Understanding Closed-End Funds

CEF
Next: Regulatory Leverage

Digging Deeper

2: Closed-End Fund Leverage

  • Financial leverage is created whenever a closed-end fund common shareholder has investment exposure (both reward and risk) equivalent to more than 100% of his or her investment capital.
  • Closed-end funds create leverage by borrowing at short-term rates or issuing preferred shares that pay dividends at short-term rates, then using that money to invest in strategies or instruments providing longer-term returns.
  • The intent is to create a positive difference between the longer-term return and the short-term cost of borrowing. A positive difference between the two could help increase fund common share returns and distributions. If the difference is negative, or even close to level, leverage may hurt common share returns and distributions
  • At Nuveen, we distinguish between two categories of leverage:
    • Structural leverage, which is leverage that is a strategic part of the fund’s structure and design, intentionally used to create additional systematic long-term investment exposure. It includes Regulatory Leverage. Certain portfolio investments in derivatives – which Regulatory Leverage does not include – can also be used to create persistent leverage for the fund.
    • Portfolio leverage, which is leverage that results from certain portfolio investments in derivatives, when those derivative investments are used to position the portfolio based on the portfolio manager’s investment convictions, and not intended to create long-term systematic leverage. An example would be using a leveraged derivative investment that creates additional exposure to bonds in a certain maturity range, because the manager believes bonds of those maturities are poised to perform well.

Next

Next: Regulatory Leverage

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