NHS: 13% CEF High Duration Bond Yield (NYSE:NHS)

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Thesis

Neuberger Berman High Yield Strategies (NYSE: NHS) is a closed-end, fixed-income fund. The fund’s primary objective is total return and invests most of its cash in US fixed-rate, high-yield bonds. As in accordance with its mandate, aat least 80% of the Fund’s total assets will be invested in below investment grade (high yield) debt securities (including corporate loans) of US and foreign issuers. The NHS is a classic high-yield bond fund by its composition, but the CEF is particular by its construction and its leverage effect. The CEF manages a very high leverage ratio of 43%:

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Capital structure (Fund Fact Sheet)

For high yield bond funds, this leverage ratio is very high. We usually see numbers around 30% here. The fund is nevertheless smart in the way it has structured its leverage. The entire loan was carried out via forward instruments:

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Leverage (Fund Fact Sheet)

We see many CEFs entering into repurchase agreements or total return swaps with shorter maturity dates. The NHS has virtually defined its entire leverage structure. Note, however, that the preferred shares are redeemable (compulsory) in August next year, which means that the fund will have to raise new term debt at that time or start rolling shorter debt structures. term.

The fund was severely challenged in 2022 due to higher rates and risky markets. Duration is an important component for the NHS, with the fund showing above normal figures (adjusted duration with leverage of 7.7 years). The fund has had a strong historical performance outside of 2022, but given its structure, it represents a higher bond CEF beta.

Investors who are already in the fund should hold on, given the risk rally that will likely occur in 2023. New capital seeking exposure to fixed income should be comfortable with the effect high leverage and duration of the fund.

Assets

The fund mainly holds bonds:

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Assets (Fund Fact Sheet)

Over 88% of the portfolio is made up of bonds, with a very small pocket for leveraged loans and short-term investments. The majority of collateral falls in the middle of the junk rating grid, being uniquely “B”:

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Assets (Fund Fact Sheet)

The fund nevertheless has a significant “CCC” tranche, which shows 19.3%. We don’t like to see CCC credits make up more than 10% of a portfolio, as this tilts the fund toward true writedowns in a recession, especially when leverage is added.

The fund has a granular structure, with no industry sector exceeding a 10% threshold:

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Main sectors of activity (Fund Fact Sheet)

From a unique name perspective, we see a continuation of the same theme, with individual names at less than 2% of the portfolio:

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Top 10 holdings (Fund Fact Sheet)

The particularity of this CEF is its long-term profile:

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Facts (Fund website)

When adjusting for leverage, the fund has a duration of 7 years, which results in higher than normal interest rate sensitivity. We don’t typically see funds executing such high duration profiles, particularly in the fixed bond space.

Performance

The fund is down more than -26% since the start of the year:

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Total returns (Looking for Alpha)

We compare NHS with a CCC heavyweight fund, namely KIO, and with a regular Credit Suisse high yield bond fund, namely DHY. Given its duration and leverage, NHS has performed in line with the highly risky KIO so far this year.

Over a 3-year period, the three funds have a similar performance from a total return perspective:

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Full return (Looking for Alpha)

We can notice from the chart above how NHS which is a long duration and KIO which is a long credit risk are outperforming in the zero rate environment.

A 5-year period paints a similar picture:

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Full return (Looking for Alpha)

KIO and NHS are more volatile, but outperform in normalized economic environments.

Premium/Rebate to NAV

The fund typically trades at a discount to net asset value:

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Premium/Discount (The morning star)

We can see from the Morningstar matrix that NHS typically trades at an average -7% to -10% discount to its net asset value.

This year has seen substantial fluctuations in the discount:

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Data by YCharts

Like other fixed income CEFs, the NHS exposes a beta to risk market movements.

Distributions

The fund has a managed distribution policy:

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Distributions (Looking for Alpha)

Over the past 3 years, CEF has sent investors $0.0905 per month. Currently, only 60% is interest income, the rest representing a return of capital:

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Notice under Section 19a (section 19a)

We can see that this fund has also been a heavy user of ROC in the past:

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NAV performance (Cef Connect)

The fund exhibits an annual decline in net asset value of approximately -3.8% over a 10-year period. If we eliminate 2022, which is an outlier, the drop in NAV changes to -1.6%, which is more acceptable. However, the fund overdistributes or does a poor job at its secondary trading in terms of NAV value creation.

Conclusion

NHS is a fixed income CEF. The fund focuses on US high yield, and more specifically fixed rate bonds, which make up more than 88% of its portfolio. The vehicle overlays a very high leverage of 43%, making it very credit sensitive, although the portfolio is overweight in single “B” credits. The fund’s composition, coupled with its very high duration, is behind its -26% performance so far in 2022. NHS is a high beta fixed income CEF, and its performance reflects its constitution. The fund’s 13% dividend yield is currently unhedged, with 40% of its last distribution being a return of capital. Investors who are already in the fund should hold on, given the risk rally that will likely occur in 2023. New money seeking exposure to fixed income should be comfortable with the effect high leverage and duration of the fund.

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