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Are There Any ‘Safe’ CEF Bond Funds?

Investors looking for yield in the CEF bond space are often attracted to high-yield funds. But those aren’t the only options available. Here’s a trio of bond CEFs that don’t play the high-yield game—so much, anyway. The one thing that closed-end funds, or CEFs, do really well that open-end mutual funds don’t do so well is income. That’s true across multiple investment approaches, but particularly in the stock space, where high-yielding CEFs are very common. However, bond CEFs often have very high yields, too. In recent years the search for high-yields has drawn investors to the junk bond arena, an area that hasn’t fared so well lately. And, thus, the question I recently got from a reader: “Are there any high-quality bond CEFs around?” Treasuries The answer to that question is yes, there are. However, you’ll need to know what you are buying. For example, the Federated Enhanced Treasury Income Fund (NYSE: FTT ) invests essentially all of its assets in U.S. treasures. Those are ultra safe investments, giving it an average credit quality of AAA. Now that said, FTT’s yield is a less than inspiring 2.5% or so. But, with so much money in super-safe bonds, what would you expect? The only thing to keep in mind here is the word “enhanced” that sits in front of “treasury” in the fund’s name. This isn’t just a treasury fund, it’s a little bit more. Closed-end funds often make use of tactics that open-end funds don’t. FTT does three things . First, it owns treasury securities. Second, it tries to adjust its duration to take advantage of interest rate shifts. Third, it writes options to enhance income. None of these things is particularly odd or frightening, but they are notable because they can change the dynamics of the investment. For example, if the fund makes a bad call on interest rate movements performance would suffer. But a lot of funds do this very same thing. And options can limit upside potential, though I wouldn’t expect a treasury fund to rocket higher over a short period of time. So this is something to note, but I wouldn’t lose too much sleep over it. However, from a bigger picture, if you are looking at a CEF, you’ll want to know if they do things that similar open-end funds aren’t. Is now the time to look at FTT? Well… If you are concerned about high-risk investments, you might want to consider FTT. But you’d clearly be in good company, since the fund’s average discount has narrowed pretty steadily since last year. It’s currently trading at an around 3% discount versus its three year average of 9% or so. And it’s annualized net asset value, or NAV, performance over the past five years through August is a loss of around 1% a year. That’s not exactly inspiring. So, if you do look at FTT it’s more about a flight to safety than anything else. Investment grade bonds If you are looking for a bond CEF beyond high yield and want a little more than what FTT has to offer, the Invesco Bond Fund (NYSE: VBF ) is another high-quality bond fund that you might want to look at. Around 85% of the fund’s assets are invested in bonds rated BBB or better. Another 10% or so is in BB bonds, the highest quality of the high-yield debt spectrum. So is it a pure investment grade bond fund? No. But it’s a far cry from a junk bond fund. The fund can invest up to around 20% of assets in lower grade debt, if it wants to. But, in general, if you are looking to minimize your exposure to junk bonds, this fund will accomplish that. Like FTT, though, don’t expect a lot of distribution. VBF’s distribution yield is around 4.8% or so. That’s a lot better than the 2.5% offered by FTT, but a far cry from the 10%+ yields you can find in junk bond CEFs. Interestingly, VBF’s discount is currently nearing 9%. That’s slightly wider than its three-year average discount of just under 8%. So investors haven’t been showing this CEF much love of late. The fund actually has a lot more going for it on the performance side of things than FTT, too. For example, over the trailing five years through August the fund’s annualized NAV return was about 5.25%. It’s an older fund than FTT, so it also has a trailing annualized 10-year return of around 5.75% and a trailing 15-year return of 6.25%. All numbers assume reinvested distributions. The fund, for the most part, is pretty boring. It owns bonds. The management team mixes a top-down approach to the bond market with a bottom-up approach to individual bond selection. That’s pretty common stuff in the bond world. So, if you are looking for a long-term bond holding that isn’t junk and isn’t just a flight to safety play, VBF is worth a closer look. Just to prove the case Just to prove there’s more than one option in the investment grade CEF space, here’s another: the Morgan Stanley Income Securities Inc. (NYSE: ICB ). Like VBF it can invest in high yield, but generally doesn’t do so to a material degree. As of March, around 12% of the portfolio was in bonds rated BB or below, a weighting management described as opportunistic. ICB’s distribution yield was recently in the 3% range. It’s discount was about 10%, in-line with its trailing three-year average. Trailing NAV performance, meanwhile, was fairly close to that of VBF, with an annualized return of 5.1% over the trailing five years, 5.7% over the trailing 10 years, and 6.3% over the trailing 15-year period through August. The two funds have fairly similar risk profiles, as well. Yes, there are options… All in, I’d give the edge to Invesco Bond Fund here, but that doesn’t mean you shouldn’t take the time to compare all three funds I’ve noted. And, frankly, there are other CEFs that invest in investment grade debt, too, so I wouldn’t stop my search with this trio. The idea here was to whet your appetite, not sate it. But FTT, VBF, and ICB are all solid, come from well-known families, and would suit the needs of an investor looking for an alternative to a high-yield CEF. 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 (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Liberty All-Star Equity Fund: Making It Harder To Grow?

USA started the year off on a weak note. The second quarter showed notable improvement. But the big news this year is a distribution change. Liberty All-Star Equity Fund (NYSE: USA ) is a unique closed-end fund, or CEF, in that it brings together five different managers in one fund. The goal is to create a so-called core fund that can provide investors with broad market exposure. That’s a great story, but there are other things to consider here… like the recent change to the dividend policy. A different approach Most CEFs take a single approach to investing in equities. And most CEFs have a single team running the show. USA deviates from this , employing five different asset managers to handle the investing with three using a value approach and two focused on growth. It’s kind of like a fund of funds approach, with each asset manager getting roughly equal portions of USA’s portfolio to run. USA’s management, meanwhile, is watching over the individual asset managers to make sure they are doing a good job for shareholders. For an investor looking for a way to get broad equity exposure without having to do much work there are some structural things to like in this fund. An up and down year That said, this hasn’t been the best year for USA so far. For example, the fund’s NAV return was slightly negative in the first quarter and up only about 1% in the second . Through the first six months, then, the fund was up around 0.75%. To be fair, the S&P 500 was up only about 1.25% over the same span. While on a percentage basis USA lagged greatly, on an absolute basis it didn’t. It’s worth noting that, over the long-term, this isn’t out of line. USA has historically lagged behind the S&P based on NAV total return, which includes distributions. For example, over the trailing 15-year period through June the CEF’s annualized NAV return was roughly 3.6% while the S&P returned nearly 4.4%. So why buy a fund that lags over time? In the case of USA, the answer is likely the distribution. The fund started the year with a 6% of NAV annual distribution target. For income investors that would easily beat the yield offered by the S&P in recent years. Add in the fund’s trailing 3-year discount is nearly 12% and the yield a USA investor gets is even higher than the 6% target. For reference, the 10-year average discount is around 11%, according to the Closed-End Fund Association . But wait, there’s more! That, however, was the distribution goal at start of the year. In March the fund kicked that up to 8%. The reason for the change was to ” better align ” the fund’s distribution policy with historical market returns. While that may, indeed, be true, distributing more assets makes it harder for a fund to grow its net asset value. In other words, USA may have just made life more difficult for itself. That said, over the last five years, destructive return of capital hasn’t been a big issue. But with the distribution bump, you’ll want to keep a closer eye on this going forward. If the market turns south, as it has lately, USA may have little choice but to dip into capital to meet its target. On the plus side, the target is actually 2% of assets per quarter, which will by design fluctuate up and down with the fund’s NAV. In the end, 8% may work just fine. I simply wouldn’t want to let this change go unwatched. Why do it? USA’s current discount to NAV is roughly 15%. It’s been hovering around this level all year after trading at a narrower discount most of last year. And an even narrower discount the year before that. With the discount widening, it’s possible that the distribution boost was an attempt to attract investors to the fund and, thus, narrow the discount back toward its historical levels. That’s a cynical view of things, but this is a tactic often used in the CEF world. The problem is that upping the distribution to gain investor attention can be a counter productive move if it ends up making the NAV shrink over time. That said, USA isn’t a bad fund, it’s just not a really good one. If you are looking for a core fund that spits out a decent income stream, though one that fluctuates over time, you should put USA on your watch list. And with a wider than normal discount, it’s not a bad time to take a look. But you’ll want to pay attention to what the distribution change does to the fund. The higher yield may come with strings attached. And for long-term holders, you’ll want to keep a closer eye on the fund over the next few years. A 25% boost in the distribution may feel nice right now, but it will feel awful if it starts to hamper the fund’s performance. 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 (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Vanguard Wellington Fund: Can One Fund Do It All?

VWELX is one of the oldest balanced funds around. It has a great track record of success and is dirt cheap to own. This could be the cornerstone on which you built a portfolio, or even your entire portfolio. Vanguard Wellington Fund (MUTF: VWELX ) dates back to 1929, that puts it among an elite group of funds in the pooled investment world. And, unlike many of Vanguard’s funds, it isn’t an index fund. If you are looking for a single fund to be your portfolio or to be your portfolio’s backstop, this fund should be on your short list. What’s it do? Vanguard Wellington Fund is a balanced fund, placing roughly two-thirds of its assets in stocks and the rest in bonds. Its primary goal is long-term capital appreciation with a moderate amount of income. When selecting securities Wellington Management uses a value approach. In practice that means buying “established large companies” in which earnings, or earnings potential, is not fully reflected in share prices. On the bond side, Wellington Management, “…selects investment-grade bonds that it believes will generate a moderate level of current income.” That’s not very exciting, but the true value of the bond assets is diversification. So boring is good here. How’s that working out? So far, Vanguard Wellington’s done a great job for investors. Over the trailing 15-year period through June, the fund has an annualized total return of roughly 8%, including reinvested distributions. That may not sound all that exciting, but that’s pretty much the point of a balanced fund. Solid, but boring. That 8%, by the way, puts the fund in the top 4% of all similar funds tracked by Morningstar. But the risk/reward trade off deserves more examination than this. For example, over that trailing 15-year period Vanguard Wellington’s standard deviation, a measure of volatility, was roughly 9.5. Compare that to the S&P 500 500 Index’s 15 and you start to see the benefit. Oh, and the S&P returned roughly 4.5% a year annualized over that 15 year span… Now that makes Vanguard Wellington start to look pretty good. And, perhaps the best part, the fund is dirt cheap to own with an expense ratio of just 0.26%. That’s active management for a price that’s not much higher than an index fund. Not a bad deal at all. So what? That brings us back to what you might want to do with this fund. For starters, it’s a fund that’s appropriate for just about any investor to own, aggressive or not. For those who don’t want to bother with the work of investing it could easily be the only fund you every need to buy. A true one and you’re done offering. However, there’s a small problem here if you are looking for income. Vanguard Wellington’s trailing yield is just 2.4%. Unless you have a lot of money, that’s not going to be enough to live on. That leaves two options. First is to set up an automatic withdrawal program so that you get regular checks from the fund. In good times Vanguard Wellington’s gains will more than make up for a modest withdrawal program (say the old rule of thumb 4%). However, in bad years, you’ll be drawing down capital. Despite the fact that past performance is no guarantee of future returns, historically speaking the fund would have more than made up for its lean years. The other option, and perhaps the better choice for more active investors, is to use Vanguard Wellington as your core holding. That means you don’t have to worry too much about the base of your portfolio, allowing you to spend more time finding other investments that can provide you with more income. A core and explore type portfolio structure. And one that would allow you to take on more risk with the explore portion because of the relatively low risk of the core. For example you might pair higher distribution closed-end funds with Vanguard Wellington. In the end, Vanguard Wellington is a great fund. It isn’t right for everyone, but it could have a place in almost any portfolio. That includes being the only holding all the way to being a cornerstone of a more diverse portfolio. If you are trying to simplify, take a moment to look at Vanguard Wellington Fund. 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 (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.