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For income-seeking investors, a fresh opportunity to scoop up enhanced yield has reemerged, according to DoubleLine CEO Jeffrey Gundlach. Enter the closed-end fund, a relative of the traditional, open-end mutual fund. Closed-end funds trade on public exchanges and are traded throughout the day. They also offer a limited number of shares, meaning the share price may trade at a discount or a premium to the fund’s net asset value. Many also use leverage, which can introduce some volatility — and also juice returns. Gundlach highlighted closed-end funds on CNBC’s ” Closing Bell ” Wednesday afternoon, noting that it’s “a pretty good environment for moderate risk assets.” “For retail investors, closed-end funds have gone back to trading at discounts broadly, and with some leverage involved there, there’s double-digit yields available without taking a ton of credit risk,” he said. Searching for discounts Drivers of these closed-end fund discounts, particularly those that hold bonds, include sharp spikes in yields. Bond yields and prices move inversely to one another, and a jump in rates dents the prices of those holdings. One area where you might see sharp discounts would be closed-end funds holding municipal bonds. Investors love muni bonds as they provide income free from federal taxes. For instance, the Abrdn National Municipal Income Fund (VFL) is trading at a 15% discount to its net asset value, according to Nuveen’s CEF Connect, a database of closed-end funds. It has a distribution rate of 5.45%. Municipal bonds also offer tax-exempt income if investors reside in the state where the bond is issued – and there are closed-end funds that fit that bill. There’s the Eaton Vance California Municipal Income Trust (CEV) , trading at a discount of 11% and offering a distribution rate of 5.07%, according to CEF Connect. California’s top income tax rate is currently 14.4%. Other closed-end fund offerings can range from taxable bonds to covered-call funds and master limited partnerships. Shopping tips Don’t let sizable discounts and distribution rates distract you in a search for the right closed-end fund. For starters, a high distribution rate and a declining share price return could signal trouble for investors, according to Fidelity. That might mean the distributions are steadily eating into the fund’s net asset value — and your payments are more of a return on capital than they are income generated from the underlying investments. Understand what’s driving these payments within your fund, and make sure they are sustainable. Further, closed-end funds have fees, which can exceed 1%. Higher fund expense ratios take a bite out of your returns in the long run. Finally, closed-end funds’ use of leverage can enhance returns — but it can also magnify downside. Leverage is also more expensive for portfolio managers to maintain in a time of higher interest rates. Be mindful about the extent to which your fund uses it.
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