The SEC Lifts a Weight From Shareholder Shoulders

Recently, the SEC staff lifted a huge weight off of the backs of long-term closed-end fund (CEF) shareholders by issuing a statement that it would not recommend enforcement action if these funds took advantage of another means to ward off activists seeking to change the fundamental nature of the CEF – actions that often harm those long-term investors.

After dialogue with interested parties, the SEC staff withdrew its 2010 no action letter that prevented CEFs from opting in to state control share acquisition statutes. Some states have control share statutes that allow an issuer, such as a CEF, to restrict the voting power of shares held by a shareholder with more than a specified percentage of the fund’s outstanding shares.  In 2010, the SEC staff had issued a no-action letter to Boulder Total Return Fund that interpreted the Investment Company Act as prohibiting closed-end funds from opting in to these statutes due to the restrictions on voting rights.

In the last few years, CEFs have become a hotbed of activist shareholder interest, and controversy has closely followed.  Several activist funds have targeted CEFs, charging that advisers are reaping higher-than-market fees, which disadvantages shareholders, and that shareholders are victims of lower-than-market fund net asset values when they try to sell their shares.  Funds and their long-term investors respond that CEFs are designed to hold less liquid instruments, and activists’ desire to reap short-term gains destroys the economic proposition offered by these funds.

Withdrawing the so-called “Boulder letter” in June 2020 was a welcome move by the SEC staff.  A CEF can now take advantage of control share statutes provided that the fund’s board makes such a decision “with reasonable care on a basis consistent with other applicable duties and laws and the duty to the fund and its shareholders generally.”  The staff also noted in a footnote that it was not taking a view about the appropriateness of other anti-takeover defenses.

In its statement withdrawing the Boulder letter, the staff also asked several questions concerning whether adding further mechanisms to limit activist efforts would better align with the interests of most shareholders and their expectations when they invested in the fund – hopeful signals that the SEC has recognized the value of these investments over the long term and will serve as the “shareholders’ advocate” in preserving this value.

Removing this boulder-sized weight from the shoulders of CEF shareholders is an important and long overdue development.