Nuveen Multi-Strategy Income and Growth Fund (JQC) $4.47

 

JQC is a closed-end fund that yields 17% (annualizing the quarterly payments) and trades at a 23% discount to its NAV. Its portfolio is well-diversified across several asset classes, the bulk of which appear to be particularly attractively priced after the intensive liquidation over the last couple months. The fund’s composition by asset class as of 9/30/08 is as follows:

 

 

 

Preferreds, Senior Loans, and Corporates represent about 73% of the fund. Notably, over 70% of this fixed-income portion is investment grade, and only 1.1% of the portfolio is rated CCC or below. 

 

The top 10 issuer exposures are as follows:

 

 

 

While the large financial exposure can be disconcerting, our view is that our government appears to have completed its experiment with which part of the capital structure it wants to use to recapitalize our financial system. Having viewed the results of allowing moral hazard concerns trump the interests of Lehman debtholders and the GSE preferred holders, policymakers seem to have concluded that the preferred is where the umbrella should begin.

 

There has been a lot of discussion in the financial press recently about the severe dislocations in the corporate fixed income markets and how the risk/reward in this sector is much more compelling than what is generally available in the equity markets. Indeed, the average prices in many of these asset classes have endured declines comparable to, or even exceeding, the 40% drop in the broad stock indices, despite their regular income component and relative seniority in the capital structure. JQC allows us to take advantage of this dislocation with the following benefits:

 

- Diversification (the fund has 983 positions);

- Quality management team (Principal, Symphony, and Tradewinds are joint managers);

 

- Low expense ratio (management fees are 0.53% of assets and 0.86% of equity);

 

- High trading liquidity (average daily share volume exceeds 640,000);

 

- High current income (17% dividend paid quarterly); and,

 

- Margin of safety (23% NAV discount).

One of the major risks/issues that investors must overcome when considering JQC involves the fund’s leverage. The fund’s total assets equal just over 283% of its structural leverage. This would represent pretty good clearance if its leverage consisted solely of auction-rate preferreds (ARPs), but JQC uses a combination of debt and ARP financing. This adds some confusion as to the amount of room it has because whereas an ARP-financed fund requires only 200% asset coverage, a debt-financed fund historically had to have asset coverage of 300%. 

 

I know that there is currently an exemption in place that lowered the asset coverage requirements on debt-financed funds to 200%, but I’m not sure when this exemption will expire or how a fund like JQC, which is financed with a combination of debt and preferred, will be treated. Further, JQC will be redeeming $160mm of its $325mm auction rate preferreds outstanding over the next month. The fund’s leverage composition will be moving from $325mm preferred and $159mm in debt to $160mm in preferred and the rest taken up with either more debt or deleveraging. Ultimately it seems that Nuveen funds will be using all debt financing rather that the ARP market to fund the leverage in its closed end funds. 

Another risk involves the fact that non-U.S. securities represent almost 30% of the portfolio. Most of these issuers are European, so information quality is not a great concern, but most analysts agree that European financial institutions are in even worse shape than their U.S. counterparts and that the European Central Bank is constrained by much greater political and currency issues than the U.S. Fed and Treasury when confronting the financial crisis. Furthermore, JQC does not appear to hedge out its currency risk, which arguably adds to the portfolio’s diversification but leaves it exposed to continued dollar appreciation.