Weekly CEF And Market Commentary: Sept. 28, 2020

(This report was released on Sept 27. All data herein is from that date or prior.)

Macro Picture

Large caps are now in correction territory, having fallen 10% from the recent peak of Sept. 2. The correction started with some high-flying tech stocks falling back. We have gone through the dynamics of what drove those stocks up – and back down in prior writings. The one bright spot was Nike (NYSE:NKE) which reported a sharp rebound in sales this summer.

Then we have the uptick in COVID-19 cases, especially in Europe. Here’s the First Trust COVID Tracker which has a ton of updated information on the virus. This increase in Europe – with the potential for more lockdowns and contracting economic activity – is weighing on markets.

Lastly, the death of Supreme Court Justice Ginsburg has thrown a monkey wrench into the stimulus talks. The prospects of a new deal were slim on Monday and Tuesday but perked up late in the week as details emerged of discussions between Nancy Pelosi and Treasury Secretary Steven Mnuchin. A new $2.4T deal emerged which is likely a starting point of new negotiations. The major indices rallied on the news on Friday.

Data by YCharts

From JPM:

Equities continue to experience their deepest correction since bottoming in March, but focusing only on stock market declines misses the equally-important erosion in cross-asset correlations that has emerged this month. Few of the safe assets are moving in the expected direction: USD is up 2% versus EM FX and 10Y German yields are down 10bp, but US 10Y & 30Y yields, USD/JPY and EUR/CHF are almost unchanged. Gold is off 6%. So a typical basket of defensives is functioning about as well as fire insurance that covers just one bedroom in the house. This risk-management problem is one we have been writing about for over a year, and will return to in this week’s View after an update on how negatively to judge what is going wrong in the global economy and US politics.

Several recent developments – stalled US fiscal negotiations, drop in European PMIs, rising virus count in Europe – have triggered downgrades to JPM’s growth forecasts that still leave the pace above trend. US real GDP is now expected to slow to 2.5% in Q4 (previously 3.5%) and 2% in Q1 (previously from 2.5%). This downgrade assumes no Phase Four deal, though the fiscal picture into 2021 is obviously election-dependent, with a Democratic sweep implying a larger fiscal impulse (see Feroli). The Q4 Euro area growth target is reduced from 7% of 3.5% (see Brun-Aguerre). These adjustments are more about Spain plus several small countries than about Germany, France and Italy.

• Catalysts next week: Fed speak (all week); Lagarde speaks (Sep 28^th); US cons. confidence & first US Presidential debate (Sep 29^th); Euro flash CPI, Japan IP & China PMIs (Sep 30^th); global manufacturing PMIs, US savings rate, Euro area unemployment & RBI (Oct 1^st); US payrolls (Oct 2^nd).

Commentary

I completed an article yesterday which speaks broadly to the “falling out of love” with CEFs over the last nine months. This typically coincides with the best times to get into CEFs. Why?

For the fourth straight week, fixed income CEFs traded weaker. In fact, we have now seen seven of the last eight days where prices moved lower on an average basis. Investors continue to sell off their CEFs-either because they do not like the volatility any longer or they foresee some volatility coming.

While NAVs are weaker, they have not moved to nearly the same effect as prices have – widening discounts out. Fixed income CEFs saw discounts widened by 1.3% on the week! Equity CEFs, already wide, widened further by almost 1%.

Overall, discounts are fairly wide today. We would still caution on buying here as tax loss harvesting season is approaching. Further discount widening is highly likely. Pick and choose your entry spots very carefully here. A confluence of events is coming together to create this sell off.

Some sectors this week fell hard on price. MLPs, Finance, Energy/resources, dividend equity, were all down 6% to 9%. Again, that’s on the week! The best performing sector were state specific muni bonds which fell 0.72%. Taxable munis fell 1.01% and tax-free national muni bonds fell 1.14%.

On NAVs, just two sectors were up (state munis and taxable munis). The same bunch that populated the worst performers on price were the worst performers on NAV. We now have no sectors which have a one-year z-score above zero and we have our first with a -2 or more, Latin American Equity. Equity tax-advantaged is second at -1.35 following by MLPs and Global Equities.

The worst Core fund performer on the week was Western Asset Mortgage Opp (DMO) which fell 6.7% on price but was up on NAV when accounting for the distribution that came out on the 22nd. The discount widened back out to -9.5%. This was an area we were buying it at a few weeks ago. The NAV has been quite resilient these last few weeks so if I were to buy anything outside of a term or target term structure, DMO would be at or near the top of the list.

Brandywine Global Income Opps (BWG) was the second largest valuation decliner (discount widener) on the week as the tender offer expired and investors sold residual shares- likely short until their restricted shares could be sold. That comes on Monday. The discount widened by 3.8% on the week.

PIMCO Income Opportunity (PKO) also sold off by 3.6% on the week and ended at a very small premium. These are fairly attractive levels for PKO (and PDI) but watch the NAV. It fell hard on Monday and trickled lower the rest of the week. I added small to it in the $22.45 range but will likely hold off on additional purchases.

Some of the preferred funds also fell back in valuation including Flah & Crumrine Total Return (FLC), Cohen & Steers Limited Duration Pref & Inc (LDP) and First Trust Inter Duration Pref & Income (FPF) which lost as much as 5.7% (in the case of FLC) on the week. Valuations (meaning discounts widening or premiums falling) were reduced by 2.9% to 3.3%.

The sheets now have many buy rated funds on them. The most compelling here are:

• Western Asset Mortgage Opp (DMO) at a 9%+ discount
• Blackrock Municipal Bond (NYSE:BBK) at a 7.6% discount
• Putnam Premier Income (PPT) at a 7.4% discount

Substitutes:

• Invesco High Income 2023 (IHIT) at a -5% discount
• PIMCO Income Opp (PKO) at a small premium
• PIMCO Strategic Income (RCS) at 3% premium or less

IF you are adding to these names, we would be very cautious and use low stink bids (limit orders well below the bid-ask spread) and see what happens. As I noted recently, I typically have more than five or 10 stink bids out there at any given time to take advantage of price volatility in certain names I want to add to.

We will continue to make notes on the chat and a few “@all” messages to members during the week alerting them of developments.

Brandywine Global Income Opps (BWG) Tender Results

The Brandywine Global Income Opp (BWG) tender was completed and, depending on when you bought, some investors are going to lose money on this deal. We wrote about BWG in early May but a formal write-up was made on May 27th in “Brandywine Global May Be Even More Compelling Than EHI”. At the time, the shares traded at $11.68 (though my initial purchases and those mentioned earlier in the month were sub-$11).

The total return was nearly 8% through yesterday, but again, this depends on when you bought it. For example, if you bought it the day after that report released (May 28), your total return is 0.34%. Not as good.

Data by YCharts

The shares never really got going and closed the discount like we saw with the other Western funds like HIX, EHI, and HIO. The preliminary results announced yesterday suggest a small aggregate total return for shareholders. I used a purchase price of $11.84 which was the day after the report. But if you’ve been following our Weekly Commentaries and chat discussions in the lead up to that report, you may have a purchase price that’s far lower – perhaps below $11 per share. In those cases, the total return outcome is much better.

For instance, if your purchase price is $11.00 per share, then the total return is approximately 12.5%. Obviously, you would have done much better if you simply bought Apple (NASDAQ:AAPL) or the S&P 500 but we are attempting to generate high single-digit returns with much less risk than holding those names.

What To Do: The better question here is what to do. For me, I’m losing 30% of one of my larger positions in my portfolio which already will boost my cash position. I will likely hold the rest of my shares depending on what going happens tomorrow. My guess is that the shares will open down 2%-3% and that would eliminate most of the aggregate gains many of the later investors generated in this tender.

My hope is that the other Western tenders turn out much better. From a purchase price and last price perspective, that’s already the case as the other funds saw much better discount tightening following the tender announcements.

CEF News

Distribution Increase:

N/A

Distribution Decrease:

N/A

Rights Offering:

RiverNorth Opp Fund (RIV): The fund announced that the board authorized and set terms of an offering.

• • In this offering, the Fund will issue transferable subscription rights to its stockholders of record as of Oct. 2, 2020, allowing the holder to subscribe for new shares of common stock of the Fund. Record Date Stockholders will receive one Right for each share of common stock held on the Record Date. For every three Rights held, a holder of Rights may buy one new share of common stock of the Fund. Record Date Stockholders who exercise their Rights will not be entitled to distributions payable during October 2020 on shares issued in connection with the Rights Offering. The Rights are expected to be listed and tradable on the New York Stock Exchange (“NYSE”) under the ticker: RIV RT.

• • Record Date Stockholders who fully exercise all Rights initially issued to them in the Primary Subscription will be entitled to buy those shares of common stock that are not purchased by other Record Date Stockholders.
  • • The subscription price per share of common stock will be determined based upon a formula equal to 95% of the reported net asset value or 95% of the market price per share of common stock, whichever is higher on the Expiration Date (as defined below). Market price per share of common stock will be determined based on the average of the last reported sales price of a share of common stock on the NYSE for the five trading days preceding (and not including) the Expiration Date. The subscription period will expire on November 3, 2020, unless extended by the Board.

Tender offer:

Brandywine Global Income Opp (BWG): The fund announced the final results of its issuer tender offer for up to 20% of the outstanding shares at 99.5% of NAV.

• • Based on current information, approximately 14,111,137 Shares were duly tendered and not withdrawn. Because the number of Shares tendered exceeds 4,197,959 Shares, the tender offer is oversubscribed. Therefore, in accordance with the terms and conditions specified in the tender offer, the Fund will purchase Shares from all tendering stockholders on a pro rata basis, disregarding fractions. Payment for such Shares will be made on or about September 28, 2020. The purchase price of properly tendered Shares is $13.53 per Share, equal to 99.5% of the per Share net asset value of $13.60 as of the close of the regular trading session of the New York Stock Exchange on September 23, 2020. Shares that were not tendered will remain outstanding.

Activist Trading:

Andrew Dakos, Philip Goldstein’s second in command, sold 16,493 shares of High Income Securities (PCF) valued at $141,110. That is a 23.6% decrease in ownership. He has 53,507 shares left or 0.96% of the fund’s total.

Statistics

Sector Performance:

Core Performance:

All CEF Performance:

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Disclosure: I am/we are long PKO, PPT, DMO, RCS. 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.