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Follower ○○

Deleveraging of UTF

Based on a back of the envelope calculation (in my case, quite literally), I believe that UTF will need to de-lever in the next few days, if it has not already.  I would love to be wrong, but I think a few simple numbers pulled from its Year End Statement make this a self-evident proposition.

As of 12/31/19, UTF had approximately $2.6 billion of assets and 93.5 million shares; and an exact NAV of $27.73.  Also as of 12/31/19, per Note 8, it had drawn in full $850 million on its line (to create 35% leverage) and had pledged securities worth twice that amount, i.e., $1.7 billion as security for that loan.

As of 3/20/20, the NAV of UTF was $16.71 (it obviously went down further today, but I don't know the figure yet).  Multiplying that NAV by the number of shares outstanding as of 12/31/19 suggests that current assets as of Friday equal about $1.5 billion.  Thus, the lender is missing about $200 million of its required security value.  A $900 million equity cushion evaporated and is now $200 million in the red as the stocks owned by UTF have plunged in value.  The lenders I used to deal with as a former attorney would have squealed like stuck pigs in that situation.  Maybe they'll renegotiate, maybe they'll just call the loan. 

This can't be good for owners of UTF.  The stocks owned by UTF should eventually increase in value, if not recover their 12/31/19 values.  However, the NAV of UTF will have great difficulty recovering if it has to sell $850 million of stocks at this point when their values have been crushed.

I'll be the first to admit that I stopped taking math in 10th grade, nor do I have a clue about accounting or the economics of CEFs.  I would love for some of the experts on this board to point out the fallacy in my thinking -- it would only cheer me up.  Thoughts?

 

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Explorer ○

Re: Deleveraging of UTF

With a NAV of 15.45 the asset coverage is 272% assuming unch everything else (common shares, credit facility outstanding etc). If we assume that a credit facility counts as debt for the purpose of Section 18 of the 1940 Act then below 300% the fund is unable to pay out distributions. This point is actually fairly controversial. If you listen to Cohen & Steers, for example, they think they can pay out with a credit facility in place when asset coverage is 200%. This is just weird - it implies that a credit facility is not debt. If it's not debt then it's certainly not preferred stocks or a firm commitment or a repo. 

 

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Participant ○○○

Re: Deleveraging of UTF

Maybe UTF's loan is covered by assets held is in a segregated account. If so, I expect whatever asset coverage ratio is given in the terms of the credit agreement would apply but the 1940 Act asset coverage ratio would not.

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Participant ○○○

Re: Deleveraging of UTF

I did some research and it looks like - historically - UTF has not used a segregated account. So I think its credit facility does count as a senior security.

I found this document on the Cohen & Steer web site. It supports the idea that Cohen & Steers CEFs are not using segregated accounts. Excerpt below:

Closed-End Funds Update March 20, 2020

Below is an update on how the current market volatility is impacting closed-end funds and guidelines around leverage.

Snapshot: Closed-End Fund Leverage
  • Unique feature–One of the most salient features that distinguish closed-end funds from other pooled investment vehicles is the ability of closed-end funds to leverage their assets (that is, use borrowed money to buy additional assets) to enhance current income
  • Limits on leverage–Pursuant to the Investment Company Act of 1940 (the “1940 Act”), closed-end funds can utilize leverage in an amount up to 33.3% of the fund’s total managed assets (net assets plus leverage) if debt or bank lines are used (or up to 50% if preferred stock is used). As it pertains to Cohen & Steers’ closed- end funds:
    • If leverage exceeds 33.3% of a fund’s total managed assets, no additional leverage can be drawn down
    • If leverage exceeds 50.0% of a fund’s total managed assets, the fund can no longer declare or pay a distribution
  • Increased NAV Volatility–If the underlying market is rising, leverage can enhance a closed-end fund’s price appreciation; but if the underlying market is falling, leverage can magnify the fund’s losses

It says "if leverage exceeds 50.0% of a fund’s total managed assets, the fund can no longer declare or pay a distribution."

That is technically true; a closed-end fund may not declare distributions once its leverage from senior securities exceeds 50% because that is the threshold at which distributions to preferred shareholders may not be declared. The threshold for common shareholders, i.e. the kind we probably care about, is different and less. Distributions to common shareholders may not be declared once leverage from senior securities representing debt exceeds 33% (except for distributions of stock).

I'm not sure if Cohen & Steers is legitimately confused about this or if they're presenting things in a misleading way to make this look better.

 

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Participant ○

Re: Deleveraging of UTF

I'm not sure if Cohen & Steers is legitimately confused about this or if they're presenting things in a misleading way to make this look better.

 

Are you seriously considering that Cohen & Steers is confused about these leverage criteria? Or they're are making misleading statements?

Let's see what are the possibilities here. 

A) Cohen & Steers has some really stupid/deceptive attorneys and portfolio managers or

B) Some individual investors on this forum don't have all the information at their disposal to truly understand the nuances and trading strategies of a Closed End Fund. 

With all due respect, I'm going with B.

GLTA

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Participant ○○○

Re: Deleveraging of UTF


@acerrcher wrote:

I'll be the first to admit that I stopped taking math in 10th grade, nor do I have a clue about accounting or the economics of CEFs.  I would love for some of the experts on this board to point out the fallacy in my thinking -- it would only cheer me up.  Thoughts?


After reading the entire post, I should first commend your insight. The second thing is just to add, subtract, and multiply, you do not need even a calculator and it is just sufficient to have 10th grade math and the back of an envelope. Good Job.

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Explorer ○

Re: Deleveraging of UTF

I don't know how realistic the segregated assets option is for a credit facility. If I'm a bank and I have lent to the fund why would I be happy to have 100% of the loan backed by segregated assets when stocks are moving 10% in a day. The fact that the assets are segregated is almost beside the point even if the 100% is topped up every day. That's enormous gap risk to underwrite for like LIBOR + 100. No one in any bank is going to be allowed to run that kind of risk. So, it's just not realistic to think that's a real option for funds. Unless I am misunderstanding the wording here. 

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Explorer ○

Re: Deleveraging of UTF

UTF was up 14.63% today.  Hopefully some breathing room.

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Participant ○○○

Re: Deleveraging of UTF


@astrokng wrote:

I'm not sure if Cohen & Steers is legitimately confused about this or if they're presenting things in a misleading way to make this look better.

 

Are you seriously considering that Cohen & Steers is confused about these leverage criteria? Or they're are making misleading statements?

Let's see what are the possibilities here. 

A) Cohen & Steers has some really stupid/deceptive attorneys and portfolio managers or

B) Some individual investors on this forum don't have all the information at their disposal to truly understand the nuances and trading strategies of a Closed End Fund. 

With all due respect, I'm going with B.

GLTA


Actually given that Acamus oftens points out incorrect filings to the SEC from jackass sponsors, i'd got with (a).  

 

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Participant ○○○

Re: Deleveraging of UTF

Levered and expensive UTF vs cheap unlevered XLU

Snag_5110f4d.png

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Explorer ○

Re: Deleveraging of UTF

I have tried to point out that the CEF utilities sector consistently underperforms XLU but just got hate mail instead. Good luck. Part of it has to do with the fact that some utilities CEF hold bonds but it's true even for stock-only funds. And that was the case even when the market was trending up and despite the fact that CEFs use leverage. 

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Explorer ○

Re: Deleveraging of UTF

Funds can be pretty poor in providing good information. According to FFC they had 1300% asset coverage last week. This is because their credit facility agreement is off by a factor of 10. Actual coverage is a bit over 200%. They have now corrected this after being pestered twice (they managed to fk it up again after I asked them once). 

ffc.jpg

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Participant ○○○

Re: Deleveraging of UTF


@adsanalyticsllc wrote:

I don't know how realistic the segregated assets option is for a credit facility. If I'm a bank and I have lent to the fund why would I be happy to have 100% of the loan backed by segregated assets when stocks are moving 10% in a day. The fact that the assets are segregated is almost beside the point even if the 100% is topped up every day. That's enormous gap risk to underwrite for like LIBOR + 100. No one in any bank is going to be allowed to run that kind of risk. So, it's just not realistic to think that's a real option for funds. Unless I am misunderstanding the wording here. 


Segregated account would be unusual for a credit agreement but I think it might be possible. They're most commonly used as an alternative way to cover reverse repurchase agreements but can be used to cover other kinds of senior security like short sales.

I think even if a credit agreement was covered by assets in a segregated account, the bank would likely still put asset coverage requirements in the terms of the credit agreement independent of those spelled out in Section 18 of the 40 Act. I think the bank's coverage requirement could potentially be below 300% though.

Segregated accounts were described in the April 1979 Federal Register if anyone wonders why they can't find anything about them in the 40 Act itself.

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Explorer ○

Re: Deleveraging of UTF

So the only way to make sense of this is that 1) Cohen & Steers use the segregated assets method to treat their credit facility, 2) banks don't rely on the segregation and insist on say 200% asset coverage (not a crazy level if it's topped up daily i.e. the fund prime servicer pledges the right amount of collateral to the bank on a daily basis), 3) at the same time the banks don't require the fund to stop distributions until the asset coverage drops below 200%. 

I don't know, if I'm the SEC and I look at the 1940 300% bank borrowing requirement and then I look at the reality where funds can just say oh whatever forget your 300% I'm going to get a bank to agree to a 200% level and plow ahead. If all the SEC cares about are senior debt holders and the banks who are the senior debt holders in this case are big boys and are happy with the 200% level then why should the SEC care? However if the SEC cares more about common shareholders then they should be really concerned that this is happening. 

 

 

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Participant ○

Re: Deleveraging of UTF

I realize this is from February, before the hysteria and crash, but it's showing all funds are coming from LT Capital Gains. 

Capture.PNG

 

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