The First Trust Specialty Finance and Financial Opportunities Fund (FGB) is a CEF of BDCs. The fund has rallied hugely over the last few sessions, its discount tightening from 21% to just 5%.
The first thing we like to do in analyzing a CEF is to see how it has compared to simple passive unleveraged ETFs that allocates to the same sector. The chart below plots the fund’s NAV performance against two popular BDC ETFs. The chart starts from the point when we have data for all three securities.
What we see is that the fund’s NAV performed roughly in line with the other two ETFs up to February of this year. It then collapsed and hugely underperformed and is now trading well below the other two ETFs with little hope of clawing back to its previous level or to the level of the ETFs anytime soon.
So what we have here is a situation where a leveraged, actively-managed fund of BDCs basically performed in line with simple, unleveraged, passive ETFs on the way up in a very strong market prior to Feb. Remember that when you are leveraged and you perform in line with an unleveraged vehicle when the underlying market rallies you, in effect, underperform because you are taking more risk to get the same performance. In other words, the historic alpha of FGB is highly negative.
Now, this doesn’t mean it’s not worth a tactical play but as a buy and hold it’s not a great track record. What all of this comes down to is that by investing in a poor combination of a highly volatile asset class and a leveraged CEF wrapper investors have lost 20% of the capital invested in the fund over the last 8-year period.
Our stance on the service has, instead, been to use a stronger investment vehicle for such a volatile asset class as BDCs. Rather than a 20% loss in FGB, the sector has delivered around a 80% gain over the same time frame.