NMCO: A Contrarian Gem in a Tax-Exempt Yield Desert

The Nuveen Municipal Credit Opportunities Fund (NMCO) has long been a fixture in the municipal bond market, but its current technical and valuation backdrop presents a compelling contrarian opportunity. With a depressed price relative to its net asset value (NAV), a high tax-exempt yield, and an improving credit landscape, NMCO offers investors a rare chance to buy a leveraged closed-end fund (CEF) at a discount while benefiting from resilient income streams.

Undervaluation: A Discount That's Hard to Ignore

The fund's current NAV discount of -0.74% may seem modest, but it's a relative bargain compared to its 1-year average discount of -5.91%. Historically, NMCO's discount has swung between -10.68% and -0.46%, but recent price action suggests investor sentiment remains cautious. This creates a classic contrarian scenario: a fund trading near its NAV but with a long-term tendency to revert to deeper discounts.

NMCO's NAV discount vs. its 52-week average
Investors can exploit this by purchasing shares when the discount widens beyond its historical mean. Technical traders might look for dips below the $10.50 price level—a support zone where buying often emerges—to establish positions.

The Yield Advantage: Tax-Free Income in a Low-Yield World

With a distribution yield of 7.62% (based on the current share price), NMCO offers a stark contrast to the paltry returns of traditional fixed-income assets. This yield is tax-exempt at the federal level, effectively boosting its after-tax equivalent to over 12% for investors in the highest U.S. tax bracket.

While the fund's yield is below some peers—like the DWS Municipal Income Trust (8.45%)—it remains stable and predictable. NMCO's consistent monthly distributions of $0.0685 since March 2025 reflect strong portfolio management, even as interest rates rise. The fund's income-only classification further reduces reinvestment risk, a critical factor for income-focused investors.

Credit Quality: Navigating the Muni Bond Landscape

NMCO's focus on lower-rated municipal bonds (up to 30% in CCC+/Caa1 or lower) might deter conservative investors, but recent trends suggest the municipal credit cycle is turning. Defaults in the sector remain low, and states like New York and Florida—top portfolio holdings—benefit from strong fiscal recoveries post-pandemic.

The fund's 96.73% allocation to municipal securities provides diversification against corporate credit risks, while its average 21-year maturity offers insulation from short-term rate fluctuations. Even with leverage (42.32%), NMCO's annualized NAV return of 20.15% over five years underscores its ability to navigate volatile markets.

Technical Weakness as an Opportunity, Not a Threat

Critics may cite NMCO's -3.12% YTD NAV return or its leveraged structure as red flags. Yet these factors are baked into the fund's pricing. A Z-Score of 2.75 over six months suggests the discount is within a statistically reasonable range, and recent price rallies (e.g., closing at par on June 30) hint at underlying demand.

For contrarians, the volatility is a feature, not a bug. Leverage amplifies both gains and losses, but it also creates asymmetry: a small rebound in NAV could disproportionately boost share prices. Pairing this with dollar-cost averaging could mitigate near-term risk while capturing the eventual mean reversion.

Risks and Considerations

• Interest Rate Sensitivity: The average 5.79% coupon and long maturity expose NMCO to rising rates. Investors should avoid overconcentration in a rising rate environment.
• Leverage Costs: The 4.74% total expense ratio (including interest) eats into returns during poor performance periods.
• Credit Downgrades: While the portfolio's 423 positions are diversified, defaults in lower-rated bonds could pressure NAV.

Investment Thesis: A Tactical Contrarian Play

NMCO is a buy for investors willing to look past short-term technical weakness. Key catalysts include:
1. Discount Narrowing: A return to historical averages could boost share prices 5-10%.
2. Yield Stability: The 7.62% distribution offers a cushion against volatility.
3. Credit Cycle Upside: Improving municipal finances could lift lower-rated bonds in the portfolio.

Action Items:
- Buy on dips: Target entries below $10.50, where support has held historically.
- Dollar-cost average: Spread purchases over 2-3 months to mitigate timing risk.
- Hold for 12+ months: Let the fund's NAV appreciate and benefit from mean reversion.

Conclusion

NMCO is a rare example of a high-yield, tax-advantaged fund trading at a discount to its NAV. While risks exist, the combination of undervaluation, resilient income, and improving credit fundamentals makes it a standout contrarian opportunity. For investors with a long-term horizon and a tolerance for volatility, now is the time to consider a tactical position in this overlooked CEF.

NMCO's distribution yield vs. peer funds over the past year