Yes, Virginia, There is an Investment Santa Claus


I have been fielding some inquiries on "Return of Capital" recently, so I've done some research (Nuveen, Fidelity*, Eaton Vance & three Seeking Alpha articles) and compiled some statistics, that overall, support the title conclusion. Much of the following is taken from these knowledgeable sources, and their articles are readily Googleable. *There are no Fidelity CEFs in my selection universe (or anywhere?)

First off, and this may be enough to make some of you stop reading: ROC IS NOT TAXABLE in non retirement accounts. It reduces the cost basis of your shares, thus improving current yield and increasing the likelihood of a targeted profit sooner than it would have been available otherwise.

The CEF selection "universe" that I use is comprised of 80 equity content and 112 income purpose funds provided by more than thirty different management companies. 49% of the equity funds have distributed ROC (of $.001 or more) in the past three months; 46% of the income funds... most of the institutions, and all categories of funds.

Obviously, ROC distribution is a common and accepted practice, and I can't imagine a Pimco, Nuveen, or Eaton Vance manager systematically doing something that is detrimental to the long term viability of the fund.

Equity CEFs distributing ROC have been around an average of 13 years; Income, 18 years

ROC is one of four possible elements in a CEF distribution: dividends, interest, and capital gains being the other three:

Many closed end funds use "managed distribution programs" to help facilitate a smooth monthly cash flow. Such funds include "projected" earnings in the monthly payment, expecting to be able to take the profits by year end, or to make payment from past years unrealized earnings... easy to accomplish in rising markets, but maybe not during corrections. If it doesn't come from this year's earnings, it's deemed return of capital.

In the rare chance of a projected distribution going beyond available profits, realized or not, the ROC payment is still absolutely not a "destructive return of your own money, after fees" as some experts believe. It is always a non taxable distribution of money which reduces your cost basis, and that you can reinvest in any manner you choose. All CEF distributions are after fees and CEF holdings are not subject to any fund fees at all... just like common stocks.

And, as a sidebar, one should note that fund managers have other sources of capital to use, and strategies to employ to offset any dipping into capital beyond accumulated unrealized profits. It can sell preferred stock and/or take short term loans to add to portfolio assets. What do you think CEF managers are doing during this correction? I'd be borrowing some money at nearly 0% to fund purchases of dozens of other CEFs yielding over 8%. You?

I understand, that for some reason, CEFs cannot repurchase their own shares to reduce their distribution commitments; I'm trying to get an explanation from CEF Connect.

Always keep in mind that CEFs are professionally managed programs. Professionals take advantage of the opportunities afforded by corrections, buying at lower prices with the dual intention of receiving larger distributions and eventual profit taking. There are several other, far more common, sources of the ROC "bonus":

Realized gains on prior year's accumulated fund appreciation (note that any fund that chases growth in NAV by not distributing more than 90% of its earnings will incur tax penalties for doing so).

Pass through items such as option premiums, ROC from REITs, MLPs, mortgages, Royalty Trusts and other securities in the portfolio.... anything that is not part of the current year's interest, dividends, and capital gains is considered ROC.

From the income investor/trader perspective, any ROC defers taxation on realized gains while providing unlimited reinvestment opportunities. You can still sell the security if it reaches your target, add to it if it falls below cost, and sell it during the next rally to new highs, if it is one of your poorer "performing" securities.... and remember, performance in an income purpose security is income production, not growth in market value.

Regulations require CEFs to distribute most investment income and realized capital gains annually, but it need not "realize" all gains. Funds must distribute between 90% and 98% of their realized income, depending on category, to retain the "pass through tax status" of distributions other than ROC. I doubt that any would do anything to jeopardize this advantage.
Perhaps the best article on ROC I've ever read is this one by David Van Knapp:

You've got to love his perspective compared to that of institutional employees: "Drawing on my experiences as a stock investor, I am approaching CEFs not only as funds but also as companies with business models and operations that are capable of being understood by self-directed investors."

The article covers a lot of what I've provided above and provides links to at least two other articles worthy of your attention.

The only thing I can't wrap my head around, From all of these sources, is their need to use changes in Net Asset Value (NAV) as some form of ROC impact measurement. To me their apples and oranges.

CEFs, both varieties, are ultimately income securities and their consistent income production is the primary concern of their owners... and managers. Fixating on the market value of the securities inside the shell is , in my opinion, a waste of time. Price changes in either direction (and for whatever reason) are precisely what we investors need to make their "managed distributions" our managed income growing portfolios.

Perhaps if the investor was required to hold on to a CEF forever, an occasional distribution in excess of current and prior earnings would be problematic. Just like we know that our "working capital" will shrink if we disburse more than our portfolio generates... emergencies will happen and creative management will eventually make up for the cash flow differentials.


Net Asset Value is the proper measure of the Market Value of the securities and cash in a portfolio of investments, i.e., CEFs, ETFs, and Mutual Funds. With income purpose CEFs (and high income expectation equity CEFs), changes in market value over various time periods is not nearly as important as the change in income produced by the portfolio during the same time period... particularly if some of the income is being spent.

My objective as a professional investor, is to increase the monthly income in every client portfolio, every calendar quarter. ETFs, Mutual Funds, and most investment professionals, Scarlett, don't .... . .... about the income.

NAV is an excellent tool when used with portfolios that actually trade only at the NAV; CEFs rarely, extremely rarely, trade at NAV, and that's a good thing.

NAV is ok for analyzing securities or portfolios that have growth in market value as their "holy grail" objective; managed CEF portfolios, typically, have income generation from distributions and capital gains as their primary objective.

Market value (NAV) is a naturally volatile measure, battered about in either direction by a huge variety of economic, social, natural, and political forces. This is a volatility that can be used by systematic investors to determine when to buy or to sell securities or portfolios of securities... YES!!!

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