ERC: This Global Debt CEF Is Unimpressive, But No Apparent Reason To Sell It (2024)

The Allspring Multi-Sector Income Fund (NYSE:ERC) is a closed-end fund that income-focused investors can purchase in pursuit of their goal of achieving a high level of current income from the assets that they have accumulated over the years. The fund does reasonably well at this task, as it currently boasts an 8.75% yield that is substantially above that of U.S. Treasury securities or indeed most bonds. After all, the ten-year U.S. Treasury only has a 4.385% yield right now. Even the supposedly high-yielding Bloomberg High Yield Very Liquid Index (JNK), which tracks junk bonds, has an average yield to maturity of 7.98% right now. That is clearly well below what the Allspring Multi-Sector Income Fund is currently yielding.

However, the current yield of the Allspring Multi-Sector Income Fund is a bit lower than that of its peers:

As we can see from this chart, only one of the fund's peers has a similar yield to the Allspring Multi-Sector Income Fund. The majority of the funds on this list beat this one by more than one hundred basis points. This might be somewhat of a turn-off for those investors whose primary motivation is to achieve a very high level of income from their assets that can be used to support themselves. This is a major motivating factor for many retirees and indeed most bond investors, so it is something of a strike against this fund.

At first glance, the fund's performance also appears to be somewhat underwhelming. Over the past three years, shares of the fund have declined 29.19%. This was, admittedly, a period of time during which most bond funds experienced declining share prices, but this fund still did worse than the Bloomberg U.S. Aggregate Bond Index (AGG) or domestic junk bonds:

While income investors might be willing to sacrifice a certain amount of price appreciation in exchange for income, the decline in the fund's share price here would have still resulted in a substantial loss of capital. Nobody likes to lose money in the market, so this recent performance might prompt some investors to seek other options.

However, as I stated in a recent article:

A simple look at a closed-end fund's price performance does not necessarily provide an accurate picture of how investors in the fund did during a given period. This is because these funds tend to pay out all of their net investment profits to the shareholders, rather than relying on the capital appreciation of their share price to provide a return. This is the reason why the yields of these funds tend to be much higher than the yield of index funds or most other market assets.

When we take the distributions that were paid out by the Allspring Multi-Sector Income Fund, we can see that investors in the fund only suffered a 6.86% loss over the trailing three-year period:

This is still, admittedly, a lot worse than the 3.09% gain that would have been realized by simply investing in the junk bond index. It is also still a loss, and most investors focused on income do not like losses for obvious reasons. However, the Allspring Multi-Sector Income Fund still managed to outperform investment-grade bonds over the period, as their incredibly low yields were not sufficient to offset the decline that bond prices suffered over the period.

The fund's past performance may overall be very discouraging and will likely prompt some investors to simply take their money elsewhere. However, past performance is no guarantee of future results, so we should still continue to have a look at this fund as it is today. After all, it might make sense to buy it now, considering that it has declined quite a lot over the past few years. The remainder of this article will take a closer look at this fund and see if purchasing it makes any sense today.

About The Fund

According to the fund's website, the Allspring Multi-Sector Income Fund has the primary objective of providing its investors with a very high level of current income. This makes a lot of sense given the fund's strategy, which is explained in great detail on the website:

The Multi-Sector Income Fund seeks to provide a high level of current income consistent with limiting its overall exposure to domestic interest rate risk.

Under normal market conditions, the fund allocates approximately 30%-70% of its total assets to a sleeve consisting of below-investment-grade (high yield) debt; approximately 10%-40% to a sleeve of foreign debt securities, including emerging market debt; and approximately 10%-30% to a sleeve of adjustable-rate and fixed-rate mortgage-backed securities and investment-grade corporate bonds.

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As we can clearly see, the Allspring Multi-Sector Income Fund invests its assets in various types of bonds and other debt securities. As I stated in a previous article:

Bonds by their very nature are income securities, as they do not deliver any net capital gains over their lifetimes. This makes sense, as an investor will purchase a bond at face value and receive the face value back when the bond matures. The only investment return for a bond held over its entire lifetime is the coupon payments made to the bond's owner. Thus, bonds do not deliver net capital appreciation over their lifetimes.

As bonds are income vehicles, the fund's investment objective of providing its investors with a very high level of current income makes a great deal of sense.

As can be seen very clearly from the strategy description, the fund has a great deal of flexibility with respect to the assets that it can purchase for its portfolio. There are three possible asset types that the fund must purchase for the portfolio - junk bonds, foreign debt securities, and mortgage-backed securities or investment-grade bonds - but the actual proportion of the portfolio that will be invested in each type of security is flexible. The fund's fact sheet states that the portfolio had the following allocation on March 31, 2024:

This works out to the following proportions for each of the three sleeves:

(The above chart assumes that the quasi-government-related are foreign government-controlled corporations).

A quasi-government entity is a corporation that has characteristics of both public and private entities. Technically, this includes things such as Fannie Mae and Freddie Mac in the United States, certain government entities that invest in private companies, and entities like the Small Business Administration or Sallie Mae that provide government-backed loans independently of the U.S. Treasury. However, most of the time when we see a fund investing in "Quasi-Government" securities, it refers specifically to debt securities issued by foreign national oil companies or similar things. Any quasi-government security issued by an American entity is classified as an "agency security." This is why I classified those securities as foreign debt securities in the table above. The fact sheet does not, unfortunately, state exactly what foreign entity issued the quasi-government securities in the fund, but as the percentage of the fund's assets that are invested in these securities is very low, we probably do not need to worry about it very much.

The chart above will almost certainly leave anyone with the impression that the Allspring Multi-Sector Income Fund is fairly heavily weighted towards the United States. After all, we see that American junk bonds alone comprise more than half of the portfolio, and then there is a 7.19% weighting to investment-grade corporate issues on top of that. The fact sheet is not clear about this, but a significant portion of the securitized assets (mortgage-backed securities) held by the fund are also American securities. We can see this by looking at the fund's first-quarter 2024 holdings report, which details the fund's assets as of January 31, 2024:

Here are the remainder not shown on that list:

There is also a very small (0.14% of total assets) weighting to mortgage-backed securities issued by Ginnie Mae, Fannie Mae, and Freddie Mac shown in the holdings report. Obviously, those are all domestic security issues. The ones shown in the two screenshots just shown are also almost entirely domestic issues. This can be seen by the simple fact that several of them list a variable coupon yield that is based on the secured overnight financing rate. The only country in the world that uses this as its benchmark interest rate is the United States. The securities shown in these lists that are not floating-rate issues, such as the Westgate Resorts LLC Series 2022-1A Class C 144A asset-backed security, can be easily identified as American securities by the name of the issuer. Thus, we can conclude that most if not all of the securitized bond allocation is the fund consists of domestic securities.

The fact sheet confirms that the fund has a high allocation to American securities. This document states that 66.11% of the fund's assets were invested in domestic debt securities at the end of March:

This is certainly an outsized weighting compared to America's total economic output globally. The United States, after all, only accounts for about a quarter of global gross domestic product. It is also outsized in terms of the country's relative proportion of global bond issuance. According to the Bank of International Settlements, the United States accounts for 39% of the global bond market:

The Vanguard Total World Bond ETF (BNDW), which is considered by some to be a proxy for the global bond market, has a 51.80% weighting to the United States as of the time of writing. I will admit that I am somewhat more trusting of the Bank of International Settlement's data when it comes to determining the relative size of each country's bond market. Regardless of how we look at it though, it is quite certain that the Allspring Multi-Sector Income Fund is overweighted to the United States in proportion to its actual representation in the global marketplace.

This is not necessarily a problem, but investors should take this fund's bias to domestic assets into consideration when constructing their portfolios. In particular, many domestic investors have an overexposure to American assets, which could pose problems going forward. I explained the reason for this in a previous article, so it is not necessary to repeat the thesis. In short, though, the high Federal deficits in the United States will almost certainly force the Federal Reserve to artificially suppress interest rates and this will result in a long-term declining dollar. Generally speaking, declining currency values benefit the debtor and hurt the lender, so it is best to limit domestic bond exposure. This fund does have a foreign bond allocation, which is nice, but it does not do as well as we would like to reduce an investor's exposure to American debt securities.

The fact that the majority of the assets of the Allspring Multi-Sector Income Fund are invested in American fixed-rate debt securities means that the monetary policies of the Federal Reserve will have a larger impact on the fund's net asset value performance than pretty much anything else. As I mentioned in a recent article, it is too early to speculate or hope for interest rate cuts that push bond prices up. This is despite the market's reaction to this morning's consumer price index report, as the 0.3% month-on-month gain is still a 3.6% annualized inflation rate. That is far higher than the Federal Reserve's stated 2% target, and with oil prices once again trending upward today, it is very possible that this is a one-off month that is not necessarily a sign of a disinflationary trend. As such, it would be best right now to just buy the Allspring Multi-Sector Income Fund for its yield and not think too much about the gains that could come once interest rates are finally reduced.

Leverage

As is the case with most closed-end funds, the Allspring Multi-Sector Income Fund employs leverage as a method of boosting the effective yield that it earns from the assets in its portfolio. I explained how this works in a number of previous articles. To paraphrase myself:

Basically, the fund borrows money and then uses that borrowed money to purchase various domestic and foreign debt securities. As long as the purchased securities have a higher yield than the interest rate that the fund has to pay on the borrowed money, the strategy works pretty well to boost the effective yield of the portfolio. This fund is capable of borrowing money at institutional rates, which are considerably lower than retail rates. As such, this will normally be the case. However, it is important to note that leverage is less effective at boosting yields today with rates at 6% than it was three years ago when rates were 0%. This is because the difference between the yield that the fund can receive and the rate at which it can borrow is much narrower than it once was.

Unfortunately, the use of debt in this fashion is a double-edged sword. This is because leverage boosts both gains and losses. As such, we want to ensure that the fund is not employing too much leverage because that would expose us to an excessive amount of risk. I do not like to see a fund's leverage exceed a third as a percentage of its assets for this reason.

As of the time of writing, the Allspring Multi-Sector Income Fund has leveraged assets comprising 29.71% of its portfolio. This is below the one-third of assets level that we would ordinarily prefer, so that is a good sign in terms of risk. However, we should make sure that the fund's leverage is appropriate for its strategy, so here is how it compares to its peers:

(All figures courtesy of CEF Data)

As we can see, the Allspring Multi-Sector Income Fund is employing somewhat less leverage than any of its peers. This is a sure sign that the fund is not employing too much leverage. Thus, we should be able to sleep easy with this fund, as it appears to be striking a reasonable balance between the potential risks and the potential rewards of using debt to boost yields.

Distribution Analysis

As mentioned earlier in this article, the primary objective of the Allspring Multi-Sector Income Fund is to provide its investors with a very high level of current income. To that end, the fund pays a monthly distribution of $0.0657 per share ($0.7884 per share annually). This gives it an 8.75% yield at the current price. The fund has not been particularly consistent with its distribution, and it has generally declined over time:

It even tends to vary a lot from month to month, as we can see by looking at its payout over the past year:

The fact that the distribution varies from month to month as well as over the long term seems likely to reduce the fund's appeal in the eyes of investors who are seeking to earn a safe and consistent income to use to pay their bills. However, it is in line with the fund's managed distribution plan, which is explained in the annual report:

The Fund's managed distribution plan provides for the declaration of monthly distributions to common shareholders of the Fund at an annual minimum fixed rate of 8% based on the Fund's average monthly net asset value per share over the prior twelve months. Under the managed distribution plan, monthly distributions may be sourced from income, paid-in capital, and/or capital gains, if any. To the extent that sufficient investment income is not available on a monthly basis, the Fund may distribute long-term capital gains and/or return of capital to its shareholders in order to maintain its managed distribution level.

As the exact amount distributed is based on a rolling twelve-month average net asset value, we can expect that it would change from month to month and thus result in a variable monthly distribution. That is, admittedly, probably not the most attractive policy for many income investors, but it does do a better job of aligning the fund's distribution with the actual performance of its assets than the flat distribution policy that many other funds employ. This is good from a sustainability perspective.

As is always the case, we want to ensure that the fund is actually covering its distribution. After all, it has been pretty difficult to get a sustainable 8% return from any sort of bond investment over most of the past twenty years. For that purpose, we will consult the fund's annual report that corresponds to the full-year period that ended on October 31, 2023. While this document is older than I would really prefer, it is the most recent financial report that is currently available to us, so we will have to use it.

For the full-year period that ended on October 31, 2023, the Allspring Multi-Sector Income Fund received $27,735,674 in interest along with $363,440 in income from other sources (such as the money market fund where the fund keeps its idle cash). This gives the fund a total investment income of $28,099,114 for the period. It paid its expenses out of this amount, which left it with $18,806,561 available for shareholders. That was not sufficient to cover the $22,824,041 that the fund paid out to its investors in distributions over the same period. This is somewhat concerning as the fund clearly failed to earn sufficient investment income.

The fund was not able to make up the difference via capital gains during the period. For the full-year period, the Allspring Multi-Sector Income Fund reported net realized losses of $18,952,864 that were fully offset by $20,408,315 net unrealized gains. Overall, the fund's net asset value declined by $2,376,467 after accounting for all inflows and outflows during the period. Thus, the fund failed to fully cover the distributions that it paid out during the period.

This was the second year in a row for which the fund failed to cover its distributions. For the full-year period that ended on October 31, 2022, the Allspring Multi-Sector Income Fund saw its net asset value decline by $87,267,633 after accounting for all inflows and outflows. Thus, for the past two years, the fund's distributions have been destructive to its net asset value. This is the reason why the fund's annual report shows return of capital distributions being made in both of the past two years:

(Please note that these figures are directly from the annual report. The numbers given in tax documents may differ due to differences in the time periods.)

This suggests that the current distribution may not be sustainable and if the fund keeps making destructive return of capital distributions like this then its distributions will decline over time. However, the fund has apparently managed to fix this problem so far in the current fiscal year. This chart shows the fund's net asset value since October 31, 2023:

As we can see, the fund's net asset value has increased since the closing date of the annual report. This tells us that every distribution that the fund has paid out since October 31, 2023, was fully offset by investment profits. This is a good sign if the fund can maintain this positive trend, but there is no guarantee that this will be the case. We should therefore keep a very close eye on its net asset value going forward to make sure that things do not change for the worse.

Valuation

Shares of the Allspring Multi-Sector Income Fund are currently trading at a 9.15% discount on net asset value. This is perfectly in line with the 9.14% discount that the shares have traded at on average over the past month, so the current price certainly appears to be reasonable.

Conclusion

In conclusion, the Allspring Multi-Sector Income Fund is a little-followed income fund that has a somewhat disappointing recent performance history. The fund has underperformed the domestic junk bond index over the past three years, and its distributions over a good part of the period have been destructive to its net asset value. The fund is a global fund, but it does not have as much international diversification as we would like, so it is not the best choice for investors who are looking to reduce their exposure to the United States debt market. It does appear that things are improving though, as its net asset value has climbed since the start of November. It still trades at a discount, so the price is not bad either.

For now, it is probably best to assign a "Hold" rating to this fund. I do not see any near-term catalyst that is likely to push its share price significantly in either direction. The yield is decent enough to simply let it sit in a portfolio as a source of income, however.

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