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How State Taxes Put a Bigger Pinch on the Poor"Closed-end funds are a terrific way to gain diversified exposure to high-yielding foreign stocks," says global expert Nick Lanyi.
In his High-Yield International, he explains, "My latest closed-end fund pick, First Trust/Aberdeen Emerging Opportunity Fund (NYSE: FEO), gets income any which way it can from the world's fastest-growing economies." Here's his review.
"For U.S. investors looking to broaden their horizons, closed-end funds offer an easy way to gain exposure to a diverse mix of foreign stocks without venturing beyond U.S.-based stock exchanges.
"Not only that, they often provide access to stocks that don't trade in the U.S. -- including companies that only institutional investors (such as a fund manager) can buy.
"But these funds offer a bonus that mutual funds don't: in some cases you can purchase them at a discount to their net asset value (NAV) -- the underlying value of the fund's portfolio.
"That's because closed-end funds trade on the major stock exchanges, just like stocks. Their prices are determined by investor sentiment and supply and demand, in addition to the value of the investments they hold.
"Led by Brett Diment, the management team at Aberdeen Asset Management -- which specializes in emerging markets -- has assembled a portfolio that exposes investors to some of the fastest-growing economies in the world: Brazil, Mexico, China, India, Turkey, Argentina and Venezuela are among the fund's top holdings.
"But to reduce risk, the managers maintain diversification geographically -- Brazil accounts for 13% of assets, but no other country claims more than 7% of the portfolio. About 42% of assets are invested in government bonds, generally the safest way to play emerging markets.
"But to boost yield and potential capital gains, the managers delve into corporate bonds as well, relying on internal research. Analysts visit each country at least twice a year, and often more, in search of undervalued opportunities.
"Stocks represented 44% of portfolio assets at last count. As with bonds, the managers spread their bets across countries and industries. Looking at the industry diversification of the entire portfolio -- stocks and bonds -- the largest weighting is in financial services, at about 17% of the fund's assets.
"Although such a high exposure to this troubled industry looks worrisome, the fund's managers say that these banks in emerging markets never accumulated much exposure to the subprime market.
"Meanwhile, the fund pays a quarterly dividend distribution in December, March, June and September. Since September 2007, the distribution has been $0.39 a share. Based on this history, I expect dividend increases every six quarters or so.
"In addition to its quarterly payments, the fund also paid capital gains distributions in December 2007 totaling $0.33 a share. In 2007, 10% of the distribution income from the fund qualified for the 15% dividend tax rate; the rest was taxed as ordinary income.
"When I take a look at the countries in which this fund invests, I'm excited. Brazil has been the world's most resilient large economy this year, Mexico continues to thrive, and China and India, while slowing slightly, are sure bets to grow in the +5-10% range this year.
"With a solid yield and a discount to NAV of -12.6%, FEO looks attractive while it is trading at such a hefty discount to its NAV. This investment should be considered high risk. But I think the upside potential far outweighs the downside risk if one holds this fund as part of a diversified portfolio."
Each day, Steven Halpern's TheStockAdvisors.com offers the latest market commentary and favorite investment ideas from the nation's leading financial newsletter advisors.
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