Well, February wasn’t a lot of fun. The S&P 500 dropped 8.4% on the month, and we saw the fastest 10% correction in the entire history of the U.S. stock market.
I’ll spare you another lengthy explanation on why the COVID-19 coronavirus either is no big deal or the beginning of the zombie apocalypse. The truth is somewhere in the middle, but that’s a longer conversation for another day.
Instead, I want to focus on the opportunities that crop up at times like these.
The correction may or may not be over. We certainly got a break from it when the Dow jumped by 1,293 points on Monday. But regardless, the chaos of a month like February was bound to create some opportunities, even if more pain is to come.
If you’ve read my work for any length of time, you know I’m a big fan of closed-end mutual funds (“CEFs”).
CEFs are different from their cousins: traditional mutual funds and ETFs. Unlike their cousins, CEFs have a fixed number of shares; there is generally no mechanism to create new shares or redeem old ones based on market demand. This can create some quirky pricing situations where the fund is worth more dead than alive — often much more.
As an example, let’s look at a CEF I recently closed out in my income letter Peak Income.
The Nuveen Preferred & Income Term Fund (JPI) manages a pretty “boring” portfolio consisting of traditional bonds, convertible bonds, and preferred stock. With market bond yields steadily falling over the past year, JPI saw a nice increase in both its stock price and in its net asset value (“NAV”). For those unversed in CEF lingo, the NAV is the value of the fund’s portfolio minus any debt.
It’s normal for a CEF to trade at a slight discount to net asset value. But as investors piled into anything paying a respectable yield last year, JPI’s discount completely disappeared. In fact, at various points along the way, it actually traded at a small premium.
Now, I don’t know about you, but I’m not a fan of paying $1.01 for a dollar’s worth of assets. I’m a big believer in buying things when they’re on sale. And that’s exactly what we got during last month’s rout.
Buying at a Discount
During the month of February, JPI’s net asset value — its portfolio of fixed income securities — dropped in value by about 4%.
But JPI’s stock price cratered by 11%. As a result, JPI started February trading at a 1% premium to NAV but finished it trading at a 6% discount.
Now, I like buying a dollar for 94 cents far more than I like buying one for $1.01.
With a dividend yield today pushing 7%, I consider JPI a reasonably good buy.
But after February’s drubbing, there are plenty of other CEFs with far more attractive discounts to NAV than JPI, many of which also pay higher dividends.
I can’t promise you that the market correction is over. But if you’re buying discounted funds at 7% yields, do you really care?
Charles Lewis Sizemore, CFA, is chief investment officer of the investment firm Sizemore Capital Management and the author of the Sizemore Insights blog.
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