Panic Selling in High-Yield Fund Could Allow You to Bank Double-Digits

The equity markets are moving away from risk, and ever since traders turned their attention from the election to more significant unknowns, the de-risk trade has been in full effect. This is true of the equity markets at large, but it’s especially true of many stalwart “safe” high-yield sectors such as utilities. 

But why have high-yield funds suffered the wrath of sellers?#-ad_banner-#

Well, now that President Barack Obama has won a second term, there is very real fear that taxes on the wealthy, and particularly taxes on dividend income, will go up. The so-called “fiscal cliff” negotiations have yet to begin, but the president already has said that a deal must include an increase on the wealthiest 2% of Americans. If you take out your “politico-speak” translator, what this really means is the likelihood of a jump in tax rates, including a big increase in the dividend tax rate from the current 15% to nearly 40%.

The likelihood of such a tax surge is in part the driving force behind many a high-yield fund sell-off during the past week, but in my view, the level of panic selling in some funds means a very attractive buying opportunity.

One high-yield fund I am particularly fond of is the Gabelli Global Gold, Natural Resources & Income Trust (NYSE: GGN). This is a closed-end fund that invests in companies in the gold mining industry, including industry stalwarts such as Barrick Gold (NYSE: ABX), Goldcorp (NYSE: GG) and Newmont Mining (NYSE: NEM), to name some of the fund’s top holdings.

What makes this fund unique, and what gives it a very attractive income stream, is the strategy employed by management. This involves the writing (selling) of covered call options on the equity securities in its portfolio. The strategy has resulted in the fund’s ability to generate about a 12% yield, and along with the potentially huge upside in metals and mining stocks the sector is capable of, makes GGN a compelling high-yield gold play fit for both income investors — and now especially for traders.

The reason this fund is fit for traders can be seen with one glance at the chart. GGN shares have plunged more than 12% in just the past week. That decline is no doubt due to the fear of higher dividend taxes, but it’s also due to what’s been called the “panic investing cycle.”

My friend and colleague, Doug Fabian, editor of the Successful Investing and High Monthly Income newsletters, describes this cycle as follows:

“The panic investment cycle is a migration in emotion from optimism to excitement, then thrill, and then virtual euphoria about how well things are going. Unfortunately, in the absence of the proper risk management tools, this emotion usually morphs into anxiety once an investment begins to break down. That anxiety then becomes denial, and it is at this point that the fear factor invades. Soon after the fear comes the panic selling, and it is at this capitulation point, when nearly everyone is despondent, that the real opportunity for income investors presents itself.”

I suspect that we are very near this point in GGN, especially with this natural resources fund at multi-year lows. Smart traders can buy into this panic profit opportunity now, before the fiscal cliff and tax issues are resolved. Because even if there is a marked tax increase on dividend income, the beaten-down price of GGN means getting in on this fund during the fear portion of the panic cycle — and that’s nearly always a winning trade.

Action to Take –> Buy GGN at the market. Set stop-loss at $11.34. Set initial price target at $14.50, just above the 200-day moving average, for a potential 18% gain in two months.

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Panic Selling in High-Yield Fund Could Allow You to Bank Double-Digits