ERH: A Mix Of Bland And Spicy, But How’s The Taste?
Wells Fargo Advantage Utilities & High Income Fund isn’t a pure utilities fund. What it does provide is an interesting mix of “high” risk and “low” risk assets. Overall, though, I’m not impressed, but it might make sense for those playing premiums and discounts. I recently wrote a couple of articles about infrastructure closed-end funds, or CEFs. One of the comments asked about my thoughts on the Wells Fargo Advantage Utilities & High Income Fund (NYSEMKT: ERH ). My take: It’s an interesting fund, but it’s not easy to pin point what kind of fund it is or provide a good reason for owning it. Not an infrastructure fund As soon as you take a look at the portfolio of ERH you see that it is not an infrastructure fund. Sure, it owns infrastructure assets, primarily in the utility space (though it also owns some pipelines). But it isn’t as broadly diversified as the Reaves Utility Income Fund (NYSEMKT: UTG ), the Cohen & Steers Infrastructure Fund (NYSE: UTF ), or the BlackRock Utility and Infrastructure Trust (NYSE: BUI ). All of which venture well beyond the utility sector, including such things as toll roads. ( I compare UTG and UTF here , and I examine BUI here .) So, if you are looking for broad infrastructure exposure, you’d be better off with a different fund. But, interestingly, this is not the defining difference between ERH and these other funds. The defining difference is that ERH combines utilities with preferred stock and high yield debt. At the end of February , the portfolio breakdown was roughly 60% stocks (mostly utilities), 30% high yield bonds, and 10% preferreds. So about 40% of the fund was invested in fixed income, or at least fixed-income like, assets. Moreover, the 30% in bonds was focused around high-yield bonds, which many would consider living on the complete opposite side of the risk spectrum from utility stocks. But that’s where this fund becomes interesting. It isn’t alone in pairing up different asset classes. For example, the Cohen & Steers REIT and Preferred Income Fund (NYSE: RNP ) is another fund that combines disparate income-focused assets under one roof. A yield kick? For ERH, the benefit of putting utilities, high-yield bonds, and preferred stock together is to create a portfolio that spits out plenty of income. On that front, the fund’s yield of nearly 8% is above UTG and UTF, but about on par with BUI. BUI makes use of options, which helps enhance distributions. ERH does not use options, but does use leverage (about 22% of assets at the end of the first quarter), like UTG and UTF. So it appears that adding high-yield debt to the picture allows ERH to add income over roughly similar funds that focus more on equity investing. That said, it is worth noting that ERH cut its distribution in 2011. Return of capital made up a little over half of the fund’s distribution the previous year, so that 2011 call was likely a good one. In fact, since that time, the fund’s net asset value, or NAV, has grown from $11.20 or so a share to around $12.70. All the while it’s spit out a steady $0.90 a share in distributions each year with none coming from return of capital. An odd ball While it’s hard to complain about that, the fund is an odd mixture of risks. For example, when it comes to bonds, high-yield is among the most aggressive options out there. But, interestingly, even high-yield bonds are lower risk than stocks, using most broad benchmarks. But in stocks, utilities are usually considered low risk. So there’s this interesting low risk/high risk mash up going on. ERH’s trailing five year performance through May provides a good example of what can happen when things go well. Over that span, ERH’s standard deviation was roughly 9.3. The Vanguard High Yield Corporate Fund’s (MUTF: VWEHX ) standard deviation was lower, at 5.4, while the Vanguard Utility Index Fund’s (MUTF: VUIAX ) was higher, at 11.4. Trailing annualized performance, which includes the reinvestment of distributions, meanwhile, fell along the risk lines. VWEHX had a trailing five year return of 8.8%, ERH posted an annualized 12% or so, and VUIAX came in at 13.8%. For comparison, SPDR S&P 500 Index ETF turned in a trailing return of 16.4% with a standard deviation of roughly 12.3. Essentially, the mix of assets in ERH reduced volatility and enhanced return relative to investing in stocks alone. The trailing three year numbers are roughly similar, but the trailing 10-year results are a stumbling block. ERH’s standard deviation was higher and return lower than both VWEHX and VUIAX over that span. So the fund doesn’t always live up to what you might expect. Unique and not right for most I could keep going, but there’s enough here to show that ERH is really an odd duck. It isn’t an infrastructure fund, it isn’t a utility fund, it isn’t a high-yield bond fund, and it isn’t a preferred fund. It’s a little bit of each. And while the idea of mixing different asset types makes logical sense, it hasn’t always work out the way an investor might hope here. While recent performance has been solid, longer-term results have been mixed, at best. Moreover, I’m not sure that ERH would play nicely with your portfolio if you use an asset allocation model. Yes, it could be used to shift allocations on the edges, but I’m not sure utilities, preferred stock, and high-yield are the places you should be looking for flexibility. For most investors seeking utility or infrastructure exposure, I’d suggest going with a fund that is really focused in those spaces. For investors seeking income, I think there are probably better ways to go about finding it. Unless you are looking specifically for a high-yield and utility fund for some reason, I’d suggest passing on this one. That said, if you like to play premiums and discounts, ERH is currently trading hands at a nearly 10% discount to its NAV. It’s trailing three-year discount is around 4%. With such a wide break from historical averages, now could be a good time to try to take advantage of this disparity. Other than that, I can’t come up with a great reason to own this fund. Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. (More…) The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.
