Closed-End Fund Seasonality: Like Clockwork

by Michael Sedacca, Portfolio Manager

Seasonality is the tendency for securities to perform better during some periods and worse during others.  

In the last quarter of the year, closed-end funds (“CEF’s”) tend to have seasonally weak performance. Specifically, between November 1^st and December 15^th, CEF performance on average is negative relative to the underlying assets. While we cannot quantify the precise reason, we believe the most likely cause is tax-loss selling. 

Conversely, CEF‘s have strong positive seasonality in the first four months of the year. Specifically, between January 1^st and April 30^th, the S-Network CEF Index (CEFXTR) gained in 9 of the last 11 years. The average gain during the four months was 4.64%. Also, the month of April was positive for all 11 years. Note that the only two years of declines had catalysts. In 2018, the market was in the teeth of the Federal Reserve (“Fed”) hiking cycle, and in 2020, the pandemic.  

The seasonality is playing out again this year, especially for fixed income CEF’s, which make up two–thirds of all CEF’s. Drilling down further, price returns are most negative for fixed-income CEF sectors sensitive to a rise in short-term interest rates.  

The average discount-to-NAV for the universe of fixed income CEF’s that we track has widened from -5.91% at the end of September to -9.41% today, or -3.50%. As a yardstick, fixed income CEF discounts-to-NAV oscillate between a range of -5% and -10%. So, currently, at near -10%, the discount-to-NAV is at the very wide end of the historical range.  

We believe the current setup is an opportunity to potentially capture the positive CEF alpha that may be generated through the end of April. 

Disclaimer

This material is for informational purposes only and does not constitute an offer or a solicitation to buy, hold, or sell an interest in any investment or any other security, including any investment with Rareview Capital LLC (“RVC”) or any of its affiliates or any other related investment advisory services. This material is not designed to cover every aspect of the relevant markets and is not intended to be used as a general guide to investing or as a source of any specific investment recommendation. This material does not constitute legal, tax, or investment advice, nor is it a substitute for such professional advice or services, nor should it be used as a basis for any decision or action that may affect your business. Before making any decision or taking any action that may affect your business, you should consult a qualified professional adviser. All opinions and views constitute our judgments as of the date of writing and are subject to change at any time without notice. In preparing this material, RVC has relied upon data supplied by third parties. RVC does not undertake any obligation to update the information contained herein in light of later circumstances or events. RVC does not represent the information herein is accurate, true or complete, makes no warranty, express or implied, regarding the information herein, and shall not be liable for any losses, damages, costs or expenses relating to its adequacy, accuracy, truth, completeness or use. This material is subject to a more complete description and does not contain all of the information necessary to make any investment decision, including, but not limited to, the risks, fees and investment strategies of an investment. All investments carry a certain degree of risk, including the possible loss of principal. There is no assurance that an investment will provide positive performance over any period of time. There are specific risks that apply to investment strategies. Closed-end funds frequently trade at a discount to their net asset value. These risks should be reviewed carefully before taking any investment action. Since no one investment style or manager is suitable for all types of investors, this site is provided for informational purposes only. The statements contained herein are the opinions of RVC. This site contains no investment advice or recommendations. Individual investor results will vary. Rareview Capital LLC expressly disclaims all liability in respect to actions taken based on any or all of the information on this writing. Past performance is no guarantee of future results.

 Other important risk considerations, products, or terminology:

• S-Network Composite Closed-End Total Return Index (CEFXTR): The S-Network Composite Closed-End Fund Index is a net assets-weighted fund index designed to serve as a benchmark for closed-end funds listed in the US that principally engage in asset management processes designed to produce taxable annual yield. 

• Closed-End Fund Leverage: Leverage is a speculative technique that exposes a closed-end fund to greater risk and increased costs than if it were not used. The use o leverage may cause greater volatility in the level of a closed-end fund’s NAV, market price and distributions on its Common Shares. Leverage will also result in higher fees due to the closed-end fund manager because the amount of assets under management will be included in the closed-end funds Managed Assets. There can be no assurance that a closed-end fund will use leverage or that its levered strategy will be successful during any period in which it is employed. Additional information on how closed-end funds use leverage can be found at CEF Connect. 

• Tax Risk: New federal or state governmental action could adversely affect the tax-exempt status of securities held by a closed-end fund, resulting in higher tax liability for shareholders and potentially hurting performance as well. It is strongly suggested that investors obtain independent advice in relation to any investment, financial, legal, tax, accounting or regulatory issues discussed in this commentary. 

• Net Asset Value (NAV): A mutual fund’s price per share or exchange-traded fund’s (ETF) per-share value. In both cases, the per-share dollar amount of the fund is calculated by dividing the total value of all securities in its portfolio, less any liabilities, by the number of fund shares outstanding. 

• Discount-to-NAV: A pricing situation that occurs with a closed-end fund when its market price is currently lower than the net asset value of its components. 

• Alpha: We determine Alpha as the relative return of a Closed-End Fund’s (CEFs) share price to its Net Asset Value (NAV). Any return of the share price that is greater than the NAV is deemed to be positive alpha. Any return that is negative than the NAV is deemed to be negative alpha.