Closed-end Fund Income Investing

Discussion in 'Journals' started by El OchoCinco, Nov 11, 2005.

  1. There was a lot of interest generated from my SPX Credit Spread Trader thread on my use of Closed-end funds to generate monthly income, put my credit spread margin to work and hedge some of the returns of option trading with the monthly income and capital appreciation.

    Basically I use closed-end funds as buy and hold investments, not for flipping or trading. I look for CEFs that meet the following criteria:

    1. Should do well in the coming year based on fundamental economic factors in the market and the type of investments the fund makes (i.e., in a rising rate environment focus on shorter duration funds, buying REIT funds when real estate is doing well,, etc..) Basically I do a detailed analysis of the fund investments and see if they should do well based on all market factors.

    2. Look for funds which are diversified within their holdings and not heavily loaded in one sector or sectors unless that is the sector I am looking to be invested in.

    3. Look for a yield of 6% or better, same after-tax yield levels for muni funds. THIS ARE NOT RISK_FREE INVESTMENTS SO HIGHER YIELDS DOES BRING RISK. ALWAYS REMEMBER THAT RISK COMES WITH YIELDS!

    4. Look for funds trading at a discount or flat.

    5. Avoid heavy leverage where possible.

    6. In addition to diversification with each fund, strive for diversification with all funds together - not all REIT funds or corporate bond funds.

    7. STOP LOSS- With good diversification, share price drops can be diversified away in a good CEF portfolio and you will be left with the yield. However I still want the extra boost from share appreciation so I try and cut losers when I can. My short-cut formula is to cut any fund when its share price loss equals it dividend yield I had when I first got in. This is a no-brainer way to cut losses and an easy rule to follow. The monthly income will insure that unless the drop occurs immediately, you will never suffer the full stop limit loss. SO if a fund is down 7% in 4 months and that is the Stop limit loss level, the actual loss will be loss due to 4 months of dividends and you simply sell the fund and look for the next one. I may hold onto funds in limtied cases and it is a case by case determination

    8. AS long as a fund is paying a good yield and share price loss is not at the stop loss limit, you never sell and hold to keep that monthly income. Exception is if you forsee fundamentals changing for that funds sector and you wish to close out and take the profit in the share appreciation. My other rule is that if the gain is 20% or more in a year, you are free to take the money and run since the dividend yield was greatly outpaced by the share appreciation and the gain is more now then you could get in a few years so better to cut and reinvest the proceeds elsewhere to avoid losing those gains for the sake of a dividend. 20% is significant enought to take profits.

    I am attaching the DEC 2004 issue of the free newsletter I started but discontinued do to time constraints and family obligations. The reason I put this here is that the first half lists the 6 reasons why you should consider adding CEFs to your portfolio. I also list 4 CEF picks which I wll discuss in the next post in more detail. I AM NOT STARTING THE NEWSLETTER AGAIN AND NOT SOLICITING ANYTHING HERE EVER. PLEASE READ THIS SENTENCE TWICE BEFORE ACCUSING ME OF LOOKING TO PUSH A PRODUCT. THIS NEWSLETTER WAS FREE AT ALL TIMES AND I STOPPED IT DUE TO TIME CONSTRAINTS AND PERSONAL REASONS. I HAVE NO DESIRE TO DO IT AGAIN AND POSTED IT HERE JUST TO SAVE TIME IN HAVING TO REPOST THE 6 REASONS THAT ARE IN THERE. IT ALSO STARTS THE DISCUSSION ON SOME CEFS.

    Ok, feel free to add comments and discussion on CEFs. The purpose of this thread is to discuss income CEFs as a tool to add monthly income and stability to idle cash in your portoflio or for money used as margin for credit spreads, short puts or for any reason you like really. This thread is not about trading or flipping CEFs and it is more long-term since the goal is annual yield and income as an addition to your portfolio.

  2. Here is the DEC 2004 issue of that newsletter with the 6 reasons to consider Closed-end Funds. This newsletter no longer exists (as explained above) but it is a good summary of the 6 reasons.

    I will also discuss the 4 picks as a good intro to CEFS and show how they are diversified and performed over the year.

  3. Here were the 4 picks I made in DEC 2004 and I put them here to get our discussion going and show how diversification preserves your income yield.

    FUND Price Yield ShareReturn

    EFT $18.86 5.98% -7.2%
    NOX $14.88 8.57% -4.97%
    DDF $11.76 8.16% 1.36%
    EIM $13.83 9.69% 4.62%

    Assuming you did equal dollar amounts invested in each the net returns for the year from DEC 2004 until NOV 2005 would be:

    Avg yield: 8.1%

    Avg. share return: -6.19%

    However you would have dropped EFT as soon as its share return hit 5.98% more or less and that would have reduced the share loss estimate to -4.97% for the portfolio and still resulted in net positive income. I actually think EFT is a buy now because it is a floating rate loan fund trading at a heavy discount.

    Basically 4 is not real diversification, this was one months selection of funds. If you have about 10 - 20 funds, depending on your capital you can further diversify away the share price risks and have a net above aveage yield. With monthly dividends you can reinvest them and boost your yield. So do not just look at these 4.

    So we can discuss new funds from here on out.

    My first suggestion is EFT. Go to and type in EFT in the upper right and you will get a good detailed report on the fund for discussion.

    Here is the link:

    After you get a chance to look at it I will give you my analysis for the fund and why I think it might be a good purchase for long-term buy and hold for a portfolio.

  4. closed end funds can lose money. look at what happened to closed end bond funds the last couple of months. bkt acg aof are some examples
  5. All investments can lose money, I think that fact is quite obvious. I never said these were risk-free. The point is to put the time in selecting the right funds and diversifying your risk as much as possible. Long-term bond funds lost money but not shirt-duration funds. Look at the first post where I discuss choosing funds in line with current or expected market conditions. The point of this thread is to discuss different CEFs and look at them as income investments. But they certainly are not risk-free. Due diligence is required and I look at the detailed fund reports as well as the fund annual reports.

  6. REMINDER: this will be a journal for discussion and selection of CEF investments focused on income and capital preservation. I will not be making daily or weekly picks, I will only highlight funds I like but not looking to rush into a new position-not a trading journal. CEFs are long-term buys using the stop loss guide.

    The first fund I want to highlight is EFT. I will look in greater detail at the fund reports and give you my analysis but all others are welcome to contribute.
  7. Also to be clear because many people flame first and read later, I use CEFs for idle cash and money I use as margin for my credit spreads or other option trades. I can have anywhere from 20 - 70% of my money in CEFs adding dividend income and additional overall gains. You can certainly create a conservative portfolio of just CEFs and shoot for conservative income and appreciation. But my use is as described above. It is an alternative to treasuries or money market accounts or stocks or mutual funds. I like the monthly dividends becaause I can reinvest the money and increase my overall yield.

    Just want to make sure the intent is clear. If you have no interest in CEFs or never use them at all, then this thread is not for you and I do not want to impose on you so please do not impose on those of us who have an interest in CEFs. CEFs ar enot just bond funds, CEFs have more choices of investments than mutual funds or even stocks and can give you more diversity and choices in making investments. But it is not for everyone.
  8. i use cefs often but there is a downside. the way cef bondfunds make above market yield is through leverage. it bites them in the ass when rates are rising. cebf are not a good vehicle in a rising rate enviroment. you need to look at the historical discount to nav. try to figure how low they went last time there was a rising rate enviroment.
    it could be a good time to look at a few of the ones that have gone to a big discount to nav.
  9. I agree but we are not limited to just bond CEFs. CEFS invest in floating rate loans (great in rising rate environment), MBS, preferred stock, convertible securities, dividend stocks, TIPS, international bonds, private placements, REITS, etc. Like I said, selection of CEFs should be done in the context of the current market.

    Short duration bond funds, dividend stock funds, short-term munis, floating rate loan funds, TIPS funds and many other sectors will still have a good performance in a rising rate environment. Limiting leverage helps reduce the negative effects of rising rates.

    Therefore one cannot generalize that CEFs are not good vehicles in rising rate environments, it all depends on what the fund is investing in, its diversification, duration, types of securities and how much leverage it uses. That is why I advocate looking at summary reports and annual reports of the fund to look what the make-up is and all its characteristics. It is not enough to search for yield and discount alone.

    For example, the first fund I have chosen to analyze is a floating rate loan fund where the assets invested in have floating rate returns, which should do well in the long-run in a rising rate environment. However I still need to look under the hood to make sure it is poised to maintain its share price while stll paying a nice dividend. In the next day or so when I have time to pour over the reports I will put my analysis here.

    Thank you for the comments and I invite you to keep participating since it is clear you have invested in CEFs in the past.


  10. i will be watching with interest. as i said i do play cefs at times mostly based on historical discount to nav. right now i hold sizeable positions in
    bkt and evv.
    #10     Nov 11, 2005