CTR: Invest Alongside Saba Capital

ETFS

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Thesis

ClearBridge Energy MLP Total Return Fund Inc (NYSE:CTR) is a closed end fund focused on MLP equities. As per its literature, CTR:

Offers a total-return oriented portfolio of primarily energy master limited partnerships and midstream entities. Provides the opportunity for attractive, “tax-deferred” distributions with a combined emphasis on capital appreciation. Targets companies with the potential to grow their businesses and distributions over time.

The fund sports a 28% leverage ratio, which contributed to its substantial Covid drawdown of over -60%. MLPs as an asset class were hit hard by the Covid crisis from both a fundamental standpoint (oil & gas volumes and pricing) as well as from a balance sheet perspective (companies had a short dated debt maturity profile and Debt/EBITDA ratios well in excess of 4x). CTR never really recovered after Covid, with its stock price yet to hit $40/share again. The fund is trading with an appealing 7% yield, but an absolutely massive -17% discount to NAV:

Chart
Data by YCharts

The fund is up over 30% this year, slightly outperforming the unleveraged ETF (AMLP). On paper this would be a great performance if one would not look at the discount to NAV. The fund should be up more given that its collateral is indeed much more valuable.

Given the theory of efficient capital markets, Saba Capital has taken a position in the fund and started to take action in order to create value for shareholders:

On October 24, 2022, Saba Capital Management, L.P. announced that it has submitted to ClearBridge MLP and Midstream Total Return Fund Inc. a notice informing the Company of its intention to nominate 2 independent director candidates, Paul Kazarian and Pierre Weinstein, for election to the Board at the Company’s 2023 annual meeting of stockholders.

Source: Press Release

What does this actually mean? It amounts to Saba moving towards having more management influence over the fund. One way for CTR to narrow its discount to NAV is through share buy-backs, which we have seen from even very large asset managers such as BlackRock. This type of corporate action requires the fund’s management to vote on it.

An investor must realize that investor and asset manager interests are not always aligned. In most instances an asset manager wants to keep and increase the pools of cash it manages. Why? The answer is very simple – asset management is a fee based business, and the larger the asset pool, the larger the fees a manager can make. CTR clips a significant 1.8% fee:

expenses

Expenses (Fund Website)

Can CTR provide shareholders with a 17% return tomorrow? It sure can. It only needs to vote to liquidate its collateral (all listed equities) and the market will move to price the CEF to NAV. Will the fund take such action without any push from an activist investor? Absolutely not. The management team is happy to clip fees and put out market commentaries to justify their underperformance. Heck, i would love that job myself !

This is exactly what we mean when we say CEF management teams and investors are not always aligned in their interests. Basic finance theory asserts that capital markets are efficient. In reality markets are quasi-efficient through the actions taken by market participants, in this case Saba. Individual retail investors would not be able to push an agenda here on their own, given the lack of size and toolkit. However an individual investor can now invest along side Saba and supposedly vote in a similar fashion.

Performance

The fund is up substantially in 2022, providing for a bright spot in an otherwise bleak year:

seek

Total Return (seeking alpha)

The fund however, is yet to recover its Covid drawdown, being still negative from a total return standpoint when we have a 5-year lookback:

return

Total Return (Seeking Alpha)

The entire MLP asset class was decimated during Covid, and while the underlying equities have recovered, the leveraged CEF CTR has not, specifically due to the structure and the discount to NAV the fund exposes.

Premium / Discount to NAV

The fund has not always traded at substantial discounts to net asset value:

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Premium / Discount to NAV (Morningstar)

We can see that before the 2020 Covid melt-down the vehicle was usually trading at only slight discounts to NAV of -5% to -8%. We find these levels more acceptable given the structure and high fees charged by management.

Holdings

The CEF invests in a portfolio of MLPs:

hold

Holdings (Fund Fact Sheet)

We can see from the above table, courtesy of the fund fact sheet, that the top 10 issuers account for over 50% of the fund’s exposure.

From a sub-sector standpoint the vehicle is overweight “Diversified Energy Infrastructure”:

sectors

Allocation (Fund Website)

The fund has a run of the mill MLP portfolio, with no specific outliers outside a fairly large issuer concentration in a couple of the top names in the portfolio.

Conclusion

ClearBridge Energy MLP Total Return Fund Inc (CTR) is a CEF focused on MLP equities. The vehicle sustained a very substantial drawdown (over -60%) during Covid and has not recovered from a price perspective yet. While the underlying equities are back to their pre-Covid levels, the fund is not. CTR is trading with a discount to NAV of over -17%, which has attracted the interest of activist hedge fund Saba Capital. Saba is looking to nominate two directors at CTR and start a process of aligning the CTR shares value with the valuation of the underlying collateral. An immediate liquidation of the fund would result in a 17% gain for shareholders, although we do not expect that. We are of the opinion we are going to see share repurchases here and a more friendly management team that will work towards shareholder value creation rather than just clipping fees. This view coupled with a positive take on the MLP asset class should result in a robust total return forecast on a 2 year time frame. Existing shareholders should continue holding, expecting a 16% to 20% total return in the next 12 months (10% from the premium narrowing and the rest from the dividend). New money looking to enter the space should invest alongside Saba Capital given their robust activist track record.

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