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Transener’s 2021 Yankee Bonds Yielding 12% Will Spark Your Portfolio

Summary High 9.75% coupon offers excellent cash flow. The company has had two years of improving net income. A virtual monopoly business, as it owns, operates, and maintains 90% of the high-voltage transmission system in Argentina. This week, we look to South America, where an Argentine utility monopoly continues to improve its profitability and ratios. This is our third look at Transener, which we first profiled in August 2014 , then again in June 2015 . After two solid, profitable years in 2013 and 2014, Transener has continued to improve its position with consolidated net income for first six months of 2015 of AR$ 117.5 Million (or $12.3 Million in USD) compared to a consolidated net loss of AR$ 4.0 Million ($0.4 Million in USD) for the same period in 2014. Interest coverage has also improved since our last review, going from 1.7x to its current level of 2.3x. At their current yield of 12.5%, these relatively short-term bonds exceed the current 5-year U.S. Treasury yield of 1.40% by nearly nine times. With Argentine elections leaning away from socialism, expectations are that the next ruling party will at last review and adjust the outdated tariff rates that have prevailed for over a decade. Investment interest in Argentina is growing, and these outstanding 12.5% yielding bonds present a perfect opportunity for investors to participate in Argentina’s recovery. Therefore we have marked these high cash flow, six year bonds for addition to our FX1 and FX2 portfolios. Essential Services for Argentina For any modern country and economy, electricity is absolutely essential for its citizens. Transener transports 90% of the electricity in Argentina. In spite of the tariff freezes imposed since the 2001/2002 economic crisis, Transener has continued providing this essential service, as it is virtually a monopoly. In addition, there is very little possibility for any competitor to enter this space, as the costs would be prohibitive (in excess of USD $1 M per mile according to a study by Black and Veatch). For the investor, a company with a virtual monopoly, providing an absolutely essential service in an industry with extremely high barriers to entry is a welcomed addition to any investment portfolio. About the Issuer Founded in 1993, Transener owns, operates and maintains 90% of the high voltage transmission system in Argentina. Prior to 1992, almost all of the Argentine electricity industry was owned and managed by the government. In the early 1990’s, a privatization program was initiated with the ultimate objective to protect consumer rights, encourage investment and improve the quality of service. Currently, Transener has over 11,000 miles of transmission lines within Argentina. Pampa Energia (NYSE: PAM ), the largest integrated energy company in Argentina, has a co-controlling stake in Transener, and has traded on the NYSE in form of ADRs since October 2009 (ticker PAM). Transener’s revenue streams are largely determined by the government via the Secretariat of Energy, who approves wholesale electricity prices. Transener receives monthly revenue for transmission, capacity charges and connection charges from CAMMESA, a national organization responsible for managing operations in the wholesale electricity market. Tariffs (what they can charge for electricity) have been kept artificially low since the 2001 / 2002 Argentine economic crisis, when Transener’s original concession agreement was renegotiated and tariffs of electricity distributors and transmission companies were frozen. As a result, the monies collected from electric customers and consumers did not cover Transener’s cost of operations. This rolling deficit has been continually covered by federal subsidies paid to CAMMESA. After years of petitioning the government to adjust payments from CAMMESA to reflect actual production costs, Transener received some financial relief in 2013. The Renewal Agreement compensates the company for cost variations (the cost of operations not covered by tariffs and subsidies) retroactive to December 2010 and continues to December 2015. At our last review of Transener in June 2015, we noted the excellent recent performance of Transener stock, which at that time had appreciated a whopping 210% over the previous 52-weeks. It is also worth noting that Transener stock was the top performer for 2014 in the Buenos Aires Merval Index with a gain of 206%. The stock is currently trading around AR$ 5.07, which is still well above its current 52-week low of AR$ 2.80. Argentina’s Elections There has been a great deal of interest from the financial investment world in the upcoming Argentine elections scheduled to take place in late October. (Preliminary results now require a run off vote.) The prevailing opinion is that the new ruling government will take the much needed steps to remedy the policies set in place by current President Cristina Fernandez de Kirchner that have damaged the Argentine economy and made it difficult for the country to gain access to international lending and international investment. This election optimism was evidenced earlier this year, when Transener bonds were up 23% for 2015 on the speculation of a more market friendly government once the elections are held. Financials As stated in our last Transener review earlier this year, the company was able to register profits in 2013 and 2014 thanks in part to the revenues from the Renewal Agreement. The company’s financials for Q1 and Q2 of this year continue to show solid growth as well. For Q1 2015, consolidated net sales increased 12.6% as compared to Q1 2014. Consolidated net profits showed even more impressive growth, with a profit of AR$18.2 Million ($1.9 Million in USD) compared to a net loss of AR$92.8 Million ($9.8 Million in USD) for Q1 2014. Transener’s last reported quarterly results (which include results from Q1 2015) should also encourage investors and bondholders. Consolidated net revenues for six months ended 6/30/15 were 32.1% higher than same period for 2014. (AR$ 823.9 M vs. AR$ 623.7 M) Consolidated net income for first six months of 2015 was AR$ 117.5 Million ($12.3 Million USD) compared to a consolidated net loss of AR$ 4.0 Million ($0.4 Million USD) for the same period in 2014. Operating income increased for six months ended 6/30/15 – registering at AR$136.1 Million ($14.3 Million USD) compared to AR$ 71.9 Million ($7.6 Million USD) for the same period in 2014. Transener’s interest coverage ratio has also improved. At our last review, the company had an interest coverage ratio of 1.7x for 2014. For the six months ended June 30, 2015, Transener had operating income of $14.3 Million USD and finance expenses of $ 6.2 Million USD, for an interest coverage ratio of about 2.3x. Transener also had cash and cash equivalents as of June 30, 2015 of $44.9 Million USD. Risks The default risk is Transener’s ability to perform. It is encouraging that the company has produced two profitable years, and continues to improve even in the wake of tariff rates that are still in need of adjustment to reflect market rates for the cost of electricity. With the election set for the end of this month and the expected tariff reviews that many expect will follow, Transener margins should continue to benefit from any action to move electricity rates closer to actual costs for transmission and distribution. Any investment in a company domiciled outside of the U.S also presents geopolitical risk. Argentina’s socialist government has long subsidized public utilities in the country, attempting to foster economic growth by freezing costs for basic services such as water and electricity. While this strategy did help the country to recover from the 2001/20012 economic crisis, recent growing budget deficits have meant the end of many long-running public utility subsidies giving way to higher utility bills for the consumer. Reliable electric power is of vital importance to Argentina’s growth and economic viability. With a new government poised to take control at the end of this year, there will certainly be positive changes on the horizon for Argentina’s many subsidized utilities. Transener’s business operates primarily in Argentina and as such, its revenues are received in Argentine pesos. This debt is issued in US Dollars so the company is exposed to risks in the fluctuations of the exchange rate between Argentine pesos and US dollars, especially as it relates to payments of interest and principal to bondholders. These 12.5% Transener 2021 bonds appear to have similar risks, features and maturities to other Yankee bond issues such as the 7.75% Hidroelectrica Piedra Del Aguila, the 9.5% Autopistas Sinking Bonds, and the 10% Transportadora de Gas Del Sur (NYSE: TGS ), previously reviewed on our Bond-Yields.com website. Summary and Conclusion Transener’s electrical distribution services are absolutely essential for Argentina. Without an option to replace or rebuild high voltage transmission lines, we think Argentina is highly likely continue to ensure that Transener remains a viable utility. As the country prepares for its next chapter with a new government later this year, Transener is also more likely reap the benefits of a reassessment of tariff rates and subsidy reductions. These relatively short-term 71 month bonds, which are currently yielding an outstanding 12.5% have been marked for addition to both our Fixed-Income1.com and Fixed-Income2.com managed portfolios. Issuer: Compania de Transporte Energia (Transener) Coupon: 9.75% Maturity: 8/2/2021 Ratings: CCC- CUSIP: P3058XAK1 Pays: Semi-annual Price: 88.5 Yield to Maturity: ~12.5% Disclosure: Durig Capital and certain clients may have positions in Transener 2016 bonds. Disclaimer: Please note that all yield and price indications are shown from the time of our research. Our reports are never an offer to buy or sell any security. We are not a broker/dealer, and reports are intended for distribution to our clients. As a result of our institutional association, we frequently obtain better yield/price executions for our clients than is initially indicated in our reports. We welcome inquiries from other advisors that may also be interested in our work and the possibilities of achieving higher yields for retail clients.

Consumers Eye PCs Over Apple, Samsung Smartphones

Lagging 2016 iPhone sales could slug shares of Apple (AAPL) chip suppliers Avago (AVGO), Qorvo (QRVO) and Skyworks Solutions (SWKS) while an on-the-cusp PC refresh might buoy Intel (INTC), MKM Partners found in a recent survey. Of 1,467 Americans surveyed, 19% said they planned to purchase a PC in the next three to six months vs. 17% last year. Only 24.8%, however, are on the smartphone hunt, down from 27.6% last year. ‘Samsung Losing, Apple Not

Healthcare And Biotechnology Closed-End Funds

Summary Tekla offers four closed end funds in the biotechnology/healthcare sector. Two long-established funds are focused on capital growth. Two newer funds add current income to their investment objectives. Healthcare and Biotechnology seem to have caught their stride after a rough third quarter. There are a lot of ways to invest in these sectors. One of the least appreciated is closed-end funds, and the best of these, in my opinion, come from Tekla. Tekla sponsors four funds. Two are well established funds that are regularly found at or near the top of the pack for equity CEFs. Two are new, one a little more than a year old and the other a little more than a quarter. The stalwarts are Tekla Healthcare Investors (NYSE: HQH ) and Tekla Lifesciences Investors (NYSE: HQL ). The new-comers are Tekla Healthcare Opportunities (NYSE: THQ ) and Tekla World Healthcare (NYSE: THW ). Some descriptive details for these funds are in the table. The two older funds operate much the same. They are unleveraged and have managed distribution policies for their quarterly distributions. The younger funds are structured differently from the older funds, but are similar to each other. For one thing, they use leverage to achieve their investment goals. Precisely what the extent of that leverage may eventually be is unclear. THQ is reporting 9.6% leverage at present, and THW is too new to have reported. THQ and THW also have managed distribution policies, but theirs are structured differently from HQH and HQL. They pay distributions monthly. Investment Goals HQH invests in the healthcare industry (including biotechnology, medical devices, and pharmaceuticals). The fund’s objective is to provide long-term capital appreciation through investments in companies in the healthcare industry believed to have significant potential for above-average long-term growth. Selection emphasizes the smaller, emerging companies with a maximum of 40% of the Fund’s assets in restricted securities of both public and private companies. HQL primarily invests in the life sciences (including biotechnology, pharmaceutical, diagnostics, managed healthcare, medical equipment, hospitals, healthcare information technology and services, devices and supplies), agriculture and environmental management industries. The Fund’s objectives and selection criteria are the same as HQH except for a change in wording from healthcare to the life sciences industry. Note that biotechnology heads the lists for each. To a large extent these are primarily biotech funds. One particularly interesting point is that the funds can and do invest in private companies. This can open opportunities not generally available to most investors, and certainly not readily accessible by investing in open-end mutual funds or ETFs. The difference between HQH and HQL is that HQL’s mandate is expanded to include agricultural and environmental biotechnologies. THQ and THW invest primarily in the healthcare industry. The funds’ objectives are to seek current income and long-term capital appreciation through investment companies engaged in the healthcare industry, including equity securities, debt securities and pooled investment vehicles. Notice that HQH and HQL make no mention of current income in their goal statements and THQ and THW do. Notice also, that THQ and THW include debt securities in their investment strategies. THW differs from THQ in being targeted more as an international fund. It expects to invest at least 40% in companies organized or located outside the United States. Both expect to invest in debt securities and pooled investment vehicles in addition to equity. So there are marked differences between HQH and HQL on one hand, and THQ and THW on the other. HQH/HQL are more closely focused on biotech; THQ/THW invest more broadly in the healthcare sector. The first set does provide excellent income, but that is not its purpose, which affects how the fund is managed. Finally the new funds expand their investment programs to include debt securities such as convertible and non-convertible bonds and preferred shares. Distribution Policies All four have managed distribution policies, but the terms of the policies are different. HQH and HQL have as their distribution policy the intention to make quarterly distributions at a rate of 2% of the fund’s net assets. To the extent possible, they will to do so using net realized capital gains. If those gains fall short of the target this could result in return of capital to shareholders. Capital gains in excess of distributions will be returned to shareholders as a special distribution with the December distribution. The default for HQH’s and HQL’s distributions is that they are taken in stock. Investors do have the option to request cash distributions. This policy reflects the funds’ emphases on capital appreciation rather than current income, and is unusual for CEFs. Both HQH and HQL began making quarterly distributions in 2000 (previous to that they were made annually). Both suspended distributions for three quarters in 2009-10 making no payment between June 2009 and June 2010. Otherwise, the funds have met their 2% of NAV payout objective without return of capital for all but two of the 60 quarterly payments they have made. Distributions for Q1 and Q2 of 2009, the quarters prior to the suspension of distributions did include return of capital. THQ and THW have current income as an investment objective. Their managed distribution policies are more similar to that of other managed-distribution CEFs. Although I have not seen it explicitly stated in the materials I’ve viewed, I assume that it means the funds expect to maintain consistent monthly payments independent of fluctuations in NAV and income, which is the most typical pattern of managed distributions. This can mean distributions that include return of capital and periodic occurrences of negative undistributed net investment income. THQ has paid $0.1125/share monthly since inception. THW has paid $0.1167/share for its three distributions. Current Status The two older funds are currently priced at premiums near 5%. The new funds have double-digit discounts as seen in this table. The distribution percentages shown in the table are based on recent payouts. According the funds’ policies the next distribution for HQH and HQL will be 2% of NAV on the record date. Z-Scores give us an indication of where the discount/premium stands in relation to the past. Positive Z-Scores mean the discount has shrunk or the premium has grown over the period. The absolute value represents the number of standard deviations the current value is relative to the average for the period. Large Z-scores (say, over 2 or under -2) can often suggest mean reversion is imminent. These values tell us that for HQH and HQL the premiums stand well above their means for 3, 6 and 12 months. As recently as the end of September, HQH had a -8.85% discount and HQL’s was -6.2%. Both funds have seen volatile pricing relative to NAV recently and have seen their discount/premium fluctuate widely. This is seen in HQH’s chart (from cefconnect.com ). (click to enlarge) During the third quarter meltdown for healthcare and biotechnology there was near-panic selling of the fund causing the discount to fall below -8%. With signs of recovery in October, the premium has been restored. These are the sorts of movements that some CEF investors look for and hope to take advantage of when they do occur. Portfolios HQH and HQL have very similar portfolios. HQL nominally adds exposure to agricultural and environmental biotechnology to HQH’s pure play in healthcare but this not obvious without getting deep into the fund’s holdings. At the top it looks very much like HQH. HQH holds 96% in equity; for HQL it’s 92%. The remainder is primarily in debt instruments. THQ holds 18.5% of its portfolio in debt instruments. THW’s portfolio remains a black box at this time, as there have been no reports as yet by the fund. Top holdings are available for HQH, HQL and THL but not for THW. (click to enlarge) Note how similar HQH and HQL’s lists are. The clear emphasis here is on biotechnology. THQ has positions extending beyond biotechnology to include more traditional healthcare companies such as Johnson & Johnson and Pfizer which is consistent with its more explicit emphasis on income. Other Healthcare CEFs My focus here has been on the Tekla offerings with the intention of clarifying how the new funds differ from the established funds. Before closing, I would be remiss to not mention two other healthcare CEFs; BlackRock Health Sciences (NYSE: BME ) and Gabelli Health & Wellness (NYSE: GRX ). BRE is more similar to HQH and HQL in that it is unleveraged and entirely domestic, but its focus is less on biotechnology than those funds. GRX carries 20.5% effective leverage and has a more diverse portfolio that includes food companies such as Kraft Foods and Kikkomann Corp as well as heathcare holdings. It is 84% domestic and 15% Developed Europe and Japan. BME, like the older Tekla funds shows extensive movement in its premium/discount. It now stands at a 7% premium, up from its 52 week average but well below its 52 week high of 16.2%. GRX, by contrast, tends toward a persistent discount which is now -13.2%, near its 52 week low of -14.8%. BME recently has tended to perform comparably to the Tekla funds; GRX has consistently lagged. Over a longer time frame the Tekla funds have turned in much stronger performances than either BRE or GRX, likely a reflection of their emphasis on biotechnology over traditional healthcare companies. This is illustrated by this chart tracking total return for the past two and five years. (click to enlarge) Summary The two sets of Tekla funds, HQH and HQL on one hand, and THQ and THW on the other, have different objectives and approaches to healthcare and biotechnology investing strategies. HQH and HQL are primarily focused on generating capital appreciation. The younger funds are more in the traditional CEF mold of emphasizing current income as well as capital appreciation. Despite the lack of formal emphasis on income, the distribution policies of HQH and HQL are, in my view, primarily attractive to an investor interested in current income. Their distribution yields are attractive and growing with NAV growth. For a shareholder invested for capital appreciation, the distributions can raise tax issues, so the funds are probably best held in a tax-advantaged account in such cases. In a taxable account, it would seem to make more sense to use ETFs to provide exposure to biotechnology to satisfy a capital growth objective. ETFs can effectively provide that capital appreciation with much lower taxable distributions. The premiums for HQH and HQL argue against entry into these funds at this time. A patient investor would probably choose to wait for some reduction in the premiums, if not outright reversion to discount status. Those premiums are now approaching all-time highs for HQL and are at rarely seen levels for HQH. An income investor seeking exposure to healthcare with a biotech focus may find THQ more appealing than either HQH or HQL at this time. There is, of course, only a scant record for the fund. Tekla has shown itself to be a strong manager of biotech equity portfolios but has little record in expanding that to include debt and credit. The discount of -11.6%, about as deeply discounted as the fund has been in its short life, looks to provide an attractive entry. As for THW, the fund is too young and information too scanty to appeal to me at this time. I suspect it will evolve to be as similar to THQ as HQL is to HQH.