If/when they actually collect the proceeds, I'd like to see a big "special" distribution of $3 or more. Otherwise this will look like a scheme to increase assets under management. When the original lawsuit win was first announced in 2015, HFRZX only had around $550 million in assets. This steadily grew to a billion before Highland decided to convert to a closed-end fund to lock in the assets. They were concerned many holders would cash out once the lawsuit proceeds were paid.

Maks F.S. has a recent article on HFRO here.

Is the pop in price an overreaction or under-reaction? As indicated in the table below, HFRO stands to gain +26.5% on its NAV on a gross basis, or +18.6% if we apply a typical 30% fee for the lawyers. For NHF, it stands to gain +10.6% gross or an estimated +7.4% net of lawyer fees.

HFRO NHF
AUM / $m 1090 588
Damages / $m 289 62.3
NAV increase (0% fee) 26.5% 10.6%
NAV increase (30% fee) 18.6% 7.4%

(Source: Stanford Chemist)

If we just look at the raw numbers, it seems as though the price pop in the two funds this week was a severe under-reaction, suggesting that they could great buys at the present price. However, I don't think it's that simple.

Firstly, much of the victory may have already been priced in. NHF is currently trading at a discount of -5.23% and a 1-year z-score of +1.50. However, its 5-year average discount is -11.65%. These numbers indicate that it is trading at a more expensive valuation compared to its historical average. If we apply the +7.4% NAV increase to NHF, its NAV/share would increase from $26.01 to $27.93, and the discount would become -11.76% at today's share price. This is very close to the 5-year average discount of -11.65%!

For HFRO, we don't have a 5-year average discount figure, but if we look at the other 27 CEFs in the "senior loan" category their current average discount is -6.45%. HFRO currently trades with a premium of +6.84% (z-score: +5.1). If we apply the 18.6% NAV increase to HFRO, its NAV/share would increase from $15.20 to $18.03, and the premium would turn into a discount of -9.91% at today's share price. This would mean only a few percentage points of upside should the discount narrow to -6.45%, if we assume that HFRO "should" be trading in line with the other senior loan CEFs out there.

Furthermore, it should be noted that the ruling is subject to appeal, so it is not yet a done deal:

The confirmation by the Texas Court of Appeals remains subject to appeal to the Texas Supreme Court. No assurance can be given that the Funds will be successful if the Texas Supreme Court grants certiorari to hear the case; it is not known when or how much, if any, of these monies the Funds will receive. As a result, in accordance with accounting principles generally accepted in the United States ("GAAP"), this judgment is not currently recorded as an asset of the Funds. We expect the judgment amounts to be recorded as an asset of the Funds if and when the judgment no longer is subject to any further appeal.

Taken together, I think that the price pops for HFRO and NHF this week were reasonable and not a drastic overreaction nor under-reaction. The ruling was certainly beneficial for holders of HFRO and NHF, but I'm not sure that a significant arbitrage opportunity still currently exists.

First Trust High Income Long/Short Fund (FSD) cut its distribution by a whopping -18% this week, from $0.128 to $0.105 monthly. The yield was slashed from 9.66% to 7.92%. There was a definitely an observable market response, with price falling by about -1.5% on the day of the announcement, although perhaps much less than expected given the size of the cut. At today's pricing, FSD trades with a discount of -9.40% and has a 1-year z-score of -1.90.

Chart

FSD Price

data by YCharts

The cut may have been especially surprising to investors since FSD had been steadily raising its distribution over the last year.

(Source: CEFConnect)

This is rather puzzling behavior, but looking through the fund documents I think I found the reason for this.

The Fund’s monthly distributions declared for the period February 2017 through January 2018 were made in accordance with an agreement between the Fund and Saba Capital Management, L.P. and certain of its associated parties providing for monthly distributions to common shareholders equal to an annual minimum fixed rate of 8.5% of the Fund’s average monthly NAV per share. The provision of the agreement relating to the Fund’s distribution is no longer in effect and, as a result, the distribution declared today was reduced to more closely align it with the current estimated yield of the portfolio.

This I think exposes a rather ugly side of CEF activism. Saba have certainly been highly successful on that front, and the investors who jumped in for the ride certainly benefited from the contraction of the discount as well as from the enacted tender offer. However, it is questionable as to whether forcing funds to adopt an unsustainable distribution policy is really in the best long-term interests of investors, and we now see FSD's management taking steps to rectify this situation. It should be remember that Saba really only cares about boosting the share price of the fund via whatever means necessary in order to make a quick profit from their trades, and generally have no long-term interest in the targeted funds. In fact, they reported in their 13G/A earlier this month that they have now sold their entire stake in FSD.

Chart

FSD Discount or Premium to NAV

data by YCharts

Finally, it is pleasing to note that another senior loan CEF, Apollo Senior Floating Rate Fund (AFT), has announced a boost to its distribution this month, continuing a recent trend in this sector. The +6.7% increase in distribution by AFT is the largest boost of out the senior loan CEFs so far. The new coverage ratio stands at 97%, but remember that the EPS numbers are historical (as of 6/30/2017 per CEFConnect) and so it is likely that the earnings have increased significantly since then to an extent that the managers feel comfortable with raising the payout to this new higher level.

This article was originally published to members of the Cambridge Income Laboratory 1 week ago.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

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.

Additional disclosure: I am long the portfolio securities.