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Posted by on Jun 8, 2016 in ETF Strategist, Market Insight

Closed End Fund Palooza

Closed End Fund Palooza

By Roger Nusbaum, AdvisorShares ETF Strategist

Barron’s had a closed end fund palooza over the weekend with two articles devoted to the space.

The Up & Down Wall Street column quoted one manager extensively on how he was using closed end funds (CEFs) for institutional clients to help generate yields sufficient to meet pensioner and similar liabilities. The column did not specify how much he was allocating to CEFs but it gave the impression it was quite a bit.

Yes, CEFs often have very high yields which creates an appeal but hopefully it is clear that an 8% yield in a 1% or less world equates to risk taking, a lot of risk taking. A portfolio that blends different income segments with different risk and volatility profiles is a reasonable way to go but loading up on the highest yielding stuff is going to lead to pain and anguish at some point.

CEFs have a history of getting pasted when yields rise. Look at the chart for some symbols from the taper tantrum from May 2013 and then look at a chart for funds that were around in June/July 2003; pasted.

A small allocation in the face of a spike in rates (even if it is a short lived spike) simply becomes a drag on the portfolio, not a potential back to the drawing board situation, remember funds have no par value to return to, so a 25% hit is not guaranteed to come back.

The last time I wrote about CEFs I noted a tendency to actually not recover from large declines. I got some pushback on this as people, rightly, pointed out that factoring the yield back in they aren’t really down that much if at all. I don’t doubt the math but if an investor puts $20,000 into the CEF of their choice to collect an 8% payout they might reasonably be spending that 8% not reinvesting it or otherwise keeping it in the account. That $20,000 might be $16,000 after a large decline and the payout may or may not be the same. Again, it not that the risk shouldn’t be taken but moderation is key to success in this space.

The other article looked at whether the new fiduciary standard for retirement accounts would mean the end of CEF IPO’s with the thinking being that the massive sales charge embedded in the $25 IPO price fails that fiduciary standard. Hey fellas, maybe you could charge a little less than 5% when you price these things?

On Sunday the Swiss voted no on a living wage referendum which would have paid every adult a monthly stipend which was believed to be 2500 Swiss francs. The no’s garnered 78% so it wasn’t close. Supporters were able to get 100,000 signatures which was the catalyst for the vote. Part of the pro argument in Switzerland was providing an economic value for the work done at home like caring for a sick relative or raising young children.

Part of the argument in the US for this is that a living wage for everyone that replaced every other form of social welfare payment program would actually cost less than what is being spent now.

It is difficult to believe that could be correct but either way the concept seems to validate the idea of throwing in the towel on the American worker adapting to evolutionary changes in the economy, part of the argument being the more and more jobs are being automated out of existence, which is pretty disappointing.

The AlphaBaskets blog provides frequent market insight and commentary by AdvisorShares Investments, LLC, created by AdvisorShares and other leading active managers.  AdvisorShares Investments is an SEC-registered investment adviser and the investment adviser to the AdvisorShares actively managed ETFs. The views expressed on AlphaBaskets should not be taken as investment advice or a recommendation for any of the actively managed ETFs advised by AdvisorShares.