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Closed-End Fund Investors: 54% More Earned Income, 400% Larger Portfolios & Attain a Higher Level of Education Compared to Mutual Fund Investors

June 18, 2012

By: John Cole Scott, CFS
Portfolio Manager, Executive VP
Closed-End Fund Advisors, Inc.

Closed-end funds (CEFs) are the oldest investment company structure, listed on the NYSE since 1893. They are an underappreciated investment vehicle to most Financial Advisors. This is due to the smaller number of funds available: 624 vs. 8684 open-end funds and there is a limited amount of marketing and research available for the funds after the IPO. We have listed a few places to increase your knowledge and research for CEFs at the end of this article.

Closed-end funds can best be described as:

  1. Having Active Management of the assets by a team of managers and analysts in most cases.
  2. A Permanent Capital structure; avoiding the redemption pressures often associated with the open-end fund structure.
  3. Having Investor Liquidity: shares trade on the NYSE or NASDAQ and allow investors to have full liquidity to buy or sell their shares in the investment.


According to the 2012 investment company institute factbook, investors in closed-end funds earn 54% more money, have 400% larger portfolios, attain a higher level of college education compared to the US average household and the average open-end fund (mutual) household.

Closed-End Fund Households

Mutual Fund Households

Average US Household

Age: Head of Household

52

50

50

Average Income

$123K

$80K

$49K

Investable Assets

$600K

$120K

$75K

Number of Households

2.3M  (1.94%)

52.3M (44%)

118.86M

4-Year Degree

55%

47%

31%

Retired

36%

26%

30%


Source: ICI 2012 Factbook


Where should you consider using CEFs for your clients? They can often be the best structure to handle equity income, fixed-income and global equity; especially in the non-developed markets – for the purpose of this article, we will focus in the income oriented CEFs.

Why are CEFs attractive for income oriented investors?

  • Income oriented funds often employ leverage, enhancing yield. The average CEF has a 6.7% current distribution yield.
  • Funds can often trade at a discount to net asset value (NAV) which makes the market price’s yield higher than the NAV’s yield. It also allows you to leverage your investment by controlling a dollars’ worth of assets for 90 cents (based on a 10% discount to NAV)


Income Oriented CEF Categories (CEFU as of June 8, 2012):

Equity Income Funds:

  • Global Equity Dividend Funds —  (6 Funds / Ave Yield: 12.7%)
  • Covered Call / Option Writing Funds  —  (31 Funds / Ave Yield: 10.2%)
  • Preferred Equity Funds  —  (17 Funds / Ave Yield: 7.5%)
  • Real Estate Investment Trust Funds (REITs)  —  (12 Funds / Ave Yield: 10.1%)
  • Master Limited Partnership Funds (MLPs)  —  (15 Funds / Ave Yield: 7.0%)
  • Utility Funds  —  (10 Funds / Ave Yield: 7.5%)


Fixed-Income Funds:

  • High Yield Bond Funds  —  (41 Funds / Ave Yield: 8.3%)
  • Senior Loan Funds  —  (24 Funds / Ave Yield: 7.8%)
  • Emerging Market Debt Funds  —  (10 Funds / Ave Yield: 7.2%)
  • Convertible Bond Funds  —  (8 Funds / Ave Yield: 8.4%)
  • National Municipal Bond (Tax-Free) Funds   —  (104 Funds / Ave Yield: 5.9%)
  • Global Income Funds  —  (20 Funds / Ave Yield: 7.5%)
  • Limited Duration —  (5 Funds / Ave Yield: 7.5%)


Are There Risks?

Absolutely. Any investment has risk, however, the closed-end fund specific risks that you will need to learn to navigate include:

  1. Dividend Risk – When a CEF with a monthly or quarterly dividend policy makes a significant change to their distribution amount it can have disastrous results for the market price of the fund. Some closed-end fund over pay their realistic earning and gains and erode investors capital (principal) with unsustainable yield levels and policies.


  1. Premium or Deeper Discount Risk – A closed-end fund trades at the market price investors are willing to pay per share. This is often below NAV for equity funds and near or above NAV for bond funds (depending on investor sentiment and the market cycle). A large premium can be erased overnight and a small discount can always go deeper.


Below is the current average discount/premium levels for the six major closed-end fund groupings.

Source: “CEFA’s Closed-End Fund Universe Report”


Conclusion: If you want to attract educated, affluent clients and help them increase their risk-adjusted income potential in retirement you would be doing yourself and your clients a favor by learning more about this little-known investment structure. CEFs will take a little more work than most ETF and Mutual Fund portfolio strategies, however, we feel the benefits far exceed the extra research and review required for success.

Free Closed-End Fund Resources:

  1. CEF Connect – Nuveen Sponsored Website: www.CEFconnect.com
  2. CEF Association: Non-profit trade organization for the industry – www.cefa.com
  3. Morningstar CEF’s Resources (including the CEF discussion forum): http://www.morningstar.com/Cover/CEF-Closed-End-Funds.aspx
  4. Our firm, Closed-End Fund Advisors, holds regular CEF educational sessions on our website: www.CEFadvisors.com, publishes free information on our blog: www.CEF-Blog.com, has an online investment newsletter covering CEFs: www.Scottletter.com and manages the 780+ member CEF Network group on LinkedIN: www.CEF-Network.com.

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