Closed-End Funds Offer Solace for 'Cruel, Cruel Summer'

NEW YORK (TheStreet) -- Craig Johnson, a managing director with Piper Jaffray Companies (PJC), a brokerage firm, warned clients in late May that "a stealth correction has been unfolding" in the stock market that will result in a "cruel, cruel summer." Johnson's warning emanates from concern that small caps will drag down the Dow Jones Industrial Average (DIA) and the S&P 500 Index (SPY). No matter how the financial markets proceed in a "stealth" or more tangible correction, closed-end funds offer profitable buys for growth, value and income investors.

Closed-end funds are similar to mutual funds but with a limited number of shares set from the initial public offering. Mutual funds have an unlimited number of shares that rise and fall based on the value of the assets. The share price for closed-end funds rise and fall based on demand, just like an equity. Due to the complexity of a closed-end fund, the share price will generally fall more than it would for a comparable stock or exchange traded fund when the industry is in disfavor with investors.

This allows for growth, value and income investors to profit when opportunities in closed-end funds arise from market fluctuations.

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A current example is with closed-end funds for China: Aberdeen Great China Fund  (GCH), China Fund (CHN), JPMorgan China Region Fund (JFC) and MS China A Share (CAF) are all off as the outlook for China is not as bullish as before. Of the four, all are trading at a significant discount to the net asset value as shown by the chart below. All are also well below the five-year high for each. Long story short: China is not going bankrupt. Eventually these closed-end funds should rise, rewarding savvy investors buying on the dip as Chinese securities are not currently in favor.

Closed-End Fund

Current Price

Current Discount

5-year High Price

Aberdeen Great China Fund

@$10.60

@11%

@$14.50

China Fund

@$21.50

@10%

@$53

JP Morgan China Region Fund

@$15.50

@10.30%

@$34.70

MS China A Share

@$22.40

@5%

@$72.50

Source: cefconnect.com; MSN Money

In a low interest rate environment, income closed-end funds such as Gabelli Equity Trust (GAB), Guggenheim Strategic Opportunities Fund (GOF), and PIMCO Dynamic Income Fund (PDI) can be alluring. As the chart below shows, the Gabelli Equity Trust and Guggenheim Strategic Opportunities Fund are now trading at a premium. Within the last year, the Gabelli Equity Trust has been selling at discount levels. The PIMCO Dynamic Income Fund is at a discount, but nowhere near its year low.

Closed-End Fund

Current Price

Current Premium/Discount

52-week Discount Peak

Gabelli Equity Trust

@$7.55

2.44%

@-1.30%

Guggenheim Strategic Opportunities Fund

@$21.70

5.60%

@.95%

PIMCO Dynamic Income Fund

@$33

-1.28%

@-10.50%

Source: cefconnect.com

Piper Jaffrey's Johnson is looking for a stock market correction of 20%.

Should that evolve, the discounts for many closed-end funds will become very attractive. Due to the complexity of closed-end funds, the declines will most likely be more severe than those for equities. Closed-end funds with blue chip stocks will hold up much better than those with small caps or securities from emerging market nations.

Income closed-end funds will fall, making the yield even higher. Even if the correction never comes and the Dow Jones Industrial Average and the Standard & Poor's 500 Index continue surging, there will always be attractive buys in closed-end funds for growth, value and income investors due to the vagaries of the market.

Jonathan Yates does not have a position in any of the securities mentioned in this article.

This article represents the opinion of a contributor and not necessarily that of TheStreet or its editorial staff.

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