I was attracted to the Destra Multi-Alternative Fund (NYSE:DMA) initially due to its 45% discount to NAV, and so decided to give it a look. If there is some redeeming value to the assets, a reversion to NAV could mean a quick profit.
However, after reviewing the fund's holdings, returns, and distribution policy, I believe investors should stay far away from this underperforming fund. While the idea of offering access to institutional-grade alternative assets is enticing, the reality is DMA's portfolio is an eclectic mix of public finance companies, small private REITs, private investments, and CLOs (without disclosing the rating of the tranches). I think the fund's 45% discount to NAV is justified due to the portfolio's illiquidity and poor quality.
The Destra Multi-Alternative Fund is a closed-end fund ("CEF") that seeks to deliver long-term uncorrelated performance to broad stock and bond markets. The DMA fund primarily invests in alternative strategies and asset classes including real estate, private equity, alternative credit, commodities, and hedge strategies. The DMA fund is sub-advised by Validus Growth Investors LLC, a boutique asset manager based in San Diego, California.
The DMA fund has approximately $100 million in assets and charges a high 3.51% net expense ratio in the 6 months to September 30, 2022.
The DMA fund gives investors access to institutional alternative strategies that may provide returns uncorrelated with traditional asset classes such as stocks and bonds without the high minimum investment or lock-up requirements that these strategies typically require. The DMA fund may invest in asset classes like alternative credit, real estate, commodities and currencies, private equity, and hedge strategies (Figure 1).
The Destra Multi-Alternative Fund invests using an 'endowment model' that is typically used by endowments and foundations. Due to the closed-end fund structure (CEFs have permanent capital, as shares can only be sold, not redeemed), the DMA fund can pursue the long-time horizon endowment model that exchange-traded funds ("ETFs") cannot.
According to the fund's analysis, the DMA fund has low correlations relative to cash, bonds, and stocks, offering investors diversification benefits (Figure 2).
Figure 3 shows the DMA fund's asset allocation and strategy breakdown. As of March 31, 2023, the DMA fund has 23% of assets invested in listed securities and 71% of assets in private unlisted investments.
The fund has a large 45.3% allocation to real estate and infrastructure, 26.5% allocation to alternative credit, 13.5% allocation to hedge strategies, and 8.8% allocation to private debt.
Figure 4 shows the top 10 positions of the DMA fund as of March 31, 2023. Overall, the DMA fund is very concentrated, with the top 10 positions accounting for 59.5% of the portfolio.
Review Of Top Holdings
According to Pitchbook, the Clarion Lion Industrial Trust is a large private industrial real estate fund managed by Clarion Partners with $18.4 billion in assets. Clarion Partners itself manages $82 billion in real estate assets across multiple strategies and is owned by Franklin Templeton. The Clarion Lion Industrial Trust is considered a 'Core' fund for Clarion, with a target 10-year investment horizon (Figure 5).
Canyon CLO Fund II and III are Collateralized Loan Obligations ("CLOs") managed by Canyon Partners, an alternative credit manager managing $8 billion in CLO assets. For reference, CLOs are typically tranched into securities with different ratings and risk profiles. From the holding description on the DMA website and holdings report, it is unclear what part of the CLO structure the DMA fund has invested in.
There is no publicly available information on Preservation REIT. However, from the holdings report, we see the footnote that Preservation REIT is an "affiliated investment for which ownership exceeds 25% of the investment's capital". So it appears to be a private REIT that Destra is affiliated with and that the investment represents more than 25% of the REIT's capital.
According to its LinkedIn profile, Treehouse REIT is a private REIT focused on the acquisition, ownership, and management of cannabis retail and industrial properties, similar to Innovative Industrial Properties Inc. (IIPR) and NewLake Capital Partners Inc. (OTCQX:NLCP).
Interestingly, the URL for TreehouseREIT.com redirects to Aventine Property Group, so presumably, the two are the same entity. Aventine Property is self-described as a privately-held REIT providing real estate capital to the cannabis industry.
GoSite is a payment and invoice solution for small-business owners. From the company's website, it is unclear how many customers it has and how much revenue and earnings it generates.
Healthcare Trust, Inc. is a small, publicly registered (with publicly traded preferred shares) REIT focused on seniors housing and medical office buildings. According to the company's latest 10-Q report, it lost $25 million in the first quarter of 2023, and was not profitable in 2022 either (Figure 7).
Owl Rock Capital (ORCC) is a publicly traded Business Development Corp ("BDC") providing specialty finance to middle-market companies.
Ready Capital Corp (RC) is a real estate finance company specializing in loans backed by commercial real estate.
The DMA fund's historical returns are shown in Figure 8. Note that due to the fact that the DMA fund was only publicly listed on January 10, 2022, services such as Morningstar do not have historical market returns for the fund beyond the 1Yr horizon.
However, the DMA fund was previously a private fixed-interval closed-end fund, so it does have NAV returns. The fund's overall returns have been very underwhelming, with 1/3/5/10Yr average annual returns of -2.9%/1.7%/-1.7%/-1.9% to April 30, 2023.
Returns Far Below The Endowment Model
According to a paper from investment consultants Mercer, the long-horizon endowment model have generated approximately 7-8% 10Yr average returns from 2010-2020 (Figure 9).
However, looking at the DMA fund, it has generated a negative 10Yr average annual return of -1.9%. Although the time periods analyzed are not exactly the same, it does highlight the magnitude of DMA's underperformance.
Distribution & Yield
However, despite generating poor total returns to shareholders, the DMA fund pays a large distribution yield, with the most recently declared monthly distribution of $0.0533 / share or a forward yield of 11.3%. On NAV, the fund is yielding a more modest 6.1%.
Investors should note that the DMA fund hardly generates any net investment income. Instead, the vast majority of its historical distributions have been funded by return of capital ("ROC") (Figure 10).
Funds that do not earn their distributions are called 'return of principal' funds. As I have discussed in numerous articles, 'return of principal' funds are problematic because the fund must liquidate NAV to fund their distributions. This depletes income earning assets, making future distributions even harder to fund. In the long run, 'return of principal' funds are characterized by amortizing NAVs and shrinking distributions.
Trades At A Steep Discount
Investors appear to have caught on to the poor quality of DMA's assets, discounting the fund's assets by 45% (Figure 11).
Given the fund's investments in some small eclectic private REITs and private investments, the large discount to NAV may be appropriate to account for illiquidity and potential write-downs.
For example, judging by the large price declines in IIPR's stock price in the past year (Figure 12), I find it incredulous that DMA actually wrote up the value of the two private cannabis REITs in the 6 months to September 30, 2022 (Figure 13).
After reviewing the fund's assets, returns, and distribution policy, I recommend investors stay far away from this fund. While the idea of accessing institutional-quality alternative assets sounds enticing, DMA's portfolio is an eclectic mix of publicly traded finance companies and small privately held REITs and private equity investments.
The long-term returns profile has been very underwhelming, with a -1.9% average annual return over 10 years, compared to 7-8% typically seen by endowments and foundations that follow the same long-term investment model.
The only redeeming feature is DMA's distribution, which is an attractive 11.3% forward yield. However, most of the distribution is funded from return of capital, so investors may be better off putting their money into a money market fund and drawing down the balance.
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This article was written by
I spent 5 years as a co-founder and hedge fund CIO / manager. Before that, I was a hedge fund analyst/portfolio manager at a leading Canadian alternative asset manager. I write articles as part of my own due diligence on the stocks that I find interesting, for one reason or another.Follow me on twitter for my thoughts on macro trends.
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