Barron's article...Closed End Funds Advantage....

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bondsr4me
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Barron's article...Closed End Funds Advantage....

Post by bondsr4me »

For those of you who are subscribers, there is a good article on page 27 "The Closed-End Bond Fund Advantage".

I am not sure about non-subscribers, how you can access the digital article.

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jhfenton
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Re: Barron's article...Closed End Funds Advantage....

Post by jhfenton »

The online title is "Closed-End Bond Funds vs. ETFs". Non-subscribers can read it if they do a Google News search on the title and click on the link for the article.
Tanelorn
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Re: Barron's article...Closed End Funds Advantage....

Post by Tanelorn »

Here's an excerpt that shows how higher ERs don't tell the whole story:
Sometimes looks can be deceiving in the investment world. If you compared the fees for both the SPDR Barclays High Yield Bond (ticker: JNK) exchange-traded fund and the Western Asset High Yield Defined Opportunity fund (HYI), you would probably assume JNK is the better deal. HYI’s expense ratio at 0.87% is more than double that of the index ETF’s 0.40%. So wouldn’t that higher fee act as a drag on the fund’s yield?

Nope. Unlike the SPDR ETF, Western Asset High Yield is a closed-end fund. A closed-end’s share price trades independently of its underlying portfolio value or net asset value, leading to premiums or discounts. Currently, HYI trades at an 12.4% discount to NAV, and that amplifies the fund’s yield to 8.3%, compared with JNK’s more meager 5.6%.
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nedsaid
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Re: Barron's article...Closed End Funds Advantage....

Post by nedsaid »

With the popularity of ETFs, we don't hear much about closed end funds anymore. This suggests to me that this might be a fertile area of investment.

I have to admit that I have little experience with this. I bought into a closed-end Health fund that was managed by the then famous and now infamous John Kaweske. He had been a great mutual fund manager who was caught front running his funds for his own account and was fired by Invesco. The fund fell by the amount of the commission (so much for a "commission free" investment) and lagged afterwards. (I bought it as it was first offered to the public). It performed poorly and I finally sold the dumb thing. I called it "Global Disaster", I think the fund was called Global Health.

One good reason for investing in a closed-end fund is that a manager can do what he really wants and not have to deal with floods of cash after the fund has performed well and investor redemptions after the fund has not performed so well. This really complicates portfolio management. Another good reason to invest is that you can often buy these funds at a discount to Net Asset Value. Of course a closed-end fund can trade at a discount for years and years.

Perhaps others can share their experiences with closed end funds. I had one unhappy experience. I would be interested to read others experience.
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skepticalobserver
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Re: Barron's article...Closed End Funds Advantage....

Post by skepticalobserver »

The article omitted one downside to closed-end funds: dilution caused by rights offerings.

The prospect of higher interest rates may be only one factor generating discounts. From a 2012 MarketWatch article, "The Mystery Of Closed-end Fund Discounts" http://www.marketwatch.com/story/what-t ... 6831204728 :

"Still, closed-end fund discounts are tempting. They're also one of the unsolved mysteries of finance. There are several theories on why they exist: Some researchers think they're a judgment on fees and performance; some think investors use discounts to anticipate money that will be lost to taxes on embedded gains. One recent study showed a link between discounts and investor expectations about broad market volatility, suggesting discounts grow larger simply because investors are worried."
Tanelorn
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Re: Barron's article...Closed End Funds Advantage....

Post by Tanelorn »

If JNK yields 5.6% and if you bought somehow JNK at a 1/8 discount to NAV (similar to the CEF), you'd only be putting up $7 to buy $8 in assets for a 1.14x (=8/7) enhancement in yield on your actual investment. So in that hypothetical case, you'd expect a discounted JNK to yield 5.6% * 1.14 = 6.4% (no correction for the ER, since that's charged in the full NAV, not the discounted price). If HYI is yielding 8%+, it must be because it's investing in considerably higher yielding assets (more risk, HYI has worse bond credit quality), using leverage (not in this case apparently), or because they're returning your own principle in the payments rather than interest (a small component, maybe 5-10% of this CEF's distribution is ROC not "real" yield).

So a discounted JNK that yields 0.8% more than the normal version would still be better by 0.4% if it had a 0.4% higher ER like the CEF. There is an advantage, but it's more like 0.5% roughly not the headline 2.5% number. Of that 2.5% difference in yield, I figure 0.5% is real advantage of the discount in excess of the ER, 0.5% is ROC, and 1.5% is from higher credit risk.

Edit: trying to be more clear.
Last edited by Tanelorn on Sun Mar 15, 2015 6:08 pm, edited 1 time in total.
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Watty
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Re: Barron's article...Closed End Funds Advantage....

Post by Watty »

It was a long time ago but when I was just starting out I found what looked like a great closed end fund that sold at a significant discount and paid a good dividend.

Apparently it was too good of a deal I forget all the details but within a year it was merged in with another closed end fund that was not selling at a discount that I had no desire to own so I sold the fund. The merger was at the market price, not the NAV. I am pretty sure that it was set up so that someone basically got the discount instead of the shareholders.

After that I figured the closed end funds were so stacked against the shareholders that they were not worth holding.
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Re: Barron's article...Closed End Funds Advantage....

Post by Geologist »

nedsaid wrote: Another good reason to invest is that you can often buy these funds at a discount to Net Asset Value. Of course a closed-end fund can trade at a discount for years and years.
Not only can a closed end fund trade at a discount to NAV for years and years, but the discount can get bigger after you buy it. I remember reading advice in old investing books that the key to investing in closed end funds was to buy them when the discount was at a maximum and sell when the discount was at a minimum. The books, of course, gave no clue on how to arrange this.
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Re: Barron's article...Closed End Funds Advantage....

Post by Karamatsu »

Although I used to invest in some closed-end funds, I don't currently hold any. They're tricky beasts. Expensive and with lots of risks and caveats, most notably leverage and inflation of yield numbers through return-of-capital. Like some preferred stocks, you have to read the prospectus and associated data very carefully and ask yourself why the photo of the fund manager shows a guy with such a big grin on his face.

The article strikes me as advertising. As Tanelorn points out, the comparison is deceptive unless the funds hold the same assets. If they do not, then the yield isn't a comparison of fund types but of the assets held, and you can't say that one earns 8.3% while the other only earns a "meager" 5.6% simply on the basis of the fund structure. It may just be that HYI holds riskier goods. And indeed, what often happens is that, because the CEF isn't forced to buy or sell assets in response to inflows/outflows, they can invest in less liquid assets, which carry a higher yield precisely because there's no market for them. But you have to recognize the risks you'd be taking on there. During 2008-2010 CEFs were real white-knuckle roller-coaster rides.

Probably the only time I'd consider a CEF now is if I wanted to invest in an asset class that wasn't available as an open-ended fund, but these days I'm looking to simplify, rather than complicate, my portfolio, so new, exotic classes aren't a priority. The only one I can think of that I'd like to see would hold Japanese inflation-indexed bonds.
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Re: Barron's article...Closed End Funds Advantage....

Post by jdb »

I discovered the Bogleheads index philosophy about 8 years ago, coincidentally around same time cancelled long time Barron's subscription. Have not looked back and certainly have not read that mediocre at best publication since then. Suggest ignoring article is best investment advice.
bberris
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Re: Barron's article...Closed End Funds Advantage....

Post by bberris »

nedsaid wrote:...... (I bought it as it was first offered to the public). It performed poorly and I finally sold the dumb thing. I called it "Global Disaster", I think the fund was called Global Health.

..... I would be interested to read others experience.
Your experience was colored because you violated the first rule of CEF investing. (No, the first rule of CEF investing is not "Don't talk about...") Never buy at the IPO. The reason is simple. You don't pay a commission, instead you pay an underwriting fee amounting to about 5 % included in the IPO price. Then for about a week or two, the underwriter tries to support the ipo price by buying back shares. After a while, he runs out of money and gives up. Then the price goes down to the NAV, which was about 95 % of the IPO price. Then it goes down some more, to the average discount of a CEF of about 10 %. So buying at the ipo pretty much gives you a 15 % loss in a few weeks. If you really like the concept, don't buy at the ipo, just wait some weeks or months.

Somehow IPO buyers get the idea that they are "getting in at the ground floor". This is nonsense for CEF's and almost as much nonsense for operating companies.

I like Muni bond cef's and I have done well.
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Re: Barron's article...Closed End Funds Advantage....

Post by NHRATA01 »

Geologist wrote:
nedsaid wrote: Another good reason to invest is that you can often buy these funds at a discount to Net Asset Value. Of course a closed-end fund can trade at a discount for years and years.
Not only can a closed end fund trade at a discount to NAV for years and years, but the discount can get bigger after you buy it. I remember reading advice in old investing books that the key to investing in closed end funds was to buy them when the discount was at a maximum and sell when the discount was at a minimum. The books, of course, gave no clue on how to arrange this.
I'm pretty sure I recall Malkiel mentioning it in A Random Walk, and I remember almost taking his advice. I looked for a CEF with the biggest discount and among the best yields. Due to my newness of using Ameritrade at the time I could never get the transaction to complete and gave up. Having become wiser since, and repeatedly heard the quote "More money has been lost chasing yield then at the barrel of a gun" I'm quite grateful for that failure now.
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Re: Barron's article...Closed End Funds Advantage....

Post by Valuethinker »

NHRATA01 wrote:
Geologist wrote:
nedsaid wrote: Another good reason to invest is that you can often buy these funds at a discount to Net Asset Value. Of course a closed-end fund can trade at a discount for years and years.
Not only can a closed end fund trade at a discount to NAV for years and years, but the discount can get bigger after you buy it. I remember reading advice in old investing books that the key to investing in closed end funds was to buy them when the discount was at a maximum and sell when the discount was at a minimum. The books, of course, gave no clue on how to arrange this.
I'm pretty sure I recall Malkiel mentioning it in A Random Walk, and I remember almost taking his advice. I looked for a CEF with the biggest discount and among the best yields. Due to my newness of using Ameritrade at the time I could never get the transaction to complete and gave up. Having become wiser since, and repeatedly heard the quote "More money has been lost chasing yield then at the barrel of a gun" I'm quite grateful for that failure now.
It was 'the Malkiel step' and famous for it.

In more recent editions, he noted its demise. He did point out that after 1998 Emerging Market trusts were on huge discounts. That too has closed, some went to premiums.

It's an interesting area to play but:

- you get taxable distributions maybe when you don't want them

- with CEFs fees have gone *up* I think, generally, not down. Beware very high MERs

- the discount can swing out, usually in bear markets, just when you don't want it to

- there have been some impressive train wrecks where the management used leverage, and the portfolio went down, and the fund had to be liquidated at a significant loss to shareholders

It's a good rule of thumb that the 'normal' discount is 5-10% say, and you don't want to be buying if it is less than that.

In general I wouldn't do this for bond funds: high MERs, leverage -- lots to go wrong there.
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Re: Barron's article...Closed End Funds Advantage....

Post by abuss368 »

nedsaid wrote:With the popularity of ETFs, we don't hear much about closed end funds anymore. This suggests to me that this might be a fertile area of investment.

I have to admit that I have little experience with this. I bought into a closed-end Health fund that was managed by the then famous and now infamous John Kaweske. He had been a great mutual fund manager who was caught front running his funds for his own account and was fired by Invesco. The fund fell by the amount of the commission (so much for a "commission free" investment) and lagged afterwards. (I bought it as it was first offered to the public). It performed poorly and I finally sold the dumb thing. I called it "Global Disaster", I think the fund was called Global Health.

One good reason for investing in a closed-end fund is that a manager can do what he really wants and not have to deal with floods of cash after the fund has performed well and investor redemptions after the fund has not performed so well. This really complicates portfolio management. Another good reason to invest is that you can often buy these funds at a discount to Net Asset Value. Of course a closed-end fund can trade at a discount for years and years.

Perhaps others can share their experiences with closed end funds. I had one unhappy experience. I would be interested to read others experience.
Hi nedsaid,

That was interesting and unfortunate. Thank you for sharing.

Best.
John C. Bogle: “Simplicity is the master key to financial success."
Amarowsky
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Re: Barron's article...Closed End Funds Advantage....

Post by Amarowsky »

I was searching the archives and found this post with some talk about CEFs.

I was curious to hear what people think of them now. I have been invested in , CHY, CHW, CGO, and CHI for about 7 months. They are all CEF's from the company Calamos. They have fallen slightly in price, but because of their dividends they have been paying I am actually slightly in the black on I believe all of them. For the most part they are all comprised of >= 50% bonds (many convertible) holding between 200-300 different companies. All of them have an expense ratio of 1.2% which is really high, but they have been consistently paying 11-12% annually, on monthly distributions.

. Their asset categories are global total return, us total return, and us fixed income. I know the expense ratio is high, but they have been paying consistently such a high return. It seems like it is worth it, possibly because it is a smaller amount of my portfolio (approx 10%). The other majority balance of my taxable account is 35% SPY (sp500 etf). I really want to liquefy the other individual stocks held in my taxable account, and just accept that I have to pay taxes on them and start moving them into the sp500.

I was wondering if it would be acceptable to continue to contribute to these CEF's above as a partial substitution in my taxable 3 fund based account. I intend to do a total bond fund eventually, but could it be split 50/50 with these and still be considered a reasonably safe, but higher risk higher reward approach to a simplified portfolio? These have just so consistently been trading at a discount and paying a solid and predictable 8-12% apy in an monthly format for the past 10+ years, it seems they have made it worth the extra expense ratio (as long as in small doses along side a standard bond fund)

(worth noting, in my 401k and Roth, I took the standard 80/20 3 fund portfolio allocation which assumes the lowest risk for my retirement).
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