ZTR - ZTR: Balanced Fund With An Unsustainable Yield

Summary

• The ZTR follows a 60/40 balanced allocation.
• It pays an attractive 14.8% forward yield.
• However, with the fund only earning a 2.1% 5Yr average annual return, the distribution rate appears far too high and unsustainable.

The Virtus Total Return Fund Inc. ( ZTR ) is a closed-end fund that follows a balanced equity/fixed income allocation. Although the fund pays an attractive 14.8% distribution yield, the fund only earns 2.1% 5Yr average annual returns, so the distribution rate appears unsustainable. I would avoid the ZTR fund.

Fund Overview

The Virtus Total Return Fund Inc. is a closed-end fund ("CEF") that follows a 'balanced fund' model with a 60% target allocation to equities and a 40% target allocation to bonds. The equity portfolio is managed by Connie Luecke of Duff & Phelps ("D&P") and the bond portfolio is managed by David Albrycht of Newfleet. Both D&P and Newfleet are affiliates of Virtus (Figure 1).

The ZTR fund was formerly called the Zweig Total Return Fund, but was merged with the Virtus Total Return Fund ("DCA") and the Zweig Fund ("ZF") in 2016, with ZTR being the surviving ticker.

Today, the ZTR fund manages $717 in total assets and $510 million in net assets for 29% effective leverage (Figure 2). ZTR charged a net expense ratio of 2.26% in fiscal 2022.

Portfolio Holdings

Although the ZTR has a 40% target fixed income allocation, the manager does have freedom to adjust the weightings as they see fit. As of November 30, 2022, the portfolio's asset allocation is shown in Figure 3. ZTR's portfolio was 75% allocated to stocks and 25% allocated to bonds.

The equity portfolio allocation, managed by D&P, is heavily weighted towards Utilities, Industrials, and Energy companies (Figure 4). Investors should note that D&P's expertise is in global infrastructure, so the equity portfolio is modeled after D&P's global infrastructure strategy.

The fixed income portfolio is managed by Newfleet and is broadly diversified between investment-grade corporates, high-yield corporates, MBS, ABS and other fixed income assets (Figure 5). ZTR's fixed income portfolio is modeled after Newfleet's multi-sector core plus strategy.

Returns

Figure 6 shows the ZTR fund's historical returns. ZTR's medium-term returns have been lackluster, with 3 and 5Yr average annual returns of -1.4% and 2.1% respectively to January 31, 2023. Note that since the ZTR fund merger with DCA and ZF occurred in 2016, ZTR's 10Yr and 15Yr historical returns may not be comparable.

On an annual basis, we can see that ZTR's returns have been quite volatile, lurching from strong gains to steep losses from year to year (Figure 7).

Furthermore, ZTR performs poorly against a low-cost balanced fund like the Vanguard Balanced Index ( VBAIX ), with historical returns shown in Figure 8. On a 3 and 5Yr basis, VBAIX has returned 4.6% and 4.5% respectively to January 31, 2023.

Distribution & Yield

ZTR pays a monthly distribution of $0.08 / share, or a 14.8% distribution yield on market price. On NAV, ZTR is yielding 13.7%.

Before investors rejoice, they need to realize ZTR's distribution rate is clearly unsustainable, given the fund only earns a 5Yr average annual return of 2.1%. Historically, the ZTR fund has relied heavily on NAV destroying return of capital ("ROC") to fund its distribution (Figure 9).

In fact, the ZTR fund's distribution has been cut multiple times in the past few years (Figure 10).

Conclusion

The ZTR fund is a CEF following a balanced equity/fixed income allocation. Although the fund pays an attractive 14.8% distribution yield, the distribution rate appears unsustainable as ZTR has relied heavily on return of capital to fund its distribution. I would avoid the ZTR fund.

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