YYY Vs. PCEF: Battle Of Closed-End Funds

February 26, 2014

PCEF, for example, is a “fund of funds” that tracks an index consisting of investment-grade and high-yield closed-end funds. The fund also includes an equity option-writing strategy, in a portfolio that assigns heavier weightings to larger CEFs that trade at a discount. In fact, the average discount by which the market price of a CEF in the fund is less than its NAV is currently 7.42 percent.

The $504.7 million ETF has a current 30-day SEC yield of 7.54 percent and a distribution yield of 8.41 percent, according to data on the issuer’s website. To put that yield into perspective, a 10-Year Treasury is delivering 2.70 percent.

But PCEF owns 149 closed-end funds, or three times as many CEFs as YYY owns. What’s more, the ETF is heavily allocated to fixed income—about 60 percent of the portfolio is linked to that asset class. That profile compares with YYY’s heavier focus on equities, and broader diversification overall, making YYY more of a strategic play than a beta fund.

There’s no question that YYY’s profile—58 percent allocated to equities CEFs and 4 percent linked to multi-asset CEFs—would make the overall portfolio less sensitive to changes in interest rates than PCEF. As interest rates rise, bond prices drop.

“The concept hinges on the success of buying discounted closed-end funds with big yields and enough liquidity to minimize trading costs within the basket,” ETF.com ETF Analytics says of YYY. “In order to optimize yield, YYY can hold closed-end funds focused on all of the major asset classes, capping the weight of the 30 funds at a maximum of 4.5 percent at rebalance.”

YYY owns only 30 CEFs, with an average discount of 5.94 percent. The fund is delivering a 30-day SEC yield of 8.4 percent.

“CEFs have had a rollercoaster ride the last 12 months,” Wela’s Mitch Reiner told ETF.com, pointing to opportunities in the space. “They exhibited significant value recently with premium/discounts and the ‘z-scores’ associated with them, uncharacteristically cheap during this period of time where borrowing costs were so low.”

Opportunities aside, Reiner also cautioned against buying into CEFs—and CEF ETFs—based on a single metric such as discounts, because pockets of the market can change, and cheap funds could get cheaper before they go higher.

Discounts relative to NAV are already above the historical norm—which is 4.5 percent, based on a 14-year average—and could widen further if interest rates rise, potentially leading to NAV losses. It could also be that increasing demand for CEFs would compress the spread.

So far in 2014, PCEF has attracted a net of $8.5 million in net inflows, while YYY has gathered a net of $5.7 million year-to-date.


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