UTF: an infrastructure game with a delivery yield of 7.2%
Written by Nick Ackerman, co-produced by Stanford Chemist. This article was originally published to members of the CEF/ETF Income Laboratory on May 3, 2022.
Cohen & Steers Infrastructure Fund (NYSE:UTF) has recently fallen back into a slight discount. This was after spending most of 2021 at fairly high bonuses. In my previous post, I explained that I put UTF back in my wallet. I believe it continues to be a reasonable fund worth investing in at this time.
The overall market declines during the year made the fund more volatile. Utilities held up a little better, but UTF was still down a bit on a YTD basis. With global exposure in the fund, it can help diversify an investor’s income portfolio.
- Z-score over 1 year: -1.27
- Discount: -2.42%
- Distribution yield: 7.20%
- Expense ratio: 1.34%
- Leverage: 25.86%
- Assets under management: $3.7 billion
- Structure: Perpetual
UTF’s objective is “total return, with an emphasis on income through investment in securities issued by infrastructure companies”. They define infrastructure companies as those that; “generally provide the physical framework that society needs to function on a day-to-day basis and are defined as utilities, pipelines, toll roads, airports, railways, seaports and telecommunications companies.”
This leaves them fairly free to invest in just about any infrastructure or utility they choose, anywhere in the world and in any part of a company’s capital structure. We see this hybrid allocation appearing, but the fund regularly leans towards equity positions.
The fund is large in size, which may be ideal for large shareholders who need a higher daily trading volume to enter or exit positions. Some of the managed assets are due to the leverage effect used.
Leverage can increase risk, but can also increase upside potential when things are going well. This, however, is not the only concern regarding leverage in the current environment. Right now, the cost of leverage is front and center, with higher interest rates to come. The reason for this is that most closed end funds will have floating rate based borrowings such as LIBOR or, as we move forward, SOFR.
UTF is in a position where they are primarily in fixed rate financing. At the end of 2021, they said they had an average duration of 4.5 years on their fixed rate financing. This puts them in a better position overall, at least for the predictability of where their interest expenditure goes.
Including these leverage fees, the fund’s expense ratio is 2.19%.
Performance – Solid Results
Despite the fund’s tilt towards global positions, it delivered strong results. I say this because most global funds have lagged considerably, given the underperformance of global stocks. A CEF is a packaging of other assets; it is not an asset in itself.
One fund that always seems to be compared to UTF is the Reaves Utility Income Fund (UTG). I think it’s good to compare these two, but I prefer to hold both myself. I think there’s a pretty strong reason to own both, because both invest differently.
Over the past decade, as the graph above shows, we can see that UTF has clearly come out on top. For most of the period, the fund was the best based on total price return. Based on total net asset value return, the outperformance doesn’t appear to have really started until 2020. One reason for this is that UTG actually changed to reduce its leverage and did not increase significantly borrowing throughout 2021. This means they ultimately missed a significant rebound in which UTF remained invested.
To be clear, however, this was not a forced deleveraging for the fund that some CEFs had experienced. It was a management decision that ultimately hurt them in the end.
If we look at the UTF discount/premium over the past decade. We can see that the fund has clearly traded consistently at a discount to its net asset value. That changed for most of 2021, and even in early 2022 so far it’s still been elevated.
This puts the fund in a unique position that can divide investors. On the one hand, I think the fund is currently offered at an attractive price. Rather, it would be close to where the fund has been trading for the past two years. However, another investor could clearly argue that UTF is still too expensive right now. I say buy now and lower the average later if the fund becomes even more attractive.
Distribution – A distribution yield of 7.20% paid monthly
UTF has quite an attractive and regular distribution history. They had only cut once, and that was in the 2008/09 GFC. I don’t think that’s something we should hold against a fund. There had only been a handful of funds that had maintained their distributions with an inception date prior to 2008/09. UTG is actually one of those names.
Meanwhile, UTF has been reduced quite drastically. They had even gone from a monthly distribution to a quarterly payment. Monthly distributions are often a selling point for income-oriented investors. So these investors were probably happy to see the monthly calendar return in 2017.
The fund holds many utility and infrastructure stocks; these are often associated with regular dividends due to regular cash flow. Therefore, UTF should also show a fairly large amount of revenue in its earnings.
However, as a CEF that invests heavily in equity positions, we know a lot will also come from capital gains.
The fund’s net investment coverage is approximately 30%. The rest was easily covered by the gains made. They even had huge unrealized appreciation on the portfolio as stocks rebounded. This also represents a significant year-over-year increase. In 2020, we can see that the NII coverage was only 22.22%. For that year, we also find that even when combining realized capital gains, earnings were not sufficient to cover the payout to shareholders.
For tax purposes, this fund turns out to be quite a significant consideration for a taxable account. This is because they pay out the majority of their distribution which is classified as long-term capital gains.
Ordinary income doesn’t usually result in a tax benefit, but in 2021 it all ended up being qualified dividends. This means that taxes for this part of the distribution have also been reduced from ordinary income rates.
UTF handlers can be quite active. This can result in several changes in the fund’s positions each quarter. How active (or not) a manager is is evidenced by the reported portfolio turnover rate. For 2021, they had reported a turnover rate of 47%. This has been as high as 54% over the past five years and as low as 37%.
Despite this fairly active turnover rate, the overall changes in the composition of the fund are relatively small. Additionally, we see that some of the top holdings remain the best for years. That’s not necessarily a bad thing, however. If it works and investors are getting returns, they need to be in the right positions.
At the end of the first quarter of 2022 (March 31, 2022), they show that 89% of the fund is invested in common stocks. The remaining 11% is in a mix of preferred and fixed income securities. It is quite common for the fund to be quite equity heavy. Additionally, with their latest update, it appears that the biggest industry exposure is in the electric utility sector.
They also have a fairly significant 11% exposure to midstream companies. As we know, energy games have been a solid bet for 2022 as commodity prices have risen.
Looking quickly at geographic diversification, we can see that while US positions are the highest allocation, it is not the only country. Canada also has a fairly large exposure. However, the second place is simply “other”.
Sector diversification and country allocation haven’t changed much over the years since I started monitoring the fund.
Looking at the top ten, we see that these represent a fairly large weighting of 35.3% of the portfolio. It can be quite significant. This would sometimes suggest that the portfolio as a whole will be rather narrowly focused. However, that is not the case at all, as they have a total of 235 holdings listed on their website. We can see that even in the top ten, as you go past the top positions, the weights start to drop quite quickly.
The largest position for UTF is NextEra Energy (NEE). This has been one of the fund’s largest positions for several years now. If you go back to my article at the end of 2018, we can see that NEE is present there in the first place. Similarly, in my brief fund update in February this year, we see NEE in the largest position. However, the allowance has since declined; at that time it was a weighting of 6.3%.
One of the reasons for this could be due to the name’s underperformance in the first quarter. If we look at a comparison between the top five positions listed above, we can see that NEE only outperformed American Tower Corp. (AMT) during this first quarter. Otherwise, this group of actions was led by Enbridge (ENB), with a significant lead.
Overall, I like the strong mix of names in their top ten titles. They are among the big names in their respective sectors.
UTF is a strong fund and has delivered solid results to shareholders over the years. The fund could be considered a bargain right now if we look at the valuation over the past two years. However, we still have a long way to go when considering the longer-term average discount that the fund typically carries. To me, it seems like buy now and buy later if it hits those wider discount levels. Leave room for the average down for this fund. That’s exactly what I did when I added the name to my portfolio a few months ago.