What Are Closed End Funds?
What characteristics of CEFs
do we find most attractive?
The most appealing attribute of CEFs is the ability to buy a dollar’s worth of assets for less than a dollar. Perhaps even more important, CEF discounts tend to be volatile rather than static. 1607’s core investment philosophy is built upon the ability to take advantage of this discount volatility.
With a few exceptions, most funds in the investable universe are diversified investment portfolios. Therefore, a portfolio of 50 to 90 funds could hold 1000+ individual underlying securities, essentially eliminating security specific risk.
Structurally CEFs have the benefit of managing a fixed pool of capital vs. an open ended mutual fund that must manage cash flows daily. This is of greater importance during increased market volatility or in managing less liquid securities.
Top tier CEF managers range from global stalwarts to smaller boutiques, across the globe. The ability to invest with these quality managers at a discount has additional appeal, allowing for exposure to the benefits of active management, without total reliance on manager skill.
As publicly traded companies, each fund is governed by its own board of directors. Among other duties, this board is charged with protecting the interests of the shareholders. Because deeply discounted funds negatively affect the shareholders’ ability to recognize the full value of the fund, these boards have an obligation to address persistently wide discounts. The result are corporate actions – share repurchases, tender offers, liquidations, etc. These corporate actions provide an alternative way for discounts to narrow when market forces alone are not enough.
How does 1607 achieve
excess returns with CEFs?
The ability to buy active portfolios below their NAVs is what makes 1607’s approach unique, and is where 1607 has historically achieved its greatest advantage. The team identifies funds trading at discounts wider than their own historical averages, expecting those discounts to revert to their mean over time. This normally is facilitated by market forces (supply and demand), however corporate actions may also help to achieve this reversion.
The highly experienced investment team uses numerous qualitative and quantitative processes and tools to identify fund managers with the best opportunity to outperform going forward.
The look-through allocation to regions, countries, and/or sectors is often the result of bottom-up research to identify high quality managers at attractive discounts. However, the investment team confirms these weightings with an analysis of the macro environment and, as a result, our portfolios often have over and under weights to their benchmarks.
With a bottom-up, value-oriented approach, the 1607 investment team trades CEFs and other discounted assets based on a proprietary system developed and refined over 25+ years. The distinct characteristics of CEFs, combined with the less sophisticated investor base for these funds, allows the team to capitalize on what is often an extremely inefficient market. The process is a blend of qualitative assessments focused on portfolios and manager skill, and quantitative metrics concerning discounts, trading, and risk parameters.