OPP CEF: Too Many Cooks In The Kitchen, Bitter 17% Yield (NYSE:OPP)

Thesis

It’s not usually that we see funds with adverse Sharpe ratios. However RiverNorth/DoubleLine Strategic Alternative Fund (OPP) is considered one of them. With a adverse 3- and 5- 12 months Sharpe ratio OPP takes important danger with nearly no beneficial properties on a long-term foundation: the fund’s 3-year whole returns are adverse whereas the 5-year whole returns are flat. Sure, you learn that appropriately. If you happen to had purchased OPP some time again you’d don’t have anything to point out for at the moment, and when adjusting for inflation you’d truly be dropping cash. For a buy-and-hold investor OPP is one thing to run from, not stroll away, however run.

OPP markets itself on the notion that having two funding managers might in some way create some “magic”:

RiverNorth allocates the Fund’s Managed Property amongst two principal methods: Tactical Closed Finish Fund Earnings Technique (managed by RiverNorth) and Opportunistic Earnings Technique (managed by DoubleLine). RiverNorth determines which portion of the Fund’s belongings is allotted to every technique based mostly on market circumstances. The Fund might allocate between 10% to 35% of its Managed Property to the Tactical CEF Earnings Technique and 65% to 90% of its Managed Property to the Opportunistic Earnings Technique

Supply: Fund Reality Sheet

The allocation is dynamic which leads to an ever-changing danger factoring and weighting. We usually don’t like a lot of these funds as a result of they rely an excessive amount of on the supervisor’s timing skills relatively than belongings’ alpha producing capabilities. Some of these funds additionally are inclined to lack a correct benchmark as a consequence of their “distinctive” funding set-up. From that angle OPP doesn’t fail in not delivering whole returns. The market is conscious of this as effectively with the fund buying and selling at a -5% low cost to NAV.

The fund at present shows a 17% dividend yield:

That is unsupported and it’ll probably be lower, because the fund has accomplished earlier than in January 2022. The fund is pretty new, having IPO-ed in September 2016. For the reason that IPO, the CEF has managed to lose half its NAV and given the unsupported yield it’ll proceed to take action sooner or later. We are inclined to see this kind of conduct from fund managers which lack efficiency – when a CEF just isn’t capable of generate wholesome long run returns they navigate in the direction of the very excessive dividend yield angle to generate curiosity within the fund. Long run this technique erodes the NAV, therefore the current fund rights providing.

The fund holds a big allocation to MBSs (over 37%), with most of them being non-agency. A big portion of the non-agency MBS paper can be beneath funding grade. As mortgage charges have risen this 12 months the length has elevated on MBS bonds as a consequence of decrease pre-payment from owners (decrease refinancings) which has resulted in decrease costs and a decrease NAV for OPP.

There’s not a lot to love about this fund. Might you purchase it after a major sell-off and make a revenue? Positive. Are there a lot, significantly better alternate options within the CEF area to do this? You guess. We don’t just like the sliding risk-factoring set-up for the fund, nor will we like the numerous allocation to non-agency MBS bonds. The present tightening of monetary circumstances will proceed and we’ve not seen the wides in mortgage charges. That may hold strain on MBS bonds and improve length through decrease CPRs for a lot of of them. We really feel OPP is a superb instance of getting too many cooks within the kitchen which leads to a bitter soup. New cash and purchase and maintain traders ought to steer away from OPP – it affords very poor rewards for the danger taken. Present stakeholders would possibly wish to Maintain till late subsequent 12 months to be able to recuperate a few of the 2022 drawdown.

Holdings

Presently the fund is obese the Opportunistic Earnings Technique:

That set-up has resulted in a big portfolio allocation to non-agency MBS:

Lots of the non-agency MBSs are beneath funding grade:

We will see from the above graph that greater than 44% of the fund has a ranking that falls within the excessive yield class. Parsing by the belongings we are able to infer {that a} important proportion of the Non-Company bucket falls within the beneath funding grade class.

Efficiency

The fund is down nearly -20% on a complete return foundation in 2022:

The fund has a adverse 3-year efficiency:

OPP has very poor 5-year whole return metrics as effectively:

Distributions

Over 60% of the present dividend consists of return of capital:

We anticipate this to persist in 2022 because the fund underperforms from a NAV standpoint. If the belongings don’t generate sufficient cash-flow to pay the dividend yield then that cash comes from investor “principal”.

The CEF has lower its distribution earlier than and we anticipate to see one other lower this 12 months:

Conclusion

OPP is a set revenue CEF that allocates its money between two principal methods. The 2 methods are run by completely different asset managers, specifically RiverNorth and DoubleLine. This set-up offers for a sliding danger factoring and a dynamic portfolio allocation. The present holdings are obese the DoubleLine technique and non-agency MBSs. As a result of violent mortgage price re-pricing this 12 months the underlying MBS bonds have seen their length improve and their pricing shifting down, leading to OPP being down nearly -20% in 2022 on a complete return foundation. The fund has an unsupported 17% dividend yield and we anticipate the distribution to be lower this 12 months. With a adverse 3- and 5- 12 months Sharpe ratio OPP takes important danger with nearly no beneficial properties on a long-term foundation: the fund’s 3-year whole returns are adverse whereas the 5-year whole returns are flat. New cash and purchase and maintain traders ought to steer away from OPP – it affords very poor rewards for the danger taken. Present stakeholders would possibly wish to Maintain till late subsequent 12 months to be able to recuperate a few of the 2022 drawdown.