CSQ: 7.69% Monthly Payer With Growth Potential – Calamos Strategic Total Return Fund (NASDAQ:CSQ)

Calamos Strategic Total Return Fund (CSQ) has just recently released its Semi-Annual report, ending April 30, 2019. I believe that CSQ could make a great addition to an investors portfolio. The broad diversification in the fund allows the managers to be very flexible and try various unique assets and sectors. The fund “seeks to offer investors an attractive monthly distribution while offering equity participation.” They intend to achieve this through investing in “a diversified portfolio of primarily US equities, in addition to convertible securities and high-yield securities.”

Equities are an important part of any portfolio, I don’t think there’s any stage of life where equity exposure in a person’s portfolio should be 0%! Equities really are the backbone of investing. Convertible securities can be a little more complicated. They can include convertible bonds or preferred stock. Convertibles have qualities of both bonds and equities as they pay interest. Eventually, they can be converted into shares of common stock. High-yield securities are below investment-grade bonds. Usually referred to as junk bonds. These are higher risk and have a history of correlating with equities overall. So, while the assets held in CSQ have flexibility, they have a strong tilt of being more aggressive.

I last covered CSQ just over one year ago. I felt like at that time the fund was a solid hold, but I wasn’t buying anymore. CSQ in the last year returned a respectable 8.58%, with the NAV returning 8.10%. I believed that the fund would begin to widen its discount at that time from the approximate 0.15% discount. The fund still trades at quite a shallow discount of 1.53%. The average 1-year discount of the fund sits at 1.59%. So while I thought the market price would begin to lag the NAV, the discount average has just become more on par with the discount the fund has been exhibiting.

Performance

(Source – CSQ Fund Website)

The fund currently trades at $12.91 per share, with a NAV per share of $13.11. This gives us the current discount of 1.53%. Since the discount has consistently been tighter over the last 1-year period, it has considerably driven up what is now typical for CSQ.

CSQ Discount(Source – CEFconnect)

It’s clear to see the fund has traded at considerably wider discounts in the past. In fact, the fund has a 5-year average discount of 6.79%. On any pullback for the broader market, it seems that CSQ sells off significantly. But when looking at the discount chart it appears that since early 2016 the fund has been working more and more towards its tighter discount. I believe this can continue and that this may be the new norm for the fund.

CSQ: 7.69% Monthly Payer With Growth Potential - Calamos Strategic Total Return Fund (NASDAQ:CSQ)

(Source – CEFconnect)

Also, since this collapsing discount in the fund over the past year., the fund’s z-score is showing that it is only slightly overvalued now.

CSQ Annualized Returns(Source – CSQ Fund Website)

The fund has had strong returns, leading to a solid track record for the fund. I wanted to look at the 15-year period that they provide. This includes the 2008/09 financial crisis that saw steep drops for the overall market. Many investors choose to compare themselves to the S&P 500 Index. The investible way to gain exposure to this index is through SPDR S&P 500 (SPY), an ETF that tracks the index. For the same 15-year period SPY had a NAV return of 8.65%. The 8.31% that CSQ was able to achieve is not bad relative to SPY’s performance. This is while the fund kept distributing out cash every month to shareholders.

Distribution

The fund has maintained a monthly distribution since its inception. While having to cut a few times through 2008/09, they have subsequently raised since. Although, it is worth noting that it is not at pre-financial crisis levels.

CSQ: 7.69% Monthly Payer With Growth Potential - Calamos Strategic Total Return Fund (NASDAQ:CSQ)

(Source – CEFconnect)

The current distribution works out to a rate of 7.69%. This is paid out on a monthly basis of $0.0825 per share. CSQ realizes the strength of maintaining a consistent distribution, they even include this in their shareholder letter in the Semi-Annual report:

We understand that many closed-end fund investors seek steady, predictable distributions instead of distributions that fluctuate. Therefore, this Fund has a managed distribution policy. As part of this policy, we aim to keep distributions consistent from month to month, and at a level that we believe can be sustained over the long term. In setting the Fund’s distribution rate, the investment management team and the Fund’s Board of Trustees consider the interest rate, market and economic environment. We also factor in our assessment of individual securities and asset classes.

Like many equity centric funds, capital appreciation is important to maintain the current distribution rate.

CSQ: 7.69% Monthly Payer With Growth Potential - Calamos Strategic Total Return Fund (NASDAQ:CSQ)

(Source – CSQ Semi-Annual Report)

As we can easily see, the fund is heavily reliant on capital gains to continue to fund its distribution. This can help explain why the fund sells off so hard during periods of uncertainty. I prefer to have a longer-term outlook though. We saw above that even during one of the worst selloffs in history that CSQ was able to produce strong returns.

Only about 19% of the distributions paid to shareholders in the latest report came from investment income. Investment income is comprised of interest and dividends the underlying holdings paid out to the fund. Then, net realized gains accounted for approximately 26.26%. This is from positions the fund sold off during the period. The rest was funded by return of capital or ROC, but it isn’t as bad as it sounds. This is because the fund does have a significant portion of unrealized appreciation, especially built up this year as the market recovered from last year’s selloff in December. In fact, the fund has approximately $340 million in unrealized capital appreciation that it could sell to fund the distribution.

CSQ: 7.69% Monthly Payer With Growth Potential - Calamos Strategic Total Return Fund (NASDAQ:CSQ)

(Source – CSQ Semi-Annual Report)

This leaves the fund with quite the cushion to fall before it would lose the unrealized appreciation. During this time, the fund could position itself more into defensive names that would allow for a higher portion of its distribution to come from net investment income.

Holdings

The fund is positioned relatively aggressive, even for a fund that is tilted towards aggressive holdings, with information technology being the largest sector weighting.

CSQ Sector Weightings(Source – CSQ Semi-Annual Report)

The one thing to watch is the fund’s significant holdings in the financial sector. As the Fed Chairman Powell testified today in front of the US Congress. He spoke very dovish and indicated that a rate cut is almost certain to happen soon. However, this was widely expected and thus the financial sector didn’t have too hard of a selloff. In turn, the market cheered this testimony and climbed broadly with the S&P 500 hitting over 3,000 for the first time.

CSQ Asset Allocation(Source – CSQ Fund Website)

The majority of the fund’s assets are held in common stocks. This is then followed up by convertible securities comprising about 16.6% of assets. Corporate bonds are coming in around 15.2% of assets too.

CSQ Top Ten Holdings

(Source – CSQ Fund Website)

I was able to dig up the fund’s holdings from 13 months ago, from my prior article reviewing CSQ. It’s quite interesting to see that the fund has had very few changes within its top holdings. The changes are more a result of price action rather than buying and selling that the managers may have done over the past 13 months. CSQ does show on their website that the fund has a portfolio turnover rate of 17.4%, which is on the lower side.

Conclusion

While I thought this fund was a “hold” 13 months ago, I am starting to change my mind. The discount isn’t quite as attractive as it was when I first started making purchases as it was around a 6% discount then. But this fund has proved me wrong and continued to perform well since then. Now, with the Fed signaling that they are willing to continue to push this expansion even longer, could be quite a time to make some small purchases.

I believe that over the long-term this fund will still perform well. The flexible strategy of the fund gives the managers a way to potentially offset any risks going forward. Of course, keeping some cash in a person’s portfolio makes sense too. We never know when we can get a pullback of some sort.

CSQ: 7.69% Monthly Payer With Growth Potential - Calamos Strategic Total Return Fund (NASDAQ:CSQ)

(Source – CSQ Fund Website)

One last graph for readers. July’s payout marks $14.315 in total cumulative distributions. Why is this significant? The fund has an inception NAV of $14.31 so over the last 15-years or so – the fund has paid itself off. So while we wait for the next pullback, we can continue collecting the generous distribution that CSQ delivers to us every month.

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CSQ: 7.69% Monthly Payer With Growth Potential - Calamos Strategic Total Return Fund (NASDAQ:CSQ)

Disclosure: I am/we are long CSQ. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.