DNIF - DNIF: Sustainable Decent-Yielding Diversified CEF Available At A Discount

2023-08-29 13:12:02 ET

Summary

• Dividend and Income Fund generates strong current income and undertakes an acceptable degree of risk.
• The DNIF closed-end fund's portfolio composition has changed significantly, with increased investments in financial and industrial sectors.
• Despite positive year-to-date price growth, DNIF is still trading at a deep discount, which may impact consistency of yields.

~ by Snehasish Chaudhuri, MBA (Finance).

Dividend and Income Fund (DNIF) is a closed-end equity mutual fund, or CEF, that primarily invests in dividend-paying stocks of companies across diversified sectors all over the world. The fund also invests in exchange-traded funds, real estate investment trusts ("REITs"), open ended funds, closed-end funds, business development entities, etc. Last time I covered the fund in January, I found that this fund has been generating above-average yield over the years. DNIF was trading at a deep discount of 33.35 percent. After negative price growth over years, this fund has been successful in generating decent price hikes in 2023. However, the fund is still available at a huge discount. This makes DNIF an interesting pick. It might be highly undervalued or has some inherent problem.

DNIF Generates Strong Current Income, Undertakes An Acceptable Degree Of Risk

Dividend and Income Fund was formed on June 9, 1998 by Bexil Advisers LLC. Its primary investment objective is to seek strong current income, which the fund has been quite successful at. In order to create its portfolio, DNIF employs fundamental analysis with a focus on financial strength, profitability, yield, growth potential, and risk.

In my last coverage , I commented that DNIF undertakes a high, but acceptable, degree of risk, as two sectors (consumer products and basic materials) that this fund was focused on were more volatile and cyclical in nature. However, major holdings from those sectors performed reasonably well over the years, especially when the broader market failed to deliver growth. That's why DNIF was steady with its average yield.

Since January, There Have Been Many Changes In DNIF’s Portfolio Composition

DNIF’s portfolio has gone through a major reshuffling since my last coverage. That time, the percentage of assets invested in industrial, financial, healthcare and technology sectors were only 38 percent. This time, I find that percentage has gone up to 53 percent and more than 45 percent of its assets are invested in financial and industrial sectors only. In my opinion, these four sectors are having the best growth opportunities in the coming decade. Thus, the current portfolio composition looks impressive. DNIF made significant investments in consumer and mortgage finance companies such as Discover Financial Services (DFS), Credit Acceptance Corp (CACC), Essent Group Ltd (ESNT), NMI Holdings, Inc. (NMIH) and Enova International Inc (ENVA). Barring DFS, all other stocks created strong double-digit price growth during the current year.

Since investors of Dividend and Income Fund rely on its dividend yield, sustainability of its current level of yield is very important. The fund has an assets under management, or AUM, of $216 million, and has an expense ratio of 1.79 percent. The prime reason behind such a high expense ratio is that the fund has a limited number of stocks (only 42 at present) along with a turnover ratio of 42 percent. Within the last seven months, there have been a lot of changes in the composition of its portfolio. The fund makes use of leverage, but the leverage part is not out of proportion. Even considering all these factors, the expense ratio seems exceptionally high. This leaves a possibility of impacting consistency of yields.

Another sector that got prominence is the industrial sector. Heavy industries like Mueller Industries Inc (MLI), U-Haul Holding Co (UHAL), BlueLinx Holdings Inc (BXC) Encore Wire Corp (WIRE), Atkore Inc (ATKR) also became part of DNIF’s major portfolio. Again, barring UHAL, all other stocks generated high growth within the range of 14 to 31 percent.

Interestingly, none of these 10 financial and industrial stocks featured among DNIF’s top 20 investments in January. Generally, funds invest in banking and insurance giants in the financial sector; whereas they invest in well-known electrical and automotive industries in that sector. Dividend and Income Fund seems to be an exception. The best part is that these stocks have been picked after thorough research with regards to their yield, profitability, financial strength and growth potential.

Deep Discount From NAV Despite A Year-to-Date Price Growth

The Dividend and Income Fund earlier had a ticker of “DNI.” Its deep discount from net asset value attracted various activist investors such as Saba Capital Management, including Bulldog Investors, etc. Such activist investors led to a shareholder’s proposal to convert DNI into an open-ended mutual fund. Unfortunately, that attempt failed, and on October 8, 2020, DNI decided to voluntarily delist itself from NYSE. The fund has been listed on the Over the Counter (OTC) market for almost the last three years with the current ticker "DNIF.'' A 33 percent discount is partially justified due to the fund's OTC status. OTC securities have higher risk and lower liquidity, so it is reasonable that investors are skeptical and thus the fund is not able to realize its full potential.

DNIF has a history of diluting the stakes of existing investors through issuing right shares and its strategy of delisting the fund to demoralize activist investors may have worked but has created a dent in investor’s confidence. This, too, leads to such a deep discount. On the other hand, fund managers are actively managing this fund and ensuring DNIF is able to generate steady yield on a consistent basis. In my opinion, DNIF has a sustainable yield and has been successfully meeting its investment objective. From that viewpoint, a 33 percent discount seems a little harsh, especially considering its positive YTD price growth. Although, income-seeking investors have nothing much to worry about DNIF, still I believe that a significant discount will always remain.

Investment Thesis

While the Dividend and Income Fund’s portfolio was focused on stocks from basic materials and consumer products sectors during January, at present it has emphasized more on stocks from financial and industrial sectors. I found this impressive due to my assumption that these sectors, along with healthcare and technology sectors, have the maximum growth potential in the coming decade. DNIF has been generating above-average yield on a consistent basis. The fund had poor price growth earlier, but that has turned positive this year.

In my opinion, Dividend and Income Fund is a good fund to hold on, since it generates decent yield and is currently being traded at a deep discount. However, despite such a discount, I won’t recommend buying this fund, as I believe this discount will always remain a reality, thus eliminating any opportunity of abnormal gain.

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