BIT - Multi-Sector BlackRock CEF With An Active Trading Strategy

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Binary Tree Analytics
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Summary

  • BIT is a fixed-income multi-sector closed-end fund from the BlackRock suite.
  • The fund employs an active trading strategy with duration positioning.
  • BIT has an enviable total return historical performance.
  • This CEF provides an ~8% yield with a robust Sharpe ratio.

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Thesis

BlackRock Multi-Sector Income Trust (NYSE:BIT) is a closed-end fund from the BlackRock suite. With a robust Sharpe ratio of 0.62, it has very healthy 3- and 5-year total returns (>10%). BIT is a multi-sector fixed income fund that invests in AAA agency MBSs, high-yield bonds, investment-grade bonds, and an allocation bucket that includes securitizations, emerging market debt, and preferred securities. The main aspect to note regarding this fund is its very active strategy in trading both the interest rate curve as well as the credit profile of the portfolio depending on the economic cycle view. This is not a static buy-and-hold type of fund. The high leverage and management fees would make us hesitant but the fund has historically delivered very strong returns. With a 2.57% premium and high 1-year Z-stat, I rate it as a hold for current investors and a buy only for prospective shareholders with a 2-3-year time horizon who are willing to accept the reversal of the premium on the back of a risk-off environment.

CEF Metrics

This section details some closed-end fund-specific metrics and overall fund analytics:

Leverage Ratio: 36%

  • On the higher side for the CEF space, usually, we see numbers around 30% here

Expense Ratio: 2.36%

  • on the high side compared with other CEFs

Manager: BlackRock

  • premier asset manager with a solid track record

Premium/Z-stat: 2.57% premium, 1.26 1-year Z-statistic

  • the fund is trading at a premium
  • the premium is on the high side compared to historical numbers

BIT CEF Premium

Source: Author

Active Portfolio Management

The most important aspect for this fund is its very active portfolio management. Let us have a look at how the portfolio shaped up at the end of 2019 versus the end of 2020:

BIT CEF Portfolio Management

Source: 2020 Annual Report

We can see that while from an asset class perspective the changes are not larger than +/- 5%, from a credit quality allocation, there are some fairly significant changes occurring. For example, we can see how the fund shifts towards a much more aggressive risk-taking stance at the end of 2020, with AAA assets (the MBS Agencies bucket) decreasing very significantly from 12% to 4% and that allocation going down the credit spectrum to the riskier names.

BIT CEF Portfolio Turnover Rate

Source: 2020 Annual Report

As we can see from the above, the portfolio turnover rate is a substantial 72% at the end of 2020 - this is not a buy-and-hold type of fund!

BIT CEF Portfolio Activity

Source: 2020 Annual Report

Another very interesting aspect and a cornerstone of this active management strategy is the propensity of the fund to trade the interest rate curve via duration positioning. In the above, we can see how at the end of 2020, the fund moved from having a shorter duration positioning of around 3.18 years to basically neutral duration. This means that the fund completely decreased its sensitivity to potential interest rate hikes.

What does this all mean? All the above metrics point to a very active trading environment, an alpha-generating fund that is not going to have a static buy-and-hold portfolio. You are buying into a trading business that has a multi-sector portfolio but which is extremely active in trading both the interest rate curve as well as the credit profile of the portfolio depending on the view regarding the economic environment.

Portfolio Composition - Credit Risk

BIT CEF Portfolio Composition - Credit Risk

Source: BlackRock

BIT has a balanced portfolio with HY credit securities being balanced by a fairly sizable allocation to AAA MBS securities. The fund also holds some AAA CLOs in that bucket which does not offer the same type of market risk-off event offset but safe from a credit risk perspective.

Approximately 30% of the portfolio is investment grade with a barbell approach - the 2 extremes are populated - AAA and BBB names.

On the high yield side, the fund does tend to stay allocated to "healthier" names - i.e. BB and B rated, with only a small percentage dedicated to CCC & CC.

BIT CEF Top Sectors

Source: BlackRock

The sector allocation is characteristic for a multi-sector fund, with a high number of security types present. The highest percentage is in corporate HY, followed by Securitized Products which has a high allocation to CLO debt, particularly at the BB and B level.

Portfolio Composition - Market Risk

In this section, I will discuss in more detail the aspects of the BIT portfolio that relate to market risk - i.e. fluctuations in risk-free rates and credit spreads that can cause upward or downward pressure on the BIT portfolio NAV.

In respect to risk-free rates, the fund as highlighted above is very active in positioning itself for duration risk. The fund currently has a negative effective duration:

BIT CEF Effective Duration

Source: BlackRock

This means that the fund will gain as interest rates go up. As a reminder, this is achieved via swaps and futures. A portfolio of bonds always has a positive duration (i.e. bond prices go down as interest rates rise) but BIT has chosen to aggressively reduce, and in fact, position the portfolio for negative duration.

Since the fund does not give a split of asset class ratings, we can only assert that just like all fixed income instruments in the current environment, credit spreads are at historic lows.

Returns

BIT CEF ReturnsSource: Author

The fund has had very attractive yearly returns since inception, with the only exceptions being 2013 & 2018. Let us look a bit more into those 2 years:

2013 - this is when short-term interest rates went up by almost 1% during the calendar year; it would seem BIT was running a high duration during that time and suffered

2018 - this is the year when in November & December the market experienced a wide risk-off sentiment, so credit spread widening was the culprit for negative returns

Distributions

BIT CEF Distributions

Source: BlackRock

BIT only covers about 74% of its distributions from the current portfolio interest income cash flow. The rest is return of capital, which can be either capital gains from the management team trading acumen or distributions from the fund principal (i.e. from NAV). Let us have a look at the historic NAV performance:

BIT CEF Price

Source: Morningstar

The NAV is down only -4.3% in the past 8 years which tells us there is not much of an erosion from return of capital. This means that most of the coverage shortfalls are done from assets capital gains on the back of good trading decisions rather than NAV give-up. This is a very positive aspect in terms of the alpha-generating capabilities for the fund.

Conclusion

Coming from a very experienced management team, BIT has delivered very strong historic results. While its current distribution is only 74% covered, the fund has proven historically that it can generate alpha from asset trades rather than NAV give-ups. The BIT management team actively trades the fund's duration profile (currently set up with a negative duration) as well as its credit positioning. With a strong Sharpe ratio of 0.62 and a yield of 7.93%, BIT is an attractive multi-sector CEF choice. I rate it as a hold for current investors and a buy only for prospective shareholders with a 2-3-year time horizon who are willing to accept the reversal of the premium on the back of market sell-offs.

This article was written by

Binary Tree Analytics profile picture
1.91K Followers
With a financial services cash and derivatives trading background, Binary Tree Analytics aims to provide transparency and analytics in respect to capital markets instruments and trades._____________________________http://www.BinaryTreeAnalytics.com
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Disclosure: I/we have a beneficial long position in the shares of BIT either through stock ownership, options, or other derivatives. 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.

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