Weekly Review: Senior Loan CEFs

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Includes: ACP, BGT, BKLN, DSU, ECC, EFF, EFL, EFR, EFT, EVF, HFRO, JFR, JQC, JRO, JSD, NSL, OXLC, PHD, SNLN, VTA, VVR, XFLT
by: Arbitrage Trader
Summary

Review of where senior loan closed-end funds and their benchmarks ended last week.

Recap of news related to the group, if any.

Comparison of the funds using several important metrics.

Introduction

In this article, I will make a weekly review of CEFs that invest in senior loans. Considering the risk and return, senior loans are positioned between investment grade corporate bonds and high yield bonds. Usually, they have a floating rate feature and are expected to be less rate-sensitive. In the current market environment of the flattening yield curve, there are many funds that trade at a discount to NAV. The use of leverage in closed-end funds and the fact that they are mostly targeted and used by retail investors make them much more volatile that offers various opportunities for investors and traders like us.

The News

Source: Yahoo Finance

This week several funds declared monthly distributions:

Invesco Dynamic Credit Opportunities Fund (VTA) announced that it maintains its monthly distribution for September as $0.0625 (a portion of this distribution is estimated to be from a return of principal rather than net income);
Invesco Senior Income Trust (VVR) announced that it maintains its monthly distribution for September as $0.0195;
Nuveen Senior Income Fund (NSL) announced that it increases with $0.0020 its monthly distribution for September as $0.0355;
Nuveen Floating Rate Income Opportunity Fund (JRO) announced that it increases with $0.0025 its monthly distribution for September as $0.0605;
Nuveen Floating Rate Income Fund (JFR) announced that it increases with $0.0025 its monthly distribution for September as $0.0600;
Nuveen Short Duration Credit Opportunities Fund (JSD) announced that it increases with $0.0030 its monthly distribution for September as $0.1035;
Nuveen Credit Strategies Income Fund (JQC) announced that it increases with $0.0015 its monthly distribution for September as $0.0385;
Eaton Vance Senior Income Trust (EVF) announced that it maintains its monthly distribution for September as $0.0310;
Eaton Vance Floating-Rate 2022 Target Term Trust (EFL) announced that it maintains its monthly distribution for September as $0.0430;
Eaton Vance Floating-Rate Income Plus Fund (EFF) announced that it maintains its monthly distribution for September as $0.0760;
Eaton Vance Floating-Rate Income Trust (EFT) announced that it maintains its monthly distribution for September as $0.0670;
Eaton Vance Senior Floating-Rate Trust (EFR) announced that it maintains its monthly distribution for September as $0.0700;
Highland Floating Rate Opportunities Fund (HFRO) announced that it maintains its monthly distribution for September as $0.0770;
BlackRock Debt Strategies Fund (DSU) announced that it maintains its monthly distribution for September as $0.0685;
Pioneer Floating Rate Trust (PHD) announced that it maintains its monthly distribution for September as $0.0600;

Also, Certain BlackRock Close-End Funds announced a renewal of share repurchase programs - this will affect BlackRock Debt Strategies Fund, Inc. (DSU) and BlackRock Floating Rate Income Trust (BGT);

The Benchmark

Last week, the benchmark Invesco Senior Loan ETF (BKLN) started the week at $23.05 and finished the week at $23.07. This week, the ETF has good performance compared to other fixed-income ETFs. Source: barchart.com BKLN daily chart (6 months)

Along with BKLN, investors may look to the passive index-based Highland/iBoxx Senior Loan ETF (SNLN). SNLN tracks the MarkitiBoxx USD Liquid Leveraged Loan Index, which consists of the largest, most liquid leveraged loans. This week, the ETF lost 0.03 points and closed to the low for the week at 18.20. Source: barchart.com SNLN daily chart (6 months)

These senior loan ETFs offer an opportunity for diversification because they do not have a strong correlation with investment-grade bonds or US Treasuries. One of the reasons for this is that they use the LIBOR rate as a component for the floating rate calculation.

1. Highest Z-Score

We use the Z-Score to find statistically undervalued or overpriced funds in the sector. If the value of Z-Score is negative, it signals a "Buy" opportunity. Reversely, if you are looking for a "Sell" candidate, you should be interested in a positive Z-Score value. We use one-year basis to see how many times the current discount deviates from its mean for that period.

Source: CEFConnect.com

At this point, we can see at the top of the table ACP and OXLC with Z-Score 0.70 and 0.60, which means that, based on statistics, these funds are not very attractive for short trades.

2. Lowest Z-Score

Here, the things look a little bit different. As we see from the table above, there are plenty of undervalued closed-end funds. In other words, here we can choose several "Buy" candidates which we can add to our portfolios. Of course, we should not forget that this is only from a statistical perspective, and we are scratching the surface here; so before entering a trade, deeper research should be done.

Source: CEFConnect.com

3. 5-year Annualized Return on NAV

The aim of the below ranking is to show us the senior loan funds with the higher yields based on the net asset value. Combination of the return with the other metrics that we have is a foundation of our research for potential "Long" candidates.

Source: CEFConnect.com

4. Highest Premium

Source: CEFConnect.com

This week, the premium of the top two funds - ECC and OXLC - decreased further but they are still at the top and as I already mentioned in my previous article, I will not consider them as short trade candidates for the moment because they invest in CLO (Collateralized Loan Obligations) and do not report NAV daily.
The 3rd and 4th place in the group is taken from Highland Floating Rate Opportunities Fund (HFRO) with 3.42% and XAI Octagon FR & Alt Income Term Trust (XFLT) 3.36%, but the two funds do not have a statistically significant Z-Score number. Also, these two funds are not leveraged so I do not expect to be very volatile and perform well in short trades.

5. Biggest Discount

Source: CEFConnect.com

The announced increases in some of the distributions at the beginning of the week helped for the reduction of the discount for the group. My personal favorites for which I have written in my previous articles Nuveen Senior Income Fund (NSL) and Nuveen Floating Rate Income Opportunity Fund (JRO) now trade at a way smaller discount and higher Z-Score numbers but they are still around their lows so for me, the long potential remains.

6. Highest Distribution Rate

The table shows the funds with the highest distribution rate on price. Additionally, I have included here the distribution rate based on the net asset value. Most of the market participants find the second metric to be more important.

Source: CEFConnect.com

The average distribution rate on price for all Senior Loan CEFs is 7.11%; if we exclude the collateralized loan obligations funds OXLC and ECC, it is 6.63%.

7. Highest Effective Leverage

From a leverage perspective, we have two closed-end funds whose effective leverage is equal to zero, XFLT and HFRO. The average percent of effective leverage in the sector is about 33.06%. Do not underestimate the effect of the leverage, and be sure it is included in your analysis.

Source: CEFConnect.com

Conclusion

While some of the senior loan CEFs still look attractive for long trades, do not forget that rising rates will affect the ability of companies to pay their debt. Also, most of these CEFs use leverage and the rising rates will increase their already high expenses. If you try mean reversion trades, my advice is to start small and be patient.

Note: This article was originally published for our subscribers on 9/09/2018, and some figures and charts may not be entirely up to date.

Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in NSL AND JRO over 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.