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November 08, 2018 at 03:42 PM
Some investment vehicles are complicated; some, unloved. Closed-end funds are complicated and, by the majority of financial advisors, unloved indeed.
But that doesn’t mean CEFs can’t make money for clients, especially sophisticated, tax-driven retirees and others who seek income.
Nearly two-thirds of investors report that their financial advisors have never mentioned CEFs to them, and less than 9% own a CEF, according to a summer 2018 survey of high net worth and mass-affluent investors conducted by Nuveen and Forbes Insights.
The actively managed income-producing funds, with a market total of about $225 billion in assets, certainly aren’t alone in trying to buck the trend to passive investments, particularly ETFs. But most advisors do little, if anything, to give them a boost: FAs aren’t motivated to recommend CEFs since typically commissions or loads cannot be earned except at the time the CEF originates in its initial public offering.
Another reason for FAs’ paucity of interest: CEFs are issued with a fixed number of shares; so, unlike open-end mutual funds, these funds lack growth potential.
Yet advisors who are dedicated to recommending investments in their clients’ best interest find that that mission is incentive enough to suggest CEFs, where appropriate.
“There isn’t much in it [CEFs] for the traditional advisor, but there’s a lot in it for their clients,” says Erik Herzfeld, president of Thomas J. Herzfeld Advisors, a Miami-based RIA that has specialized in closed-end funds for 34 years.
The CEF universe comprises about 550 funds. Municipal bonds are the largest segment.
“Now is the time for advisors to look at closed-end funds,” Herzfeld says. “They’re a great way for clients looking for tax-exempt yield. Municipal bond funds are very attractive now because of their price dynamics. The discount has widened and is much larger than usual. If you buy a closed-end fund now, you get a really nice tax-free yield of 5.25%.”
(Related: How Independent Advisors Invest Client Assets: Schwab Study)
Publicly traded on exchanges throughout the day, CEFs trade at a discount or a premium to their net asset value, and according to supply and demand, among other factors.
Those two main moving parts: NAV direction and market price movement make CEFs complicated investments. Profits result from selling when the gap between share price and NAV narrows.
The use of leverage by most CEF managers to heighten returns acts to increase volatility and risk.
During the last two months, CEFs were down because of market volatility and rising interest rates that made discounts widen. Flattening of the yield curve contributed to lower income.
