The ClearBridge Energy MLP Opportunity Fund Inc. (NYSE: EMO) is a closed-end equity vehicle. The vehicle targets a high total return with a concentration on cash distributions by investing in MLP equity. Similar to other CEFs in the MLP space, this fund experienced a significant drawdown during the Covid crisis and never recovered.
Investors voted with their feet by abandoning a losing asset class and CEF structure, resulting in a significant discount to the asset value of the fund.
Has there been any change to the MLP asset class?
We believe a great deal has changed for this asset class, as we have witnessed significant deleveraging and strengthening of future cash flows as the energy super-cycle gains momentum. Green energy may be the favored topic of legislators, but it is not a commercially viable alternative at this time. Green energy will not be a compelling, low-cost alternative to fossil fuels for many years. ClearBridge’s market update will occupy center stage.
While managers are always trying to sell their products, we believe that MLPs have reached a pleasant “sweet spot.” We anticipate less volatility in the future, and the infrastructure surrounding fossil fuels will be in demand for decades. Unless companies re-leverage, the sector will experience a period of relative calm.
Can the EMO discount to NAV be diminished?
While EMO has a respectable dividend yield of 7.5%, the fund’s substantial discount to NAV makes prospective capital gains very attractive. Saba Capital, an activist fund, holds a substantial position in EMO. Similar to what we observed for Center Coast Brookfield MLP & Energy Infrastructure Fund (CEN), which we discussed in this article, Saba will endeavor to narrow this discount. Ultimately, this is a risk-free arbitrage because you have a pool of assets worth $100, but the market is trading them at $0.86 per dollar due to the CEF structure.
Saba has established itself as a very astute activist investor, and we believe they will continue to press their agenda for EMO until the discount becomes more palatable (i.e. falls below -5%).
We do not anticipate substantial capital gains from the MLP asset class in the future. Only consistent dividend yields. From this perspective, the only way to generate capital gains from certain CEFs is through the narrowing of their discount to NAV. An individual investor can simply piggyback on the research and efforts of activist managers like Saba and wait for transformative corporate actions that can generate substantial capital gains.
Conclusion
EMO is a closed-end fund that invests primarily in MLP equity. After its enormous Covid drawdown, the asset class has undergone a transformation of historic proportions, characterized by decreased corporate leverage and enhanced cash flows. We do not anticipate significant capital gains in the future, but rather a constant stream of cash flows. Due to its leverage, EMO was devastated during the Covid crisis and has since traded at a discount to NAV. The current discount is around -14%.
Saba Capital, an activist fund, holds a substantial position in EMO. Similar to what we observed for Center Coast Brookfield MLP & Energy Infrastructure Fund, which we covered in this article, Saba will endeavor to narrow this discount. As retail investors, we believe it is prudent to form a partnership with a successful activist investor. With OPEC reducing production yesterday and Saba having proven its utility in the CEN melt-up of 10% on March 31, we like what we see with EMO.