We contrarians love closed-end funds (CEFs) as our fixed-income vehicle of choice; CEFs often pay big dividends. Today, they are largely washed out and waiting for us in the bargain bin, suggests Brett Owens, chief investment strategist at Contrarian Outlook.
When markets drop, as they have all this year, CEFs fall with a thud. Investors who own them panic and sell at any price — even as low as 72 cents on the dollar!
Professional investors, meanwhile, can't scoop up these bargains as fast as we can. Institutions with millions and millions of dollars to deploy will typically put cash to work in the big, liquid S&P 500 or a long-dated Treasury bond fund like iShares 20+ Year Treasury Bond ETF (TLT).
If rates calm down, investors in TLT should do alright with this popular fund. But we can do better because we are smaller and nimbler. We can buy the cheapest funds on the planet for dimes on the dollar. Let's take the Highland Income Fund (HFRO), which yields 8.8% and trades at a 28% discount to its net asset value (NAV). This is an unbelievable discount.
Why the bargain bin? Is HFRO poorly run? Anything but. Manager Jim Dondero is a savvy income investor with a contrarian mindset. Jim simply runs a smaller fund that can't absorb big bucks. Which puts HFRO's at the whims of individual investors who, after a 10-month bear market, are skittish to say the least.
I love what Jim is doing at HFRO. Years ago, he realized that meaningful income in public investments was tough to come by So, he pivoted his approach to focus on private firms. For example, Creek Pine Holdings offered a 10.25% return on its preferred notes. Jim snatched it (and recently negotiated the yield 200 basis points higher).
Basic investors don't know HFRO. It's arguably the cheapest CEF on the planet. Its unheard-of 28% discount to NAV means shares sell for a giveaway 72 cents on the dollar.
Granted, CEFs like HFRO typically do not venture into private investments. But its private company investment edge is paying big dividends. Since January 2020, HFRO's NAV gained by 6%. Meanwhile, the fund has dished its generous dividend every single month. (Dividends are cashed out from NAV, so this payout is well funded.)
In my view, the fund is dirt cheap — trading for just 72 cents on the dollar! Will the fund ever get respect? Who knows? And, for our selfish dividend motivations, who cares? We'll keep collecting the 8.8% — every month — while this fund's price grinds higher.