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AllianzGI Equity & Convertible Income Fund (NYSE: NO) is a closed-end equity mutual fund (“CEF”) that invests in a combination of diversified large-cap growth stocks, covered calls, and income-producing convertible securities. The stock is currently trading at a discount of 13.5 percent to its net asset value (“NAV”), which is extremely low. Its price has underperformed this year, mainly due to the poor performance of technology and pharmaceutical stocks. However, due to the massive fall in its market value, the fund generated very high value produce by 14.5 percent this year. Otherwise, the average yield stays within 5 to 8 percent, which is also quite impressive. Consistent quarterly dividend payments over the past 15 years also work in its favor.
AllianzGI Equity & Convertible Income Fund Has an Interesting Portfolio
NIE was launched as the AGIC Equity & Convertible Income Fund on Feb 27, 2007, and is co-managed by Allianz Global Investors Fund Management LLC and Allianz Global Investors US LLC. AllianzGI Equity & Convertible Income Fund has $665 million in net assets and a market capitalization of $563 million. The fund uses fundamental analysis that emphasizes factors such as technological innovation, competitive advantages, return on equity, earnings growth, healthy balance sheet, stable cash flow, and adequate liquidity.
The top 50 percent of its equity holdings make up a sample of technology stocks such as Microsoft Corp (MSFT), Apple Inc (AAPL), Alphabet, Inc (GOOG), Amazon.com Inc (AMZN), Tesla Inc (TSLA), Accenture plc (ACN), Booking Holdings Inc. (BKNG), Intuit Inc. (INTU), Palo Alto Networks, Inc. (PANW), Meta Platforms, Inc. (META), ServiceNow, Inc. (NOW), and CrowdStrike Holdings, Inc. (CRWD).
Healthcare stocks such as UnitedHealth Group Incorporated (UNH), Thermo Fisher Scientific Inc. (TMO), AbbVie Inc. (ABBV), Eli Lilly and Company (LLY), DexCom, Inc. (DXCM), McKesson Corporation (MCK), IQVIA Holdings Inc. (IQV), and Intuitive Surgical, Inc. (ISRG) also produces this list. Together, these two sectors – tech and healthcare – account for 51 percent of the fund’s total investments.
Despite the relatively low percentage of the fund’s holdings in financial and energy stocks, many companies from these two sectors made it into the list of the top 50 percent of the fund’s investments. Examples include ConocoPhillips (COP), Schlumberger Limited (SLB), Exelon Corporation (EXC), Devon Energy Corporation (DVN), Wells Fargo & Company (WFC), JPMorgan Chase & Co. (JPM), Mastercard Incorporated (MA), and Visa Inc. (V). Together these two sectors account for about 11 percent of the fund’s total investments. AllianzGI Equity & Convertible Income Fund has also made significant investments in convertible securities and has used a strategy of writing (selling) call options on equity shares held by the fund.
Technology Stocks Underperform, As Well as Health Care Stocks
2022 is a pretty bad year for technology and pharmaceutical stocks, where NIE invests most of its funds. The NASDAQ 100 Technology Sector Index (NDXT) has witnessed negative growth in most months. This is despite the fact that technology stocks performed relatively well in 2020 and 2021 even though the market was heavily impacted by the covid-19 pandemic. Between April 2020 and December 2021, NDXT recorded positive growth in 16 out of 21 months, and marginally negative growth in the remaining 5 months.
Price declines in the S&P 500 Pharmaceuticals Index Industry (SP500-352020) only began in the last quarter. The index nearly doubled between April 2020 and June 2021, before falling more than 10 percent in the past three months. None of the 12 technology stocks have recorded positive growth this year, and also in the past 3 months. Of those 8 healthcare stocks, only MCK and LLY recorded significant growth in 2022. DXCM has posted significant growth over the past three months.
Combination of Growth Stocks, Covered Calls, Convertibles Delivering Fruits
Fortunately, AllianzGI Equity & Convertible Income Fund invests more than 35 percent of its fund in convertible securities, with a weighted average maturity of 3.7 years. Convertible securities have historically outperformed traditional fixed income securities during periods of rising interest rates. Convertible securities also protect the NIE from the extreme volatility of growth stocks in the aforementioned sectors. However, the weighted average coupon is relatively low at 1.44 percent, which would otherwise fail to generate strong returns.
So, these precious papers can be best used as a pillow. Allianz Global Investors Fund Management LLC operates another fund, the AllianzGI Diversified Income & Convertible Fund (ACV), which places a higher emphasis on convertible securities than equity shares. ACV has lost 48 percent of its value over the past 1 year, while NIE has lost 31 percent.
The loss of exports resulting from the strengthening of the US dollar, rising inflation, low levels of consumer spending, rising oil prices, disruption of the supply chain due to the war in Ukraine, has had a significant impact on the mega -cap technology and pharmaceutical giants. Healthcare stocks other than pharmaceuticals fared better. All these negative effects of a depressed market situation led to a fall in the NIE market price. However, I think these bearish trends will end in a few months and these stocks will return to their long-term growth. In addition, AllianzGI Equity & Convertible Income Fund also benefits from its covered call strategy.
A covered call is a hedging strategy in which the equity shareholder sells a call option on the same stocks he owns and thereby receives an upfront option premium, for taking on the risk of a potential loss on the call option . In this way, the equity shareholder earns additional cash flows that create additional income. Covered call CEFs like AllianzGI Equity & Convertible Income Fund also enjoy the scope of generating risk-adjusted returns that are higher than an equity only portfolio that does not use any hedging strategy. According to America’s largest investment management firm BlackRock, “by using the equity covered call strategy, investors can reduce portfolio volatility by capturing option premiums, without having to sacrifice long-term performance .”
Investment Thesis
Historically, AllianzGI Equity & Convertible Income Fund has been a reasonably good fund with reasonably strong yields and very high total returns over long periods. It has delivered consistent quarterly distributions for the past 15 years, despite facing the 2008 global financial crisis, and the covid-19 pandemic. Over the past 5 and 10 years, the fund has generated total returns of 48 percent and 156 percent, respectively.
Writing call options on most of its equity portfolio stocks has made it easier for NIE to offer a stable yield. Convertible securities also protect the NIE to a certain extent from the extreme volatility of large-cap stocks in the technology and pharmaceutical sectors. With the NIE falling for the full year of 2022 and the fund currently trading at a deep discount of 13.5 percent, now may be a good time to buy the NIE.