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Q2 2015 U.S. Equity Fund Performance Summary

By Tom Roseen Despite hitting multiple record highs and triple-digit lows over the three months, the markets were generally in a sideways pattern during second quarter 2015. While the Russell 2000 and the NASDAQ Composite managed to break into record territory in mid-June, advances to new highs were generally just at the margin. However, at June month-end concerns about the Greek debt drama, looming U.S. interest rate increases, Puerto Rico’s inability to service its public debt, and China’s recent market crash weighed heavily on investors. A positive finish for equities on the last trading day of June wasn’t enough to offset the Greek debt-inspired meltdown from the prior day, and many of the major indices witnessed their first quarterly loss in ten, with the Dow Jones Industrial Average and the S&P 500 losing 0.88% and 0.23%, respectively, for Q2, while the NASDAQ Composite gained 1.75%. However, the average equity fund (+0.09%) just managed to stay in the black for Q2, stretching the winning streak to three quarters in a row. For the quarter only 43 of Lipper’s 96 equity and mixed-equity fund classifications posted positive returns. For the second consecutive quarter Lipper’s World Equity Funds macro-classification (+1.22%) was at the top of the leader board, outpacing the other three broad equity groupings. USDE Funds (+0.03%) took the runner-up position for the quarter, followed by Mixed-Asset Funds (-0.66%) and Sector Equity Funds (-1.80%). In total, only 48% of all individual equity and mixed-asset funds posted plus-side returns for the quarter. Lipper’s preliminary Q2 2015 fund-flows numbers showed mutual fund investors were net redeemers of fund assets for the quarter, withdrawing an estimated $35.7 billion from the conventional funds business (excluding exchange-traded funds [ETFs]). During the quarter investors were net redeemers of money market funds (-$47.1 billion), equity funds (-$5.5 billion), and municipal bond funds (-$1.7 billion), but they were net purchasers of taxable fixed income funds (+$18.6 billion). In line with Q1 2015 and despite increasing geopolitical concerns, for Q2 U.S. fund investors favored nondomestic equity funds over domestic equity funds, injecting $34.5 billion versus withdrawing $40.0 billion, respectively. Nevertheless, conventional fund investors continued to show a clear preference for developed-market funds (+$33.9 billion) over emerging-market funds (+$3.4 billion) during the quarter. ETF investors (authorized participants) were net purchasers for Q2 2015, injecting $29.9 billion into equity ETFs while also being net purchasers of taxable fixed income ETFs (+$1.7 billion) and municipal debt ETFs (+$0.6 billion). The Sector Equity Funds macro-group (-1.80% [quarter] and -2.82% [June]) housed four of the five top-performing classifications in the equity universe for the quarter, but couldn’t keep itself out of the red, being once again relegated to the fourth-place spot of Lipper’s four macro-classifications. The macro-classification was dragged down by its also housing the four worst performing classifications in the universe. At the top of the list for the first quarter in 29 the Commodities Energy Funds classification (one of Q1’s laggards) returned 9.27% for the quarter and 0.40% for June. The classification benefitted from a rise in oil and gasoline prices during the quarter. The next best performing classification- Commodities Agriculture Funds (+5.28% for the quarter) benefitted from June’s rally in grain prices. Despite the on-again, off-again nature of the Greek debt drama, a volatile Chinese market, and a resurgence of news surrounding the possible default by Puerto Rico of its sovereign debt, the World Equity Funds macro-classification (+1.22%) remained at the top of the charts for the second consecutive quarter. Fund investors continued to pad the coffers of developed-market funds in our tally of estimated net flows for the quarter, but they also injected net new money into emerging markets-related funds. Despite its late-month meltdown in June, China Region Funds (+7.64%)-for the second quarter in three-outpaced the other classifications in the group for the quarter, followed by Japanese Funds (+3.95%),International Small-/Mid-Cap Growth Funds (+3.91%), and International Small-/Mid-Cap Core Funds (+3.82%). Japanese Funds got a boost from export-related stocks after the yen showed continued weakness against the greenback. India-related securities suffered from volatility at the beginning of June after the Reserve Bank of India revised its inflation forecast higher, pushing India Region Funds (-3.58%) to the bottom of the macro-classification for the first quarter in eight.

Time To (Re)Focus On AllianzGI’s Convertible/Income Bond Fund

Summary For the first time in three years, NCV has traded at a discount to trading price, and this prompted the need for a review of the fund. Since my last NCV/NCZ primer (NCZ/NCV Primer), both NCV/NCZ have maintained their monthly distributions and investors have collected approximately 18% in dividend income. NCV remains a great investment vehicle for yield hungry investors with a healthy debt maturity and sector mix. The markets have been nothing close to stable for the last few weeks and this has led to the broader investment community to lose focus on their investment objectives and strategies (I mean both retail and institutional investors). For the first time in three years, the AllianzGI Convertible & Income Fund (NYSE: NCV ) has traded at a discount to trading price, and this prompted the need for a review of the fund. First off, this isn’t the first time it has happened (the price to trade below the net asset value). NCV has dipped below it’s net asset value several times historically in similar fashions – generally in response to drastic market events (in this case it’s Greece’s and Puerto Rico’s debt default scares). When the markets edge lower, like they have in the last three weeks, and many investment vehicles are impacted due to this concern, I refer to it as ” headline risk ” and without a question, the current headline risk with Greece is not good, but it isn’t going to be THAT bad for the global economy. Investors should remember/realize what exactly is at play here. In this case, it is a country defaulting/postponing/determining how to payoff debt to an entity that is unlevered and does not contain counter party risk (IMF, Germany, European Union, all other creditors). Investors, and the rest of the investment community, should realize that Greece’s headline risk is fairly isolated from investment vehicles like NCV (and the AllianzGI Convertible Fund II (NYSE: NCZ )), which trade and are meant to be benchmarked against convertible bond indices. Therefore, I felt it is time to refocus closed end fund investors back on to NCV, where global macro headline risk should not dictate the performance of convertible funds of U.S. denominated equities. Since my last NCV/NCZ primer ( NCZ/NCV Primer ), both NCV/NCZ have maintained their monthly distributions and investors have collected approximately 18% in dividend income and have been able to book 22% of returns assuming dividends were reinvested. To review the fund’s strategy, NCV invests in short to medium term convertible bonds of companies based in the United States mainly and they achieve a 12% distribution rate by levering their assets by around 33% at all times to benefit from the increased investment, and generate the high monthly distributions of approximately 13% (based on recent price levels). NCV achieves these returns in two main forms: Direct investment into convertible debt via underwritings and secondary market trading. Intra-day trading based on market opportunities to capture mispriced debt events. The downside of NCV’s strategy is that it can face liquidity constraints for some of its debt and may take on the wrong positions which will impact NAV, but difficult to compute on the market price front, making the performance of the current investments fairly difficult to transcribe. NCV Market Price vs. Net Asset Value Price Chart – NCV trades at a healthy premium to the funds net asset value price and for the right reasons… Yield demand. Source: Morningstar As shown above, NCV has consistently traded above its Net Asset Value, and this is largely due to the fact that NCV pays out a substantial dividend compared to other closed end funds. Since NCV consistently yields a monthly 12% (13% at current trading prices), investors made up of both retail and institutional distinctions have found that a 12% distribution rate is very attractive considering it can be a long term investment and executed by a reputable investment manager, Allianz. Investors do not mind paying a slight premium on the fund for the return of an above average distribution rate. NCV Annual Returns vs. Convertible Bond Benchmarks – NCV sell-off is a market overreaction (click to enlarge) Source: Morningstar Above, NCV’s trading price is compared to its convertible benchmark and based on the above chart, YTD 2015 is one of the first times where you see a divergence of NCV’s share price vs. convertible benchmark prices, outlining this investment opportunity. Generally, NCV has been able to beat this index by maintaining an active investment portfolio of convertible debt, granting positioning options the convertible bond index does not benefit from (since it is a passively tracked index). NCV Asset Allocation – The majority of the assets are in Convertible debt, which is concentrated in the United States and far from Europe Source: Morningstar To highlight why I wanted to publish this article, above is a pie chart of NCV’s asset allocation, of which is made up of 75%+ U.S. denominated debt and far from European risk. Just for clarification, the above chart is from Morningstar.com and Morningstar’s asset allocation for closed end funds is automated, confusing investors slightly since convertible debt can be identified as either “bonds” or “other” for various securities. In this case, the bonds and other categories are the convertible debt categories. NCV Bond Maturity Breakdown – With medium-term debt making up the majority of the investment portfolio, AllianzGI portfolio managers can maintain the portfolio mix for long-term investors… (click to enlarge) Source: Morningstar NCV Distributions – Investors should not see the distribution mix change, with focus to remain in distributing income to investors long term. Source: Morningstar Finally, I wanted to highlight several other factors that can help investors refocus on NCV. First, the income distributions are almost completely made up of convertible debt income funds and therefore gives investors the stability of payments since the bulk of the payouts are not driven by intra-day trading bets/performance/strategies, unlike other closed end funds. Second, the recent market price drop can be tied to the headline risk I mentioned/discussed earlier and the fact that NCV holds a portion of U.S. stock holdings in its portfolio, capturing some of the downside that the broader markets have locked onto. Third, investors who originally invested in NCV remain yield hungry and the closed end fund substitutions aren’t really here (there are only a few closed end funds that focus on convertible bonds and simultaneously yield 12% to investors). In my view, the price drop will be corrected back upward after investors have had time to digest the headline risk from Europe and broader market underperformance. NCV remains a great investment vehicle for yield hungry investors with a healthy debt maturity and sector mix, and investors should not mistaken the recent global economic issues with a closed end fund investing in convertible bonds. Disclosure: I am/we are long NCV, NCZ. (More…) 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.

The Right Municipal Bond ETF Right Now

Summary Puerto Rico problems raises concerns in municipal bond space. Take a look at a more conservative muni ETF that targets debt from dedicated revenue streams. Highlight of the Deutsche X-trackers Municipal Infrastructure Revenue Bond ETF. By Todd Shriber & Tom Lydon Chicago. Detroit. Puerto Rico. Increasingly precarious financial positions in those cities and territories and others across the U.S. have cast a pall over the municipal bond market. The cases of Chicago, Detroit and other cities across the U.S., including several mid-sized cities in California, underscore the pressure public pensions and post-employment benefits, such as healthcare for public workers, are putting on state and municipal finances. Those weakening financial positions are prompting advisors and investors to consider alternatives to general obligation bonds when building out the municipal section of fixed income portfolios. There is an exchange traded fund for that and that fund is the Deutsche X-Trackers Municipal Infrastructure Revenue Bond Fund (NYSEArca: RVNU ) . RVNU seeks to limit or reduce exposure to public pension risk, not avoid or eliminate it, by focusing solely on bonds that fund, state and local infrastructure projects such as water and sewer systems, public power systems, toll roads, bridges, tunnels, and many other public use projects where the interest and principal repayments are generated from dedicated revenue sources. Toll roads, tunnels and water systems may not sound like the sexiest investment themes, but with public pension issues afflicting states from New Jersey to Pennsylvania to California, revenue bonds, including those held by RVNU, can be seen as the “new black” of the municipal bond market. “RVNU allows us to offer a product that focuses on investment-grade revenue bonds,” said Deutsche Asset & Wealth Management (Deutsche AWM) Portfolio Manager Blair Ridley in an interview with ETF Trends. “We focus on revenue issuers that by that heir nature usually carry less pension risk as compared to general obligation issuers. We’re trying to follow those issues with dedicated revenue streams, or ‘essential purpose bonds. In any economic environment, people will pay their electric bill and their water bill.” RVNU’s index is intended to track federal tax-exempt municipal bonds that have been issued with the intention of funding, state and local infrastructure projects such as water and sewer systems, public power systems, toll roads, bridges, tunnels, and many other public use projects. The index will attempt to only hold those bonds issued by state and local municipalities where the interest and principal repayments are generated from dedicated revenue sources. A succinct way of highlighting RVNU’s utility in the current municipal bond market environment comes courtesy of Deutsche AWM portfolio manager Ashton Goodfield. She said, “RVNU has less exposure to headline risk. The revenue streams are more stable in up and down economic environments. These revenue streams are what pays back principal and interest on the bonds.” RVNU is just over two years old holds 44 bonds. The ETF’s underlying index, the DBIQ Municipal Infrastructure Revenue Bond Index, holds over 800 bonds. As Ridley notes, RVNU has “a lot of room to add holdings.” RVNU employs a representative sampling methodology in order to match the traits and returns of its underlying index. RVNU has the flexibility to go as far down the ratings spectrum as BBB, but bonds rated either AA or A currently comprise over 86% of RVNU’s index, according to issuer data. At a time of heightened concerns regarding bond liquidity, RVNU ensures liquidity by tilting more than 75% of the fund’s lineup to issues with $100 million or more outstanding. Another obvious concern is rising interest rates and how higher rates will affect longer duration bond funds. RVNU’s index has a modified duration of 6.53 years. That longer duration has been something of a hurdle for RVNU, but one the ETF can easily overcome. “Our focus is on finding the most attractive part of the yield curve,” adds Ridley. “RVNU finds bonds with 10-year calls because those have the same sensitivity as bonds with 10-year maturities.” Since coming to market, RVNU has taken its lumps. The ETF debuted in the midst of the 2013 taper tantrum and the Detroit bankruptcy, but at a time when some of the largest U.S. states, including California and Illinois, are awash in massively under-funded public employee pension obligations, some investors are looking to diversify away from GO bonds while still keeping exposure to munis. “Clients are asking about GOs and pensions,” said Goodfield. “There are some municipalities that aren’t managing these issues well. While true, we think it’s important to say many general obligation issuers are managing these issues well Some investors have a negative outlook and want to be solely in revenue bonds.” As Goodfield notes, awareness of public pension issues is on the rise. That could prove to be good for RVNU over the long-term. Deutsche X-Trackers Municipal Infrastructure Revenue Bond Fund (click to enlarge) Tom Lydon’s clients own shares of RVNU. Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. (More…) I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.