As a recent retiree, I have decided I need to put a portion of my assets into bonds. I notice that several closed end bond funds are selling at discounts to NAV that approach or even exceed 20%. This looks like an opportunity to obtain 120% of market rate returns at the risk that the discount will go even higher. Since I expect to hold for a long time, this looks like a good risk/return situation to me. The question is, "What am I missing here?". Looks too good to be true. Why aren't banks and insurance companies doing this?
Right, if there is a discount to net asset value, you get an interest above what you would get otherwise. Sometimes it can be substantial. In Barrons you might note some term trusts. Look on the pages dealing with closed end funds. I note Blackrock 2009 (BCT) selling at about 16% below net asset value. On or about the end of November 2009, this entity will have sold all assets and will make a final distribution of interest and principal to all shareholders and cease to exist. The goal is to distribute $15 per share, and in the meantime to pay a monthly dividend as high as practical consistent with the ending net asset value of $15. As 2009 approaches, you can be sure that that 16% below net asset value will gradually go away. Look at other similar ones, dates listed in Barrons. The ones that end in the next couple years have a low discount. Lower than they did 5 years ago, all of them. So in addition to the monthly dividends, you can figure a gradual appreciation of the stock price to meet net asset value. Where's the catch? These things, like all bond funds, pay dividends. That differs from bond interest in that the fund is not REQUIRED to continue to pay the same dividend, and historically, as their remaining life decreases, they lower the dividend progressively. If interest rates increase, the net asset value goes down. There would be another way to get rid of that discount, more applicable to funds without a preset closing date, and that would be to convert the closed end fund to an open end fund, thus getting rid of the discount (open ended bond funds sell at net asset value) and giving a bonanza to shareholders. I have often been tempted to get together with friends to take over a closed end fund that sells at a significant discount (Tricontinental, TY?), vote out the board of directors, elect a new panel and convert to open end. Immediate 20% or so gain! Any takers? Best, Chris
Closed end bond funds that have a given pay out date sound like a unique situation. Discounts from NAV for many closed end funds is a fact of life. Unfortunately this is a perpetual situation. So there is no guarantee the discount will ever go away.While its great strategy to buy discounted shares and force management to liquidate, I think this takes significant capital to accomplish successfully. I am aware of one closed end stock fund, Baker Fentress, which Warren Buffet was able to force into liquidation due to low asset value. (In essence, when closed end funds sell at a discount, that is a vote of no confidence in the skills of management and their ability to generate future value.) But few individuals have the clout to force liquidation. Some pension funds do. There may be some legal requirements for SEC filings if you make the attempt. Presumably you get a list of shareholders, read the companys by-laws on what is required to get issues on the agenda of the shareholders meetings and vote on them. Then you figure out how to get support of other shareholders for your liquidation proposal. I think you are suggesting a proxy fight. Its an interesting idea. Perhaps individuals have more power than most suspect.Good luck with the idea. I would be willing to co-operate if someone can come up with details of how to do this.
It was about 1990 or so that Hyperion, Blackrock, MS/DW started the term trusts, with specific ending dates. Several have ended. Meanwhile interest rates fluctuated, and on the whole, the shareholders have been burned. The net asset value dropped, the discounts developed (when a closed end fund is first issued, the issuer commonly promises to maintain market to keep the share price from developing a discount, but that agreement only lasts a few months), and dividends progressively decreased as the time until liquidation decreased. I got Hyperion 2005 (HTO) and Blackrock 2009 (BCT) about 1995, and haven't done too badly, though clearly a well chosen equity would have done much better. I also had shares in a Hyperion fund that liquidated, on schedule, but not at the $10 net asset value planned in the prospectus. I think it was $9.66 or something like that. Not great but it beat money markets. Yes, to take control of a closed end fund and forceconversion to open end would involve a proxy fight, and likely SEC registrations. I've toyed with the idea but would need more resources than mine! I have read that Equus II would be a good target for such a fight--miserable performance and a big discount to NAV. One would wish a fund without a huge brokerage company behind it, and of course with a big enough discount to be worth the trouble. As a practical matter, I'm not going to lead such a fight in the next couple of years, but after retiring, who knows? And if someone else were leading, I'd buy some shares and vote the proxy with the insurgents. Best wishes, Chris
In the 70s, there was a guy who bought a few shares of major companies and then went to shareholders meetings and asked executives embarrasing questions from the floor. (I think his name was Gilbert, maybe Leo Gilbert.) If resources are limited, this could be one technique to garner some attention and possible plant the idea with board members that better performance is expected and if not liquidation should be considered.Actually, a closed end fund with shares trading consistently at a discount is a charity. Management is enjoying its big paychecks and perks, but not doing its job. Lots of resistance out there to change, but change they must. Dumping the shares for something better is usually the best course, but others could pay handsomely--if successful.
Paul, are you ready willing and able to front the quarter mil retainer to the securities lawyers for this proxy fight?
Tony asks: "Paul, are you ready willing and able to front the quarter mil retainer to the securities lawyers for this proxy fight? "No, not me. But maybe we can find a Foolish attorney or two willing to do this leg work for a portion of the profits. Any volunteers?
If someone takes the lead here, let me know, I'll buy in.
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