GDO: A Term Fund That Is A Play On Rates

Summary

• Western Asset Global Corporate Defined Opportunity Fund is a foreign bond fund that invests in mostly corporate bonds of investment grade quality.

• The fund has a term structure and is set to self-liquidate on December 2, 2024.

• The fund offers a robust yield of 9.78% and has strong credit quality, making it a good option for high-quality bond investments.

• This is a great option to be able to "juice" your investment-grade corporate bond sleeve in your portfolio.

• The discount is a given -4.8% over the next 11+ months. That itself is a decent return on a bond portfolio, especially when compared to the last 3 years.

tadamichi

Western Asset Global Corp Defined Opportunity Fund (NYSE:GDO) is a foreign bond fund that invests in mostly corporate bonds of investment grade quality. The key thesis on the fund is that it fits our current investment strategy of higher-quality, longer-duration helping to lock in yields. Additionally, this is a term fund structure that self-liquidates in less than 12 months (December 2, 2024)

The primary investment strategy is to own U.S. and foreign corporate bonds of various maturities. At least 40% of the bonds must be domiciled outside of the U.S., and the fund can only invest up to 35% in non-investment grade, "junk" bonds.

From the annual report:

GDO annual report

Basic Info:

• Ticker: GDO

• NAV Ticker: XGDOX

• Current Discount: -4.72%

• Distribution Yield: 9.78%

• Monthly Distribution Payment: $0.102

• Total Assets: $282.16mm

• Leverage: 29.95% (loans) + 1.73% (repos) = 30.65%

• Duration: 6.1 years

• Avg Coupon: 7.39%.

Fund Details

The fund has currently a 54% allocation to the U.S. and an 8.1% allocation to the UK. Mexico is the third largest country, weighing in at 5.1%. However, in terms of currency exposure, nearly 83% of the weighting is U.S. dollars, so currency risk is fairly minimal. 11% of the remaining 18% of currency weight is from the euro.

Western Asset

Credit quality is strong, especially for a closed-end fund which tends to house less liquid, non-investment grade issues. Overall, this fits well with our thesis of owning those high-quality areas of the market since we do not believe it pays to own "junk" in this market. Credit spreads remain tight and aren't offering sufficient yield to adequately pay for the risks.

Western Asset

The fund has a term structure meaning that it is slated to self-liquidate on Dec 2, 2024 at NAV. The key is "at NAV," as any discount that you purchase shares at will be a realized gain at that date. The question is, what the NAV does between now and then?

The other question we need to ask is what the fund sponsor does with the distribution. This is less of a concern, since the distribution comes out of NAV, so if it is unearned, then it is immaterial.

In other words, the yield could come from the distribution in the months leading up to the liquidation or it comes from the liquidation itself.

Total Return Potential

This is my guessing game figuring out what the fund will earn between now and that date. The discount is a given -4.8% over the next 11+ months. That itself is a decent return on a bond portfolio, especially when compared to the last 3 years.

The yield on the portfolio is a robust 9.80%, but only about 71% covered as of the latest quarterly report dated 7/31/23. That means the covered yield is just under 7.0%. Thus, the total return is potentially 11.8% when you add in the discount. Not bad for a high-quality bond fund.

That assumes that the NAV stays stagnant over the next 11 months - something that is unlikely, of course. As noted, this is a duration play, meaning that it is sensitive to interest rate movements more than anything else. That's why the NAV has gone almost parabolic in the last few weeks.

What's the risk?

There is a small chance that the sponsor, Western Asset, owned by Franklin Templeton, will convert the fund to a perpetual product. Remember, there are three primary types of closed-end funds, or CEFs: perpetual (meaning it goes on forever), term (self-liquidates at a certain date in the future), and target term (self-liquidates at a certain date and attempts to at a certain price).

Some sponsors launched funds many years ago with the term structure in order to entice investors but had no intention of actually liquidating the funds. Instead, they either merge the fund into a perpetual fund or vote to change the fund structure to a perpetual - something that rarely fails thanks to embedded voting rights.

I would say that Western and, specifically, GDO, has a very low chance of this happening and that the fund will likely term out next December.

Concluding Thoughts

This is a great option to be able to "juice" your investment grade corporate bond sleeve in your portfolio. We've been purchasing individual bonds with yields between 6.0% and 7.8% for most of the last six months, but the recent surge in risk assets and decline in yields dried up that opportunity, as we told our members it would.

Instead, the yields on most good high-quality corporates are in the 5.5% to 6.7% range and falling. Most of those are in the financial, real estate, or energy industries as well - areas many investors are trying to limit exposure because of various risks.

GDO offers up term fund risk, meaning minimal discount widening potential from here, plus decent yield and upside as rates fall. These layups don't come very often but when they do we need to pounce on them.

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