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Income Investing

Closed-End Bond Funds: Value among the Ruins

By Roger S. Conrad, on Oct. 8, 2014

These 28 closed-end bond funds also delivered an average total return of almost 9.6 percent over the past 12 months, reflecting the wide variations in performance.

However, a number of the funds in our survey have adroitly adjusted their portfolios amid challenging market conditions and used leverage effectively to boost yields.

Closed-end funds trade on major stock exchanges—usually at a premium or a discount to the net asset value of their underlying portfolios. The 28 bond funds in our list, for example, trade at an average discount to net asset value of 6.8 percent—a bit higher than their 52-week average of a 5.5 percent haircut.

Beyond Yield: Causes for Concern

Although many income-seeking investors gravitate toward the highest-yield names, the other columns in our table are equally important to allocating your capital in an informed manner and generating the best total return.

Consider the column listing the worst annual performance posted by all funds that have traded for at least five years; these massive losses, magnified by leverage, should definitely give investors pause.

But this security class has its merits. Although Nexpoint Credit Strategies (NYSE: NHF) lost 57.8 percent of its value in 2008, the fund has also delivered a total return of almost 50 percent over the past 12 months—top of the pops. And over the past five years, this fund has gained more than 150 percent.

However, investors seeking a stable income stream that will hold up in bull and bear markets should steer clear of Nexpoint Credit Strategies and any other closed-end bond fund that lost more than one-quarter of its value in a single year.

Yield moths should also consider the rate at which these funds have grown their dividends over the past 12 months. A dozen of these names have slashed their payouts at least once within the past year. These cuts, coupled with minimal dividend growth, mean that the 28 funds in our table have lowered their payouts by an average of 4.6 percent.

And many of the bond funds that haven’t reduced their dividends face the same headwinds. These risks are compounded by heavy borrowing against the value of the underlying assets to boost the yield.

Crucified by the Inflection Point: Low Yields and Rising Interest Rates

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