Closed-End Country Funds May 21, 1998February 5, 2017 Yesterday, I made a case for considering placing a speculative bet or two in Asia. Does this make sense for a an investor with $25,000 in stocks and a 10% car loan? No. As I have argued before, that investor is effectively in the market on margin. He should first pay off the car loan. (Not having to pay 10% nondeductible interest on a car loan is as good as earning 10% risk-free, tax-free – an outstanding return.) So, no. But what of the investor with $300,000 in stocks and all his debts paid off (other than a mortgage) – would it be crazy for him to move $50,000 of it into a long-term bet on Asia, spreading it among four or five closed-end country funds? Maybe. Only with hindsight will we know for sure. (One might argue it wasn’t crazy even if it didn’t work out, but no one buys that kind of argument when they’ve just lost $50,000.) If you do choose to explore these waters: Nerves – and patience – are required. If it would make you nervous to see this go very badly for a while … or hurt you if it went very badly permanently … then forget it. Avoid buying funds at a premium to their net asset value. Once closed-end funds (also known as “publicly traded funds”) are sold to the public, they’re closed to further investment. You can only buy their shares from someone else, not by sending your money to the mutual fund company. So they trade like stocks. And, like stocks, they often trade irrationally. If a closed-end fund owns Japanese stocks worth $1 billion (say) and the fund is divided into 100 million shares, then the “net asset value” of each of those shares is $10. But that doesn’t mean the shares will sell for $10. They might sell for $7.50 or for $15. One reason they actually should sell for less than $10 is the fat annual expense charge the fund management takes – so owning those Japanese stocks through the fund isn’t really like owning $10 of them directly. Reasons an investor might buy a fund for more than its net asset value (NAV): He believes the fund managers can pick the right stocks and outperform the Japanese market … he can’t find some other way to invest in Japan … he expects the premium will widen even further (the greater fool theory, which often works, at least for a while) … or (and this is the most likely) he doesn’t even realize that he is paying $1.20 to buy $1 worth of assets. Recently, you could have bought some closed-end Korea Funds at large premiums to their net asset values … certainly easier than boarding a plane for Seoul and establishing a brokerage account over there and chatting up the managements of a bunch of Korean companies trying to decide what to invest in … or you could have invested in a more obscure one at a large discount. It’s called the Korea Asia Fund, and you can find out at least a little about it at www.trustnet.co.uk/charts/1201.html. Last I checked, it was selling at approximately a 20% discount to net asset value. If – and it’s a BIG if, which I have NOT researched – this fund is as well managed as the others, with annual expense charges no greater, then clearly, over the long run, it’s more advantageous to buy $1 worth of Korean stocks for 80 cents than for $1.20. Then again, even if this turns out to be an accurate description of the situation … and I repeat that I have NOT researched it … it’s a pain to understand and buy this obscure British/Hong Kong-managed fund that doesn’t trade on the New York Stock Exchange like the others, so most people don’t. Full disclosure: I did buy some of this and so learned that for U.S. investors, it trades in 500-share ADRs (American Depository Receipts). The $1.30 price per share you may see on its Web site translates into $650. If it’s down to $1.10, that’s $550; if it climbs to $2, that’s $1,000 per ADR. The point of this is not to get you to buy this closed-end fund but to show you the variability of what’s out there and suggest the value of doing some research. I was too busy and lazy to research it myself. I have such a widely diversified (ragtag?) portfolio, no single folly can do much harm. But just because I’m (prudently) reckless doesn’t mean you should be. Finally: I often argue the merits of index funds, Spiders and WEBS (World Equity Benchmark Shares, if memory serves). Their expense charges and taxable gains are kept to a bare minimum, which gives you an edge. But it’s probably true that in some of the less developed markets, a smart manager may be worth paying for. Take, for example, Japanese WEBS. They trade just like stocks, symbol EWJ. Yet I sold mine when a friend who knows Japan made a good point. He said he thought this was a good time to buy into Japan for the long-term but that some of the big companies were still being artificially propped up by the old-boy cozy network over there … they hadn’t yet bitten the bullet … and so if you just bought the index, you’d be weighted pretty heavily with potential clunkers. Better to pay a fund manager who can tell the good from the bad, the truly competitive firms from the old guard still in the process of face-saving measures on the road to further write-downs. This made sense to me, so I took my tiny profit in EWJ (always easier to change one’s mind with a gain than a loss) and am casting about for the smartest way to put some chips in Japan. (One way, of course: just buy some stocks like Sony and Hitachi directly, here on the New York Stock Exchange.) All suggestions welcome. So there you have it. The only part I’m really sure of: pay off your car loan.* *Unless it’s one of those 1.9% deals, in which case it would have been advisable to take the “$1,500 cash back” instead.