Tag Archives: performance

Closed-End Bond Funds Near Their Deepest Discounts Since 2008

While most of the world’s attention has been on the China market meltdown and the Greek debt showdown, closed-end bond funds have quietly been priced to deliver solid total returns over the next 12-18 months. To take advantage of this pricing, I have carved out an 8%-10% allocation to closed-end bond funds in my Dividend Growth Portfolio . With the Fed’s looming rate hike casting a shadow over the bond market, many high-quality closed-end bond funds are trading at their deepest discounts to NAV since the 2013 “taper tantrum,” and some are approaching levels last seen during the 2008 meltdown. Starting at these levels, I expect a portfolio of closed-end bond funds to deliver total returns (income + capital gains) of 15%-20% over the next 12-18 months. With any closed-end mutual fund, you have only three potential drivers of returns: Current income: Closed-end bond funds generally pay monthly distributions earned from bond interest and stock dividends. Capital appreciation of portfolio: As with any mutual fund or ETF, the underlying portfolio value will rise or fall with market conditions. Change in discount/premium to NAV: Unlike mutual funds or ETFs, the market price of a closed-end fund will trade at a discount or premium to its underlying net asset value (“NAV”). In today’s market, I expect all three of these drivers to work to our benefit. I’ll start with current income. At current prices, many closed-end funds are delivering current yields well in excess of 7% without dipping too heavily into lower-quality junk. These outsized yields are made possible by the discounts to NAV and by the modest amount of leverage the funds use. Capital appreciation of the portfolio is going to depend on the bond market cooperating. Right now, investors are dumping bonds out of fear of the pending “liftoff” of the Fed funds rate. But with inflation still very low and with lower bond yields overseas acting as an anchor, I don’t expect bond yields to rise much from current levels. In fact, I think it’s very likely that bond yields drift modestly lower from here, which would be a boon to closed-end fund pricing. And finally, we get to the discount/premium to NAV. It’s normal for these funds to trade at modest discounts to their NAV. It’s when that discount gets wider (or smaller) than usual that you need to stand up and take note. And today, the discounts are near their widest points in years. (click to enlarge) To better explain what I’m talking about, let’s look at an example. I’ve been buying shares of the Eaton Vance Limited Duration Income Fund (NYSEMKT: EVV ) in recent weeks. EVV owns a portfolio of bonds and bank loans and yields a very respectable 8.9%. Its portfolio has lost value this year as bond yields have crept higher, yet its market price has fallen much faster than its NAV. As a result, EVV is now trading at its deepest discount to NAV in five years: 12.7%. As recently as two years ago, EVV was trading at a 4% premium to NAV. What kind of returns should we expect here? Let’s do a little back-of-the-envelope math. We have the current yield of 8.9%. Assuming no improvement in NAV but that the fund’s discount improves from the current 12.7% to a more reasonable 7%, you’d tack on another 5%-6%. That gets us to just shy of 15% total returns. And if the underlying NAV rallies – and I expect it will – we can get to total returns of 20% pretty quickly. Are those amazing returns to write home about? No. But are they a lot better than what I expect the broader market to deliver over the next 12-18 months? Absolutely. Disclosure: Long EVV. This article first appeared on Sizemore Insights as Closed-End Bond Funds Near Their Deepest Discounts Since 2008 Disclaimer: This article is for informational purposes only and should not be considered specific investment advice or as a solicitation to buy or sell any securities. Sizemore Capital personnel and clients will often have an interest in the securities mentioned. There is risk in any investment in traded securities, and all Sizemore Capital investment strategies have the possibility of loss. Past performance is no guarantee of future results.

Wide Moat ETF Gets An International Counterpart

Summary Popular economic moat ETF strategy goes international. Highlight the new market Vectors Morningstar International Moat ETF. A closer look at the economic moat strategy. The popular Market Vectors Wide Moat ETF (NYSEARCA: MOAT ) got an international equivalent today with the debut of the Market Vectors Morningstar International Moat ETF (NYSEARCA: MOTI ). MOTI tracks the Global ex-US Moat Focus Index (MGEUMFUN), “a rules-based, equal-weighted index intended to offer exposure to 50 attractively priced companies outside the U.S. with sustainable competitive advantages according to Morningstar’s equity research team,” according to Market Vectors . Like its U.S.-focused counterpart, MOTI uses Morningstar’s proprietary methodology to identify companies with long-term advantages, which allows companies to earn sustainable excess economic profits , as measured by the return on invested capital relative to the company’s cost of capital. The new ETF features exposure to 16 countries, including four emerging markets. However, MOTI’s geographic lineup is heavily tilted toward developed markets. India, China, Mexico and Chile – MOTI’s four emerging markets exposure – combine for just over a quarter of the new ETF’s weight. Conversely, Australia alone is 21.1% of MOTI’s weight. Home to 51 stocks, MOTI’s lineup is roughly two and a half times the size of MOAT’s. However, MOTI applies the same equal-weight methodology. MOAT’s 21 holdings have weights ranging from 4.64% to 6%, whereas MOTI’s holdings range in size from 1.15% to 2.32%. Four of MOTI’s top 10 holdings are Indian stocks, making the country the most represented among MOTI’s top 10 lineup. ” MOAT resonated with investors and with much of the world’s investable opportunities outside the United States, we’re launching MOTI as a means to capture moat-based opportunities abroad,” said Brandon Rakszawski, product manager at Van Eck Global, in a statement. “Morningstar is a leader in equity research and we look forward to offering investors the ability to access its analysts’ best ideas through an investible ETF.” At the sector level, MOTI is heavily allocated to financial services names with that sector commanding nearly 49% of the ETF’s weight. Materials at almost 12% is the only other sector to garner a double-digit allocation. Consumer discretionary and staples names combine for just over 15% of MOTI’s weight, according to Market Vectors data. Familiar individual names in MOTI’s lineup include State Bank of India, Unilever (NYSE: UN ), America Movil (NYSE: AMX ), Westpac Banking (NYSE: WBK ), Nestle ( OTCPK:NSRGY ), Potash Corp. (NYSE: POT ), HSBC (NYSE: HSBC ) and all of Canada’s major banks. MOAT’s methodology has clearly been embraced by investors. The ETF has swelled to nearly $881 million in assets under management in just over three years of trading. MOTI’s annual expense ratio is 0.56%. MOTI Sector Weights Chart Courtesy: Market Vectors 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.

5 Ways To Beat The Market: Part 4 Revisited

Summary •In a series of articles in December 2014, I highlighted five buy-and-hold strategies that have historically outperformed the S&P 500 (SPY). •Stock ownership by U.S. households is low and falling even as the barriers to entering the market have been greatly reduced. •Investors should understand simple and easy to implement strategies that have been shown to outperform the market over long time intervals. •The fourth of five strategies I will revisit in this series of articles is consistent dividend growth investing which has seen these stocks produce higher risk-adjusted returns over time. In a series of articles in December 2014, I demonstrated five buy-and-hold strategies – size, value, low volatility, dividend growth, and equal weighting, that have historically outperformed the S&P 500 (NYSEARCA: SPY ). I covered an update to the size factor published on Wednesday, posted an update to the value factor on Thursday, and published an update on the low volatility anomlay on Friday. In that series, I demonstrated that while technological barriers and costs to market access have been falling, the number of households that own stocks in non-retirement accounts has been falling as well. Less that 14% of U.S. households directly own stocks, which is less than half of the amount of households that own dogs or cats , and less than half of the proportion of households that own guns . The percentage of households that directly own stocks is even less than the percentage of households that have Netflix or Hulu . The strategies I discussed in this series are low cost ways of getting broadly diversified domestic equity exposure with factor tilts that have generated long-run structural alpha. I want to keep these investor topics in front of the Seeking Alpha readership, so I will re-visit these principles with a discussion of the first half 2015 returns of these strategies in a series of five articles over five business days. Reprisals of these articles will allow me to continually update the long-run returns of these strategies for the readership. Dividend Aristocrats While people can complicate investing in a myriad of ways, only two characteristics ultimately matter – risk and return. My personal and professional investing revolves around the simple maxim of trying to earn incremental returns for the same or less risk. The strategy highlighted below has accomplished this feat over long time horizons, and is easily replicable in financial markets. In addition to the bellwether S&P 500, Standard and Poor’s produces the S&P 500 Dividend Aristocrats Index . (Please see linked microsite for more information.) This index, which is replicated by the ProShares S&P 500 Dividend Aristocrats ETF (NYSEARCA: NOBL ), measures the performance of equal weighted holdings of S&P 500 constituents that have followed a policy of increasing dividends every year for at least 25 consecutive years. To put this into perspective, the average S&P 500 constituent now stays in the index for an average of only eighteen years , so the list of companies who have had the discipline and financial wherewithal to pay increasing dividends for an even longer period is necessarily short at 52 companies (10.4% of the index). Detailed below is a twenty-year return history for this index relative to the S&P 500. The Dividend Aristocrats have produced higher average annual returns, outperforming the S&P 500 by 2.4% per year. This approach has also produced returns with roughly three-quarters of the risk of the market, as measured by the standard deviation of annual returns as demonstrated in the cumulative return profile graph and annual return series detailed below: (click to enlarge) (click to enlarge) Source: Standard and Poor’s’ Bloomberg Notably, the Dividend Aristocrats outperformed the S&P 500 in every down year for the latter index (see shading above), gleaning part of its outperformance through lower drawdowns in weak market environments. Another notable factor of the dividend strategy is that when it underperformed the S&P 500 by the largest differential (1998, 1999, and 2007) the market was headed towards large overall losses. Maybe then it is a negative sign that the underperformance of the Dividend Aristocrats in the first half of 2015 was its largest since the 2007 top. The Dividend Aristocrats posted their first negative return for a half-year since 2010. Perhaps, this correlation between Dividend Aristocrat underperformance and market tops is spurious and not a leading indicator, but it makes sense that prior to the tech bubble burst in the early 2000s that the Dividend Aristocrats naturally featured less recent start-ups because of the long performance requirements for inclusion. It also makes sense that when markets were heading to new all-time highs in 2007, the market correction in 2008 would be less severe for the high quality constituents in the Dividend Aristocrats index, which have demonstrated the ability to manage through multiple business cycles. I have now dedicated several paragraphs to dividend growth investing in companies with a policy to offer consistent and growing dividends without addressing the elephant in the room. Do dividends matter?! Certainly academics have long contested that dividends should not matter to the value of the firm, and can even be inefficient given shareholder taxation. Absent taxes, investors should be indifferent between a share buyback and a dividend, which are different forms of the same transaction – returning cash to shareholders. Paying dividends when the firm has projects that can earn a return above their cost of capital would lower the value of the firm over time. Merton Miller, Nobel Prize winner and one of the fathers of capital structure theorem, tackled the debate in a 1982 paper entitled ” Do Dividends Really Matter .” My takeaway from his qualitative analysis is that paying consistently rising dividends is a discipline that ensures that the company is appropriately levered and making well planned investment decisions. In Friday’s update article on exploiting the Low Volatility Anomaly , I demonstrated that lower risk stocks have outperformed the broader market and higher risk stocks over the last twenty plus years in markets around the world. The business model of Dividend Aristocrats must be inherently stable and produce continual free cash flow through the business cycle or these companies would not be able to maintain their record of paying increasing dividends for over a quarter century. The return profile of the Dividend Aristocrats is much more correlated to the S&P Low Volatility Index ( SPLV , r= 0.92) than the S&P 500 (r = 0.84 ), which lends credence to the strategy’s low volatility nature and stability through differing market environments. I have chosen to detail the Dividend Aristocrats and Low Volatility stocks separately because I believe part of the strong performance of the Dividend Aristocrats is also attributable to the fifth factor tilt highlighted in my concluding article in this series update to be published tomorrow. Disclaimer: My articles may contain statements and projections that are forward-looking in nature, and therefore inherently subject to numerous risks, uncertainties and assumptions. While my articles focus on generating long-term risk-adjusted returns, investment decisions necessarily involve the risk of loss of principal. Individual investor circumstances vary significantly, and information gleaned from my articles should be applied to your own unique investment situation, objectives, risk tolerance, and investment horizon. Disclosure: I am/we are long NOBL, SPLV, SPY. (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.