HTD: Trying Like A Worth (NYSE:HTD)

Written by Nick Ackerman, co-produced by Stanford Chemist.

John Hancock Tax-Advantaged Dividend Revenue Fund (NYSE:HTD) gives buyers publicity to a diversified portfolio of utility and fixed-income/most well-liked securities. Because of a reader in our essential Investing Group chat, HTD is as soon as once more again in my portfolio after a swap again from the John Hancock Premium Dividend Fund (PDT).

With decrease rates of interest anticipated within the subsequent yr or two, this fund might be set to carry out a lot better going ahead. Utilities and fixed-income are two engaging areas available in the market as we speak as greater charges beat them down, HTD can additional present an incredible entry with its engaging low cost.

HTD Fundamentals

• 1-12 months Z-score: -0.90
• Low cost: -10.14%
• Distribution Yield: 8.62%
• Expense Ratio: 1.21%
• Leverage: 36.12%
• Managed Property: $1.16 billion
• Construction: Perpetual.

HTD’s objective is to “provide a high level of after-tax total return from dividend income and capital appreciation.” They spotlight that the fund can be utilized for “tax-sensitive equity income.” In any case, even of us in retirement in search of mounted revenue ought to have some publicity to equities as properly to keep up some diversification.

Their method to investing is “typically investing at least 80% of assets in dividend-paying securities.” With that, they’ll “typically emphasize preferred and common securities in the high dividend-paying utility sector.”

The fund carries a relatively elevated quantity of leverage that may add to the danger of the fund. Nevertheless, the argument would seemingly be that the fund holds primarily utility and fixed-income publicity, two traditionally defensive areas to put money into. Sadly, these are a number of the particular belongings that do not do properly in the next rate of interest atmosphere, that means that argument would not have actually had advantage in the previous couple of years.

When together with these curiosity bills, the fund’s whole expense ratio involves 4.25%. That was up considerably and is much like what most different leveraged CEFs are having to take care of. That mentioned, that is additionally one of many fund sponsors that hedged their borrowing prices by monetary derivatives.

Why The Swap From PDT Again To HTD

Final yr, I swapped my HTD place to PDT, after which the swap began to play out, as highlighted in our previous update. I in the end determined to not make the swap again at the moment, however the divergence between the 2 grew to become even bigger extra not too long ago. The chance to take advantage of the valuations right here was all because of PDT reducing its distribution. Distribution cuts aren’t at all times damaging however can usually provide an opportunity to take advantage of the low cost/premium mechanic in CEFs.

These are two funds which can be notably nice as being a swap pair. That is because of their overlapping portfolios, given the relatively comparable method of each of those funds. During the last decade, we will see simply how carefully the overall NAV returns are for these two funds.

That being mentioned, one of many negatives between these two is that it appeared PDT was at all times in a position to commerce at a narrower low cost relative to HTD. The truth is, PDT has been in a position to common a premium over the past decade relative to HTD’s ~6% low cost stage. So, when these reductions flipped on an absolute foundation, and PDT was buying and selling at a deeper low cost, that basically was a singular occasion. It highlighted a stronger alternative than regular.

After all, because it got here from a distribution minimize, it would not at all times imply that the fund’s valuation will come roaring again so rapidly. On this case, I used to be a bit shocked at how rapidly the commerce went again into my favor.

With that being mentioned, we will see that PDT remains to be technically buying and selling at a comparatively engaging low cost in comparison with its personal historic common. HTD is equally buying and selling at a comparatively engaging low cost however does take the sting because of a bigger absolute low cost. The swap alternative right here remains to be obtainable.

Admittedly, although, the day I made my swap was on March 15. PDT closed that day at a reduction of slightly below ~2%, and HTD was at a reduction of -10.29%. The unfold being a contact wider then made the proportion differential a bit extra interesting.

August 24, 2023, was the precise day I made the transfer from HTD to PDT. PDT introduced its distribution minimize on the finish of June. The response to the fund’s announcement wasn’t really as speedy because it normally is, so it took a little bit of time earlier than it grew to become a tempting alternative. That mentioned, it positively paid off.

PDT was in a position to outperform a bit on a complete NAV return foundation, and that additionally helped. Nevertheless, it was in the end the low cost divergence between the 2 that delivered that 3.35x whole share worth return.

On the finish of the day, HTD’s low cost has enchantment right here, and I imagine it is in the end the higher purchase presently.

Regular Month-to-month Distribution

One of many interesting elements of HTD is the regular distribution the fund has been in a position to ship. They minimize as soon as throughout the International Monetary Disaster. Since then, they’ve maintained or raised the common month-to-month distribution. They really raised the payout 4 totally different occasions, however since round 2016, it has been the identical “boring” $0.138 each month, hitting buyers’ accounts.

That is one of many consistencies that buyers can usually pay up for, however for no matter cause, they select to not for HTD. It’s also the place a little bit of my shock got here from when PDT’s low cost narrowed a lot in a comparatively quick time frame after a distribution minimize.

What is perhaps even higher for HTD is that its distribution seems to be comparatively secure right here. At an NAV fee of seven.74%, I do not see the payout being minimize. HTD needed to take care of the identical greater borrowing prices on their leverage that PDT did, however PDT was at the next NAV fee to start with.

At the moment that continues to be the case, with PDT’s NAV fee coming in at 8.18%. In the event that they had been planning to chop, it could make extra sense to chop PDT’s once more as properly – which I do not assume they wish to do. After all, that’s at all times a danger, although, as CEFs are inclined to pay out stage distributions till they determine to vary it. Predicting when that occurs is at all times a tough query.

A technique we see these greater leverage prices mirrored is within the fund’s web funding revenue. As talked about, HTD noticed its borrowing prices rise simply the identical as PDT’s; curiosity expense of their final annual report got here to $23.413 million versus last year’s $7.897 million.

So, seeing NII decline year-over-year just isn’t a shock. That was even the case regardless of whole funding revenue climbing from $56.867 million to $60.395 million. That helped to offset a few of these greater rate of interest prices, however in the end, it wasn’t sufficient. On this case, NII protection involves round 46.2%.

One other space that helped offset the upper prices of borrowings was the fund’s rate of interest hedging. This was finished by futures contracts and rate of interest swap contracts. These helped to offer a bit extra within the capital positive aspects bucket to assist offset these declines in NII as properly.

On the finish of the final fiscal yr, they famous that that they had no future contracts excellent on the time. However, they nonetheless had a notional $314.5 million in rate of interest swaps with a maturity of Could 2026. The fund’s borrowings stood at $418.9 million on the time, that means a majority was nonetheless hedged.

Like most funds with a sizeable fairness element, HTD will depend on capital positive aspects to fund its distribution. When it would not understand sufficient positive aspects to pay out the distribution or earn sufficient NII, it can use return of capital distributions.

On this case, we noticed the NAV decline in 2023, that means that this ROC would have been thought-about damaging ROC. That is not essentially a nasty factor to get the fund by a yr or two whereas nonetheless sustaining the distribution. Nevertheless, it isn’t one thing we wish to see over a number of years.

HTD’s Portfolio

It is no secret that the utility sector and fixed-income/most well-liked securities obtained hit in a higher-rate atmosphere. That is exactly how HTD is invested as properly.

Within the fixed-income company bond sleeve, they’re invested primarily in investment-grade. The world that’s most rate of interest delicate.

That is each the excellent news and the dangerous information. It has meant mainly damaging returns for the reason that begin of 2022 up to now. If in case you have already been closely uncovered to those areas, you’re seemingly seeing these important losses in your holdings.

However, with rates of interest anticipated to be at their peak and the following transfer for fee cuts, that is the world of the market that might do higher going ahead. I believe that’s the excellent news.

Hotter-than-expected inflation has form of thrown a wrench into what the market was initially anticipating. It’s nonetheless extremely anticipated that we’ll get fee cuts later in 2024, however we could must be affected person if the info would not cooperate. If inflation would not return to its downward trajectory, there could also be no cuts till 2025 because the U.S. economic system and labor market has remained extremely resilient.

Trying again at HTD extra particularly, we will see that the fund’s largest publicity is to the utility sector. Nevertheless, that is additionally adopted by financials. That will appear a bit uncommon, but it surely’s often because the fixed-income element of the fund is primarily allotted to the monetary sector. As we will see within the graph under, this has been the case for years on this fund as properly.

Trying extra particularly on the fund’s prime ten, we will see a heavy illustration of the utility house. That additionally contains Verizon (VZ) and AT&T (T), that are telecoms which can be mainly utility-like and shut sufficient to utilities in my e book. Like utilities, VZ and T ought to do higher in a decrease fee atmosphere.

VZ and T are new names within the fund’s prime ten, as they weren’t listed a yr in the past when we reviewed the top ten. If we rewind to that interval and try the N-PORT for his or her 1/31/2023 holdings, we will see that VZ was a place within the fund. It is simply now a a lot bigger place because the fund greater than doubled its holdings to this title; it took the share depend as much as 704,432 from 309,160.

Conclusion

HTD is buying and selling at a horny low cost on an absolute and relative foundation. The swap commerce between HTD and PDT labored out fairly properly, however really, each are comparatively engaging. I will select HTD with a reduction that is additionally comparatively engaging to its personal historical past whereas sporting the bigger absolute low cost. The principle cause is that, if historical past repeats, we’re getting just about similar efficiency between the 2.

PDT minimize its distribution final yr, and HTD didn’t, which makes me pretty assured that HTD is not going to be trying to cut back its distribution. Whereas there can by no means be a assure, I imagine they’d have already in the event that they deliberate to. At this level, I believe they’re content material in ready for the decrease charges which can be anticipated. If knowledge would not cooperate, inflation begins heading greater, and we want fee hikes, then I must begin questioning the protection. At this level, that does not appear to be the seemingly path.