GOF: Watch For A Strategic Opportunity To Generate High-Yield Income (NYSE:GOF)

If you’re searching for extra than simply alpha in your funding portfolio and are in search of a gentle stream of earnings to show right into a river of money later in your life, you could need to think about an funding in a set earnings fund from Guggenheim. The Guggenheim Strategic Alternatives Fund (NYSE:GOF) is a taxable, mounted earnings and various asset closed-end fund (“CEF”) that provides buyers a gentle distribution of $0.1821 each month. On the closing market value of $15.67 as of 5/19/23 that provides buyers a yield of 13.95%. The fund NAV was $12.34 on that date, which signifies that the fund trades at a 26% premium to NAV, fairly a bit increased than the 5-year common of about 16%.

For a lot of buyers who see the excessive yield distribution and skim that the fund trades at a excessive premium, the primary intuition is to keep away from the fund altogether as a consequence of perceived excessive danger. It’s troublesome for many buyers, even seasoned buyers who’ve been watching the markets for many years, to grasp how the fund can proceed to pay out such a excessive yield distribution because the NAV continues to say no. However the fund managers, who have been led by Scott Minerd till his sudden demise in December 2022, have been managing the fund for 15 years and have by no means reduce the distribution. Actually, they raised it a number of occasions after 2008 and have saved the identical month-to-month distribution now for 10 years.

I understand that for a lot of CEF buyers, shopping for a fund that trades at a premium is mostly not really helpful, because the market value usually fluctuates enormously and might transfer from a premium to a reduction in a short time if market situations change. Nonetheless, within the case of GOF, the premium has truly continued to extend for a lot of the previous 5 years with notable exceptions in December 2018 and March 2020, when it briefly traded close to par. The premium to NAV is proven within the value premium/low cost chart from CEFconnect, and it’s clear that the development is towards an ever-higher premium, though it could be due for a correction.

For these buyers who solely purchase closed-end funds that commerce at a reduction, you could not get an opportunity any time quickly with GOF. Then again, in case you are affected person and are concerned with profiting from the strategic alternatives available in the market that come round now and again, you could want to think about shopping for GOF if the premium drops again under 20% within the coming months. This will likely occur if the recession that many expect does in actual fact happen. In the meantime, GOF introduced the month-to-month distribution in keeping with earlier for Might payable Might 31, so those that at present maintain shares are swimming in money.

Whereas analysts have been warning of a distribution reduce for a very long time and declare that the fund can not proceed to pay out such a excessive yield distribution ceaselessly with out decreasing the NAV to zero, the fund managers proceed to defy these predictions, a minimum of for now. Certainly one of my favourite fellow analysts on SA, Nick Ackerman, whose opinion I utterly respect, wrote an article in December 2022 that mentioned the weak distribution protection of the fund at the moment and warned of hazard forward. Different analysts additionally supply warning, however all 5 of the newest articles masking the fund point out a Maintain ranking.

GOF Fund Fundamentals

From the fund web site, the funding goals are described intimately:

The Fund’s funding goal is to maximise complete return via a mixture of present earnings and capital appreciation. The Fund will pursue a relative value-based funding philosophy, which makes use of quantitative and qualitative evaluation to hunt to determine securities or spreads between securities that deviate from their perceived honest worth and/or historic norms. The Fund’s sub-adviser seeks to mix a credit score managed fixed-income portfolio with entry to a diversified pool of different investments and fairness methods. The Fund’s funding philosophy relies upon the idea that thorough analysis and impartial thought are rewarded with efficiency that has the potential to outperform benchmark indexes with each decrease volatility and decrease correlation of returns as in comparison with such benchmark indexes. … The Fund might make investments with out limitation in fixed-income securities rated under funding grade (generally known as “junk bonds”); the Fund might make investments as much as 20% of its complete belongings in non-U.S. dollar-denominated earnings securities of company and governmental issuers positioned outdoors the U.S., together with as much as 10% in rising markets; the Fund might make investments as much as 50% of its complete belongings in widespread fairness securities consisting of widespread inventory; and the Fund might make investments as much as 30% of its complete belongings in funding funds that primarily maintain (straight or not directly) investments through which the Fund might make investments straight.

The asset class breakdown contains 94% mounted earnings, with about 5% fairness technique, and 1% money as of three/31/23. The weighted common period of the portfolio holdings is 4.2 years. The portfolio focus is diversified with about 35% excessive yield company bonds, 30% financial institution loans, and 17% in asset backed securities as the biggest holdings, with about 25% leverage as of three/31/23.

The funding earnings that the fund generates is largely based mostly on company bond yields which have been usually rising because the starting of 2022 as proven on this chart of the Moody’s Company Bond Yields for seasoned Baa (funding grade) bonds. That’s good and dangerous information for fund managers as a result of the rationale why these yields are rising is because of elevated concern of rising defaults, the declining well being of the debt construction of some firms, and basic malaise within the total well being of the financial system.

Credit score spreads additionally started to widen beginning in early 2022 and have been trending increased for essentially the most half since then, exacerbated by the latest financial institution failures, which is one more reason for concern and one other issue to contemplate earlier than investing within the fund. Relying on what occurs with the debt ceiling negotiations and future rate of interest hikes from the Fed, credit score markets may get tighter, and defaults might proceed to rise, affecting the mortgage default restoration charges and probably resulting in a lack of NII in future months.

The NAV of the fund has additionally been declining in 2023, from round $13 in January to $12.34 on Might 19. a 3-year chart of the fund value vs NAV, it’s evident {that a} disturbing development seems with the decline in NAV whereas the fund continues to commerce at a excessive premium.

The credit score high quality of the fund holdings is healthier than another CEFs that provide excessive yield distributions based mostly on mounted earnings investments, with about 35% of the holdings rated funding grade. The fund web site reveals a breakdown of the credit score high quality as of three/31/23.

Distributions seem to include roughly 35% NII and 65% ROC for the previous 12 months or so. Until the fund managers determine to promote extra shares whereas the premium is excessive, or situation a rights providing to lift capital, there’s a rising chance that the both the distribution will have to be trimmed, or another motion should happen to maintain the NAV from declining additional.

For 2022, the tax data was damaged down for buyers on the fund web site and reveals that about 43% was characterised as ROC for the total 12 months. Which may be a bonus for buyers who maintain GOF in a taxable account, however verify together with your CPA or a tax adviser to find out if that may be a profit to you based mostly in your particular person state of affairs.

Abstract and Suggestions

Like different analysts on In search of Alpha, I consider that there are good issues to love about Guggenheim Strategic Alternatives Fund, together with the regular, excessive yield distribution that pays month-to-month dividends persistently no matter broader market motion. Conversely, there may be some danger to the long-term worth proposition if credit score markets proceed to deteriorate or if the financial system spirals right into a deep recession as many are nonetheless anticipating. Whereas there may be continued uncertainty with respect to the well being of the U.S. financial system, particularly whereas the debt ceiling situation stays unresolved, I might are likely to keep away from initiating a brand new place in GOF on the present premium degree of 26%, except you might be keen to common down right into a long-term earnings holding. There may be more likely to be a greater alternative to purchase shares of GOF at a cheaper price within the close to future, however then once more, that has been the expectation for the previous 6 months or extra.

I’m lengthy Guggenheim Strategic Alternatives Fund in my No Guts No Glory earnings compounder portfolio and can look so as to add extra shares if the value does drop. For others who’re holding, I recommend persevering with to carry. For brand spanking new buyers, warning is warranted relating to Guggenheim Strategic Alternatives Fund.