Fixed Income and Convertible Securities in Closed-End Funds: Evaluating Distribution Sustainability in NCV and NCZ

The sustainability of distributions in closed-end funds (CEFs) hinges on two critical factors: the alignment of payouts with income generation and the quality of underlying assets. For investors in fixed income and convertible securities, the Virtus Convertible & Income Fund (NCV) and its sibling fund, Virtus Convertible & Income Fund II (NCZ), offer contrasting case studies. While both funds target high current income through convertibles and high yield bonds, their distribution models diverge significantly in terms of coverage and risk.

Payout Ratios and Income Coverage

NCV’s quarterly payout ratio of 61.88% [1] appears elevated, but its distribution is fully covered by investment income and realized gains [2]. This suggests that the fund’s high yield of 11.12% [1] is supported by robust earnings, even if the payout ratio exceeds 50%. In contrast, NCZ’s lower payout ratio of 41.44% [1] masks a critical issue: its May 2025 distribution was entirely sourced as return of capital, with no contribution from net investment income or realized gains [3]. This pattern, while not uncommon in CEFs, raises concerns about long-term sustainability if recurring.

The disparity stems from differing portfolio structures. NCV’s portfolio includes 59.55% convertible securities and 37.26% high yield bonds [4], with 21.11% of fixed income holdings rated BB and 16.97% rated B [4]. These lower-rated bonds generate higher yields, bolstering income coverage. NCZ, meanwhile, allocates 83.17% of its corporate securities to convertibles [5], but its lack of cash reserves (1.04% for NCV vs. 0% for NCZ) [4] and reliance on return of capital highlight structural vulnerabilities.

Portfolio Composition and Risk Profiles

Both funds are heavily concentrated in convertibles, but their credit quality and diversification differ. NCV’s portfolio includes non-rated holdings (49.23%) [4], which could expose it to idiosyncratic risks. NCZ’s top holdings—such as Boeing Co and Wells Fargo & Co—offer more name recognition and potentially greater stability [5]. However, NCZ’s managed distribution plan explicitly states that insufficient income or gains will lead to return of capital [3], a red flag for investors prioritizing income preservation.

Profitability metrics further underscore NCV’s strength. The fund reported a gross profit of $65.76 million and an EBITDA of $65.21 million for the quarter [6], with operating income growing 253.10% year-over-year [6]. These figures suggest NCV’s ability to sustain distributions even in volatile markets. NCZ, while profitable, lacks comparable transparency in its financial reporting, relying instead on estimates for distributions [3].

Reverse Stock Splits and Distribution Adjustments

Both funds executed 1-for-4 reverse stock splits in early 2025, proportionally increasing monthly distributions. NCV’s payout rose from $0.034 to $0.136 per share, while NCZ’s increased from $0.030 to $0.120 per share [2]. While these adjustments boosted yields, they also amplified the importance of income coverage. NCV’s distributions remain fully supported by earnings [2], whereas NCZ’s reliance on return of capital persists [3].

Conclusion

For income-focused investors, NCV presents a more sustainable model. Its higher payout ratio is offset by strong income coverage and diversified, albeit riskier, holdings. NCZ, while offering a slightly lower yield, faces challenges in maintaining distribution consistency due to its reliance on return of capital and lack of cash reserves. Both funds exemplify the trade-offs inherent in CEF investing: higher yields often come with greater risk, particularly in volatile convertible and high yield markets.

Source:
[1] Virtus Convertible & Income Fund Common Shares of ... [https://stockanalysis.com/stocks/ncv/dividend/]
[2] NCV: A Fully Covered 12% Yield That Is Hard To Ignore [https://seekingalpha.com/article/4795236-ncv-a-fully-covered-12-percent-yield-that-is-hard-to-ignore]
[3] Virtus Convertible & Income Fund II : May 2025 [https://finnhub.io/api/news?id=45904cc134ebc1ec4484baaae317684626e19a1dc9c7b868465e4033c4ccb73e]
[4] Virtus Convertible & Income Fund [https://www.virtus.com/products/virtus-convertible-income-fund]
[5] Virtus Convertible & Income Fund II:NCZ [https://www.cefconnect.com/fund/NCZ]
[6] Virtus Convertible & Income Fund Profit Metrics [https://mlq.ai/stocks/NCV-PA/profit/]