Franklin Universal Trust: An Interesting Mix In This CEF
Summary FT’s goal is current income and capital preservation. FT takes a unique approach to that, mixing risky assets with more stable ones. It’s not a fund I’d rush to own, but it could have a place with the right investor. Franklin Universal Trust (NYSE: FT ) is an odd beast in some ways and yet logically built in other ways. At the end of the day, however, if you are buying it as a long-term investor you need to understand that it’s playing in two allocation sectors and that may not fit well within your broader portfolio. What it does Franklin Universal Trust’s primary objective is income and preservation of capital. Its secondary objective is growth of income. That said, it has a funny way of going about reaching these three goals since it invests in a combination of high-yield bonds and utility stocks. The split is around two-thirds bonds and one-third utilities. There are some other things in the mix, like preferred shares and resource stocks, but they are relatively minor positions. FT also makes use of leverage to enhance performance. According to the Closed-End Fund Association , leverage recently stood at around 23% of assets. Essentially, FT is mixing a relatively conservative investment category, utilities, with a riskier one, junk bonds. That’s not an outlandish proposition at all, but it makes this fund something of a difficult fit if you have your own portfolio allocation goals. For example, you’ll need to go down another level, looking at the fund’s portfolio allocations, to truly ensure your portfolio weightings are what you want them to be if you own FT. That wouldn’t be needed for pure-play offerings. There’s not much information available about what the fund actually does to pick its stocks and bonds, except that it uses fundamental research on the bond side and looks for attractive dividend yields and a history of dividend increases in the utility space. That’s not much to work with if you want to really understand what your managers are doing. In fact, it’s utility portfolio is comprised of some of the largest and best-known utilities in the country, a portfolio which you could arguably create yourself if you wanted to. How’s it done? Because of the odd mix of assets, it’s kind of hard to benchmark this fund. That said, it’s 10-year trailing annualized return through January comes in at about 8.5% according to Morningstar (this figure includes dividend reinvestment). That ranks in the top percentile of Morningstar’s “Tactical Allocation” category, but I’m not sure that’s exactly the right place to put this fund-though, to be fair, I have no better suggestion as to where it belongs. For comparison, Vanguard 500 Index Fund (MUTF: VFINX ) turned in a trailing 10 year return of just under 8% annualized. It’s standard deviation over the trailing ten year period was around 13. That’s not much lower than the S&P 500 Index, so FT isn’t exactly a low volatility offering. To bring that point home even more keenly, the standard deviation of Vanguard High-Yield Corporate Fund (MUTF: VWEHX ) over that span was around 9 and Vanguard Utilities Index Fund’s (MUTF: VUIAX ) was about 13. These two funds produced annualized returns of around 6.5% and 9.5%, respectively, over the trailing ten years. So in some ways FT is getting a higher return than you might achieve in other investments, including pure play high-yield funds and an S&P 500 Index fund, but it’s taking on more risk to do it-though not quite as much as an S&P 500 Index fund. And it’s worth noting that the fund’s net asset value, or NAV, fell nearly 37% in 2008. It’s share price fell nearly 41%. Clearly that was a disastrous year for investing, but it’s a real-world reminder that mixing high-yield with utilities isn’t going to save you from market volatility. To be fair, the NAV rose nearly 55% in 2009 (the share price advanced 70%), so what went down hard came back with a vengeance. You just have to be prepared for that kind of price movement should the market get volatile again. And, overall, don’t expect the fund to be a low risk offering. It isn’t. The fund’s distribution, meanwhile, has been fairly steady year in and year out. The current yield is around 6.6%. That’s nothing to write home about but it is an achievable distribution that has allowed for the NAV to increase from $5.85 a share in August of 2010 to a recent figure of around $8.15. And all of its distributions of late have been funded with dividend income, interest, and capital gains. So, as far as it goes, it appears to have lived up to its income objective, though not so much the income growth goal. Expenses are a tad high, but that’s largely related to the fund’s use of leverage. In fact, according to the Closed-End Fund Association, the management fee is less than 1% of assets, which is pretty reasonable. However, total expenses come in at close to 2% and have been as high as 2.6% in recent years. The cost of leverage adds a lot to this relatively small fund’s expenses. You gotta know what you own At the end of the day, FT is an unusual combination of investments, similar in some ways to Cohen & Steers REIT and Preferred Income Fund (NYSE: RNP ) another closed-end fund I’ve reviewed that invests in both real estate investment trusts and preferred shares. If you are trying to build a portfolio based on an asset allocation model, FT and RNP probably aren’t the right fund for you. You’ll have to dig into their portfolios to make sure you don’t over- or under-weight key asset classes. You’d likely be better off just buying pure play funds to keep your life simple That said, if you are looking for a decent fund with a solid yield, RF isn’t a bad option. It’s done reasonably well over time, though not spectacularly, while paying a consistent distribution. That’s hard to argue with, as long as you understand that you’re buying an odd hybrid fund. Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. (More…) The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.