We are pleased to report to our shareholders on the results of The New America High Income Fund (the "Fund") for the year ended December 31, 2016. The Fund's net asset value (the "NAV") was $9.89 as of December 30th. The market price for the Fund's shares ended the period at $9.26, representing a market price discount of 6.4%. During the period the Fund paid dividends totaling $.7575 per share, including a special dividend of $.0975 per share. The annualized dividend yield for a share of common stock purchased on December 31, 2015 at the market price of $7.66 was 9.89%.
As of December 31st, the Fund had outstanding borrowings of $91 million through its credit facility (the "Facility") with the Bank of Nova Scotia. Throughout 2016 the amount borrowed through the Facility ranged from $76 million to $91 million depending upon the investment advisor’s assessment of high yield market investment opportunities. Amounts borrowed under the Facility bear interest at an adjustable rate based on a margin above LIBOR. The interest rate on the Facility at the end of the period was approximately 1.66%. The rate the Fund is paying on the Facility is higher than it has been, due to an increase in LIBOR following the December increase in the Federal Funds rate. However, the rate still offered an attractive spread relative to the 6.94% market value-weighted average current yield on the Fund's portfolio on December 31st. The Fund's leverage contributed to approximately 23% of the common stock dividends paid in 2016.
Interest rate risk is one of the risks faced by bond investors. However, bonds react differently to changing rates. Duration is a measure of the sensitivity of a bond's price to a change in rates. Duration takes into account a bond's maturity and coupon – the shorter the maturity and the higher the coupon, the shorter the duration. A bond with a short duration is less sensitive to changes in interest rates than a bond with a long duration. Relative to investment grade bonds of comparable maturities, high yield bonds have lower durations, resulting in less price volatility in changing interest-rate environments, although high yield bonds are more sensitive to credit risk, resulting in greater price volatility in changing economic conditions.
We remind our shareholders that there is no certainty that the dividend will remain at the current level. The dividend can be affected by portfolio results, the cost and amount of leverage, market conditions, how fully invested the portfolio is and operating expenses, among other factors. Leverage magnifies the effect of price movements on the Fund's net asset value per share. The Fund's leverage increases the Fund's total return in periods of positive high yield market performance. Of course, the opposite is true in an unfavorable high yield market.
||Total Returns for the Periods Ending
December 31, 2016
||3 Years Cumulative
|New America High Income Fund
(Stock Price and Dividends)*
|New America High Income Fund
(NAV and Dividends)*
|Credit Suisse High Yield Index
Sources: Credit Suisse and The New America High Income Fund, Inc.
Past performance is no guarantee of future results. Total return assumes the reinvestment of dividends.
The Credit Suisse High Yield Index is an unmanaged index. Unlike the Fund, the index has no trading activity, expenses or leverage.
* Returns are historical and are calculated by determining the percentage change in net asset value or market value, as the case may be, with all distributions reinvested. Distributions are assumed to be reinvested at prices obtained under the Fund's dividend reinvestment plan. Because the Fund's shares may trade at either a discount or premium to the Fund's net asset value per share, returns based upon the stock price and dividends will tend to differ from those derived from the underlying change in net asset value and dividends.
Commentary by T. Rowe Price Associates, Inc.
High yield bonds closed out 2016 with impressive gains in excess of 18%, including a 2% return in the fourth quarter, as measured by The Credit Suisse High Yield Index (the "Index"). The high yield market performed well throughout the 12-month period ended December 31, 2016, with January and November being the only months of market declines during the year. Much of the fourth quarter market activity was dominated by concerns related to the U.S. election. Volatility plagued the market immediately before the election and, following Donald Trump's victory, the equity markets rallied as investors reexamined prospects for corporate earnings, economic growth, taxes, and inflation. U.S. Treasury yields rose sharply across all maturities in anticipation of stimulative fiscal policies―such as lower tax rates and increased infrastructure spending―under the incoming administration. In December, in a widely-anticipated move, the Federal Reserve announced an increase in the federal funds target rate range of 25 basis points, marking only the second rate increase since the global financial crisis.
Lower quality high yield bonds, including distressed and defaulted securities, outperformed higher quality high yield bonds throughout the year. The degree to which lower quality bonds drove market gains was unexpected. For example, BB-rated bonds gained 11% in 2016, compared to returns in excess of 30% for CCC-rated issues and returns in excess of 78.5% for defaulted bonds. Because of the lower yields and longer duration profile of BB-rated bonds, this segment of the high yield market declined in November when U.S. Treasuries sold off. In combination with the lower quality rally, bonds of metals and mining issuers, followed by energy issuers, outperformed all other industry segments throughout the year. Following major declines the prior two years, these sectors had the most to gain and traded higher from distressed levels commensurate with a rally in commodity prices. Specifically, WTI crude oil, which ended 2015 at $37 per barrel, rose to $48 in September. Uncertainty surrounding the November OPEC meeting caused oil price volatility for most of that month, but OPEC leaders emerged with a formal agreement to cut production that exceeded expectations. The price of oil rallied further, to end the year at $54 per barrel equating to a return of 45% for 2016. Measured by the Index, yield spreads tightened 95 basis points during the fourth quarter to end the year at 472 basis points over U.S. Treasuries, tighter by 275 basis points from one year earlier. The yield-to-worst on the Index ended 2016 at 6.47%, levels not achieved since 2014.
The high yield market benefited from a favorable technical backdrop. Gross new issue volume fell to $286 billion in 2016 compared to $293 billion the prior year. Unlike 2015, the majority of the new issue proceeds was used to refinance existing debt, resulting in net new issuance considerably lower than the gross amount of issuance. Energy issuers tapped the market in the latter half of the year as the oil price rally took hold. Energy companies accounted for 63% of December new issue activity. Mutual fund investors also provided support for the high yield market, as 2016 saw net inflows to mutual funds compared to net redemptions in the prior three years.
Default activity was concentrated in commodity-related sectors. In 2016, 62 companies defaulted on nearly $60 billion in debt, ranking as the fifth highest annual total on record. Energy and metals and mining companies accounted for 81% of total default volume. The majority of bankruptcies occurred in the first quarter with volume trending lower each subsequent period based on the improvement in commodity prices. The Index's 12-month par-weighted default rate ended the year at 3.3%, a decline from 4.0% the previous quarter and slightly lower than 3.4% in 2015.
The dynamic market environment throughout 2016 gave active managers opportunities to reposition portfolios to take advantage of changing conditions. In response to the improving commodity backdrop, we increased the portfolio's energy allocation to 17% of total investments compared with 10.4% a year ago. Early in the year, we took advantage of opportunities to purchase fallen angels (investment-grade corporate bonds downgraded to high yield status) and relatively higher quality high yield energy bonds, making selective purchases well below par to increase exposure to the sector. Late in the third quarter we locked in gains by selling low-yielding, high dollar price, unsecured bonds in certain exploration and production credits. Additionally, at the beginning of the fourth quarter we purchased several short-dated bonds in offshore driller credits, such as Rowan, Ensco and Noble. This broader rotation during the end of the third quarter and beginning of the fourth quarter reduced duration, migrated up the capital structure and also allowed for greater price appreciation in the event of an OPEC production cut and higher oil prices in the fourth quarter. Our analysts believe the OPEC cuts will be challenging to actually implement, but that a slight overweight relative to the Index in the energy sector is warranted in the near-term. The portfolio’s energy sector allocation returned 30% for the year including a 4% plus gain in the final quarter. However, relative to the Index returns of 40% for the full year and 7.5% over the last quarter, our investment strategy underperformed by not owning a number of lower-quality and distressed credits that generated significant returns.
Metals and mining credits outperformed all other high yield industries this year. Similar to our energy positioning, the investment team has increased exposure to this sector, more than doubling the allocation since December of 2015 to approximately 6% of total investments today.
Given the asset class' relatively short duration profile, high yield bonds appear to be well positioned should the economy continue to improve and if interest rates rise gradually. The considerable support of investors' demand for income may help drive future gains, particularly within the context of low and even negative yields in many developed countries. However, it must be noted that the extended economic and credit cycle continues to age.
We believe energy and metals issuers will continue to dominate bankruptcy activity. However, an uptick in oil prices has extended the life of many of these troubled companies and the peak in default rates is likely behind us. These sectors also enjoyed a considerable run in 2016, contributing to outperformance in the overall high yield market for 2016. Gains over 17% for the year were somewhat surprising and perhaps overdone considering the number of macro-related developments that transpired. Upcoming global elections in 2017 alongside central bank policies across critical markets worldwide bring a considerable level of uncertainty, but, for now, confidence in high yield corporate bonds appears to be strong.
As always, we aim to deliver high current income while seeking to contain volatility inherent in the high yield bond market. Our team maintains a commitment to credit research and risk-conscious investing that has led to favorable returns for our high yield clients over various market cycles.
The New America High Income Fund, Inc.
T. Rowe Price Associates, Inc.
Past performance is no guarantee of future results. The views expressed in this update are as of the date of this letter. These views and any portfolio holdings discussed in the update are subject to change at any time based on market or other conditions. The Fund and T. Rowe Price Associates, Inc. disclaim any duty to update these views, which may not be relied upon as investment advice. In addition, references to specific companies’ securities should not be regarded as investment recommendations or indicative of the Fund’s portfolio as a whole.