Over the past few months, most of you have noticed increased activity in closed-end funds as the inflow of volatility finally shook them up and created various arbitrage and directional opportunities for active traders such as us.
Master Limited Partnerships, or MLPs, have had a couple of rough years, and we have been exposing ourselves to them through the related CEFs every now and then, as avid followers would have noticed from our articles. This group has now become part of our Weekly Reviews, so we can keep an eye on them in a more consistent manner and share our thoughts with you.
Over the past week, several funds announced their regular monthly distributions:
- Fiduciary/Claymore Energy Infrastructure Fund (FMO): $0.3231 per share
- Duff & Phelps Select MLP and Midstream Energy Fund Inc. (DSE): $0.15 per share
- The Cushing® MLP & Infrastructure Total Return Fund (formerly known as The Cushing® MLP Total Return Fund) (SRV): $0.0903 per common share.
The ALPS Alerian MLP ETF (AMLP) finished the week in positive territory. On Monday the ETF opened lower and closed negative. However, the following couple of days AMLP reached a high point of $10.03 per share. On Thursday with volume above the average one, the bears took control over the MLP index pushing it to a lower close. However, on the last trading day of the week AMLP closed higher at a price of $9.54 per share. On a weekly basis, the fund has gained $0.16 per share.
Source: barchart.com - AMLP Daily Chart (6 months)
The US Oil Fund (USO) has finished positive as well. The oil benchmark closed the trading session at a price of $11.63 per share. On a weekly basis, this is a loss of $0.28 per share. The volatile in the ETF is still quite low.
Source: barchart.com - AMLP Daily Chart (6 months)
1. Highest Z-Score
Today the scores are a little bit higher than our previous article. We have only two closed-end funds which are statistically overvalued. There is a new leader in the table as well.
The gold medalist in this review is the Tortoise Energy Independence Fund (NDP). The fund has a Z-score of 3.90. We have not seen such a high score in the sector for a long time. At our previous article NDP had a score of 1.80. Only for a week, NDP's deviation has doubled. I just want to explain, for our new readers, why do we look at a fund's Z-score and what is a Z-score. The purpose of this indicator is to show us how many times the discount/premium deviates from its mean for a specific period. Logically, a positive week for the sector leads to a huge increase in the Z-score of the funds.
However, as I already said we have not seen such a Z-score for a long time in the sector. As a matter a fact, before the beginning of the new year we did not have a single positive score. In addition to the high score, NDP is trading at the highest premium as well - 17.31%. At our last update we discussed the fund as a possible "Sell" candidate. And these high numbers makes the CEF even more attractive than before.
With the silver medal today is the Goldman Sachs MLP Income Opportunities Fund (GMZ). In our previous review, GMZ had exactly the same score, but traded a 2.00% premium. Today things look different. Still the fund looks overvalued compared to its peer group:
2. Lowest Z-Score
The ClearBridge Energy Midstream Opportunity Fund (EMO) is still the most undervalued fund of all in the sector. Of course, this is only from a statistical perspective. EMO has lowered its Z-score during the past week. Currently, the CEF has a negative result of -1.50. Its NAV/Price spread however has narrowed a bit, compared to last time. The week was positive for EMO:
Source: barchart.com - EMO Daily Chart (6 months)
If the benchmarks remain stable, EMO might be a good dividend capture. The CEF distributes a dividend of $0.23 per share in less than ten days: Source: dividend.com
The average Z-score of the MLP CEFs is -0.47 points.
3. 5-Year Annualized Return On NAV
The aim of the above ranking is to show us the closed-end funds with higher yields based on net asset value. A combination of the return with the other metrics that we have is a foundation of our research for potential "Long" candidates. Clearly, we do not have a positive result from any of the funds.
On a regular basis, the First Trust Energy Income And Growth Fund (FEN) is the closest one to a positive result, but not close enough as we can see. Beneath you can see the UNII/Share trend: Source: cefdata.com
The average return on NAV in this time frame is -7.74%.
4. Highest Premium
As usual, we have all got used to see the Tortoise Energy Independence Fund (NDP) on top of the chart in the frames of this metric. But today is not like every other day. Today is special because NDP hit an all-time high in its NAV/Price spread. Currently, the CEF is trading at a 17.31% premium. I would also like to remind that the fund is statistically the most overvalued one as well. When these two metrics are in perfect harmony, we have an edge to consider the asset as a potential "Short": Source: Ycharts.com
I will make a little deeper review on this one at the end of our article.
From the above closed-end funds I have spotted a CEF that could be a potential "Buy" candidate. The Kayne Anderson Midstream/Energy Fund (KMF) trades at one of the widest discounts in the sector. It is also statistically undervalued with a Z-score if -1.10:
As the chart shows us, KMF is trading at a discount on a regular basis. So, what caught my attention here? Well, the answer we can find the numbers beneath:
The net asset value has retraced to its normal levels of trading but still the fund's price hovers at its low levels. From here we have this wide NAV/Price spread which we call a 'discount'. Compared to its peer group, KMF is quite undervalued. The below chart compares the premium/discount of the fund to the same metric of its peers: Source: cefdata.com
The average discount in the sector is -6.89%.
6. Highest Effective Leverage
Despite the fact that the sector does not provide positive returns to its investors, it is definitely not the same thing with leverage - as we can see above.
The average effective leverage of the sector is 28.50%.
7. Lowest Effective Leverage
Of course, leverage is a double-edged sword because it might look great when the company is achieving great results and distributing big returns, but when it starts to sink, things start to get a little bit gloomy, I would say. What I mean is that the higher debt brings a bigger risk.
8. Highest Distribution Rate
Most of the fixed-income investors are drawn to closed-end funds because of their relatively high distribution rates. However, for me, the distribution rate of a fund is not the most important metric to look at. For long-term investors, a CEF's total return is far more important than its distribution rate. Often, income-seeking investors become enamored with a CEF's distribution rate. They lose sight of the share price return.
9. Lowest Distribution Rate
The average yield on price for the sector is 10.84% and the average yield on net asset value is 10.21%.
Statistical Comparison And Potential Trades
If you follow our Weekly Review on a regular basis, you probably notice that after our sector discussion, I try to choose interesting candidates for you and to analyze them in more details. This week I have decided to review Tortoise Energy Independence Fund (NDP) as a potential "Short" candidate. The closed-end fund is managed by Tortoise Capital Advisors, L.L.C. and has the highest spread between its price and net asset value. In other words, you can short it at 17.31% premium of its NAV.
NDP focuses primarily on North American energy companies that engage in the exploration and production of crude oil, condensate, natural gas and natural gas liquids.
Source: Fund's sponsor website
Currently, NDP is at a 17.31% premium which is the highest in the MLP sector. From the chart beneath, we can see that NDP has been trading in quite a tight NAV/Price spread during the past year:
However, during the past couple of weeks things have changed sharply. The fund's price has been skyrocketing while its NAV has not moved a lot from its all-time lows which it hit in late December:
But the thing that attracts me the most to this fund as a "Short" candidate, is that without any fundamental reason, NDP hit a new all-time high with its 17.31% premium spread just for couple of days:
The below chart compares the premium/discount of the fund to the same metric of its peers. There has not been such a widening since the inception of the fund:
NDP's top ten holdings:
Time for earnings. It is useful to pay attention to this metric just because sometimes it is a reasonable indicator for the probability to see a dividend cut:
And in the end we can see the 'face' of NDP on the chart beneath:
Source: barchart.com - NDP Daily Chart (6 months)
The MLP sector retracted quite a lot lately. Currently, there are good trading opportunities, like the ones we discussed for example. There are still many undervalued funds which are pumped with leverage, which is good in such times. We can also hedge our long positions with the overvalued ones.
Note: This article was originally published on Feb. 3, 2019, and some figures and charts might not be entirely up to date.
Trade With Beta
At Trade With Beta, we also pay close attention to closed-end funds and are always keeping an eye on them for directional and arbitrage opportunities created by market price deviations. As you can guess, timing is crucial in these kinds of trades; therefore, you are welcome to join us for early access and the discussions accompanying these kinds of trades.
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.