As filed with the Securities and Exchange Commission on October 14, 2008
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1933 Act File No. 333-______
1940 Act File No. 811-21549
U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM N-2
(Check appropriate box or boxes)
[X] REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933
[ ] Pre-Effective Amendment No. _
[ ] Post-Effective Amendment No. _
and
[ ] REGISTRATION STATEMENT UNDER THE INVESTMENT COMPANY ACT OF 1940
[X] Amendment No. 11
Energy Income and Growth Fund
Exact Name of Registrant as Specified in Declaration of Trust
1001 Warrenville Road, Suite 300, Lisle, Illinois 60532
Address of Principal Executive Offices (Number, Street, City, State, Zip Code)
(630) 241-4141
Registrant's Telephone Number, including Area Code
W. Scott Jardine, Esq.
First Trust Portfolios L.P.
1001 Warrenville Road, Suite 300
Lisle, Illinois 60532
Name and Address (Number, Street, City, State, Zip Code) of Agent for Service
Copies of Communications to:
Eric F. Fess, Esq.
Chapman and Cutler LLP
111 West Monroe Street
Chicago, Illinois 60603
Approximate Date of Proposed Public Offering: As soon as practicable after the
effective date of this Registration Statement
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If any of the securities being registered on this form are offered on a delayed
or continuous basis in reliance on Rule 415 under the Securities Act of 1933,
other than securities offered in connection with a dividend reinvestment plan,
check the following box. [ ]
It is proposed that this filing will become effective (check appropriate box)
[ ] when declared effective pursuant to section 8(c)
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CALCULATION OF REGISTRATION FEE UNDER THE SECURITIES ACT OF 1933
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------------------------- ---------------------- ----------------------- ---------------------- ----------------------
Proposed Maximum Proposed Maximum
Title of Securities Amount Being Offering Price Aggregate Offering Amount of Registration
Being Registered Registered(1) Per Unit Price(2) Fee(3)
------------------------- ---------------------- ----------------------- ---------------------- ----------------------
Common Shares, $50,000,000 $1,965
$0.01 par value(4)
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(1) There are being registered hereunder a presently indeterminate number of
shares of common stock to be offered on an immediate, continuous or delayed
basis.
(2) Estimated pursuant to Rule 457 solely for the purpose of determining the
registration fee. In no event will the aggregate initial offering price of all
securities offered from time to time pursuant to the prospectus included as a
part of this Registration Statement exceed $50,000,000.
(3) Transmitted prior to filing.
(4) Includes shares that the underwriters have the option to purchase solely to
cover over-allotments, if any.
The Registrant hereby amends this Registration Statement on such date or dates
as may be necessary to delay its effective date until the Registrant shall file
a further amendment which specifically states this Registration Statement shall
thereafter become effective in accordance with Section 8(a) of the Securities
Act of 1933 or until the Registration Statement shall become effective on such
dates as the Commission, acting pursuant to said Section 8(a), may determine.
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The information in this prospectus is not complete and may be changed. We may
not sell these securities until the registration statement filed with the
Securities and Exchange Commission is effective. This prospectus is not an offer
to sell securities and it is not soliciting an offer to buy these securities in
any jurisdiction where the offer or sale is not permitted.
SUBJECT TO COMPLETION, DATED OCTOBER 14, 2008
PROSPECTUS
$50,000,000
ENERGY INCOME AND GROWTH FUND
COMMON SHARES
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The Fund. Energy Income and Growth Fund (the "Fund") is a non-diversified,
closed-end management investment company which commenced operations in June,
2004.
Investment Objective. The Fund's investment objective is to seek a high
level of after-tax total return with an emphasis on current distributions paid
to shareholders. The Fund seeks to provide its common shareholders with an
efficient vehicle to invest in a portfolio of cash-generating securities of
energy companies. The Fund focuses on investing in publicly traded master
limited partnerships ("MLPs") and related public entities in the energy sector,
which the Fund's Sub-Adviser (as defined below) believes offer opportunities for
income and growth. As used in this prospectus, unless the context requires
otherwise, MLPs are those MLPs in the energy sector. Due to the tax treatment
under current law of cash distributions made by MLPs to their investors (such as
the Fund), the Fund believes that a portion of its income may be tax deferred,
thereby increasing cash available for distribution by the Fund to its
shareholders. There can be no assurance that the Fund's investment objective
will be achieved.
Investment Strategy. Under normal market conditions, the Fund invests at
least 85% of its Managed Assets (as defined below) (including assets obtained
through leverage) in securities of energy companies and energy sector MLPs and
MLP-related entities and invests at least 65% of its Managed Assets in equity
securities of such MLPs and MLP-related entities. The Fund may also invest up to
35% of its Managed Assets in unregistered or otherwise restricted securities
(including up to 10% of its Managed Assets in securities issued by private
companies) and up to 25% of its Managed Assets in debt securities of energy
companies, MLPs and MLP-related entities, including securities rated below
investment grade (commonly referred to as "junk bonds"). To generate additional
income, the Fund writes (or sells) covered call options on the common stock of
energy companies held in the Fund's portfolio. The Fund anticipates that it will
be able to invest substantially all of the net proceeds of any offering of
common shares pursuant to this prospectus in securities that meet the Fund's
investment objective and policies within one month after the completion of this
offering. See "Risks" for a discussion of the risks involved in investing in
both MLPs and junk bonds.
The Fund's currently outstanding common shares are, and the common shares
offered in this prospectus will be, subject to notice of issuance, listed on the
American Stock Exchange ("AMEX") under the trading or "ticker" symbol "FEN." The
net asset value of the Fund's common shares at the close of business on , 2008
was $ per common share, and the last sale price of the common shares on the AMEX
on such date was $ .
The Fund may offer and sell common shares pursuant to this prospectus to or
through underwriters, through dealers or agents that it designates from time to
time, directly to purchasers or through a combination of these methods. For more
information about the manner in which the Fund may offer its common shares, see
"Plan of Distribution."
INVESTING IN COMMON SHARES INVOLVES CERTAIN RISKS. YOU COULD LOSE SOME OR
ALL OF YOUR INVESTMENT. SEE "RISKS" BEGINNING ON PAGE 39.
NEITHER THE SECURITIES AND EXCHANGE COMMISSION NOR ANY STATE SECURITIES
COMMISSION HAS APPROVED OR DISAPPROVED OF THESE SECURITIES OR DETERMINED IF THIS
PROSPECTUS IS TRUTHFUL OR COMPLETE. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
(continued on the following page)
(continued from previous page)
Due to the nature of the Fund's MLP investments, under current law the Fund
is not eligible to elect to be treated as a "regulated investment company" under
the Internal Revenue Code of 1986, as amended (the "Internal Revenue Code"), as
is common for most investment companies. Rather, the Fund has elected to be
treated as a regular corporation for federal income tax purposes and, as such,
unlike most investment companies, it will be subject to corporate income tax to
the extent the Fund recognizes taxable income.
Investment Adviser and Sub-Adviser. First Trust Advisors L.P. ("First Trust
Advisors" or the "Adviser") is the Fund's investment adviser, responsible for
supervising the Fund's Sub-Adviser, monitoring the Fund's investment portfolio,
managing the Fund's business affairs and providing certain clerical and
bookkeeping and other administrative services. The Adviser, in consultation with
the Sub-Adviser, is also responsible for determining the Fund's overall
investment strategy and overseeing its implementation. Energy Income Partners,
LLC ("Energy Income Partners" or the "Sub-Adviser") is the Fund's sub-adviser
and is primarily responsible for the day-to-day supervision and investment
strategy of the Fund.
First Trust Advisors serves as investment adviser or portfolio supervisor
to investment portfolios with approximately $26 billion in assets which it
managed or supervised as of September 30, 2008. Energy Income Partners serves as
investment adviser or portfolio supervisor to investment portfolios with
approximately $505 million in assets, which it managed or supervised as of
September 30, 2008. See "Management of the Fund."
Use of Financial Leverage. The Fund is currently engaged in, and may in the
future engage in, the use of financial leverage to seek to enhance the level of
its current distributions to common shareholders. The Fund may use leverage
through the issuance of preferred shares ("Preferred Shares") and/or through the
issuance of commercial paper or notes (in addition to the Notes, as defined
below) and/or other borrowings ("Borrowings") by the Fund. As of October 8,
2008, aggregate financial leverage through the issuance of Notes and/or
Borrowings (collectively, "Financial Leverage") was approximately 29% of the
Fund's Managed Assets (as defined below) (including the proceeds of the
Financial Leverage). The term "Managed Assets" means the average daily gross
asset value of the Fund (which includes assets attributable to the Fund's
Preferred Shares, if any, and the principal amount of Borrowings, including the
Notes), minus the sum of the Fund's accrued and unpaid dividends on any
outstanding Preferred Shares and accrued liabilities (other than the principal
amount of any Borrowings incurred and the liquidation preference of any
outstanding Preferred Shares). The determination to use Financial Leverage is
subject to the approval of the Fund's Board of Trustees ("Board of Trustees").
You should read this prospectus, which contains important information about
the Fund, before deciding whether to invest in the common shares, and retain it
for future reference. This prospectus sets forth concisely the information about
the Fund that a prospective investor ought to know before investing. The
Statement of Additional Information (the "SAI"), dated , 2008, containing
additional information about the Fund, has been filed with the Securities and
Exchange Commission and is incorporated by reference in its entirety into this
prospectus. You may request a free copy of the SAI, the table of contents of
which is on page of this prospectus, annual and semi-annual reports to
shareholders, and other information about the Fund, and make shareholder
inquiries by calling (800) 988-5891, by writing to the Fund or from the Fund's
website (http://www.ftportfolios.com). Please note that the information
contained in the Fund's website, whether currently posted or posted in the
future, is not part of this prospectus or the documents incorporated by
reference in this prospectus. You also may obtain a copy of the SAI (and other
information regarding the Fund) from the Securities and Exchange Commission's
web site (http://www.sec.gov).
Shares of common stock of closed-end investment companies, like the Fund,
frequently trade at discounts to their net asset values. If the Fund's common
shares trade at a discount to net asset value, the risk of loss may increase for
purchasers in this offering, especially for those investors who expect to sell
their common shares in a relatively short period after purchasing shares in this
offering. See "Risk Factors - Market Discount From Net Asset Value." The Fund's
common shares do not represent a deposit or obligation of, and are not
guaranteed or endorsed by, any bank or other insured depository institution, and
are not federally insured by the Federal Deposit Insurance Corporation, the
Federal Reserve Board or any other government agency.
Prospectus dated , 2008
-ii-
CAUTIONARY NOTICE REGARDING FORWARD-LOOKING STATEMENTS
This prospectus and the SAI, including documents incorporated by reference,
contain "forward-looking statements." Forward-looking statements can be
identified by the words "may," "will," "intend," "expect," "estimate,"
"continue," "plan," "anticipate," and similar terms and the negative of such
terms. By their nature, all forward-looking statements involve risks and
uncertainties, and actual results could differ materially from those
contemplated by the forward-looking statements. Several factors that could
materially affect the Fund's actual results are the performance of the portfolio
of securities held by the Fund, the conditions in the U.S. and international
financial, petroleum and other markets, the price at which the Fund's common
shares will trade in the public markets and other factors discussed in the
Fund's periodic filings with the Securities and Exchange Commission (the "SEC").
Although we believe that the expectations expressed in these
forward-looking statements are reasonable, actual results could differ
materially from those projected or assumed in these forward-looking statements.
The Fund's future financial condition and results of operations, as well as any
forward-looking statements, are subject to change and are subject to inherent
risks and uncertainties, such as those disclosed in the "Risk Factors" section
of this prospectus. All forward-looking statements contained or incorporated by
reference in this prospectus or any accompanying prospectus supplement are made
as of the date of this prospectus or the accompanying prospectus supplement, as
the case may be. We do not intend, and we undertake no obligation, to update any
forward-looking statement. The forward-looking statements contained in this
prospectus and any accompanying prospectus supplement are excluded from the safe
harbor protection provided by Section 27A of the Securities Act of 1933, as
amended (the "1933 Act").
Currently known risk factors that could cause actual results to differ
materially from the Fund's expectations include, but are not limited to, the
factors described in the "Risks" section of this prospectus. We urge you to
review carefully that section for a more detailed discussion of the risks of an
investment in the Fund's securities.
-iii-
PROSPECTUS SUMMARY
This summary highlights information contained elsewhere in this prospectus.
This summary does not contain all of the information that you should consider
before investing in the Fund's common shares. You should carefully read the
entire prospectus, including the documents incorporated by reference into it,
particularly the section entitled "Risks" beginning on page 39.
THE FUND......................... Energy Income and Growth Fund is a non-
diversified, closed-end management
investment company which commenced
operations in June, 2004. The Fund's
investment objective is to seek a high level
of after-tax total return with an emphasis
on current distributions paid to common
shareholders. The Fund seeks to provide its
common shareholders with an efficient
vehicle to invest in a portfolio of
cash-generating securities of energy
companies. The Fund completed its initial
public offering of common shares in June,
2004, raising approximately $122 million in
equity after the payment of offering
expenses. As of 2008, the Fund had
common shares outstanding and net
assets applicable to common shares of $ .
The common shares of beneficial interest
offered by this prospectus are called
"Common Shares" and the holders of Common
Shares are called "Common Shareholders" in
this prospectus. As used in this prospectus,
unless the context requires otherwise,
"common shares" refers to the Fund's common
shares of beneficial interest currently
outstanding as well as those Common Shares
offered by this prospectus and the holders
of common shares are called "common
shareholders."
INVESTMENT OBJECTIVE
AND POLICIES..................... The Fund's investment objective is to seek
a high level of after-tax total return with
an emphasis on current distributions paid to
common shareholders. For purposes of the
Fund's investment objective, total return
includes capital appreciation of, and all
distributions received from, securities in
which the Fund invests regardless of the tax
character of the distributions. The Fund
seeks to provide its common shareholders
with an efficient vehicle to invest in a
portfolio of cash-generating securities of
energy companies. The Fund focuses on
investing in MLPs and related public
entities in the energy sector which the
Sub-Adviser believes offer opportunities for
income and growth. As used in this
prospectus, unless the context requires
otherwise, MLPs are those MLPs in the energy
sector. Due to the tax treatment under
current law of cash distributions made by
MLPs to their investors (such as the Fund),
the Fund believes that a portion of its
income may be tax deferred, thereby
increasing cash available for distribution
by the Fund to its common shareholders.
There can be no assurance that the Fund's
investment objective will be achieved.
Under normal market conditions, as a
non-fundamental policy, the Fund invests at
least 85% of its Managed Assets (including
assets obtained through leverage) in
securities of energy companies and energy
sector MLPs and MLP-related entities, and
invests at least 65% of its Managed Assets
in equity securities of such MLPs and
MLP-related entities.
The Fund has adopted the following
additional non-fundamental investment
policies:
o The Fund may invest up to 35% of its
Managed Assets in unregistered or
otherwise restricted securities
(including up to 10% of its Managed
Assets in securities issued by private
companies). The types of unregistered
or otherwise restricted securities that
the Fund may purchase consist of MLP
common units, MLP subordinated units
and securities of public and private
energy companies.
o The Fund may invest up to 25% of its
Managed Assets in debt securities of
energy companies, MLPs and MLP-related
entities, including below investment
grade securities, which are commonly
referred to as "junk bonds." Below
investment grade debt securities will
be rated at least "B3" by Moody's
Investors Service, Inc. ("Moodys") and
at least "B-" by Standard & Poor's
Ratings Group ("S&P") at the time of
purchase, or comparably rated by
another nationally recognized
statistical rating organization
("NRSRO") or, if unrated, determined to
be of comparable quality by the
Sub-Adviser.
o The Fund will not invest more than 10%
of its Managed Assets in any single
issuer.
o The Fund will not engage in short
sales, except to the extent the Fund
engages in derivative investments to
seek to hedge against interest rate
risk in connection with the Fund's use
of Financial Leverage or market risks
associated with the Fund's portfolio.
o The Fund may invest up to 15% of its
Managed Assets in non-U.S. securities
as well as hedge the currency risk of
the non-U.S. securities using
derivative instruments.
To generate additional income, the Fund
writes (or sells) covered call options on
the common stock of energy companies held in
the Fund's portfolio. The Fund anticipates
that it will be able to invest substantially
all of the net proceeds of any offering of
Common Shares pursuant to this prospectus in
securities that meet the Fund's investment
objective and policies within one month
after the completion of any such offering.
The Fund's investment objective and the
investment restrictions listed in the SAI
are considered fundamental and may not be
changed without approval by holders of a
majority of the outstanding voting
securities of the Fund, as defined in the
Investment Company Act of 1940 (the "1940
Act"), which includes common shares and
Preferred Shares, if any, voting together as
a single class, and the holders of the
outstanding Preferred Shares, if any, voting
as a single class. The remainder of the
Fund's investment policies, including its
investment strategy, are considered
non-fundamental and may be changed by the
Board of Trustees without shareholder
approval. The Fund will provide investors
with at least 60 days prior notice of any
change in the Fund's investment strategy.
Unless otherwise stated, all investment
restrictions apply at the time of purchase
and the Fund will not be required to reduce
a position due solely to market
fluctuations. There can be no assurance that
the Fund's investment objective will be
achieved. See "The Fund's Investments" and
"Risks" in this prospectus and "Investment
Policies and Techniques" in the Fund's SAI.
THE FUND'S INVESTMENTS........... The Fund's investments consist of equity
and/or debt securities issued by energy
companies and energy sector MLPs and
MLP-related entities. The companies in which
the Fund invests are generally involved in
the business of transporting, processing,
storing, distributing or marketing natural
gas, natural gas liquids ("NGLs") (including
propane), crude oil, refined petroleum
-2-
products, coal or electricity, or exploring,
developing, managing or producing such
commodities or products, or in supplying
energy-related products and services.
The types of MLP and MLP-related entity
equity securities the Fund purchases include
common units, subordinated units and
I-Shares. Unlike the holders of common stock
of a corporation, investors in MLP common
units, including the Fund, have limited
control and voting rights on matters
affecting the partnership. Investors in MLP
common units are generally entitled to
minimum quarterly distributions ("MQD") from
the MLP, including arrearage rights, which
must be satisfied before any distributions
are paid to subordinated unit holders or
incentive payments are made to the MLP's
general partner. MLP common units are
typically listed and traded on a U.S.
securities exchange. While the Fund
anticipates that it will generally purchase
MLP common units in open market
transactions, the Fund has purchased in the
past, and may purchase in the future, MLP
common units through direct placements. MLP
subordinated units provide for distributions
to be made to holders once the MQD payable
to common unit holders have been satisfied
but prior to incentive payments to the MLP's
general partner. MLP subordinated units do
not provide for arrearage rights and are
typically convertible into common units
after a specified period of time or upon the
achievement of specified financial goals. As
MLP subordinated units are not typically
listed or publicly traded, the Fund
anticipates that it will purchase MLP
subordinated units directly from MLP
affiliates or holders of such shares.
I-Shares are similar in most respects to
common units except that distributions
payable on I-Shares are in the form of
additional I-Shares rather than cash
distributions. As a result, the Fund will
consider its own distribution targets and
cash holdings when making a determination as
to whether to purchase I-Shares.
The Fund may also invest in equity and debt
securities of MLP-related entities, such as
general partners or other affiliates of MLPs
and equity and debt securities of energy
companies that are organized and/or taxed as
corporations.
The Fund may invest up to 35% of its Managed
Assets in equity securities issued by energy
companies. The Fund intends to purchase
these equity securities in market
transactions but may also purchase
securities directly from the issuers in
private placements. To generate additional
income, the Fund has in the past written (or
sold), and may in the future write (or
sell), covered call options on the common
stock of energy companies held in the Fund's
portfolio.
HEDGING AND STRATEGIC
TRANSACTIONS..................... The Fund may, but is not required to, use
various hedging and strategic transactions
to seek to reduce interest rate risks
arising from any use of Financial Leverage,
to facilitate portfolio management and to
mitigate risks, including interest rate,
currency and credit risks. The Fund also may
write (or sell) covered call options on the
common stock of energy companies held in the
Fund's portfolio. Call options are contracts
representing the right to purchase a common
stock at a specified price (the "strike
price") at a specified future date (the
"expiration date"). The price of the option
is determined from trading activity in the
broad options market, and generally reflects
-3-
the relationship between the current market
price for the underlying common stock and
the strike price, as well as the time
remaining until the expiration date. The
Fund will write call options only if they
are "covered." In the case of a call option
on a common stock or other security, the
option is "covered" if the Fund owns the
security underlying the call or has an
absolute and immediate right to acquire that
security without additional cash
consideration (or, if additional cash
consideration is required, cash or other
assets determined to be liquid by the
Sub-Adviser (in accordance with procedures
established by the Board of Trustees) in
such amount are segregated by the Fund's
custodian) upon conversion or exchange of
other securities held by the Fund. The Fund
may purchase and sell derivative investments
such as exchange-listed and over-the-counter
put and call options on securities,
energy-related commodities, equity, fixed
income and interest rate indices,
currencies, and other financial instruments,
purchase and sell financial futures
contracts and options thereon, and enter
into various interest rate transactions such
as swaps, caps, floors or collars or credit
transactions and credit default swaps. The
Fund also may purchase derivative
investments that combine features of these
instruments. Collectively, all of the above
are referred to as "Strategic Transactions."
The Fund generally seeks to use these
instruments and transactions as a portfolio
management or hedging technique to seek to
protect against possible adverse changes in
the market value of securities held in or to
be purchased for the Fund's portfolio,
protect the value of the Fund's portfolio,
facilitate the sale of certain securities
for investment purposes, manage the
effective interest rate and currency
exposure of the Fund, or establish positions
in the derivatives markets as a temporary
substitute for purchasing or selling
particular securities.
USE OF FINANCIAL LEVERAGE........ The Fund is currently engaged in, and may
in the future engage in, the use of
Financial Leverage to seek to enhance the
level of its current distributions to common
shareholders. On January 28, 2005, the Fund
issued $34 million principal amount of
auction rate senior notes due March 2, 2045
(the "Series A Notes") and on March 26,
2006, issued $25 million principal amount of
auction rate senior notes due March 20, 2046
(the "Series B Notes," together with the
Series A Notes, the "Notes"), which were
rated "Aaa" and "AAA" by Moody's and Fitch
Ratings Services, Inc. ("Fitch"),
respectively. On March 26, 2008, the Fund
entered into a $55 million senior revolving
credit facility with a bank (the "Credit
Facility"), of which $34 million was
utilized to redeem the issued and
outstanding Series A Notes.
The Fund's common shares are junior in
liquidation and distribution rights to the
Notes and amounts owed pursuant to the
Credit Facility. The issuance of Preferred
Shares and/or Borrowings, including the
Series B Notes and Borrowings under the
Credit Facility (each a "Leverage
Instrument" and collectively, the "Leverage
Instruments"), represent the leveraging of
the Fund's common shares. The issuance of
additional Common Shares offered by this
prospectus will enable the Fund to increase
the aggregate amount of its leverage. The
use of Financial Leverage creates an
opportunity for increased income and capital
appreciation for common shareholders, but at
the same time, it creates special risks that
may adversely affect common shareholders.
Because both the Adviser's and Sub-Adviser's
-4-
fees are based on Managed Assets (including
assets obtained through leverage), both the
Adviser's and Sub-Adviser's fees are higher
when the Fund is leveraged. There can be no
assurance that a leveraging strategy will be
successful during any period in which it is
used. As of October 8, 2008, the principal
amount of the Series B Notes and Borrowings
under the Credit Facility represented
approximately 29% of the Fund's Managed
Assets. As of October 8, 2008, the Fund had
$40.35 million of unutilized funds available
for Borrowing under the Credit Facility.
Leverage creates a greater risk of loss, as
well as potential for more gain, for the
common shares than if leverage is not used.
The determination to use Financial Leverage
is subject to the Board of Trustees'
approval and the ability of the Fund to
obtain Financial Leverage. Leverage
Instruments will have seniority over the
common shares. The use of Leverage
Instruments will leverage your investment in
the Common Shares. The Fund expects to issue
additional Leverage Instruments to extent
such Financial Leverage is available. If the
Fund uses additional Leverage Instruments,
associated costs, if any, will be borne
immediately by common shareholders and
result in a reduction of the net asset value
of the common shares.
Preferred Shares, if any, will pay dividends
based on short-term rates, which will be
reset frequently. Borrowings may be at a
fixed or floating rate and generally will be
based upon short-term rates. So long as the
rate of return, net of applicable Fund
expenses, on the Fund's portfolio
investments purchased with leverage exceeds
the then current interest rate or dividend
rate on the Leverage Instruments, the Fund
will generate more return or income than
will be needed to pay such dividends or
interest payments. In this event, the excess
will be available to pay higher
distributions to common shareholders. When
leverage is employed, the net asset value
and market prices of the common shares and
the yield to common shareholders will be
more volatile.
There is no assurance that the Fund will
utilize Financial Leverage in addition to
the Notes and the Credit Facility or, if
additional Financial Leverage is utilized,
that it will be successful in enhancing the
level of the Fund's current distributions.
During the recent downturn in the equity
markets, the Fund violated the asset
coverage covenants in the Credit Facility
resulting in an event of default thereunder.
Under the terms of the Credit Facility, upon
an event of default the lender has the right
to require the immediate payment of all
amounts outstanding under the Credit
Facility and to charge interest at a higher
rate from the time of such event of default
until waived. In response, the Fund sold
assets and reduced the amount of Borrowings
under the Credit Facility. The lender under
the Credit Facility has waived such event of
default. There is no assurance that the Fund
will not violate such covenants in the
future. In such event, the Fund may be
required to repay all outstanding Borrowings
immediately. In order to repay such amounts
the Fund may be required to sell assets
quickly which could have a material adverse
effect on the Fund and could trigger
negative tax implications. In addition, the
Fund would be precluded from declaring or
paying any distribution on the common shares
during the continuance of such event of
default.
-5-
As a result of recent turmoil in the
financial markets, auction rate securities
have experienced widespread auction
failures. Auctions for the Series B Notes
have also failed. In the event of an auction
failure, the interest rate for Series B
Notes is set at the maximum rate as
determined by the terms of the Series B
Notes, which has been 200% (and could be up
to 300%, depending on the ratings of the
Series B Notes) of the greater of: (i) the
applicable Treasury Index rate or (ii) the
applicable LIBOR. All auctions on the Series
B Notes have failed since February, 2008.
The Fund may make further use of Financial
Leverage through the issuance of additional
notes or other senior securities to the
extent permitted by the 1940 Act.
It is possible that the Fund will be unable
to obtain additional Financial Leverage. In
the current economic environment, it has
become more difficult for borrowers,
including the Fund, to find third parties
willing to extend credit or purchase
securities that would constitute Financial
Leverage. If the Fund is unable to increase
Financial Leverage after the issuance of
additional Common Shares pursuant to this
prospectus, there could be an adverse impact
on the return to common shareholders. See
"Use of Financial Leverage" and "Risks --
Leverage Risk."
OFFERING METHODS................. The Fund may offer the Common Shares using
one or more of the following methods: (i)
at-the-market offerings; (ii) through an
underwriting syndicate; and (iii) through
privately negotiated transactions between
the Fund and specific investors. See "Plan
of Distribution."
Distribution Through At-the-Market
Offerings. An at-the-market offering is an
offering of common shares at other than a
fixed price to or through a market maker.
The Fund, from time to time, may offer the
Common Shares through (the
"Distribution Agent"), pursuant to, and
subject to the terms of, an Equity
Distribution Agreement by and between the
Fund and the Distribution Agent. The Common
Shares offered hereby will only be sold on
such days as shall be agreed to by the Fund
and the Distribution Agent. The Common
Shares will be sold at market prices, which
shall be determined with reference to trades
on the AMEX, subject to a minimum price to
be established each day by the Fund. The
minimum price on any day will not be less
than the current net asset value per share
plus the per share amount of the commission
to be paid to the Distribution Agent. The
Fund and the Distribution Agent will suspend
the sale of the Common Shares if the per
share price of the shares is less than the
minimum price. The Fund will compensate the
Distribution Agent with respect to sales of
the Common Shares at a commission rate of up
to % of the gross sales price per share of
Common Shares sold. Settlements of Common
Share sales will occur on the third business
day following the date of sale. In
connection with the sale of the Common
Shares on behalf of the Fund, the
Distribution Agent may be deemed to be an
underwriter within the meaning of the 1933
Act, as amended and the compensation of the
Distribution Agent may be deemed to be
underwriting commissions or discounts.
Unless otherwise indicated in a further
prospectus supplement, the Distribution
Agent will act as underwriter on a
reasonable efforts basis. The offering of
Common Shares pursuant to the Equity
Distribution Agreement will terminate upon
the earlier of (i) the sale of all the
Common Shares subject thereto or (ii)
termination of the Equity Distribution
Agreement. The Fund and the Distribution
Agent each have the right to terminate the
Equity Distribution Agreement in its
discretion at any time, upon ten days
written notice. See "Plan of
Distribution--Distribution Through
At-the-Market Offerings."
-6-
To the extent Common Shares are distributed
other than through at-the-market offerings,
the Fund will file a supplement to this
prospectus describing such transactions.
Distribution Through Underwriting
Syndicates. The Fund from time to time may
issue additional Common Shares through a
syndicated secondary offering. To limit the
impact on the market price of the Fund's
common shares, underwriters will market and
price the offering on an expedited basis
(e.g., overnight or similarly abbreviated
offering period). The Fund will launch a
syndicated offering on a day, and upon
terms, mutually agreed upon between the
Fund, the Distribution Agent and the
underwriting syndicate. The Fund will offer
its Common Shares at a price equal to a
specified discount of up to % from the
closing market price of the common shares on
the day prior to the offering date. The
applicable discount will be negotiated by
the Fund and the Distribution Agent in
consultation with the underwriting syndicate
on a transaction-by-transaction basis. The
Fund will compensate the underwriting
syndicate out of the proceeds of the
offering based upon a sales load of up to %
of the gross per share offering price. The
minimum net proceeds per Common Share to the
Fund will not be less than the greater of
(i) the Fund's latest net asset value per
common share or (ii) % of the closing
market price of the common shares on the day
prior to the offering date. See "Plan of
Distribution--Distribution Through
Underwriting Syndicates."
Distribution Through Privately Negotiated
Transactions. The Fund, through the
Distribution Agent, from time to time may
sell directly to, and solicit offers from,
institutional and other sophisticated
investors, who may be deemed to be
underwriters as defined in the 1933 Act for
any resale of Common Shares. The terms of
such privately negotiated transactions will
be subject to the discretion of the
management of the Fund. In determining
whether to sell Common Shares through a
privately negotiated transaction, the Fund
will consider relevant factors including,
but not limited to, the attractiveness of
obtaining additional funds through the sale
of Common Shares. The purchase price to
apply to any such sale of Common Shares
issued by the Fund through privately
negotiated transactions will be issued at a
price equal to the greater of (i) the net
asset value per common share of the Fund's
common shares or (ii) at a discount ranging
from % to % of the average daily closing
market price of the Fund's common shares at
the close of business on the two business
days preceding the date upon which common
shares are sold pursuant to the privately
negotiated transaction. The applicable
discount will be determined by the Fund on a
transaction-by-transaction basis. See "Plan
of Distribution--Distribution Through
Privately Negotiated Transactions."
TAX CONSIDERATIONS............... Fund Status. The Fund is taxed as a regular
corporation for federal income tax purposes
and as such is obligated to pay federal and
applicable state and foreign corporate taxes
on its taxable income. This differs from
most investment companies, which elect to be
treated as "regulated investment companies"
under the Internal Revenue Code in order to
avoid paying entity level income taxes.
Under current law, the Fund is not eligible
to elect treatment as a regulated investment
company due to its investment of a
substantial portion of its Managed Assets in
MLPs invested in energy assets. As a result,
the Fund is obligated to pay taxes on its
taxable income as opposed to most other
investment companies which are not so
obligated. However, as discussed below, the
Fund expects that a portion of the
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distributions it receives from MLPs may be
treated as a tax-deferred return of capital,
thus reducing the Fund's current tax
liability. For purposes of computing net
asset value, the Fund accrues deferred
income taxes for its future tax liability
associated with that portion of MLP
distributions considered to be tax-deferred
return of capital as well as capital
appreciation of its investments. The Fund
relies to some extent on information
provided by MLPs, which is usually not
timely, to estimate deferred tax liability
for purposes of financial statement
reporting and determining the Fund's net
asset value. From time to time the Fund will
modify its estimates and/or assumptions
regarding its deferred tax liability as new
information becomes available. The taxation
of Fund distributions is discussed further
under "Tax Matters."
Fund Assets.
o Investments in MLPs. The Fund invests
primarily in MLPs and MLP-related
entities. The benefit the Fund derives
from its investment in MLPs is largely
dependent on MLPs being treated as
partnerships for federal income tax
purposes. As a partnership, an MLP has
no income tax liability at the entity
level. As a limited partner in the MLPs
in which it invests, the Fund is
allocated its pro rata share of income,
gains, losses, deductions and expenses
from the MLPs. A significant portion of
MLP income has historically been offset
by tax deductions. In this situation,
the Fund will incur a current tax
liability on that portion of a
distribution not offset by tax
deductions with the remaining portion of
the distribution being treated as a
tax-deferred return of capital. The
Fund's tax basis in its MLP units would
be reduced by amounts treated as
tax-deferred return of capital, which
would likely increase the Fund's taxable
gain (or reduce the Fund's loss)
recognized upon the sale of an MLP. The
percentage of an MLP's distribution
which is offset by tax deductions will
fluctuate over time for various reasons.
A significant slowdown in acquisition
activity by MLPs held by the Fund could
result in a reduction of accelerated
depreciation or other deductions
generated by new acquisitions, which may
result in increased current tax
liability to the Fund. Certain energy
related deductions are also not allowed
for alternative minimum tax purposes,
which may cause the Fund to be subject
to the alternative minimum tax depending
upon the nature of the assets of the
MLPs. A reduction in the percentage of a
distribution offset by tax deductions or
an increase in the Fund's portfolio
turnover will reduce that portion of the
Fund's distribution treated as a
tax-deferred return of capital and
increase that portion treated as
dividend income, resulting in reduced
Fund distributions and lower after-tax
distributions to the Fund's common
shareholders.
o Investments in Other Securities. The
Fund may also invest in equity and debt
securities of energy companies that are
organized and/or taxed as corporations.
Interest and dividend payments received
by the Fund with respect to such
securities generally are included in the
Fund's corporate taxable income in the
year in which they are received,
although the Fund may qualify for the
dividends-received deduction with
respect to dividends on certain of the
equity securities owned by the Fund.
-8-
Shareholder Tax Aspects.
o Current Distributions on Shares. Common
shareholders of the Fund hold common
shares of a Massachusetts business trust
which has elected for federal income tax
purposes to be taxed as a corporation.
There is a significant difference, for
federal income tax purposes, between
owning common shares of a taxable entity
treated as a corporation for federal
income tax purposes (such as the Fund)
versus owning partnership interests in
the MLPs in which the Fund invests.
Common shareholders of the Fund will be
subject to potential income tax only if
the Fund pays out distributions.
Depending on the nature of the
distribution made by the Fund, the tax
character of such distribution to common
shareholders will vary. Distributions
made from current and accumulated
earnings and profits of the Fund will be
taxable to common shareholders as
dividend income. Dividend income
generally will qualify for treatment as
"qualified dividend income" for federal
income tax purposes if holding period
and other requirements are satisfied by
the common shareholder receiving such
dividend income. Qualified dividend
income received by individual
shareholders is taxed at long-term
capital gains rates, which reach a
maximum of 15%. The special tax
treatment afforded to qualified dividend
income is set to end as of December 31,
2010 (assuming such special tax
treatment is not repealed by Congress
before then). Higher tax rates will
apply in 2011 unless further legislative
action is taken by Congress.
Distributions that are in an amount
greater than the Fund's current and
accumulated earnings and profits will
represent a tax-deferred return of
capital to the extent of a common
shareholder's basis in its common
shares, and such distributions would
correspondingly reduce the common
shareholder's basis in its common
shares. A reduction in the common
shareholder's basis would potentially
increase the common shareholder's gain
(or reduce the common shareholder's
loss) recognized upon the sale of the
common shares. Additionally, excess
distributions that exceed a common
shareholder's tax basis in its common
shares will generally be taxed as gain.
The past performance of MLPs indicates
that a significant portion of the Fund's
distributions to common shareholders
will likely represent a tax-deferred
return of capital. However, there can be
no guarantee that the Fund's expectation
regarding the tax character of its
distributions will be realized or that
the Fund will make regular
distributions. See "Distributions."
o Sale of Shares. Common shareholders
generally will recognize a gain or loss
upon the sale of their common shares.
Such gain or loss is equal to the
difference between the common
shareholder's federal income tax basis
in its common shares sold (as adjusted
to reflect return of capital) and the
sale proceeds received by the common
shareholder upon the disposition of
common shares. As a general rule, the
sale of a capital asset, like common
shares, held for more than a year will
result in a long-term capital gain or
loss. See "Tax Matters."
-9-
COMPARISON WITH DIRECT
INVESTMENTS IN MLPS.............. The Fund seeks to provide an efficient
method for investing in MLPs, MLP-related
entities and other energy companies. Some of
the benefits of investing in the Fund as
opposed to directly investing in MLPs
include:
o The Fund provides, through a single
investment vehicle, an investment in a
portfolio of a number of MLPs,
MLP-related entities and other energy
companies;
o Direct investors in MLPs receive a
partnership statement (a Form K-1
statement) from each MLP they own and
may be required to file income tax
returns in each state in which the MLPs
operate. Common shareholders of the
Fund will receive a single Form 1099
and will only be required to file
income tax returns in states in which
they would ordinarily file;
o Direct investors in MLPs are limited in
their ability to use losses to offset
other gains by the passive activity
income and loss rules, whereas common
shareholders of the Fund are not so
limited; and
o Income received by tax-exempt
investors, including employee benefit
plans and IRA accounts, from MLPs is
generally treated as unrelated business
taxable income ("UBTI"), whereas
distributions these investors receive
from an entity treated for federal
income tax purposes as a corporation
(such as the Fund) will generally not
be treated as UBTI, unless the stock is
debt-financed.
INVESTMENT ADVISER
AND SUB-ADVISER.................. First Trust Advisors L.P. ("First Trust
Advisors" or the "Adviser") is the Fund's
investment adviser, responsible for
supervising the Fund's Sub-Adviser (as
defined below), monitoring the Fund's
investment portfolio, managing the Fund's
business affairs and providing certain
clerical and bookkeeping and other
administrative services. The Adviser, in
consultation with the Sub-Adviser, is also
responsible for determining the Fund's
overall investment strategy and overseeing
its implementation. Energy Income Partners,
LLC ("Energy Income Partners" or the
"Sub-Adviser") is the Fund's sub-adviser and
is primarily responsible for the day-to-day
supervision and investment strategy of the
Fund.
First Trust Advisors, a registered
investment adviser, is an Illinois limited
partnership formed in 1991. First Trust
Advisors serves as investment adviser or
portfolio supervisor to investment
portfolios with approximately $26 billion in
assets which it managed or supervised as of
September 30, 2008.
Energy Income Partners is a limited
liability company and a registered
investment adviser, which provides
professional asset management services in
the area of energy-related MLPs, and other
high-payout securities. Founded in 2003,
Energy Income Partners serves as investment
adviser to investment portfolios with
approximately $505 million of assets which
it managed as of September 30, 2008.
DISTRIBUTIONS.................... The Fund's distributions generally consist
of (i) cash and paid-in-kind distributions
from MLPs or their affiliates, dividends
from common stocks, interest from debt
instruments and income from other
investments held by the Fund less (ii)
-10-
current or accrued operating expenses of the
Fund, including, taxes on Fund taxable
income and leverage costs. Due to the tax
treatment under current law of cash
distributions made by MLPs in which the Fund
invests, a portion of distributions the Fund
makes to common shareholders may consist of
a tax-deferred return of capital. The Fund
intends to make quarterly distributions to
common shareholders. There is no assurance
that the Fund will continue to make regular
distributions. See "Tax Considerations" in
this Summary and "Tax Matters."
Unless a shareholder elects to receive
distributions in cash, distributions will be
used to purchase additional common shares of
the Fund. See "Dividend Reinvestment Plan."
LISTING.......................... The Fund's currently outstanding common
shares are, and the Common Shares offered in
this prospectus will be, subject to notice
of issuance, listed on AMEX under the
trading or "ticker" symbol "FEN." The net
asset value of the Fund's common shares at
the close of business on , 2008
was $ per common share, and the last sale
price of the common shares on AMEX on such
date was $ .
CORPORATE FINANCE SERVICES
AND CONSULTING AGENT............. Wachovia Securities LLC, as successor to
A.G. Edwards, serves as corporate finance
services and consulting agent to the
Adviser, pursuant to a Corporate Finance
Services and Consulting Agreement between
A.G. Edwards and the Adviser. See "Corporate
Finance Services and Consulting Fee."
CUSTODIAN, ADMINISTRATOR
AND TRANSFER AGENT............... PNC Global Investment Servicing (U.S.) Inc.,
formerly known as PFPC Inc., an indirect,
majority-owned subsidiary of The PNC
Financial Services Group, Inc., serves as
the Fund's Administrator, Fund Accountant,
Transfer Agent and Board Administrator in
accordance with certain fee arrangements.
PFPC Trust Company, also an indirect,
majority-owned subsidiary of The PNC
Financial Services Group, Inc., serves as
the Fund's Custodian in accordance with
certain fee arrangements.
CLOSED-END STRUCTURE............. Closed-end funds differ from open-end
management investment companies (commonly
referred to as mutual funds) in that
closed-end funds generally list their shares
for trading on a securities exchange and do
not redeem their shares at the option of the
shareholder. By comparison, mutual funds
issue securities redeemable at net asset
value at the option of the shareholder and
typically engage in a continuous offering of
their shares. Mutual funds are subject to
continuous asset in-flows and out-flows that
can complicate portfolio management, whereas
closed-end funds generally can stay more
fully invested in securities consistent with
the closed-end fund's investment objective
and policies. In addition, in comparison to
open-end funds, closed-end funds have
greater flexibility in their ability to make
certain types of investments, including
investments in illiquid securities.
Shares of closed-end investment companies
listed for trading on a securities exchange
frequently trade at a discount from net
asset value, but in some cases trade at a
premium. The market price may be affected by
net asset value, dividend or distribution
levels (which are dependent, in part, on
expenses), supply of and demand for the
shares, stability of dividends or
distributions, trading volume of the shares,
-11-
general market and economic conditions and
other factors beyond the control of the
closed-end fund. The foregoing factors may
result in the market price of the common
shares of the Fund being greater than, less
than or equal to, net asset value. The Board
of Trustees has reviewed the structure of
the Fund in light of its investment
objective and policies and has determined
that the closed-end structure is
appropriate. As described in this
prospectus, however, the Board of Trustees
may review periodically the trading range
and activity of the Fund's common shares
with respect to their net asset value and
may take certain actions to seek to reduce
or eliminate any such discount. Such actions
may include open market repurchases or
tender offers for the common shares at net
asset value or the possible conversion of
the Fund to an open-end investment company.
There can be no assurance that the Board of
Trustees will decide to undertake any of
these actions or that, if undertaken, such
actions would result in the common shares
trading at a price equal to or close to net
asset value per common share. In addition,
as noted above, the Board of Trustees
determined in connection with the initial
offering of common shares of the Fund that
the closed-end structure is desirable, given
the Fund's investment objective and
policies. Investors should assume,
therefore, that it is highly unlikely that
the Board of Trustees would vote to convert
the Fund to an open-end investment company.
See "Structure of the Fund; Common Share
Repurchases and Change in Fund Structure."
SPECIAL RISK
CONSIDERATIONS................... Investment and Market Risk. An investment
in the Fund's Common Shares is subject to
investment risk, including the possible loss
of the entire amount that you invest. Your
investment in Common Shares represents an
indirect investment in the securities owned
by the Fund, substantially all of which are
traded on a national securities exchange or
in the over-the-counter markets. The value
of these securities, like other market
investments, may move up or down, sometimes
rapidly and unpredictably. The value of the
securities in which the Fund invests will
affect the value of the Common Shares. Your
Common Shares at any point in time may be
worth less than your original investment,
even after taking into account the
reinvestment of Fund dividends and
distributions.
In response to the financial crises
affecting the banking system and financial
markets and going concern threats to
investment banks and other financial
institutions, on October 3, 2008, President
Bush signed the Emergency Economic
Stabilization Act of 2008 (the "EESA") into
law. Pursuant to the EESA, the U.S. Treasury
has the authority to, among other things,
purchase up to $700 billion of
mortgage-backed and other securities from
financial institutions for the purpose of
stabilizing the financial markets. The
Federal Government, Federal Reserve and
other governmental and regulatory bodies
have taken or are considering taking other
actions to address the financial crisis.
There can be no assurance as to what impact
such actions will have on the financial
markets, including the extreme levels of
volatility currently being experienced. Such
continued volatility could materially and
adversely affect the financial condition of
the Fund, the performance of the Fund's
investments and the trading price of the
Fund's common shares.
Market Impact Risk. The sale of the Common
Shares (or the perception that such sales
may occur) may have an adverse effect on
prices in the secondary market for the
-12-
Fund's common shares by increasing the
number of shares available, which may put
downward pressure on the market price for
the Fund's common shares. These sales also
might make it more difficult for the Fund to
sell additional equity securities in the
future at a time and price the Fund deems
appropriate.
Management Risk. The Fund is subject to
management risk because it is an actively
managed portfolio. The Adviser and
Sub-Adviser apply investment techniques and
risk analyses in making investment decisions
for the Fund, but there can be no guarantee
that these will produce the desired results.
Energy Sector Risk. The Fund's investments
are generally concentrated in the energy
sector, with a particular concentration in
energy sector MLPs and MLP-related entities.
Certain risks inherent in investing in the
energy business of these types of securities
include the following:
o Commodity Pricing Risk. MLPs,
MLP-related entities and energy
companies may be directly affected by
energy commodity prices, especially
those MLPs, MLP-related entities and
energy companies which own the
underlying energy commodity. Commodity
prices fluctuate for several reasons,
including changes in market and economic
conditions, the impact of weather on
demand, levels of domestic production
and imported commodities, energy
conservation, domestic and foreign
governmental regulation and taxation and
the availability of local, intrastate
and interstate transportation systems.
Volatility of commodity prices which
leads to a reduction in production or
supply may also impact the performance
of MLPs, MLP-related entities and energy
companies that are solely involved in
the transportation, processing, storing,
distribution or marketing of
commodities. Volatility of commodity
prices may also make it more difficult
for MLPs, MLP-related entities and
energy companies to raise capital to the
extent the market perceives that their
performance may be directly tied to
commodity prices.
o Supply and Demand Risk. A decrease in
the production of natural gas, NGLs,
crude oil, coal or other energy
commodities or a decrease in the volume
of such commodities available for
transportation, processing, storage or
distribution may adversely impact the
financial performance of MLPs,
MLP-related entities and energy
companies. Production declines and
volume decreases could be caused by
various factors, including catastrophic
events affecting production, depletion
of resources, labor difficulties,
environmental proceedings, increased
regulations, equipment failures and
unexpected maintenance problems, import
supply disruption, increased competition
from alternative energy sources or
depressed commodity prices.
Alternatively, a sustained decline in
demand for such commodities could also
impact the financial performance of
MLPs, MLP-related entities and energy
companies. Factors which could lead to a
decline in demand include economic
recession or other adverse economic
conditions, higher fuel taxes or
governmental regulations, increases in
fuel economy, consumer shifts to the use
of alternative fuel sources, an increase
in commodity prices, or weather.
-13-
o Depletion and Exploration Risk. MLPs,
MLP-related entities and energy
companies engaged in the production
(exploration, development, management or
production) of natural gas, NGLs
(including propane), crude oil, refined
petroleum products or coal are subject
to the risk that their commodity
reserves naturally deplete over time.
MLPs, MLP-related entities and energy
companies generally increase reserves
through expansion of their existing
business, through exploration of new
sources or development of existing
sources, through acquisitions or by
securing long-term contracts to acquire
additional reserves, each of which
entails risk. The financial performance
of these issuers may be adversely
affected if they are unable to acquire,
cost-effectively, additional reserves at
a rate at least equal to the rate of
natural decline. A failure to maintain
or increase reserves could reduce the
amount and change the characterization
of cash distributions paid by these
MLPs, MLP-related entities and energy
companies.
o Regulatory Risk. MLPs, MLP-related
entities and energy companies are
subject to significant federal, state
and local government regulation in
virtually every aspect of their
operations, including how facilities are
constructed, maintained and operated,
environmental and safety controls, and
the prices they may charge for the
products and services. Various
governmental authorities have the power
to enforce compliance with these
regulations and the permits issued under
them and violators are subject to
administrative, civil and criminal
penalties, including civil fines,
injunctions or both. Stricter laws,
regulations or enforcement policies
could be enacted in the future which
would likely increase compliance costs
and may adversely affect the financial
performance of MLPs, MLP-related
entities and energy companies.
o Interest Rate Risk. Rising interest
rates could adversely impact the
financial performance of MLPs,
MLP-related entities and energy
companies. Rising interest rates may
increase an MLP's, MLP-related entity's
or energy company's cost of capital,
which would increase operating costs and
may reduce an MLP's, MLP-related
entity's or energy company's ability to
execute acquisitions or expansion
projects in a cost-effective manner.
Rising interest rates may also impact
the price of MLP units, MLP-related
entity securities and energy company
shares as the yields on alternative
investments increase.
o Acquisition Risk. The ability of MLPs to
grow and to increase distributions to
unitholders is dependent principally on
their ability to make acquisitions that
result in an increase in adjusted
operating surplus per unit. In the event
that MLPs are unable to make such
accretive acquisitions either because
they are unable to identify attractive
acquisition candidates or negotiate
acceptable purchase contracts or because
they are unable to raise financing for
such acquisitions on economically
acceptable terms or because they are
outbid by competitors, their future
growth and ability to raise
distributions will be limited.
Furthermore, even if MLPs do consummate
acquisitions that they believe will be
accretive, the acquisitions may in fact
turn out to result in a decrease in
adjusted operating surplus per unit. As
MLP general partners typically receive a
greater percentage of increased cash
distributions, in an effort to increase
cash distributions the general partner
-14-
may make acquisitions which, due to
various factors, including increased
debt obligations as well as the factors
set forth below, may adversely affect
the MLP. Any acquisition involves risks,
including among other things: mistaken
assumptions about revenues and costs,
including synergies; the assumption of
unknown liabilities; limitations on
rights to indemnity from the seller; the
diversion of management's attention from
other business concerns; unforeseen
difficulties operating in new product
areas or new geographic areas; and
customer or key employee losses at the
acquired businesses.
o Affiliated Party Risk. A few of the
midstream MLPs are dependent on their
parents or sponsors for a majority of
their revenues. Any failure by the
parents or sponsors to satisfy their
payments or obligations would impact the
MLPs' revenues and cash flows and
ability to make distributions.
o Catastrophe Risk. The operations of
MLPs, MLP-related entities and energy
companies are subject to many hazards
inherent in the transporting,
processing, storing, distributing or
marketing of natural gas, NGLs, crude
oil, refined petroleum products or other
hydrocarbons, or in exploring, managing
or producing such commodities or
products, including: damage to
pipelines, storage tanks or related
equipment and surrounding properties
caused by hurricanes, tornadoes, floods,
fires and other natural disasters and
acts of terrorism; inadvertent damage
from construction and farm equipment;
leaks of natural gas, NGLs, crude oil,
refined petroleum products or other
hydrocarbons; fires and explosions.
These risks could result in substantial
losses due to personal injury and/or
loss of life, severe damage to and
destruction of property and equipment
and pollution or other environmental
damage and may result in the curtailment
or suspension of their related
operations. Not all MLPs, MLP-related
entities and energy companies are fully
insured against all risks inherent to
their businesses. If a significant
accident or event occurs that is not
fully insured, it could adversely affect
their operations and financial
condition.
o Terrorism/Market Disruption Risk. The
terrorist attacks in the United States
on September 11, 2001 had a disruptive
effect on the securities markets. U.S.
military and related action in Iraq is
ongoing and events in the Middle East
could have significant adverse effects
on the U.S. economy and the stock
market. Uncertainty surrounding
retaliatory military strikes or a
sustained military campaign may affect
energy company operations in
unpredictable ways, including
disruptions of fuel supplies and
markets, and transmission and
distribution facilities could be direct
targets, or indirect casualties, of an
act of terror. Since the September 11th
attacks, the U.S. government has issued
warnings that energy assets,
specifically the U.S. pipeline
infrastructure, may be the future target
of terrorist organizations. In addition,
changes in the insurance markets
attributable to the September 11th
attacks have made certain types of
insurance more difficult, if not
impossible, to obtain and have generally
resulted in increased premium costs.
o MLP Risks. An investment in MLP units
involves risks which differ from an
investment in common stock of a
corporation. Holders of MLP units have
-15-
limited control and voting rights on
matters affecting the partnership. In
addition, there are certain tax risks
associated with an investment in MLP
units and conflicts of interest exist
between common unit holders and the
general partner, including those arising
from incentive distribution payments.
o Industry Specific Risk. MLPs,
MLP-related entities and energy
companies are also subject to risks that
are specific to the industry they serve.
o Midstream MLPs, MLP-related entities and
energy companies that provide crude oil,
refined product and natural gas services
are subject to supply and demand
fluctuations in the markets they serve
which will be impacted by a wide range
of factors including, fluctuating
commodity prices, weather, increased
conservation or use of alternative fuel
sources, increased governmental or
environmental regulation, depletion,
rising interest rates, declines in
domestic or foreign production,
accidents or catastrophic events, and
economic conditions, among others.
o Propane MLPs and MLP-related entities
are subject to earnings variability
based upon weather conditions in the
markets they serve, fluctuating
commodity prices, increased use of
alternative fuels, increased
governmental or environmental
regulation, and accidents or
catastrophic events, among others.
o MLPs, MLP-related entities and energy
companies with coal assets are subject
to supply and demand fluctuations in the
markets they serve which will be
impacted by a wide range of factors
including, fluctuating commodity prices,
the level of their customers' coal
stockpiles, weather, increased
conservation or use of alternative fuel
sources, increased governmental or
environmental regulation, depletion,
rising interest rates, declines in
domestic or foreign production, mining
accidents or catastrophic events, health
claims and economic conditions, among
others.
Cash Flow Risk. A substantial portion of the
cash flow received by the Fund is derived
from its investment in equity securities of
MLPs and MLP-related entities. The amount of
cash an MLP or MLP-related entity has
available for distributions and the tax
character of such distributions is dependent
upon the amount of cash generated by the
MLP's or MLP-related entity's operations.
Cash available for distribution varies from
quarter to quarter and is largely dependent
on factors affecting the MLP's or
MLP-related entity's operations and factors
affecting the energy industry in general. In
addition to the risk factors described
above, other factors which may reduce the
amount of cash an MLP or MLP-related entity
has available for distribution include
increased operating costs, capital
expenditures, acquisition costs, expansion,
construction or exploration costs and
borrowing costs.
Tax Risk. The Fund's ability to meet its
investment objective depends on the level of
taxable income and distributions it receives
from the MLP, MLP-related entities and
energy company securities in which the Fund
invests, a factor over which the Fund has no
control. The benefit the Fund derives from
its investment in MLPs is largely dependent
on their being treated as partnerships for
federal income tax purposes. As a
partnership, an MLP has no income tax
liability at the entity level. If, as a
result of a change in an MLP's business, an
-16-
MLP were treated as a corporation for
federal income tax purposes, such MLP would
be obligated to pay federal income tax on
its income at the applicable corporate tax
rate. If an MLP was classified as a
corporation for federal income tax purposes,
the amount of cash available for
distribution with respect to its units would
be reduced and any such distributions
received by the Fund would be taxed entirely
as dividend income. Therefore, treatment of
an MLP as a corporation for federal income
tax purposes would result in a material
reduction in the after-tax return to the
Fund, likely causing a substantial reduction
in the value of the common shares.
Tax Law Change Risk. Changes in tax laws or
regulations, or interpretations thereof in
the future, could adversely affect the Fund
or the MLPs in which it invests. Any such
changes could negatively impact the Fund and
its common shareholders. For example, if, by
reason of a change in law or otherwise, an
MLP in which the Fund invests is treated as
a corporation rather than a partnership, the
MLP would be subject to entity level
corporate taxation and any distributions
received by the Fund would be treated as
dividend income. This would negatively
impact the amount and tax characterization
of distributions received by common
shareholders.
Deferred Tax Risk. As a limited partner in
the MLPs in which it invests, the Fund is
allocated its pro rata share of income,
gains, losses, deductions and expenses from
the MLPs. A significant portion of MLP
income has historically been offset by tax
deductions. The Fund will incur a current
tax liability on that portion of a
distribution that is not offset by tax
deductions, with the remaining portion of
the distribution being treated as a
tax-deferred return of capital. The
percentage of an MLP's distribution which is
offset by tax deductions will fluctuate over
time for various reasons. A significant
slowdown in acquisition activity by MLPs
held in the Fund's portfolio could result in
a reduction of accelerated depreciation or
other deductions generated by new
acquisitions, which may result in increased
current tax liability to the Fund. A
reduction in the percentage of a
distribution offset by tax deductions or an
increase in the Fund's portfolio turnover
will reduce that portion, if any, of the
Fund's distribution treated as a
tax-deferred return of capital and increase
that portion treated as dividend income,
resulting in reduced Fund distributions and
lower after-tax distributions to the Fund's
common shareholders. For purposes of
computing net asset value, the Fund will
accrue deferred income taxes for its future
tax liability associated with that portion
of MLP distributions considered to be
tax-deferred return of capital as well as
capital appreciation of its investments. The
Fund will rely to some extent on information
provided by MLPs, which is usually not
timely, to estimate deferred tax liability
for purposes of financial statement
reporting and determining the Fund's net
asset value. From time to time the Fund will
modify its estimates and/or assumptions
regarding its deferred tax liability as new
information becomes available.
Delay in Investing the Proceeds of this
Offering. Although the Fund currently
intends to invest the proceeds from any sale
of the Common Shares offered hereby as soon
as practicable following the completion of
such offering, such investments may be
delayed if suitable investments are
unavailable at the time. The trading market
and volumes for MLP, MLP-related entity and
-17-
energy company shares may at times be less
liquid than the market for other securities.
Prior to the time the proceeds of this
offering are invested, such proceeds may be
invested in cash, cash equivalents or other
securities, pending investment in MLP,
MLP-related entity or energy company
securities. Income received by the Fund from
these securities would subject the Fund to
corporate tax before any distributions to
Common Shareholders. As a result, the return
and yield on the Common Shares in the year
following any offering pursuant to this
prospectus may be lower than when the Fund
is fully invested in accordance with its
objective and policies. See "Use of
Proceeds."
Equity Securities Risk. MLP units and other
equity securities are sensitive to general
movements in the stock market and a drop in
the stock market may depress the price of
securities to which the Fund has exposure.
MLP units and other equity securities prices
fluctuate for several reasons including
changes in the financial condition of a
particular issuer (generally measured in
terms of distributable cash flow in the case
of MLPs), investors' perceptions of MLPs and
energy companies, the general condition of
the relevant stock market, such as the
current market volatility, or when political
or economic events affecting the issuers
occur. In addition, the price of MLP units
and other equity securities may be
particularly sensitive to rising interest
rates, as the cost of capital rises and
borrowing costs increase.
Certain of the energy companies in which the
Fund invests and may in the future invest
may have comparatively smaller
capitalizations. Investing in securities of
smaller MLPs, MLP-related entities and
energy companies presents some unique
investment risks. These companies may have
limited product lines and markets, as well
as shorter operating histories, less
experienced management and more limited
financial resources than larger MLPs,
MLP-related entities and energy companies
and may be more vulnerable to adverse
general market or economic developments.
Stocks of smaller MLPs, MLP-related entities
and energy companies may be less liquid than
those of larger MLPs, MLP-related entities
and energy companies and may experience
greater price fluctuations than larger MLPs,
MLP-related entities and energy companies.
In addition, small-cap securities may not be
widely followed by the investment community,
which may result in reduced demand.
MLP subordinated units in which the Fund
invests and may in the future invest
generally convert to common units at a
one-to-one ratio. The purchase or sale price
is generally tied to the common unit price
less a discount. The size of the discount
varies depending on the likelihood of
conversion, the length of time remaining to
conversion, the size of the block purchased
and other factors.
The Fund invests, and may in the future
invest, in I-Shares which represent an
indirect investment in MLP i-units. While
not precise, the price of I-Shares and their
volatility tend to be correlated to the
price of common units. I-Shares are subject
to the same risks as MLP common units.
Leverage Risk. The Fund currently utilizes
leverage in the form of the Series B Notes
and Borrowings under the Credit Facility,
and may in the future use additional
leverage for investment purposes, to finance
the repurchase of its common shares, and to
meet cash requirements. Although the use of
leverage by the Fund creates an opportunity
for increased return for the common shares,
-18-
it also results in additional risks and can
magnify the effect of any losses. If the
income and gains earned on the securities
and investments purchased with leverage
proceeds are greater than the cost of the
leverage, the common shares' return will be
greater than if leverage had not been used.
Conversely, if the income or gains from the
securities and investments purchased with
such proceeds does not cover the cost of
leverage, the return to the common shares
will be less than if leverage had not been
used. There is no assurance that a
leveraging strategy will be successful. In
addition, certain types of leverage may
result in the Fund being subject to
covenants relating to asset coverage and the
Fund's portfolio composition and may impose
special restrictions on the Fund's use of
various investment techniques or strategies
or in its ability to pay dividends and other
distributions on common shares in certain
instances. The terms of the Series B Notes
provide that, in the event the Fund fails to
satisfy certain asset coverage tests, the
Fund is prohibited from declaring or paying
dividends on its common shares. In addition,
the Fund is required to redeem Notes in an
amount necessary to allow the Fund, after
giving effect to such redemption, to satisfy
such asset coverage tests. Under the Credit
Facility, the Fund is also required to
pledge assets to the lenders. Leverage
involves risks and special considerations
for common shareholders including:
o the likelihood of greater volatility of
net asset value and market price of the
common shares than a comparable
portfolio without leverage;
o the risk that fluctuations in interest
rates on borrowings and short-term debt
or in the dividend rates on any
Preferred Shares that the Fund may pay
will reduce the return to the common
shareholders or will result in
fluctuations in the distributions paid
on the common shares;
o the effect of leverage in a declining
market, which is likely to cause a
greater decline in the net asset value
of the common shares than if the Fund
were not leveraged, which may result in
a greater decline in the market price of
the common shares; and
o when the Fund uses leverage, the
investment advisory fee payable to the
Adviser, and the sub-advisory fee
payable by the Adviser to the
Sub-Adviser, will be higher than if the
Fund did not use leverage.
The issuance of Leverage Instruments by the
Fund, in addition to the Series B Notes and
Borrowings under the Credit Facility,
involve offering expenses and other costs,
including interest or dividend payments,
which would be borne indirectly by the
common shareholders. Increased operating
costs, including the financing cost
associated with any leverage, may reduce the
Fund's total return.
Credit Facility Risk. During the recent
downturn in the equity markets, the Fund
violated the asset coverage covenants in the
Credit Facility resulting in an event of
default thereunder. Under the terms of the
Credit Facility, upon an event of default
the lender has the right to require the
immediate payment of all amounts outstanding
under the Credit Facility and to charge
interest at a higher rate from the time of
such event of default until waived. In
response, the Fund sold assets and reduced
the amount of Borrowings under the Credit
Facility. The lender under the Credit
Facility has waived such event of default.
-19-
There is no assurance that the Fund will not
violate such covenants in the future. In
such event, the Fund may be required to
repay all outstanding Borrowings
immediately. In order to repay such amounts
the Fund may be required to sell assets
quickly which could have a material adverse
effect on the Fund and could trigger
negative tax implications. In addition, the
Fund would be precluded from declaring or
paying any distribution on the common shares
during the continuance of such event of
default.
Recent Auction Market Developments. The
markets for auction rate securities have
continued to experience a number of failed
auctions, including auctions relating to the
Notes. A failed auction results when there
are not enough bidders in the auction at
rates below the maximum rate as prescribed
by the terms of the security. When an
auction fails, the rate is automatically set
at the maximum rate. A failed auction does
not cause an acceleration of, or otherwise
have any impact on, outstanding principal
amounts due, or in the case of preferred
stock, the security's liquidation
preference. In the case of the Fund's
outstanding Series B Notes, the maximum rate
under the terms of those securities has been
200% (and could be up to 300%, depending on
the ratings of the Series B Notes) of the
greater of: (i) the applicable Treasury
Index rate or (ii) the applicable LIBOR.
It is possible that the Fund will be unable
to obtain additional leverage. If the Fund
is unable to increase Financial Leverage
after the issuance of additional Common
Shares pursuant to this prospectus, there
could be an adverse impact on the return to
common shareholders.
Derivatives Risk. The Fund's Strategic
Transactions have risks, including the
imperfect correlation between the value of
such instruments and the underlying assets
of the Fund, the possible default of the
other party to the transaction or
illiquidity of the derivative investments.
Furthermore, the ability to successfully use
hedging and interest rate transactions
depends on the Sub-Adviser's ability to
predict pertinent market movements, which
cannot be assured. Thus, the use of
derivatives for hedging and interest rate
management purposes may result in losses
greater than if they had not been used, may
require the Fund to sell or purchase
portfolio securities at inopportune times or
for prices other than current market values,
may limit the amount of appreciation the
Fund can realize on an investment, or may
cause the Fund to hold a security that it
might otherwise sell. Additionally, amounts
paid by the Fund as premiums and cash or
other assets held in margin accounts with
respect to hedging and strategic
transactions are not otherwise available to
the Fund for investment purposes. As the
writer of a covered call option, the Fund
forgoes, during the option's life, the
opportunity to profit from increases in the
market value of the security covering the
call option above the sum of the premium and
the strike price of the call, but has
retained the risk of loss should the price
of the underlying security decline. The
writer of an option has no control over the
time when it may be required to fulfill its
obligation as a writer of the option. Once
an option writer has received an exercise
notice, it cannot effect a closing purchase
transaction in order to terminate its
obligation under the option and must deliver
the underlying security at the exercise
price. See "Risks--Derivatives."
-20-
Portfolio Turnover Risk. The Fund's annual
portfolio turnover rate may vary greatly
from year to year. Although the Fund cannot
accurately predict its annual portfolio
turnover rate, it is not expected to exceed
30% under normal circumstances, but may be
higher or lower in certain periods. For the
fiscal year ended November 30, 2007,
portfolio turnover was approximately 16%.
For the six months ended May 31, 2008,
portfolio turnover was approximately 28%.
Portfolio turnover rate is not considered a
limiting factor in the execution of
investment decisions for the Fund. High
portfolio turnover may result in the Fund's
recognition of gains that will be taxable as
ordinary income to the Fund. A high
portfolio turnover may increase the Fund's
current and accumulated earnings and
profits, resulting in a greater portion of
the Fund's distributions being treated as a
dividend to the Fund's common shareholders.
In addition, a higher portfolio turnover
rate results in correspondingly greater
brokerage commissions and other
transactional expenses that are borne by the
Fund. See "The Fund's Investments--
Investment Practices--Portfolio Turnover"
and "Tax Matters."
Restricted Securities. The Fund invests, and
may in the future invest, in unregistered or
otherwise restricted securities. The term
"restricted securities" refers to securities
that have not been registered under the 1933
Act or are held by control persons of the
issuer and securities that are subject to
contractual restrictions on their resale. As
a result, restricted securities may be more
difficult to value and the Fund may have
difficulty disposing of such assets either
in a timely manner or for a reasonable
price. Absent an exemption from
registration, the Fund will be required to
hold the securities until they are
registered by the issuer. In order to
dispose of an unregistered security, the
Fund, where it has contractual rights to do
so, may have to cause such security to be
registered. A considerable period may elapse
between the time the decision is made to
sell the security and the time the security
is registered so that the Fund could sell
it. Contractual restrictions on the resale
of securities vary in length and scope and
are generally the result of a negotiation
between the issuer and acquirer of the
securities. The Fund would, in either case,
bear market risks during that period.
Liquidity Risk. Although common units of
MLPs, I-Shares of MLP-related entities, and
common stock of certain energy companies
trade on the New York Stock Exchange
("NYSE"), AMEX, and The NASDAQ Stock Market,
certain securities may trade less
frequently, particularly those of issuers
with smaller capitalizations. Securities
with limited trading volumes may display
volatile or erratic price movements. Larger
purchases or sales of these securities by
the Fund in a short period of time may
result in abnormal movements in the market
price of these securities. This may affect
the timing or size of Fund transactions and
may limit the Fund's ability to make
alternative investments. If the Fund
requires significant amounts of cash on
short notice in excess of normal cash
requirements or is required to post or
return collateral in connection with the
Fund's investment portfolio, derivatives
transactions or leverage restrictions, the
Fund may have difficulty selling these
investments in a timely manner, be forced to
sell them for less than it otherwise would
have been able to realize, or both. The
reported value of some of the Fund's
relatively illiquid types of investments
and, at times, the Fund's high quality,
generally liquid asset classes, may not
necessarily reflect the lowest current
market price for the asset. If the Fund was
-21-
forced to sell certain of its assets in the
current market, there can be no assurance
that the Fund will be able to sell them for
the prices at which the Fund has recorded
them and the Fund may be forced to sell them
at significantly lower prices. See "The
Fund's Investments--Investment Philosophy
and Process."
Valuation Risk. Market prices generally will
not be available for subordinated units,
direct ownership of general partner
interests, restricted securities or
unregistered securities of certain MLPs,
MLP-related entities or private companies,
and the value of such investments will
ordinarily be determined based on fair
valuations determined pursuant to procedures
adopted by the Board of Trustees. The value
of these securities typically requires more
reliance on the judgment of the Sub-Adviser
than that required for securities for which
there is an active trading market. In
addition, the Fund will rely on information
provided by the MLPs, which is usually not
timely, to calculate taxable income
allocable to the MLP units held in the
Fund's portfolio and to calculate associated
deferred tax liability for purposes of
financial statement reporting and
determining the Fund's net asset value. From
time to time the Fund will modify its
estimates and/or assumptions regarding its
deferred tax liability as new information
becomes available. To the extent the Fund
modifies its estimates and/or assumptions,
the net asset value of the Fund would likely
fluctuate. See "Net Asset Value."
Interest Rate Risk. Interest rate risk is
the risk that equity and debt securities
will decline in value because of changes in
market interest rates. When market interest
rates rise, the market value of the
securities in which the Fund invests
generally will fall. The Fund's investment
in such securities means that the net asset
value and market price of the common shares
will tend to decline if market interest
rates rise. Interest rates are at or near
historic lows, and as a result, they are
likely to rise over time. Certain debt
instruments, particularly below investment
grade securities, may contain call or
redemption provisions which would allow the
issuer thereof to prepay principal prior to
the debt instrument's stated maturity. This
is known as prepayment risk. Prepayment risk
is greater during a falling interest rate
environment as issuers can reduce their cost
of capital by refinancing higher yielding
debt instruments with lower yielding debt
instruments. An issuer may also elect to
refinance its debt instruments with lower
yielding debt instruments if the credit
standing of the issuer improves. To the
extent the Fund's debt securities are called
or redeemed, the Fund may be forced to
reinvest in lower yielding securities.
Below Investment Grade Securities. Below
investment grade debt securities are
commonly referred to as "junk bonds." Below
investment grade quality securities are
considered speculative with respect to an
issuer's capacity to pay interest and repay
principal. They involve greater risk of
loss, are subject to greater price
volatility and are less liquid, especially
during periods of economic uncertainty or
change, than higher rated debt instruments.
Below investment grade securities may also
be more susceptible to real or perceived
adverse economic and competitive industry
conditions than higher rated debt
instruments. The Fund does not intend to
invest in securities issued by a partnership
or company in bankruptcy reorganization,
subject to a public or private debt
restructuring or otherwise in default or in
significant risk of default in the payment
of interest and principal ("distressed
securities"). In the event any security held
-22-
by the Fund becomes distressed, the Fund may
be required to incur extraordinary expenses
in order to attempt to protect and/or
recover its investment. In such situations,
there can be no assurance as to when or if
the Fund will recover any of its investment
in such distressed securities, or the value
thereof. As of September 30, 2008, the Fund
did not invest in any below investment grade
debt securities.
Non-Diversification. The Fund is a
non-diversified investment company under the
1940 Act and will not be treated as a
regulated investment company under the
Internal Revenue Code. Accordingly, there
are no regulatory requirements under the
1940 Act or the Internal Revenue Code on the
minimum number or size of securities held by
the Fund. There currently are approximately
seventy-three (73) publicly traded MLPs,
approximately 80% of which operate energy
assets. The Fund intends to select its MLP
investments from this small pool of issuers.
The Fund may invest in securities of
MLP-related entities and non-MLP securities
of other energy companies, consistent with
its investment objective and policies. As of
August 31, 2008, the Fund held investments
in thirty-five (35) issuers.
Market Disruption Risk. The terrorist
attacks in the United States on September
11, 2001 had a disruptive effect on the
securities markets. U.S. military and
related action in Iraq is ongoing and events
in the Middle East, as well as the
continuing threat of terrorist attacks,
could have significant adverse effects on
the U.S. economy and the stock market. The
Fund cannot predict the effects of similar
events in the future on the U.S. economy.
Anti-Takeover Provisions. The Fund's
Declaration of Trust includes provisions
that could limit the ability of other
entities or persons to acquire control of
the Fund or convert the Fund to open-end
status. These provisions could have the
effect of depriving the common shareholders
of opportunities to sell their common shares
at a premium over the then current market
price of the common shares. See "Certain
Provisions in the Declaration of Trust and
By-Laws" and "Risks-Anti-Takeover
Provisions."
Competition Risk. There exist other
alternatives to the Fund as a vehicle for
investment in a portfolio of MLPs, including
other publicly traded investment companies
and private funds. In addition, recent tax
law changes or future tax law changes may
increase the ability of regulated investment
companies or other institutions to invest in
MLPs. Because of the limited number of MLP
issuers, these competitive conditions may
adversely impact the Fund's ability to make
investments in the MLP market and could
adversely impact the Fund's distributions to
common shareholders.
Market Discount From Net Asset Value. The
Fund's common shares have a limited trading
history and have traded both at a premium
and at a discount relative to net asset
value. There is no assurance that any
premium of the public offering price for the
Common Shares over net asset value with
respect to any offering hereunder will
continue after such offering or that the
common shares will not again trade at a
discount. Shares of closed-end investment
companies frequently trade at a discount
from their net asset value. This
characteristic is a risk separate and
distinct from the risk that the Fund's net
asset value could decrease as a result of
its investment activities and may be greater
for investors expecting to sell their Common
Shares in a relatively short period
-23-
following completion of any offering
hereunder. Although the value of the Fund's
net assets is generally considered by market
participants in determining whether to
purchase or sell shares, whether investors
will realize gains or losses upon the sale
of the common shares will depend entirely
upon whether the market price of the common
shares at the time of sale is above or below
the investor's purchase price for the common
shares. Because the market price of the
common shares will be affected by factors
such as net asset value, dividend or
distribution levels (which are dependent, in
part, on expenses), supply of and demand for
the common shares, stability of dividends or
distributions, trading volume of the common
shares, general market and economic
conditions, and other factors beyond the
control of the Fund, the Fund cannot predict
whether the Common Shares will trade at,
below or above net asset value or at, below
or above the public offering price with
respect to any offering hereunder.
Inflation Risk. Inflation risk is the risk
that the value of assets or income from
investment will be worth less in the future
as inflation decreases the value of money.
As inflation increases, the real value of
the common shares and distributions can
decline.
Certain Affiliations. Certain broker-dealers
may be considered to be affiliated persons
of the Fund, First Trust Advisors or Energy
Income Partners. Absent an exemption from
the SEC or other regulatory relief, the Fund
is generally precluded from effecting
certain principal transactions with
affiliated brokers, and its ability to
utilize affiliated brokers for agency
transactions, is subject to restrictions.
This could limit the Fund's ability to
engage in securities transactions and take
advantage of market opportunities.
-24-
SUMMARY OF FUND EXPENSES
The following table contains information about the costs and expenses that
Common Shareholders will bear directly or indirectly, after giving effect to the
issuance of Common Shares pursuant to this prospectus at an assumed offering
price of $15.53 per Common Share. The table assumes that existing leverage
(Series B Notes in an aggregate principal amount of $25 million and $14.65
million of funds borrowed under the Credit Facility) remain outstanding and
additional borrowed amounts under the Credit Facility of $19.81 million (with
aggregate amounts borrowed under the Credit Facility totaling $34.46 million),
which equals, in the aggregate, leverage in an amount of approximately $59.46
million, representing outstanding leverage of approximately 29% of the Fund's
Managed Assets (including the proceeds of leverage). Footnote (6) assumes that
no additional leverage is used. In this case, leverage would represent
approximately 22% of the Fund's Managed Assets.
SHAREHOLDER TRANSACTION EXPENSES:
Sales Load (as a percentage of offering price) ............................................................... 4.50%
Offering Expenses Borne by the Fund (as a percentage of offering price)(1).................................... 0.10%
Offering Expenses of Additional Borrowing Expected to Be Borne by the Fund (as a percentage of offering price)* 0%
Dividend Reinvestment Plan Fees............................................................................... None(2)
PERCENTAGE OF NET ASSETS
ATTRIBUTABLE TO COMMON SHARES,
AFTER GIVING EFFECT TO THE SALE
OF COMMON SHARES OFFERED
IN THIS PROSPECTUS
(ASSUMES 29% LEVERAGE IS OUTSTANDING)(6)
ANNUAL EXPENSES:
Management Fees(3)............................................................................................ 1.42%
Leverage Costs(4)............................................................................................. 2.64%
Other Expenses (exclusive of current and deferred income tax expense (benefit))(5)............................ 0.69%
Total Annual Expenses......................................................................................... 4.75%
Fee and Expense Reimbursement................................................................................. -- %
Total Net Annual Expenses................................................................................ 4.75%
--------------
* Assuming the Fund borrows under an existing bank line of credit, there are
no offering expenses associated with this borrowing.
(1) The Fund will pay all offering costs other than the sales load.
(2) You will pay brokerage charges if you direct PNC Global Investment
Servicing (U.S.) Inc., as agent for the Common Shareholders Dividend
Reinvestment Plan (the "Plan Agent"), to sell your Common Shares held in a
dividend reinvestment account.
(3) Represents the aggregate fee payable to the Adviser (and by the Adviser to
the Sub-Adviser).
(4) Leverage costs in the table reflect the weighted average cost to the Fund
of the Notes (including the cost of an associated interest rate cap) and
additional Borrowings, expressed as a percentage of the Fund's net assets,
based on interest rates in effect as of October 8, 2008. The table assumes
outstanding Series B Notes of $25 million and total Borrowings under the
Credit Agreement of $34.46 million, which reflects leverage in an amount
representing 29% of Managed Assets. The Notes and additional Borrowings
bear interest at variable rates.
(5) Current and deferred income tax expense (benefit) varies based on the
Fund's net investment income and realized and unrealized investment gain
and losses, which cannot be predicted. Accordingly, other expenses do not
include current or deferred income tax expense (benefit). The Fund's
current and deferred income tax expense (benefit) as a percentage of net
assets by fiscal year from inception through May 31, 2008 has been as
follows:
-25-
Period June 24, 2004 (commencement of operations)
through November 30, 2004 16.18%
Year Ended November 30, 2005 5.98%
Year Ended November 30, 2006 10.84%
Year Ended November 30, 2007 4.58%
Six Months Ended May 31, 2008 (2.44%)
(6) The table presented below in this footnote estimates what the Fund's annual
expenses would be, stated as percentages of the Fund's net assets
attributable to common shares, assuming no additional leverage is utilized.
Unlike the table above, this table assumes that no leverage in addition to
the currently outstanding Notes and amounts outstanding under the Credit
Facility in the principal amount of $39.65 million is used. In accordance
with these assumptions, the Fund's expenses would be estimated to be as
follows:
PERCENTAGE OF NET ASSETS
ATTRIBUTABLE TO COMMON SHARES,
AFTER GIVING EFFECT TO THE SALE
OF COMMON SHARES OFFERED
IN THIS PROSPECTUS
(ASSUMES NO ADDITIONAL LEVERAGE IS USED)
ANNUAL EXPENSES:
Management Fees(3).............................................................................. 1.28%
Leverage Costs (a).............................................................................. 2.03%
Other Expenses (exclusive of current and deferred income tax expense (benefit)) (b)............. 0.68%
Total Annual Expenses........................................................................... 3.99%
Fee and Expense Reimbursement................................................................... -- %
Total Net Annual Expenses.................................................................. 3.99%
(a) Leverage costs in the table reflect the weighted average cost to
the Fund of the Notes (including the cost of an associated interest
rate cap), expressed as a percentage of the Fund's net assets, based
on interest rates in effect as of October 8, 2008. The table
assumes outstanding Series B Notes of $25 million and Borrowings
under the Credit Agreement of $14.65 million, which reflects
existing leverage.
(b) Current and deferred income tax expense (benefit) varies based on the
Fund's net investment income and realized and unrealized investment
gain and losses, which cannot be predicted. Accordingly, other
expenses do not include current or deferred income tax expense
(benefit). The Fund's current and deferred income tax expense
(benefit) as a percentage of net assets by fiscal year from inception
through May 31, 2008 has been as follows:
Period June 24, 2004 (commencement of
operations) through November 30, 2004 16.18%
Year Ended November 30, 2005 5.98%
Year Ended November 30, 2006 10.84%
Year Ended November 30, 2007 4.58%
Six Months Ended May 31, 2008 (2.44%)
The purpose of the tables above and the example below is to help you
understand all fees and expenses that you, as a holder of Common Shares, would
bear directly or indirectly. The expenses shown in the tables under "Other
Expenses" and "Total Net Annual Expenses" are based on estimated amounts for the
Fund's first 12 months of operations after this offering unless otherwise
indicated and assume that the Fund has issued Common Shares in an aggregate
amount of $50 million in this offering. If the Fund issues fewer Common Shares,
all other things being equal, these expenses would increase on a per common
share basis. See "Management of the Fund" and "Dividend Reinvestment Plan."
The following examples illustrate the expenses (including the sales load of
$45, and estimated offering expenses of this offering of $1.00) that you would
pay on a $1,000 investment in Common Shares, assuming: total annual expenses of
4.75% of net assets attributable to Common Shares through year 10; and (ii) a 5%
annual return(1):
-26-
1 YEAR 3 YEARS 5 YEARS 10 YEARS
$90 $182 $273 $504
---------------
(1) THE EXAMPLE SHOULD NOT BE CONSIDERED A REPRESENTATION OF FUTURE EXPENSES.
The example assumes that the estimated "Other Expenses" set forth in the
Annual Expenses table are accurate, that all dividends and distributions
are reinvested at net asset value and that the Fund is engaged in leverage
of 29% of total assets, assuming a 2.64% cost of leverage. The cost of
leverage is expressed as an interest rate and represents the weighted
average of interest payable on the Notes (including the cost of an
associated interest rate cap) and additional borrowings. ACTUAL EXPENSES
MAY BE GREATER OR LESS THAN THOSE SHOWN. Moreover, the Fund's actual rate
of return may be greater or less than the hypothetical 5% return shown in
the example. In the event that the Fund does not issue any additional debt,
an investor would pay the following expenses:
1 YEAR 3 YEARS 5 YEARS 10 YEARS
$83 $161 $240 $446
-27-
FINANCIAL HIGHLIGHTS
Information contained in the table below shows the audited operating
performance of the Fund from the commencement of the Fund's investment
operations on June 24, 2004 until November 30, 2007, the last day of the Fund's
most recent fiscal year.
The yearly information in this table is derived from the Fund's financial
statements audited by Deloitte & Touche LLP, whose report on certain of such
financial statements is contained in the Fund's 2007 Annual Report and is
incorporated by reference into the Fund's SAI, both of which are available from
the Fund upon request. The information for the six months ended May 31, 2008
appears in the Fund's Semi-Annual Report filed with the SEC on Form N-CSR on
August 8, 2008.
SIX MONTHS
ENDED YEAR YEAR YEAR PERIOD
MAY 31, ENDED ENDED ENDED ENDED
2008 NOVEMBER 30, NOVEMBER 30, NOVEMBER 30, NOVEMBER 30,
(UNAUDITED) 2007 (a) 2006 2005 2004 (b)
Net asset value, beginning of period.......... $ 26.74 $ 25.88 $ 22.53 $ 21.34 $ 19.10(c)
---------- ---------- ---------- ---------- ----------
INCOME FROM INVESTMENT OPERATIONS:
Net investment loss........................... (0.25) (0.67) (0.50) (0.34) (0.13)
Net realized and unrealized gain (loss)....... (0.32) 3.06 5.23 2.86 2.74
---------- ---------- ---------- ---------- ----------
Total from investment operations after
income tax.................................... (0.57) 2.39 4.73 2.52 2.61
---------- ---------- ---------- ---------- ----------
DISTRIBUTIONS PAID TO SHAREHOLDERS FROM:
Net realized gain............................. (0.78) (1.53) -- (0.88) --
Return of capital............................. -- -- (1.38) (0.45) (0.33)
Total from distributions...................... (0.78) (1.53) (1.38) (1.33) (0.33)
---------- ---------- ---------- ---------- ----------
Common Share offering costs charges to
paid-in capital............................... -- -- -- -- (0.04)
Net asset value, end of period................ $ 25.39 $ 26.74 $ 25.88 $ 22.53 $ 21.34
========== ========== ========== ========== ==========
Market value, end of period................... $ 23.86 $ 23.82 $ 24.49 $ 20.92 $ 22.12
========== ========== ========== ========== ==========
TOTAL RETURN BASED ON NET ASSET VALUE (D)(E).. (2.00)% 9.38% 22.23% 11.96%(g) 13.53%
========== ========== ========== ========== ==========
TOTAL RETURN BASED ON MARKET VALUE (E)(F)..... 3.39% 2.96% 24.57% 0.29% 12.38%
========== ========== ========== ========== ==========
Net assets, end of period (in 000's).......... $ 163,715 $ 172,421 $ 166,850 $ 145.230 $ 136,993
RATIOS OF EXPENSES TO AVERAGE NET ASSETS:
Including current and deferred income taxes
before waiver (h)............................. 2.92%(i) 8.52% 14.47% 8.62% 18.38%(i)
Including current and deferred income taxes
after waiver (h).............................. 2.92%(i) 8.52% 14.29% 8.31% 18.09%(i)
Excluding current and deferred income taxes
before waiver................................. 5.36%(i) 3.94% 3.63% 2.64% 2.20%(i)
Excluding current and deferred income taxes 5.36%(i) 3.94% 3.45% 2.33% 1.91%(i)
after waiver.................................. 5.36%(i) 3.94% 3.45% 2.33% 1.91%(i)
Excluding current and deferred income taxes 2.74%(i) 1.89% 1.76% 1.57% 1.36%(i)
and interest expenses after waiver............ 2.74%(i) 1.89% 1.76% 1.57% 1.36%(i)
RATIOS OF NET INVESTMENT TO AVERAGE NET
ASSETS:
Net investment loss ratio before tax expenses. (4.32)%(i) (3.83)% (3.26)% (2.29)% (1.49)%(i)
Net investment loss ratio including tax
expenses (j).................................. (1.88)%(i) (8.41)% (14.10)% (8.27)% (17.67)%(i)
Portfolio turnover rate....................... 28% 16% 17% 38% 35%
DEBT:
Total Energy Notes outstanding ($25,000 per
note) (k)..................................... 1,000 2,360 2,360 1,360 N/A
Principal amount and market value per Energy
Note (l)...................................... $ 25,016 $25,004 $25,069 $ 25,074 N/A
Asset coverage per Energy Note (m)............ $188,715 $98,060 $95,699 $131,786 N/A
Total loan outstanding (in 000's)............. $ 47,250 $15,250 N/A N/A $30,000
Asset coverage per $1,000 senior
indebtedness (n).............................. $ 4,465 $12,306 N/A N/A $ 5,566
See notes to this table on the next page.
-28-
(a) On September 14, 2007, the Fund's Board of Trustees approved an interim
sub-advisory agreement with Energy Income Partners, LLC. On September 14,
2007, Energy Income Partners, LLC began serving as Sub-Adviser to the Fund.
(b) Initial seed date of June 17, 2004. The Fund commenced operations on June
24, 2004. (c) Net of sales load of $0.90 per Common Share on initial
offering.
(d) Total return based on net asset value is the combination of reinvested
dividend distributions and reinvested capital gains distributions, if any,
at prices obtained by the Dividend Reinvestment Plan, and changes in net
asset value per share and does not reflect sales load.
(e) Total return is not annualized for periods less than one year.
(f) Total return based on market value is the combination of reinvested
dividend distributions and reinvested capital gains distributions, if any,
at prices obtained by the Dividend Reinvestment Plan, and changes in Common
Share price.
(g) In 2005, the Fund received reimbursements from the Adviser and former
sub-advisor. This reimbursement had no effect on the Fund's total return.
(h) Includes current and deferred income taxes associated with each component
of the Statement of Operations.
(i) Annualized.
(j) Includes tax expenses associated with each component of the Statement of
Operations.
(k) On April 18, 2008, the Fund redeemed all issued and outstanding Series A
Notes.
(l) Includes accumulated and unpaid interest.
(m) Calculated by taking the Fund's total assets less the Fund's total
liabilities (not including the Energy Notes) and dividing by the
outstanding Energy Notes in 000's.
(n) Calculated by subtracting the Fund's total liabilities (not including the
loan outstanding) from the Fund's total assets and dividing by the loan
outstanding in 000's.
N/A Not applicable.
-29-
SENIOR SECURITIES
The following table sets forth information about the Fund's outstanding
senior securities as of each fiscal year ended November 30 since the Fund's
inception:
Total Principal
Amount/Liquidation Asset Coverage per Asset Coverage Principal Amount
Preference $1,000 Senior per and Market Value
Year Title of Security Outstanding Indebtedness (a) Energy Note (b) Per Energy Note (c)
---- ----------------- ------------------ ------------------ --------------- -------------------
2004 Borrowings
Total Loan $ 30,000,000 $ 5,566 ____ ____
Outstanding
2005 Energy Notes
Series A (1,360 Notes) $ 34,000,000 ____ $ 131,786 $ 25,074
2006 Energy Notes
Series A (1,360 Notes)
Series B (1,000 Notes) $ 59,000,000 ____ $ 95,699 $ 25,069
2007 Energy Notes (d)
Series A (1,360 Notes)
Series B (1,000 Notes) $ 59,000,000 $ 12,306 $ 98,060 $ 25,004
Borrowings $ 15,250,000 $ 12,306 ____ ____
------------
Credit Facility $ 74,250,000
============
(a) Calculated by taking the Fund's total assets less the Fund's total
liabilities (not including the loan outstanding) and dividing by the loan
outstanding (in 000s).
(b) Calculated by taking the Fund's total assets less the Fund's total
liabilities (not including the Energy Notes) and dividing by the
outstanding Energy Notes (in 000s).
(c) Includes accumulated and unpaid interest.
(d) On April 18, 2008, the Fund redeemed all issued and outstanding Series A
Notes.
-30-
MARKET AND NET ASSET VALUE INFORMATION
The Fund's currently outstanding common shares are, and the Common Shares
offered by this prospectus, subject to notice of issuance, will be, listed on
AMEX. The Fund's common shares commenced trading on AMEX on June 25, 2004.
The Fund's common shares have a limited trading history and have traded
both at a premium and at a discount in relation to net asset value. Shares of
closed-end investment companies frequently trade at a discount from net asset
value. The Fund's issuance of Common Shares may have an adverse effect on prices
in the secondary market for the Fund's common shares by increasing the number of
common shares available, which may put downward pressure on the market price for
the Fund's common shares. The continued development of alternatives as vehicles
for investing in a portfolio of energy infrastructure MLPs, including other
publicly traded investment companies and private funds, may reduce or eliminate
any tendency of the Fund's common shares to trade at a premium in the future.
Shares of common stock of closed-end investment companies frequently trade at a
discount from NAV. See "Risks - Market Discount from Net Asset Value."
The following table sets forth for each of the periods indicated the high
and low closing market prices for common shares of the Fund on AMEX, the net
asset value per share and the premium or discount to net asset value per share
at which the Fund's common shares were trading. Net asset value is determined
daily as of the close of regular session trading on the NYSE (normally 4:00 p.m.
eastern time). Prior to August, 2008, net asset value was determined on each
Friday and as of the end of each month. See "Net Asset Value" for information as
to the determination of the Fund's net asset value.
PREMIUM/(DISCOUNT)
MARKET PRICE(3) NET ASSET VALUE (1) TO NET ASSET VALUE (2)
QUARTER ENDED HIGH LOW HIGH LOW HIGH LOW
September 30, 2004.............................. $22.20 $19.60 $20.44 $19.06 8.61% 2.83%
December 31, 2004............................... $22.98 $20.60 $21.01 $20.16 9.38% 2.18%
March 31, 2005.................................. $24.05 $21.50 $23.12 $21.68 4.02% (0.83)%
June 30, 2005................................... $23.69 $21.49 $22.35 $21.46 6.00% 0.14%
September 30, 2005.............................. $24.77 $22.74 $24.23 $24.09 2.23% (5.60)%
December 30, 2005............................... $23.85 $20.82 $23.99 $23.34 (0.58)% (10.80)%
March 31, 2006.................................. $22.42 $20.40 $23.01 $22.86 (2.56)% (10.76)%
June 30, 2006................................... $21.36 $20.15 $23.33 $23.16 (8.44)% (13.00)%
September 30, 2006.............................. $22.56 $20.50 $24.38 $23.41 (7.47)% (12.43)%
December 30, 2006............................... $25.55 $21.70 $26.39 $23.92 (3.18)% (9.28)%
March 31, 2007.................................. $29.26 $24.22 $28.99 $26.04 0.93% (6.99)%
June 29, 2007................................... $29.90 $27.00 $29.70 $29.82 0.67% (9.46)%
September 28, 2007.............................. $29.55 $22.65 $31.27 $27.01 (5.50)% (16.14)%
December 31, 2007............................... $26.45 $21.71 $27.82 $25.57 (4.92)% (15.10)%
March 31, 2008.................................. $24.60 $21.16 $26.18 $24.49 (6.04)% (13.60)%
June 30, 2008................................... $25.80 $22.36 $25.46 $23.91 1.34% (6.48)%
September 30, 2008.............................. $23.33 $18.26 $22.18 $20.71 5.18% (11.83)%
The last reported sale price, net asset value per share and percentage
premium to net asset value per share of the common shares on , 2008 were
$ , $ and %, respectively. As of , 2008, the Fund
had common shares outstanding and net assets of the Fund were $ .
-----------------
(1) Based on the net asset value calculated on the close of business on the
Friday or month-end preceding the high and low closing market price for the
respective quarter.
(2) Calculated based on the information presented.
(3) Based on high and low closing market price for the respective quarter.
-31-
THE FUND
The Fund is a non-diversified, closed-end management investment company
registered under the 1940 Act. The Fund was organized as a Massachusetts
business trust on March 25, 2004, pursuant to a Declaration of Trust governed by
the laws of the Commonwealth of Massachusetts. The Fund has a limited operating
history. The Fund's investment objective is to seek a high level of after-tax
total return with an emphasis on current distributions paid to common
shareholders. The Fund seeks to provide its common shareholders with an
efficient vehicle to invest in a portfolio of cash-generating securities of
energy companies. On June 29, 2004, the Fund issued an aggregate of 6,400,000
common shares in its initial public offering. The Fund's currently outstanding
common shares are, and the Common Shares offered in this prospectus will be,
listed on the AMEX under the symbol "FEN." The Fund's principal office is
located at 1001 Warrenville Road, Suite 300, Lisle, Illinois 60532, and its
telephone number is (800) 621-1675. On or about November 1, 2008, the principal
office of the Fund will be 120 East Liberty Drive, Wheaton, Illinois 60187.
The following table provides information about the Fund's outstanding
securities as of September 30, 2008:
AMOUNT HELD BY
AMOUNT THE FUND OR FOR AMOUNT
TITLE OF CLASS AUTHORIZED ITS ACCOUNT OUTSTANDING
Common shares................ Unlimited 0 6,446,996
Energy Notes Series B........ $25 million 0 1,000
USE OF PROCEEDS
The Fund will invest the net proceeds from any sales of Common Shares
pursuant to this prospectus in accordance with the Fund's investment objective
and policies as stated below, or use such proceeds for other general corporate
purposes. Pending any such use, the proceeds may be invested in cash, cash
equivalents or other securities.
THE FUND'S INVESTMENTS
INVESTMENT OBJECTIVE AND POLICIES
The Fund's investment objective is to seek a high level of after-tax total
return with an emphasis on current distributions paid to common shareholders.
For purposes of the Fund's investment objective, total return includes capital
appreciation of, and all distributions received from, securities in which the
Fund will invest regardless of the tax character of the distributions. The Fund
seeks to provide its common shareholders with an efficient vehicle to invest in
a portfolio of cash-generating securities of energy companies. The Fund focuses
on investing in publicly traded MLPs and related public entities in the energy
sector which the Fund's Sub-Adviser believes offer opportunities for income and
growth. As used in this prospectus, unless the context requires otherwise, MLPs
are those MLPs in the energy sector. Due to the tax treatment under current law
of cash distributions made by MLPs to their investors (such as the Fund), the
Fund believes that a portion of its income may be tax deferred thereby
increasing cash available for distribution by the Fund to its common
shareholders. There can be no assurance that the Fund will achieve its
investment objective.
The Fund's investment objective is considered fundamental and may not be
changed without common shareholder approval. The remainder of the Fund's
investment policies, including its investment strategy, are considered
non-fundamental and may be changed by the Board of Trustees without the approval
of the holders of a "majority of the outstanding" common shares, provided that
common shareholders receive at least 60 days prior written notice of any change.
When used with respect to particular shares of the Fund, a "majority of the
outstanding" shares means (i) 67% or more of the shares present at a meeting, if
-32-
the holders of more than 50% of the shares are present or represented by proxy,
or (ii) more than 50% of the shares, whichever is less.
The Fund seeks to achieve its investment objective by investing primarily
in securities of MLPs and MLP-related entities in the energy sector that the
Sub-Adviser believes offer attractive distribution rates and capital
appreciation potential. The Fund also may invest in other securities set forth
below if the Sub-Adviser expects to achieve the Fund's objective with such
investments.
The Fund's policy of investing at least 85% of its Managed Assets
(including assets obtained through leverage) in securities of energy companies,
MLPs and MLP-related entities in the energy sector is non-fundamental.
The Fund has adopted the following additional non-fundamental policies:
o Under normal market conditions, the Fund invests at least 65% and
up to 100% of its Managed Assets in equity securities issued by
energy sector MLPs and MLP-related entities. Equity securities
currently consist of common units and subordinated units of MLPs,
I-Shares of MLP-related entities and common stock of MLP-related
entities, such as general partners or other affiliates of the
MLPs.
o The Fund may invest in unregistered or otherwise restricted
securities. The types of unregistered or otherwise restricted
securities that the Fund may purchase consist of MLP common units,
MLP subordinated units and securities of public and private energy
companies. The Fund does not intend to invest more than 35% of its
Managed Assets in such restricted securities, including up to 10%
of its Managed Assets in private companies.
o The Fund may invest up to 25% of its Managed Assets in debt
securities of energy companies, MLPs and MLP related entities,
including certain securities rated below investment grade ("junk
bonds"). Below investment grade debt securities will be rated at
least "B3" by Moody's and at least "B-" by S&P at the time of
purchase, or comparably rated by another NRSRO or, if unrated,
determined to be of comparable quality by the Sub-Adviser.
o The Fund will not invest more than 10% of its Managed Assets
in any single issuer.
o The Fund will not engage in short sales, except to the extent the
Fund engages in derivative investments to seek to hedge against
interest rate risk in connection with the Fund's use of Financial
Leverage or market risks associated with the Fund's portfolio.
o The Fund may invest up to 15% of its Managed Assets in non-U.S.
securities as well as hedge the currency risk of the non-U.S.
securities using derivative instruments.
Unless otherwise stated, all investment restrictions apply at the time of
purchase and the Fund will not be required to reduce a position due solely to
market value fluctuations.
For a more complete discussion of the Fund's portfolio composition, see
"Portfolio Composition."
INVESTMENT PHILOSOPHY AND PROCESS
Under normal market conditions, the Fund invests at least 85% of its
Managed Assets in securities of energy companies and energy sector MLPs and
MLP-related entities. The Sub-Adviser seeks securities that offer a combination
of quality, growth and yield intended to result in superior total returns over
the long run. The Sub-Adviser's securities selection process includes a
comparison of quantitative, qualitative, and relative value factors. While the
Sub-Adviser maintains an active dialogue with several research analysts in the
energy sector, the Sub-Adviser's primary emphasis is placed on proprietary
analysis and valuation models conducted and maintained by its in-house
investment analysts. To determine whether a company meets its criteria, the
Sub-Adviser generally considers, among other things, a proven track record, a
strong record of distribution or dividend growth, solid ratios of debt to cash
-33-
flow, coverage ratios with respect to distributions to unit holders, incentive
structure, and management team.
The Fund concentrates its investments in the energy sector. The Fund
pursues its objective by investing principally in a portfolio of equity
securities issued by MLPs and MLP-related entities. MLP common units
historically have generated higher average total returns than domestic common
stock (as measured by the S&P 500) and fixed income securities. A more detailed
description of investment policies and restrictions and more detailed
information about portfolio investments is contained in the Fund's SAI.
Energy Companies. The Fund's investments consist of equity and debt
securities issued by energy companies and energy sector MLPs and MLP-related
entities. The companies in which the Fund invests are generally involved in the
business of transporting, processing, storing, distributing or marketing natural
gas, NGLs (including propane), crude oil, refined petroleum products, coal or
electricity, or exploring, developing, managing or producing such commodities or
products, or in supplying energy-related products and services.
Some energy companies operate as "public utilities" or "local distribution
companies," and are therefore subject to rate regulation by state or federal
utility commissions. However, other energy companies may be subject to greater
competitive factors than utility companies, including competitive pricing in the
absence of regulated tariff rates, which could cause a reduction in revenue and
which could adversely affect profitability. Most Midstream MLPs with pipeline
assets are subject to government regulation concerning the construction, pricing
and operation of pipelines. In many cases, the rules and tariffs charged by
these pipelines are monitored by the Federal Energy Regulatory Commission
("FERC") or various state regulatory agencies.
Master Limited Partnerships. MLPs are limited partnerships whose shares (or
units) are listed and traded on a U.S. securities exchange, just like common
stock. To qualify as an MLP, a partnership must receive at least 90% of its
income from qualifying sources such as natural resource activities. Natural
resource activities include the exploration, development, mining, production,
processing, refining, transportation, storage and marketing of mineral or
natural resources. MLPs generally have two classes of owners, the general
partner and limited partners. The general partner, which is generally a major
energy company, investment fund or the management of the MLP, typically controls
the MLP through a 2% general partner equity interest in the MLP plus common
units and subordinated units. Limited partners own the remainder of the
partnership, through ownership of common units, and have a limited role in the
partnership's operations and management.
MLPs are typically structured such that common units have first priority to
receive quarterly cash distributions up to an established MQD. Common units also
accrue arrearages in distributions to the extent the MQD is not paid. Once
common units have been paid, subordinated units receive distributions of up to
the MQD, but subordinated units do not accrue arrearages. Distributable cash in
excess of the MQD paid to both common and subordinated units is distributed to
both common and subordinated units generally on a pro rata basis. The general
partner is also eligible to receive incentive distributions if the general
partner operates the business in a manner which maximizes value to unit holders.
As the general partner increases cash distributions to the limited partners, the
general partner receives an increasingly higher percentage of the incremental
cash distributions. A common arrangement provides that the general partner can
reach a tier where the general partner is receiving 50% of every incremental
dollar paid to common and subordinated unit holders. By providing for incentive
distributions the general partner is encouraged to streamline costs and acquire
assets in order to grow the partnership, increase the partnership's cash flow,
and raise the quarterly cash distribution in order to reach higher tiers. Such
results benefit all security holders of the MLP.
Energy MLPs in which the Fund invests can generally be classified as
Midstream MLPs, Propane MLPs and Coal MLPs.
o Midstream MLP natural gas services include the treating,
gathering, compression, processing, transmission and storage of
natural gas and the transportation, fractionation and storage of
NGLs (primarily propane, ethane, butane and natural gasoline).
Midstream MLP crude oil services include the gathering,
transportation, storage and terminalling of crude oil. Midstream
MLP refined petroleum product services include the transportation
(usually via pipelines, barges, rail cars and trucks), storage and
-34-
terminalling of refined petroleum products (primarily gasoline,
diesel fuel and jet fuel) and other hydrocarbon by-products.
Midstream MLPs may also operate ancillary businesses including the
marketing of the products and logistical services.
o Propane MLP services include the distribution of propane to
homeowners for space and water heating and to commercial,
industrial and agricultural customers. Propane serves
approximately 3% of the household energy needs in the United
States, largely for homes beyond the geographic reach of natural
gas distribution pipelines. Volumes are weather dependent and a
majority of annual cash flow is earned during the winter heating
season (October through March).
o Coal MLP services include the owning, leasing, managing,
production and sale of coal and coal reserves. Electricity
generation is the primary use of coal in the United States. Demand
for electricity and supply of alternative fuels to generators are
the primary drivers of coal demand.
The Fund also may invest in equity and debt securities of energy companies
that are organized and/or taxed as corporations, including Canadian income
trusts, and may invest in equity and debt securities of MLP-related entities,
such as general partners or other affiliates of MLPs, and in private companies
that operate energy assets.
PORTFOLIO COMPOSITION
The Fund's portfolio is composed principally of the following investments.
A more detailed description of the Fund's investment policies and restrictions
and more detailed information about the Fund's portfolio investments are
contained in the SAI.
Equity Securities of MLPs and MLP-Related Entities. Consistent with its
investment objective, the Fund may invest up to 100% of its Managed Assets in
equity securities issued by energy sector MLPs and MLP-related entities,
including common units and subordinated units of MLPs, I-Shares of MLP-related
entities and common stock of MLP-related entities, such as general partners or
other affiliates of the MLPs.
MLP Common Units. MLP common units represent a limited partnership interest
in the MLP. Common units are listed and traded on U.S. securities exchanges or
over-the-counter, with their value fluctuating predominantly based on the
success of an MLP. The Fund intends to purchase common units in market
transactions but may also purchase securities directly from the MLP or other
parties in private placements. Unlike owners of common stock of a corporation,
owners of common units have limited voting rights and have no ability to
annually elect directors. MLPs generally distribute all available cash flow
(cash flow from operations less maintenance capital expenditures) in the form of
a quarterly distribution. Common unit holders have first priority to receive
quarterly cash distributions up to the MQD and have arrearage rights. In the
event of liquidation, common unit holders have preference over subordinated
units, but not debt holders or preferred unit holders, to the remaining assets
of the MLP.
MLP Subordinated Units. MLP subordinated units are typically issued by MLPs
to their original sponsors, such as their founders, corporate general partners
of MLPs, entities that sell assets to the MLP, and institutional investors. The
Fund expects to purchase subordinated units directly from these persons.
Subordinated units have similar voting rights as common units and are generally
not publicly traded. Once the MQD on the common units, including any arrearages,
has been paid, subordinated units will receive cash distributions up to the MQD
prior to any incentive payments to the MLP's general partner. Unlike common
units, subordinated units do not have arrearage rights. In the event of
liquidation, common units have priority over subordinated units. Subordinated
units are typically converted into common units on a one-to-one basis after
certain time periods and/or performance targets have been satisfied.
Subordinated units are generally valued based on the price of the common units,
discounted to reflect the timing or likelihood of their conversion to common
units.
MLP I-Shares. I-Shares represent an ownership interest issued by an
affiliated party of an MLP. The MLP affiliate uses the proceeds from the sale of
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I-Shares to purchase limited partnership interests in the MLP in the form of
i-units. I-units have similar features as MLP common units in terms of voting
rights, liquidation preference and distributions. However, rather than receiving
cash, the MLP affiliate receives additional i-units in an amount equal to the
cash distributions received by MLP common units. Similarly, holders of I-Shares
will receive additional I-Shares, in the same proportion as the MLP affiliates'
receipt of i-units, rather than cash distributions. I-Shares themselves have
limited voting rights which are similar to those applicable to MLP common units.
The MLP affiliate issuing the I-Shares is structured as a corporation for
federal income tax purposes. As a result, I-Shares holders, such as the Fund,
will receive a Form 1099 rather than a Form K-1 statement. I-Shares are traded
on the NYSE and the AMEX.
Equity Securities of Energy Companies. The Fund may invest up to 35% of its
Managed Assets in equity securities issued by energy companies. The Fund intends
to purchase these equity securities in market transactions but may also purchase
securities directly from the issuers in private placements.
Debt Securities. The Fund may invest up to 25% of its Managed Assets in
debt securities of energy companies, MLPs and MLP-related entities, including
securities rated below investment grade. The debt securities in which the Fund
may invest may provide for fixed or variable principal payments and various
types of interest rate and reset terms including, fixed rate, adjustable rate,
zero coupon, contingent, deferred, payment-in-kind and auction rate features.
Certain debt securities are "perpetual" in that they have no maturity date.
Certain debt securities are zero coupon bonds. A zero coupon bond is a bond that
does not pay interest either for the entire life of the obligation or for an
initial period after the issuance of the obligation. To the extent that the Fund
invests in below investment grade debt securities, such securities will be
rated, at the time of investment, at least "B-" by S&P or "B3" by Moody's or a
comparable rating by another NRSRO or, if unrated, determined to be of
comparable quality by the Sub-Adviser. If a security satisfies the Fund's
minimum rating criteria at the time of purchase and is subsequently downgraded
below such rating, the Fund will not be required to dispose of such security. If
a downgrade occurs, the Sub-Adviser will consider what action, including the
sale of such security, is in the best interest of the Fund and its common
shareholders. In light of the risks of below investment grade securities, the
Sub-Adviser, in evaluating the creditworthiness of an issue, whether rated or
unrated, will take various factors into consideration, which may include, as
applicable, the issuer's operating history, financial resources and its
sensitivity to economic conditions and trends, the market support for the
facility financed by the issue (if applicable), the perceived ability and
integrity of the issuer's management and regulatory matters.
Short-Term Debt Securities; Temporary Defensive Position; Invest-Up Period.
During the period in which the net proceeds of any offering of Common Shares
offered hereby are being invested, or during periods in which the Sub-Adviser
determines that it is temporarily unable to follow the Fund's investment
strategy or that it is impractical to do so, the Fund may deviate from its
investment strategy and invest all or any portion of its net assets in cash,
cash equivalents or other securities. The Sub-Adviser's determination that it is
temporarily unable to follow the Fund's investment strategy or that it is
impractical to do so will generally occur only in situations in which a market
disruption event has occurred and where trading in the securities selected
through application of the Fund's investment strategy is extremely limited or
absent. In such a case, shares of the Fund may be adversely affected and the
Fund may not pursue or achieve its investment objective.
INVESTMENT PRACTICES
Covered Call Option Transactions. Call options are contracts representing
the right to purchase a common stock at a specified price (the "strike price")
at a specified future date (the "expiration date"). The price of the option is
determined from trading activity in the broad options market, and generally
reflects the relationship between the current market price for the underlying
common stock and the strike price, as well as the time remaining until the
expiration date. The Fund writes call options only if they are "covered." In the
case of a call option on a common stock or other security, the option is
"covered" if the Fund owns the security underlying the call or has an absolute
and immediate right to acquire that security without additional cash
consideration (or, if additional cash consideration is required, cash or other
assets determined to be liquid by the Sub-Adviser (in accordance with procedures
-36-
approved by the Board of Trustees) in such amount are segregated by the Fund's
custodian) upon conversion or exchange of other securities held by the Fund.
If an option written by the Fund expires unexercised, the Fund realizes on
the expiration date a capital gain equal to the premium received by the Fund at
the time the option was written. If an option purchased by the Fund expires
unexercised, the Fund realizes a capital loss equal to the premium paid at the
time the option expires. Prior to the earlier of exercise or expiration, an
exchange-traded option may be closed out by an offsetting purchase or sale of an
option of the same series (type, underlying security, exercise price, and
expiration). There can be no assurance, however, that a closing purchase or sale
transaction can be effected when the Fund desires. The Fund may sell put or call
options it has previously purchased, which could result in a net gain or loss
depending on whether the amount realized on the sale is more or less than the
premium and other transaction costs paid on the put or call option purchased.
See "Tax Matters."
Strategic Transactions. The Fund may, but is not required to, use various
hedging and strategic transactions described below to seek to reduce interest
rate risks arising from any use of Financial Leverage by the Fund, to facilitate
portfolio management and mitigate risks, including interest rate, currency and
credit risks. The Fund may write (or sell) covered call options on the common
stock of energy companies held in the Fund's portfolio. Hedging and strategic
transactions are generally accepted under modern portfolio management theory and
are regularly used by many investment companies and other institutional
investors. Although the Sub-Adviser seeks to use such practices to further the
Fund's investment objective, no assurance can be given that these practices will
achieve this result.
The Fund may purchase and sell derivative investments such as
exchange-listed and over-the-counter put and call options on currencies,
securities, energy-related commodities, equity, fixed income and interest rate
indices, and other financial instruments, purchase and sell financial futures
contracts and options thereon, enter into various interest rate transactions
such as swaps, caps, floors or collars or credit transactions and credit default
swaps. The Fund also may purchase derivative investments that combine features
of these instruments. Collectively, all of the above are referred to as
"Strategic Transactions." The Fund generally seeks to use Strategic Transactions
as a portfolio management or hedging technique to seek to protect against
possible adverse changes in the market value of securities held in or to be
purchased for the Fund's portfolio, protect the value of the Fund's portfolio,
facilitate the sale of certain securities for investment purposes, manage the
effective interest rate and currency exposure of the Fund, including the
effective yield paid on any Financial Leverage issued by the Fund, or establish
positions in the derivatives markets as a temporary substitute for purchasing or
selling particular securities.
Strategic Transactions have risks, including the imperfect correlation
between the value of such instruments and the underlying assets, the possible
default of the other party to the transactions or illiquidity of the derivative
investments. Furthermore, the ability to successfully use Strategic Transactions
depends on the Sub-Adviser's ability to predict pertinent market movements,
which cannot be assured. Thus, the use of Strategic Transactions may result in
losses greater than if they had not been used, may require the Fund to sell or
purchase portfolio securities at inopportune times or for prices other than
current market values, may limit the amount of appreciation the Fund can realize
on an investment, or may cause the Fund to hold a security that it might
otherwise sell. Additionally, amounts paid by the Fund as premiums and cash or
other assets held in margin accounts with respect to Strategic Transactions are
not otherwise available to the Fund for investment purposes.
See "Risks - Derivatives" in the prospectus and "Investment Policies and
Techniques" in the Fund's SAI for a more complete discussion of Strategic
Transactions and their risks.
Portfolio Turnover. The Fund's annual portfolio turnover rate may vary
greatly from year to year. Although the Fund cannot accurately predict its
annual portfolio turnover rate, it is not expected to exceed 30% under normal
circumstances, but may be higher or lower in certain periods. For the fiscal
year ended November 30, 2007, the Fund's portfolio turnover rate was
approximately 16%. For the six months ended May 31, 2008, the Fund's portfolio
turnover rate was approximately 28%. However, portfolio turnover rate is not
considered a limiting factor in the execution of investment decisions for the
-37-
Fund. A higher turnover rate results in correspondingly greater brokerage
commissions and other transactional expenses that are borne by the Fund. High
portfolio turnover may result in the Fund's recognition of gains that will
increase the Fund's tax liability and thereby lower the after-tax dividends of
the Fund. In addition, high portfolio turnover may increase the Fund's current
and accumulated earnings and profits, resulting in a greater portion of the
Fund's distributions being treated as taxable dividends for federal income tax
purposes. See "Tax Matters."
USE OF FINANCIAL LEVERAGE
The Fund is currently engaged in, and may in the future engage in, the use
of Financial Leverage to seek to enhance the level of its current distributions
to common shareholders. The Fund may borrow (by use of commercial paper, notes
and/or other Borrowings) an amount up to 33(1)/3% (or such other percentage to
the extent permitted by the 1940 Act) of its Managed Assets (including the
amount borrowed) less all liabilities other than borrowings. The Fund may also
issue Preferred Shares in an amount up to 50% of the Fund's Managed Assets
(including the proceeds of the Preferred Shares and any borrowings). As of
October 8, 2008, the Fund utilized leverage in an amount equal to approximately
29% of the Fund's Managed Assets. Borrowings, commercial paper or notes and
Preferred Shares are each considered a "Leverage Instrument" and collectively,
the "Leverage Instruments." Leverage Instruments have seniority in liquidation
and distribution rights over the Fund's common shares.
On January 28, 2005, the Fund issued $34 million principal amount of
auction rate senior notes due March 2, 2045 (the "Series A Notes") and on March
26, 2006, issued $25 million principal amount of auction rate senior notes due
Mach 20, 2046 (the "Series B Notes," together with the Series A Notes, the
"Notes") each of which were rated "Aaa" and "AAA" by Moody's and Fitch,
respectively. On March 26, 2008, the Fund established a Credit Facility with a
bank, which currently allows the Fund to borrow up to $55 million. On April 18,
2008, the Fund borrowed $34 million under the Credit Facility to redeem the
issued and outstanding Series A Notes. As of October 8, 2008, the Fund had
$40.35 million of unutilized funds for borrowing under the Credit Facility.
As a result of recent turmoil in the financial markets, the auction rate
securities market, including the auction market for the Series B Notes, have
experienced widespread auction failures. In the event sufficient clearing bids
are not made, the interest rate for the Series B Notes is set at the maximum
rate as determined by the terms of the Series B Notes, which has been 200% (and
could be up to 300%, depending on the ratings of the Series B Notes) of the
greater of: (i) the applicable Treasury Index rate or (ii) the applicable LIBOR.
All auctions on the Series B Notes have failed since February, 2008. These
market developments have increased, and may continue to increase, the Fund's
relative financing costs. Because common shareholders indirectly bear the cost
of leverage, an increase in interest obligations on the Fund's Financial
Leverage may reduce the total return to common shareholders. See "Risks -
Leverage Risk." As noted above, in response to these market developments, the
Fund exercised its option to redeem the Series A Notes.
The Fund may, in the future, incur additional Borrowings, issue additional
series of notes or other senior securities to the extent permitted by the 1940
Act. The Fund's common shares, including the Common Shares, are junior in
liquidation and distribution rights to the Notes and Borrowings under the Credit
Facility. The issuance of debt and Preferred Shares, including the Notes and
Borrowings under the Credit Facility represent, the leveraging of the Fund's
common shares. The issuance of additional Common Shares offered by this
prospectus will enable the Fund to increase the aggregate amount of its
leverage. The use of leverage creates an opportunity for increased income and
capital appreciation for common shareholders, but at the same time, it creates
special risks that may adversely affect common shareholders. Because both the
Adviser's and Sub-Adviser's fees are based on Managed Assets (including assets
obtained through leverage), both the Adviser's and Sub-Adviser's fees are higher
when the Fund is leveraged. There can be no assurance that a leveraging strategy
will be successful during any period in which it is used.
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It is possible that the Fund will be unable to obtain additional Financial
Leverage. The capital and credit markets have been experiencing extreme
volatility and disruption for more than twelve months. In recent weeks, the
volatility and disruption have reached unprecedented levels and has generally
reduced the availability of credit. The availability of Financial Leverage will
depend on a variety of factors, such as market conditions, the general
availability of credit, the volume of trading activities, the overall
availability of credit to the closed-end management investment companies, the
Fund's credit ratings and credit capacity, the Fund's asset class, as well as
the possibility that lenders could develop a negative perception of the Fund's
long- or short-term financial prospects if the Fund incurs large investment
losses due to a market downturn. Similarly, the Fund's access to Financial
Leverage may be impaired if regulatory authorities or rating agencies take
negative actions against the Fund. The Fund may not be able to successfully
obtain additional Financial Leverage on favorable terms, or at all. In the
current economic environment, it has become more difficult for borrowers,
including the Fund, to find third parties willing to extend credit or purchase
securities that would constitute Financial Leverage. If the Fund is unable to
increase Financial Leverage after the issuance of additional Common Shares
pursuant to this prospectus, there could be an adverse impact on the return to
common shareholders.
Leverage creates a greater risk of loss, as well as potential for more
gain, for the common shares than if leverage is not used. The Leverage
Instruments have complete priority upon distribution of assets over common
shares. The issuance of Leverage Instruments leverages the common shares.
Although based on recommendations by the Adviser and the Sub-Adviser, the
determination of whether to utilize Financial Leverage in addition to the Notes
and the Credit Facility, as well as timing and other terms of the offering of
Leverage Instruments and the terms of the Leverage Instruments, would be
determined by the Fund's Board of Trustees. The Fund expects to invest the net
proceeds derived from any future Leverage Instrument offering according to the
investment program described in this prospectus. So long as the Fund's portfolio
is invested in securities that provide a higher rate of return than the dividend
rate or interest rate of the Leverage Instrument, after taking expenses into
consideration, the leverage will cause common shareholders to receive a higher
rate of income than if the Fund were not leveraged.
Leverage creates risk for holders of the common shares, including the
likelihood of greater volatility of net asset value and market price of the
common shares, and the risk that fluctuations in interest rates on borrowings
and debt or in the dividend rates on any Preferred Shares may affect the return
to the holders of the common shares or will result in fluctuations in the
dividends paid on the common shares. To the extent total return exceeds the cost
of leverage, the Fund's return will be greater than if leverage had not been
used. Conversely, if the total return derived from securities purchased with
funds received from the use of leverage is less than the cost of leverage, the
Fund's return will be less than if leverage had not been used, and therefore the
amount available for distribution to common shareholders as dividends and other
distributions will be reduced. In the latter case, the Sub-Adviser in its best
judgment nevertheless may determine to maintain the Fund's leveraged position if
it expects that the benefits to the Fund's common shareholders of maintaining
the leveraged position will outweigh the current reduced return. Under normal
market conditions, the Fund anticipates that it will be able to invest the
proceeds from leverage at a higher rate than the costs of leverage, which would
enhance returns to common shareholders. The fees paid to the Adviser and
Sub-Adviser will be calculated on the basis of the Fund's Managed Assets
including proceeds from Borrowings for leverage and the issuance of Preferred
Shares. During periods in which the Fund is utilizing Financial Leverage, the
investment advisory fee payable to the Adviser, and the sub-advisory fee payable
by the Adviser to the Sub-Adviser, will be higher than if the Fund did not
utilize a leveraged capital structure. The use of leverage creates risks and
involves special considerations. See "Risks - Leverage Risk."
The Fund's Declaration of Trust authorizes the Fund, without prior approval
of the common shareholders, to borrow money. In this connection, the Fund may
issue notes or other evidence of indebtedness (including bank borrowings or
commercial paper) and may secure any such borrowings by mortgaging, pledging or
otherwise subjecting as security the Fund's assets. In connection with such
borrowing, the Fund may be required to maintain minimum average balances with
the lender or to pay a commitment or other fee to maintain a line of credit. Any
such requirements will increase the cost of borrowing over the stated interest
-39-
rate. Under the requirements of the 1940 Act, the Fund, immediately after any
such borrowings, must have an "asset coverage" of at least 300% (33-1/3% of
Managed Assets after borrowings). With respect to such borrowings, asset
coverage means the ratio which the value of the Managed Assets of the Fund, less
all liabilities and indebtedness not represented by senior securities (as
defined in the 1940 Act), bears to the aggregate amount of such borrowing
represented by senior securities issued by the Fund.
The rights of lenders to the Fund to receive interest on and repayment of
principal of any such Borrowings will be senior to those of the common
shareholders, and the terms of any such Borrowings may contain provisions which
limit certain activities of the Fund, including the payment of dividends to
common shareholders in certain circumstances. Further, the 1940 Act does (in
certain circumstances) grant to the lenders to the Fund certain voting rights in
the event of default in the payment of interest on or repayment of principal. In
the event that the Fund elects to be treated as a regulated investment company,
and that such provisions would impair the Fund's status as a regulated
investment company under the Internal Revenue Code, the Fund, subject to its
ability to liquidate its relatively illiquid portfolio, intends to repay the
borrowings.
Certain types of Borrowings may result in the Fund being subject to
covenants in credit agreements relating to asset coverage and portfolio
composition requirements. The Fund may be subject to certain restrictions on
investments imposed by guidelines of one or more rating agencies, which may
issue ratings for the short-term corporate debt securities or Preferred Shares
issued by the Fund. These guidelines, which the Fund is subject to as a result
of the issuance of the Series B Notes, impose asset coverage or portfolio
composition requirements that are more stringent than those imposed by the 1940
Act. It is not anticipated that these covenants or guidelines will impede the
Sub-Adviser from managing the Fund's portfolio in accordance with the Fund's
investment objective and policies. The terms of the Series B Notes provide that
in the event the Fund fails to satisfy certain asset coverage tests, the Fund is
prohibited from declaring or paying dividends on its common shares. In addition,
the Fund is required to redeem Series B Notes in an amount necessary to allow
the Fund, after giving effect to such redemption, to satisfy such asset coverage
tests. In addition, the loan documents under the Credit Facility include
customary provisions including a restriction on the Fund's ability to pledge its
assets and contains customary events of default including failure of the Fund to
meet the asset coverage test of the 1940 Act described below. During the recent
downturn in the equity markets, the Fund violated the asset coverage covenants
in the Credit Facility resulting in an event of default thereunder. Under the
terms of the Credit Facility, upon an event of default the lender has the right
to require the immediate payment of all amounts outstanding under the Credit
Facility and to charge interest at a higher rate from the time of such event of
default until waived. In response, the Fund sold assets and reduced the amount
of Borrowings under the Credit Facility. The lender under the Credit Facility
has waived such event of default. There is no assurance that the Fund will not
violate such covenants in the future. In such event, the Fund may be required to
repay all outstanding Borrowings immediately. In order to repay such amounts the
Fund may be required to sell assets quickly which could have a material adverse
effect on the Fund and could trigger negative tax implications. In addition, the
Fund would be precluded from declaring or paying any distribution on the common
shares during the continuance of such event of default.
The Credit Facility can be used by the Fund for general corporate purposes,
including for financing a portion of the Fund's investments. The Credit Facility
is secured by a first priority perfected security interest in the assets of the
Fund. In addition, the loan documents under the Credit Facility restrict the
Fund's ability to change its investment adviser, sub-adviser or custodian, amend
its fundamental investment policies or fundamental investment objectives, or
take on additional indebtedness without prior consent from the provider of the
Credit Facility.
If Preferred Shares are issued they could pay adjustable rate dividends
based on shorter-term interest rates or a fixed rate. In the event the dividends
are paid at adjustable rates, the adjustment period for Preferred Shares
dividends could be as short as one day or as long as a year or more.
-40-
Under the 1940 Act, the Fund is not permitted to issue Preferred Shares
unless immediately after such issuance the value of the Fund's managed assets is
at least 200% of the liquidation value of the outstanding Preferred Shares
(i.e., the liquidation value may not exceed 50% of the Fund's Managed Assets).
In addition, the Fund is not permitted to declare any cash dividend or other
distribution on its common shares unless, at the time of such declaration, the
value of the Fund's Managed Assets is at least 200% of such liquidation value.
If Preferred Shares are issued, the Fund intends, to the extent possible, to
purchase or redeem Preferred Shares from time to time to the extent necessary in
order to maintain coverage of any Preferred Shares of at least 200%. In
addition, as a condition to obtaining ratings on the Preferred Shares, the terms
of any Preferred Shares issued are expected to include asset coverage
maintenance provisions which will require the redemption of the Preferred Shares
in the event of non-compliance by the Fund and may also prohibit dividends and
other distributions on the common shares in such circumstances. In order to meet
redemption requirements, the Fund may have to liquidate portfolio securities.
Such liquidations and redemptions would cause the Fund to incur related
transaction costs and could result in capital losses to the Fund. If the Fund
has Preferred Shares outstanding, two of the Fund's trustees will be elected by
the holders of Preferred Shares as a class. The remaining trustees of the Fund
will be elected by holders of common shares and Preferred Shares voting together
as a single class. In the event the Fund failed to pay dividends on Preferred
Shares for two years, holders of Preferred Shares would be entitled to elect a
majority of the trustees of the Fund.
The Fund may also borrow money as a temporary measure for extraordinary or
emergency purposes, including the payment of dividends and the settlement of
securities transactions which otherwise might require untimely dispositions of
Fund securities.
EFFECTS OF LEVERAGE
The aggregate principal amount of Series B Notes and Borrowings under the
Credit Facility represented approximately 29% of Managed Assets as of October 8,
2008. Asset coverage with respect to the Series B Notes and Borrowings under the
Credit Facility was
% as of that date. The interest rate payable by the Fund on the Notes
varies based on auctions normally held every seven (7) days. In the event of a
failed auction, such as the Fund has experienced since February, 2008, the
Series B Notes bear interest at a maximum rate as determined by the terms of the
Series B Notes. As of October 8, 2008, the current interest rate payable on the
Series B Notes was 8.09%. Outstanding balances under the Credit Facility
generally accrue interest at a variable annual rate equal to the one-month LIBOR
plus 0.75%. As of October 8, 2008, the current rate was 4.512%. The Credit
Facility remains in effect through March 26, 2009, at which time the Fund
expects to seek to renew such facility, and the Fund may draw on the facility
from time to time in accordance with its investment policies. However, the Fund
has no assurance that it will be able to renew the Credit Facility. As of
October 8, 2008, the Fund had $14.65 million outstanding under the Credit
Facility. The weighted average interest rate payable on all the Fund's Leverage
Instruments is currently 6.77% based upon the interest rate payable on the
Series B Notes and Borrowings under the Credit Facility as of October 8, 2008.
Assuming that the Fund's leverage costs remain as described above (at an
assumed average annual cost of 6.77%), the annual return that the Fund's
portfolio must experience (net of expenses) in order to cover its leverage costs
would be 1.86%.
The following table is furnished in response to requirements of the SEC. It
is designed to illustrate the effect of leverage on common share total return,
assuming investment portfolio total returns (comprised of income and changes in
the value of securities held in the Fund's portfolio) of (10%), (5%), 0%, 5% and
10%. These assumed investment portfolio returns are hypothetical figures and are
not necessarily indicative of the investment portfolio returns experienced or
expected to be experienced by the Fund. See "Risks."
The table further assumes leverage representing 29% of the Fund's Managed
Assets, net of expenses, and the Fund's current annual leverage interest rate of
6.02%.
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Assumed Portfolio Total Return (Net of Expenses) ........ (10)% (5)% 0% 5% 10%
Common Share Total Return ............................... (16.98)% (9.90)% (2.82)% 4.26% 11.35%
Common share total return is composed of two elements: the common share
dividends paid by the Fund (the amount of which is largely determined by the net
investment income of the Fund after paying dividends or interest on its Leverage
Instruments) and gains or losses on the value of the securities the Fund owns.
As required by SEC rules, the table above assumes that the Fund is more likely
to suffer capital losses than to enjoy capital appreciation. For example, to
assume a total return of 0% the Fund must assume that the distributions it
receives on its investments is entirely offset by losses in the value of those
securities.
While the Fund is using leverage, the amount of the fees paid to both the
Adviser and the Sub-Adviser for investment advisory and management services are
higher than if the Fund did not use leverage because the fees paid are
calculated based on the Fund's Managed Assets, which include assets purchased
with leverage. Therefore, the Adviser and the Sub-Adviser have a financial
incentive to leverage the Fund, which may create a conflict of interest between
the Adviser and Sub-Adviser on the one hand and the common shareholders on the
other. Because payments on any leverage would be paid by the Fund at a specified
rate, only the Fund's common shareholders would bear the Fund's management fees
and other expenses.
RISKS
GENERAL
Risk is inherent in all investing. The following discussion summarizes some
of the risks that a Common Shareholder should consider before deciding whether
to invest in the Fund. For additional information about the risks associated
with investing in the Fund, see "Additional Information About the Fund's
Investments and Investment Risks" in the Fund's SAI.
INVESTMENT AND MARKET RISK
An investment in the Fund's Common Shares is subject to investment risk,
including the possible loss of the entire principal amount that you invest. Your
investment in Common Shares represents an indirect investment in the securities
owned by the Fund, substantially all of which are traded on a national
securities exchange or in the over-the-counter markets. An investment in the
Fund's Common Shares is not intended to constitute a complete investment program
and should not be viewed as such. The value of these securities, like other
market investments, may move up or down, sometimes rapidly and unpredictably.
The value of the securities in which the Fund invests will affect the value of
the Common Shares. Your Common Shares at any point in time may be worth less
than your original investment, even after taking into account the reinvestment
of Fund dividends and distributions. The Fund has been designed primarily as a
long-term investment vehicle and is not intended to be used as a short-term
trading vehicle.
In response to the financial crises affecting the banking system and
financial markets and going concern threats to investment banks and other
financial institutions, on October 3, 2008, President Bush signed the Emergency
Economic Stabilization Act of 2008 (the "EESA") into law. Pursuant to the EESA,
the U.S. Treasury has the authority to, among other things, purchase up to $700
billion of mortgage-backed and other securities from financial institutions for
the purpose of stabilizing the financial markets. The Federal Government,
Federal Reserve and other governmental and regulatory bodies have taken or are
considering taking other actions to address the financial crisis. There can be
no assurance as to what impact such actions will have on the financial markets,
including the extreme levels of volatility currently being experienced. Such
continued volatility could materially and adversely affect the Fund's financial
condition, the performance of its investments and the trading price of its
common shares.
-42-
MARKET IMPACT RISK
The sale of the Common Shares (or the perception that such sales may
occur) may have an adverse effect on prices in the secondary market for the
Fund's common shares by increasing the number of shares available, which may put
downward pressure on the market price for the Fund's common shares. These sales
also might make it more difficult for us to sell additional equity securities in
the future at a time and price the Fund deems appropriate.
MANAGEMENT RISK
The Fund is subject to management risk because it is an actively
managed portfolio. The Adviser and Sub-Adviser will apply investment techniques
and risk analyses in making investment decisions for the Fund, but there can be
no guarantee that these will produce the desired results.
ENERGY SECTOR RISK
The Fund's investments will generally be concentrated in the energy sector,
with a particular concentration in energy sector MLPs and MLP-related entities.
Certain risks inherent in investing in the energy business of these types of
securities include the following:
o Commodity Pricing Risk. MLPs, MLP-related entities and energy companies
may be directly affected by energy commodity prices, especially those
energy companies who own the underlying energy commodity. Commodity
prices fluctuate for several reasons including, changes in market and
economic conditions, the impact of weather on demand, levels of
domestic production and imported commodities, energy conservation,
domestic and foreign governmental regulation and taxation and the
availability of local, intrastate and interstate transportation
systems. Volatility of commodity prices which leads to a reduction in
production or supply may also impact the performance of MLPs,
MLP-related entities and energy companies that are solely involved in
the transportation, processing, storing, distribution or marketing of
commodities. Volatility of commodity price may also make it more
difficult for MLPs, MLP-related entities and energy companies to raise
capital to the extent the market perceives that their performance may
be directly tied to commodity prices.
o Supply and Demand Risk. A decrease in the production of natural gas,
NGLs, crude oil, coal or other energy commodities or a decrease in the
volume of such commodities available for transportation, processing,
storage or distribution may adversely impact the financial performance
of MLPs, MLP-related entities and energy companies. Production declines
and volume decreases could be caused by various factors including,
catastrophic events affecting production, depletion of resources, labor
difficulties, environmental proceedings, increased regulations,
equipment failures and unexpected maintenance problems, import supply
disruption, increased competition from alternative energy sources or
depressed commodity prices. Alternatively, a sustained decline in
demand for such commodities could also impact the financial performance
of MLPs, MLP-related entities and energy companies. Factors which could
lead to a decline in demand include economic recession or other adverse
economic conditions, higher fuel taxes or governmental regulations,
increases in fuel economy, consumer shifts to the use of alternative
fuel sources, an increase in commodity prices, or weather.
o Depletion and Exploration Risk. MLPs, MLP-related entities and energy
companies engaged in the production (exploration, development,
management or production) of natural gas, NGLs (including propane),
crude oil, refined petroleum products or coal are subject to the risk
that their commodity reserves naturally deplete over time. MLPs,
MLP-related entities and energy companies generally increase reserves
through expansion of their existing business, through exploration of
new sources or development of existing sources, through acquisitions or
by securing long-term contracts to acquire additional reserves, each of
which entails risk. The financial performance of these issuers may be
adversely affected if they are unable to acquire, cost-effectively,
additional reserves at a rate at least equal to the rate of natural
-43-
decline. A failure to maintain or increase reserves could reduce the
amount and change the characterization of cash distributions paid by
these MLPs, MLP-related entities and energy companies.
o Regulatory Risk. MLPs, MLP-related entities and energy companies are
subject to significant federal, state and local government regulation
in virtually every aspect of their operations, including how facilities
are constructed, maintained and operated, environmental and safety
controls, and the prices they may charge for the products and services.
Various governmental authorities have the power to enforce compliance
with these regulations and the permits issued under them and violators
are subject to administrative, civil and criminal penalties, including
civil fines, injunctions or both. Stricter laws, regulations or
enforcement policies could be enacted in the future which would likely
increase compliance costs and may adversely affect the financial
performance of MLPs, MLP-related entities and energy companies.
o Interest Rate Risk. Rising interest rates could adversely impact the
financial performance of MLPs, MLP-related entities and energy
companies. Rising interest rates may increase an MLP's, MLP-related
entity's or energy company's cost of capital, which would increase
operating costs and may reduce an MLP's, MLP-related entity's or energy
company's ability to execute acquisitions or expansion projects in a
cost-effective manner. Rising interest rates may also impact the price
of MLP units, MLP-related entity securities and energy company shares
as the yields on alternative investments increase.
o Acquisition Risk. The ability of MLPs to grow and to increase
distributions to unitholders is dependent principally on their ability
to make acquisitions that result in an increase in adjusted operating
surplus per unit. In the event that MLPs are unable to make such
accretive acquisitions either because they are unable to identify
attractive acquisition candidates or negotiate acceptable purchase
contracts or because they are unable to raise financing for such
acquisitions on economically acceptable terms or because they are
outbid by competitors, their future growth and ability to raise
distributions will be limited. Furthermore, even if MLPs do consummate
acquisitions that they believe will be accretive, the acquisitions may
in fact turn out to result in a decrease in adjusted operating surplus
per unit. As MLP general partners typically receive a greater
percentage of increased cash distributions, in an effort to increase
cash distributions the general partner may make acquisitions which, due
to various factors, including increased debt obligations as well as the
factors set forth below, may adversely affect the MLP. Any acquisition
involves risks, including among other things: mistaken assumptions
about revenues and costs, including synergies; the assumption of
unknown liabilities; limitations on rights to indemnity from the
seller; the diversion of management's attention from other business
concerns; unforeseen difficulties operating in new product areas or new
geographic areas; and customer or key employee losses at the acquired
businesses.
o Affiliated Party Risk. A few of the Midstream MLPs are dependent on
their parents or sponsors for a majority of their revenues. Any failure
by the parents or sponsors to satisfy their payments or obligations
would impact the MLPs' revenues and cash flows and ability to make
distributions.
o Catastrophe Risk. The operations of MLPs, MLP-related entities and
energy companies are subject to many hazards inherent in the
transporting, processing, storing, distributing or marketing of natural
gas, NGLs, crude oil, refined petroleum products or other hydrocarbons,
or in the exploring, managing or producing of such commodities,
including: damage to pipelines, storage tanks or related equipment and
surrounding properties caused by hurricanes, tornadoes, floods, fires
and other natural disasters and acts of terrorism; inadvertent damage
from construction and farm equipment; leaks of natural gas, NGLs, crude
oil, refined petroleum products or other hydrocarbons; fires and
explosions. These risks could result in substantial losses due to
personal injury and/or loss of life, severe damage to and destruction
of property and equipment and pollution or other environmental damage
and may result in the curtailment or suspension of their related
operations. Not all MLPs, MLP-related entities and energy companies are
-44-
fully insured against all risks inherent to their businesses. If a
significant accident or event occurs that is not fully insured, it
could adversely affect their operations and financial condition.
o Terrorism/Market Disruption Risk. The terrorist attacks in the United
States on September 11, 2001 had a disruptive effect on the securities
markets. U.S. military and related action in Iraq is ongoing and events
in the Middle East could have significant adverse effects on the U.S.
economy and the stock market. Uncertainty surrounding retaliatory
military strikes or a sustained military campaign may affect energy
company operations in unpredictable ways, including disruptions of fuel
supplies and markets, and transmission and distributions facilities
could be direct targets, or indirect casualties, of an act of terror.
Since the September 11th attacks, the U.S. government has issued
warnings that energy assets, specifically the U.S. pipeline
infrastructure, may be the future target of terrorist organizations. In
addition, changes in the insurance markets attributable to the
September 11th attacks have made certain types of insurance more
difficult, if not impossible, to obtain and have generally resulted in
increased premium costs.
o MLP Risks. An investment in MLP units involves risks which differ from
an investment in common stock of a corporation. Holders of MLP units
have limited control and voting rights on matters affecting the
partnership. In addition, there are certain tax risks associated with
an investment in MLP units and conflicts of interest exist between
common unit holders and the general partner, including those arising
from incentive distribution payments.
INDUSTRY SPECIFIC RISK
MLPs, MLP-related entities and energy companies are also subject to risks
that are specific to the industry they serve.
o Midstream MLPs, MLP-related entities and energy companies that provide
crude oil, refined product and natural gas services are subject to
supply and demand fluctuations in the markets they serve which will be
impacted by a wide range of factors including, fluctuating commodity
prices, weather, increased conservation or use of alternative fuel
sources, increased governmental or environmental regulation, depletion,
rising interest rates, declines in domestic or foreign production,
accidents or catastrophic events, and economic conditions, among
others.
o Propane MLPs and MLP-related entities are subject to earnings
variability based upon weather conditions in the markets they serve,
fluctuating commodity prices, increased use of alternative fuels,
increased governmental or environmental regulation, and accidents or
catastrophic events, among others.
o MLPs, MLP-related entities and energy companies with coal assets are
subject to supply and demand fluctuations in the markets they serve
which will be impacted by a wide range of factors including,
fluctuating commodity prices, the level of their customers' coal
stockpiles, weather, increased conservation or use of alternative fuel
sources, increased governmental or environmental regulation, depletion,
rising interest rates, declines in domestic or foreign production,
mining accidents or catastrophic events, health claims and economic
conditions, among others.
CASH FLOW RISK
A substantial portion of the cash flow received by the Fund is derived from
its investment in equity securities of MLPs and MLP-related entities. The amount
of cash an MLP or MLP-related entity has available for distributions and the tax
character of such distributions is dependent upon the amount of cash generated
by the MLP's or MLP-related entity's operations. Cash available for distribution
will vary from quarter to quarter and is largely dependent on factors affecting
the MLP's or MLP-related entity's operations and factors affecting the energy
industry in general. In addition to the risk factors described above, other
factors which may reduce the amount of cash an MLP or MLP-related entity has
available for distribution include increased operating costs, capital
-45-
expenditures, acquisition costs, expansion, construction or exploration costs
and borrowing costs.
TAX RISK
The Fund's ability to meet its investment objective depends on the level of
taxable income and distributions it receives from the MLP, MLP-related entities
and energy company securities in which the Fund invests, a factor over which the
Fund has no control. The benefit the Fund derives from its investment in MLPs is
largely dependent on their being treated as partnerships for federal income tax
purposes. As a partnership, an MLP has no income tax liability at the entity
level. If, as a result of a change in an MLP's business, an MLP were treated as
a corporation for federal income tax purposes, such MLP would be obligated to
pay federal income tax on its income at the applicable corporate tax rate. If an
MLP was classified as a corporation for federal income tax purposes, the amount
of cash available for distribution with respect to the units would be reduced
and any such distributions received by the Fund would be taxed entirely as
dividend income. Therefore, treatment of an MLP as a corporation for federal
income tax purposes would result in a material reduction in the after-tax return
to the Fund, likely causing a substantial reduction in the value of the common
shares.
TAX LAW CHANGE RISK
Changes in tax laws or regulations, or interpretations thereof in the
future, could adversely affect the Fund or the MLPs in which it invests. Any
such changes could negatively impact the Fund and its common shareholders. For
example, if, by reason of a change in law or otherwise, an MLP in which the Fund
invests is treated as a corporation rather than a partnership, the MLP would be
subject to entity level corporate taxation and any distributions received by the
Fund would be treated as dividend income. This would negatively impact the
amount and tax characterization of distributions received by common
shareholders.
DEFERRED TAX RISK
As a limited partner in the MLPs in which it invests, the Fund is allocated
its pro rata share of income, gains, losses, deductions and expenses from the
MLPs. A significant portion of MLP income has historically been offset by tax
deductions. The Fund will incur a current tax liability on that portion of a
distribution that is not offset by tax deductions, with the remaining portion of
the distribution being treated as a tax-deferred return of capital. The
percentage of an MLP's distribution which is offset by tax deductions will
fluctuate over time for various reasons. A significant slowdown in acquisition
activity by MLPs held in the Fund's portfolio could result in a reduction of
accelerated depreciation or other deductions generated by new acquisitions,
which may result in increased current tax liability to the Fund. A reduction in
the percentage of a distribution offset by tax deductions or an increase in the
Fund's portfolio turnover will reduce that portion of the Fund's distribution
treated as a tax-deferred return of capital and increase that portion treated as
dividend income, resulting in reduced Fund distributions and lower after-tax
distributions to the Fund's common shareholders. For purposes of computing net
asset value, the Fund will accrue deferred income taxes for its future tax
liability associated with that portion of MLP distributions considered to be
tax-deferred return of capital as well as capital appreciation of its
investments. The Fund will rely to some extent on information provided by MLPs,
which is usually not timely, to estimate deferred tax liability for purposes of
financial statement reporting and determining the Fund's net asset value. From
time to time the Fund will modify its estimates and/or assumptions regarding its
deferred tax liability as new information becomes available.
DELAY IN INVESTING THE PROCEEDS OF THIS OFFERING
Although the Fund currently intends to invest the proceeds of any sales of
Common Shares as soon as practicable following the completion of the offering,
such investments may be delayed if suitable investments are unavailable at the
time or if the Fund is unable to secure firm commitments for direct placements.
-46-
The trading market and volumes for MLP, MLP-related entity and energy company
shares may at times be less liquid than the market for other securities. As a
result, it is not anticipated that the Fund will be fully invested immediately
after the completion of the offering and it may take a period of time before the
Fund is able to accumulate positions in certain securities. Prior to the time
the proceeds of this offering are fully invested, such proceeds may be invested
in cash, cash equivalents or other securities, pending investment in MLP,
MLP-related entity or energy company securities. Income received by the Fund
from these securities would subject the Fund to corporate tax before any
distributions to Common Shareholders. As a result, the return and yield on the
Common Shares in the year following this offering may be lower than when the
Fund is fully invested in accordance with its objective and policies. See "Use
of Proceeds."
EQUITY SECURITIES RISK
MLP common units and other equity securities are sensitive to general
movements in the stock market and a drop in the stock market may depress the
price of securities to which the Fund has exposure. MLP units and other equity
securities prices fluctuate for several reasons including changes in the
financial condition of a particular issuer (generally measured in terms of
distributable cash flow in the case of MLPs), investors' perceptions of MLPs and
energy companies, the general condition of the relevant stock market, such as
the current market volatility, or when political or economic events affecting
the issuers occur. In addition, the price of MLP units and other equity
securities may be particularly sensitive to rising interest rates given their
yield-based nature.
Certain of the MLPs, MLP-related entity and other energy companies in which
the Fund may invest may have comparatively smaller capitalizations than other
companies. Investing in securities of smaller MLPs, MLP-related entities and
energy companies presents some unique investment risks. These MLPs, MLP-related
entities and energy companies may have limited product lines and markets, as
well as shorter operating histories, less experienced management and more
limited financial resources than larger MLPs, MLP-related entities and energy
companies and may be more vulnerable to adverse general market or economic
developments. Stocks of smaller MLPs, MLP-related entities and energy companies
may be less liquid than those of larger MLPs, MLP-related entities and energy
companies and may experience greater price fluctuations than larger energy
companies. In addition, small-cap securities may not be widely followed by the
investment community, which may result in reduced demand.
A few of the Midstream MLPs are dependent on their parents or sponsors for
a majority of their revenues. Any failure by the parents or sponsors to satisfy
their payments or obligations would impact the MLPs' revenues and cash flows and
ability to make distributions.
MLP subordinated units in which the Fund will invest generally convert to
common units at a one-to-one ratio. The purchase or sale price of subordinated
units is generally tied to the common unit price less a discount. The size of
the discount varies depending on the likelihood of conversion, the length of
time remaining to conversion, the size of the block purchased and other factors.
The Fund invests, and may in the future invest, in I-Shares which represent
an indirect investment in MLP i-units. While not precise, the price of I-Shares
and their volatility tend to be correlated to the price of common units.
I-Shares are subject to the same risks as MLP common units.
LEVERAGE RISK
The Fund may borrow an amount up to 33-1/3% (or such other percentage to
the extent permitted by the 1940 Act) of its Managed Assets (including the
amount borrowed) less all liabilities other than borrowings. The Fund may also
issue Preferred Shares in an amount up to 50% of the Fund's Managed Assets
(including the proceeds of the Preferred Shares and any borrowings). As of
October 8, 2008, the principal amount of the Series B Notes and Borrowings under
the Credit Facility represented approximately 29% of the Fund's Managed Assets.
As of October 8, 2008, the Fund had $40.35 million of unutilized funds available
for Borrowing under the Credit Facility. Such Borrowings and the issuance of
Preferred Shares are referred to in this prospectus collectively as "leverage."
-47-
The successful use of leverage depends on the Sub-Adviser's ability to predict
or hedge correctly interest rate and market movements. Although the use of
leverage by the Fund may create an opportunity for increased returns for the
common shares, it also results in additional risks and can magnify the effect of
any losses. If the income and gains earned on the securities and investments
purchased with leverage proceeds are greater than the cost of the leverage, the
common shares' return will be greater than if leverage had not been used.
Conversely, if the income or gains from the securities and investments purchased
with such proceeds does not cover the cost of leverage, the return to the Common
Shares will be less than if leverage had not been used. There is no assurance
that a leveraging strategy will continue to be used or will be successful.
Leverage involves risks and special considerations for common shareholders
including:
o the likelihood of greater volatility of net asset value and market
price of the common shares than a comparable portfolio without
leverage;
o the risk that fluctuations in interest rates on borrowings and
short-term debt or in the dividend rates on any Preferred Shares that
the Fund may pay will reduce the return to the common shareholders or
will result in fluctuations in the dividends paid on the common shares;
o the effect of leverage in a declining market, which is likely to cause
a greater decline in the net asset value of the common shares than if
the Fund were not leveraged, which may result in a greater decline in
the market price of the common shares; and
o when the Fund uses financial leverage, the investment advisory fee
payable to the Adviser, and the sub-advisory fee payable by the Adviser
to the Sub-Adviser, will be higher than if the Fund did not use
leverage.
The issuance of Leverage Instruments by the Fund, in addition to the Series
B Notes and Borrowings under the Credit Facility, would involve offering
expenses and other costs, including interest or dividend payments, which would
be borne indirectly by the common shareholders. Increased operating costs,
including the financing cost associated with any leverage, may reduce the Fund's
total return.
The Board of Trustees, in its judgment, nevertheless may determine to
continue to use leverage if it expects that the benefits to the Fund's common
shareholders of maintaining the leveraged position will outweigh the current
reduced return.
The funds borrowed pursuant to a borrowing program (such as a credit line
or commercial paper program), or obtained through the issuance of Preferred
Shares, constitute a substantial lien and burden by reason of their prior claim
against the income of the Fund and against the net assets of the Fund in
liquidation. The rights of lenders to receive payments of interest on and
repayments of principal of any borrowings made by the Fund under a borrowing
program are senior to the rights of holders of common shares and the holders of
Preferred Shares, with respect to the payment of dividends or upon liquidation.
The Fund may not be permitted to declare dividends or other distributions,
including dividends and distributions with respect to common shares or Preferred
Shares or purchase common shares or Preferred Shares unless at the time thereof,
the Fund meets certain asset coverage requirements and no event of default
exists under any borrowing program. In addition, the Fund may not be permitted
to pay dividends on common shares unless all dividends on the Preferred Shares
and/or accrued interest on borrowings have been paid, or set aside for payment.
In an event of default under a borrowing program, the lenders have the right to
cause a liquidation of collateral (i.e., sell MLP units and other assets of the
Fund) and, if any such default is not cured, the lenders may be able to control
the liquidation as well. Certain types of leverage may result in the Fund being
subject to covenants relating to asset coverage and the Fund's portfolio
composition and may impose special restrictions on the Fund's use of various
investment techniques or strategies or in its ability to pay dividends and other
distributions on common shares in certain instances. The Fund may be subject to
certain restrictions on investments imposed by guidelines of one or more rating
agencies, which may issue ratings for the Preferred Shares or other leverage
securities issued by the Fund. These guidelines may impose asset coverage or
Fund composition requirements that are more stringent than those imposed by the
1940 Act. The Sub-Adviser does not believe that these covenants or guidelines
-48-
will impede it from managing the Fund's portfolio in accordance with the Fund's
investment objective and policies. The terms of the Notes provide that in the
event the Fund fails to satisfy certain asset coverage tests, the Fund is
required to redeem Notes in an amount necessary to allow the Fund, after giving
effect to such redemption, to satisfy such asset coverage tests.
While the Fund may from time to time consider reducing leverage in response
to actual or anticipated changes in interest rates in an effort to mitigate the
increased volatility of current income and net asset value associated with
leverage, there can be no assurance that the Fund will actually reduce leverage
in the future or that any reduction, if undertaken, will benefit the common
shareholders. Changes in the future direction of interest rates are very
difficult to predict accurately. If the Fund were to reduce leverage based on a
prediction about future changes to interest rates, and that prediction turned
out to be incorrect, the reduction in leverage would likely operate to reduce
the income and/or total returns to common shareholders relative to the
circumstance if the Fund had not reduced leverage. The Fund may decide that this
risk outweighs the likelihood of achieving the desired reduction to volatility
in income and common share price if the prediction were to turn out to be
correct, and determine not to reduce leverage as described above.
In addition, recent problems in the credit market have adversely impacted
borrowing costs. Borrowing costs in auction rate markets, including the markets
for the Series B Notes, have become subject to greater volatility and
uncertainty, which has resulted in auctions in which sufficient clearing bids
are not made. In the event sufficient clearing bids are not made, which has been
the case for the Series B Notes as of February, 2008, the interest rate for the
Series B Notes is set at the maximum rate as determined by the terms of the
Series B Notes, which as been 200% (and could be up to 300%, depending on the
ratings of the Series B Notes) of the greater of: (i) the applicable Treasury
Index rate or (ii) the applicable LIBOR. These market developments have
increased, and may continue to increase, the financing costs of the Fund.
Because common shareholders indirectly bear the cost of leverage, an increase in
interest and dividend obligations on the Fund's Financial Leverage may reduce
the total return to common shareholders.
During the recent downturn in the equity markets, the Fund violated the
asset coverage covenants in the Credit Facility resulting in an event of default
thereunder. Under the terms of the Credit Facility, upon an event of default the
lender has the right to require the immediate payment of all amounts outstanding
under the Credit Facility and to charge interest at a higher rate from the time
of such event of default until waived. In response, the Fund sold assets and
reduced the amount of Borrowings under the Credit Facility. The lender under the
Credit Facility has waived such event of default. There is no assurance that the
Fund will not violate such covenants in the future. In such event, the Fund may
be required to repay all outstanding Borrowings immediately. In order to repay
such amounts the Fund may be required to sell assets quickly which could have a
material adverse effect on the Fund and could trigger negative tax implications.
In addition, the Fund would be precluded from declaring or paying any
distribution on the common shares during the continuance of such event of
default.
It is possible that the Fund will be unable to obtain additional Financial
Leverage. The capital and credit markets have been experiencing extreme
volatility and disruption for more than twelve months. In recent weeks, the
volatility and disruption have reached unprecedented levels and has generally
reduced the availability of credit. The availability of Financial Leverage will
depend on a variety of factors, such as market conditions, the general
availability of credit, the volume of trading activities, the overall
availability of credit to the closed-end management investment companies, the
Fund's credit ratings and credit capacity, the Fund's asset class, as well as
the possibility that lenders could develop a negative perception of the Fund's
long- or short-term financial prospects if the Fund incurs large investment
losses due to a market downturn. Similarly, the Fund's access to Financial
Leverage may be impaired if regulatory authorities or rating agencies take
negative actions against the Fund. The Fund may not be able to successfully
obtain additional Financial Leverage on favorable terms, or at all. In the
current economic environment, it has become more difficult for borrowers,
including the Fund, to find third parties willing to extend credit or purchase
securities that would constitute Financial Leverage. If the Fund is unable to
-49-
increase Financial Leverage after the issuance of additional Common Shares
pursuant to this prospectus, there could be an adverse impact on the return to
common shareholders.
Restrictive Covenants and 1940 Act Restrictions. With respect to a
borrowing program instituted by the Fund, the credit agreements governing such a
program, including the Credit Agreement, includes usual and customary covenants
for this type of transaction, including, but not limited to, limits on the
Fund's ability to: (i) issue Preferred Shares; (ii) incur liens or pledge
portfolio securities or investments; (iii) change its investment objective or
fundamental investment restrictions without the approval of lenders; (iv) make
changes in any of its business objectives, purposes or operations that could
result in a material adverse effect; (v) make any changes in its capital
structure; (vi) amend the Fund documents in a manner which could adversely
affect the rights, interests or obligations of any of the lenders; (vii) engage
in any business other than the business currently engaged in; (viii) create,
incur, assume or permit to exist certain debt except for certain specific types
of debt; and (ix) permit any of its Employee Retirement Income Security Act
("ERISA") affiliates to cause or permit to occur an event that could result in
the imposition of a lien under the Internal Revenue Code or ERISA. In addition,
the Credit Agreement does not permit the Fund's asset coverage ratio (as defined
in the Credit Agreement) to fall below 300% at any time.
Under the requirements of the 1940 Act, the Fund must have asset coverage
of at least 300% immediately after any borrowing, including borrowing under any
borrowing program the Fund implements. For this purpose, asset coverage means
the ratio which the value of the total assets of the Fund, less liabilities and
indebtedness not represented by senior securities, bears to the aggregate amount
of borrowings represented by senior securities issued by the Fund. The Credit
Agreement limits the Fund's ability to pay dividends or make other distributions
on the Fund's common shares unless the Fund complies with the Credit Agreement's
300% asset coverage test. In addition, the Credit Agreement does not permit the
Fund to declare dividends or other distributions or purchase or redeem common
shares or Preferred Shares: (i) at any time that any event of default under the
Credit Agreement has occurred and is continuing; or (ii) if, after giving effect
to such declaration, the Fund would not meet the 300% asset coverage test set
forth in the Credit Agreement. To the extent necessary, the Fund intends to
repay indebtedness to maintain the required asset coverage. Doing so may require
the Fund to liquidate portfolio securities at a time when it would not otherwise
be desirable to do so.
DERIVATIVES RISK
Strategic Transactions have risks, including the imperfect correlation
between the value of such instruments and the underlying assets, the possible
default of the other party to the transaction or illiquidity of the derivative
investments. Furthermore, the ability to successfully use Strategic Transactions
depends on the Sub-Adviser's ability to predict pertinent market movements,
which cannot be assured. Thus, the use of Strategic Transactions may result in
losses greater than if they had not been used, may require the Fund to sell or
purchase portfolio securities at inopportune times or for prices other than
current market values, may limit the amount of appreciation the Fund can realize
on an investment or may cause the Fund to hold a security that it might
otherwise sell. Additionally, amounts paid by the Fund as premiums and cash or
other assets held in margin accounts with respect to Strategic Transactions are
not otherwise available to the Fund for investment purposes.
There are several risks associated with transactions in options on
securities. For example, there are significant differences between the
securities and options markets that could result in an imperfect correlation
between these markets, causing a given transaction not to achieve its
objectives. A decision as to whether, when and how to use options involves the
exercise of skill and judgment, and even a well-conceived transaction may be
unsuccessful to some degree because of market behavior or unexpected events. As
the writer of a covered call option, the Fund forgoes, during the option's life,
the opportunity to profit from increases in the market value of the security
covering the call option above the sum of the premium and the strike price of
the call but has retained the risk of loss should the price of the underlying
security decline. The writer of an option has no control over the time when it
may be required to fulfill its obligation as a writer of the option. Once an
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option writer has received an exercise notice, it cannot effect a closing
purchase transaction in order to terminate its obligation under the option and
must deliver the underlying security at the exercise price.
There are several risks associated with the use of futures contracts and
futures options. The purchase or sale of a futures contract may result in losses
in excess of the amount invested in the futures contract. While the Fund may
enter into futures contracts and options on futures contracts for hedging
purposes, the use of futures contracts and options on futures contracts might
result in a poorer overall performance for the Fund than if it had not engaged
in any such transactions. There may be an imperfect correlation between the
Fund's portfolio holdings and futures contracts or options on futures contracts
entered into by the Fund, which may prevent the Fund from achieving the intended
hedge or expose the Fund to risk of loss. The degree of imperfection of
correlation depends on circumstances such as variations in market demand for
futures, options on futures and their related securities, including technical
influences in futures and futures options trading, and differences between the
securities markets and the securities underlying the standard contracts
available for trading. Further, the Fund's use of futures contracts and options
on futures contracts to reduce risk involves costs and will be subject to the
Sub-Adviser's ability to predict correctly changes in interest rate
relationships or other factors.
Depending on whether the Fund would be entitled to receive net payments
from the counterparty on a swap or cap, which in turn would depend on the
general state of short-term interest rates at that point in time, a default by a
counterparty could negatively impact the performance of the common shares. In
addition, at the time an interest rate or commodity swap or cap transaction
reaches its scheduled termination date, there is a risk that the Fund would not
be able to obtain a replacement transaction or that the terms of the replacement
would not be as favorable as on the expiring transaction. If this occurs, it
could have a negative impact on the performance of the common shares. If the
Fund fails to maintain any required asset coverage ratios in connection with any
use by the Fund of Financial Leverage, the Fund may be required to redeem or
prepay some or all of the Financial Leverage. Such redemption or prepayment
would likely result in the Fund seeking to terminate early all or a portion of
any swap or cap transactions. Early termination of a swap could result in a
termination payment by or to the Fund. Early termination of a cap could result
in a termination payment to the Fund. The Fund intends to maintain, in a
segregated account, cash or liquid securities having a value at least equal to
the Fund's net payment obligations under any swap transaction, marked to market
daily. The Fund will not enter into interest rate swap or cap transactions
having a notional amount that exceeds the outstanding amount of the Fund's
leverage.
The Fund may enter into currency exchange transactions to hedge the Fund's
exposure to foreign currency exchange rate risk to the extent the Fund invests
in non-U.S. dollar denominated securities of non-U.S. issuers. The Fund's
currency transactions will be limited to portfolio hedging involving portfolio
positions. Portfolio hedging is the use of a forward contract with respect to a
portfolio security position denominated or quoted in a particular currency. A
forward contract is an agreement to purchase or sell a specified currency at a
specified future date (or within a specified time period) and price set at the
time of the contract. Forward contracts are usually entered into with banks,
foreign exchange dealers or broker-dealers, are not exchange-traded, and are
usually for less than one year, but may be renewed.
At the maturity of a forward contract to deliver a particular currency, the
Fund may either sell the portfolio security related to such contract and make
delivery of the currency, or it may retain the security and either acquire the
currency on the spot market or terminate its contractual obligation to deliver
the currency by purchasing an offsetting contract with the same currency trader
obligating it to purchase on the same maturity date the same amount of the
currency.
It is impossible to forecast with absolute precision the market value of
portfolio securities at the expiration of a forward contract. Accordingly, it
may be necessary for the Fund to purchase additional currency on the spot market
(and bear the expense of such purchase) if the market value of the security is
less than the amount of currency that the Fund is obligated to deliver and if a
decision is made to sell the security and make delivery of the currency.
Conversely, it may be necessary to sell on the spot market some of the currency
received upon the sale of the portfolio security if its market value exceeds the
amount of currency the Fund is obligated to deliver.
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If the Fund retains the portfolio security and engages in an offsetting
transaction, the Fund will incur a gain or a loss to the extent that there has
been movement in forward contract prices. If the Fund engages in an offsetting
transaction, it may subsequently enter into a new forward contract to sell the
currency. Should forward prices decline during the period between the Fund's
entering into a forward contract for the sale of a currency and the date it
enters into an offsetting contract for the purchase of the currency, the Fund
will realize a gain to the extent the price of the currency it has agreed to
sell exceeds the price of the currency it has agreed to purchase. Should forward
prices increase, the Fund will suffer a loss to the extent the price of the
currency it has agreed to purchase exceeds the price of the currency it has
agreed to sell. A default on the contract would deprive the Fund of unrealized
profits or force the Fund to cover its commitments for purchase or sale of
currency, if any, at the current market price.
Hedging against a decline in the value of a currency does not eliminate
fluctuations in the prices of portfolio securities or prevent losses if the
prices of such securities decline. Such transactions also preclude the
opportunity for gain if the value of the hedged currency should rise. Moreover,
it may not be possible for the Fund to hedge against a devaluation that is so
generally anticipated that the Fund is not able to contract to sell the currency
at a price above the devaluation level it anticipates. The cost to the Fund of
engaging in currency exchange transactions varies with such factors as the
currency involved, the length of the contract period, and prevailing market
conditions. Since currency exchange transactions are usually conducted on a
principal basis, no fees or commissions are involved.
The use of interest rate and commodity swaps and caps is a highly
specialized activity that involves investment techniques and risks different
from those associated with ordinary portfolio security transactions. Depending
on market conditions in general, the Fund's use of swaps or caps could enhance
or harm the overall performance of the common shares. For example, the Fund may
utilize interest rate swaps and caps in connection with the Fund's use of
Financial Leverage. To the extent there is a decline in interest rates, the
value of the interest rate swap or cap could decline, and could result in a
decline in the net asset value of the common shares. In addition, if short-term
interest rates are lower than the Fund's fixed rate of payment on the interest
rate swap, the swap will reduce common share net earnings. If, on the other
hand, short-term interest rates are higher than the fixed rate of payment on the
interest rate swap, the swap will enhance common share net earnings. Buying
interest rate caps could enhance the performance of the common shares by
providing a maximum leverage expense. Buying interest rate caps could also
decrease the net earnings of the common shares in the event that the premium
paid by the Fund to the counterparty exceeds the additional amount the Fund
would have been required to pay had it not entered into the cap agreement. The
Fund has no current intention of selling an interest rate swap but is expected
to enter into an interest rate cap.
Interest rate and commodity swaps and caps do not involve the delivery of
securities or other underlying assets or principal. Accordingly, the risk of
loss with respect to interest rate and commodity swaps is limited to the net
amount of interest payments that the Fund is contractually obligated to make. If
the counterparty defaults, the Fund would not be able to use the anticipated net
receipts under the swap or cap to offset any declines in the value of the Fund's
portfolio assets being hedged or the increase in the Fund's cost of Financial
Leverage. Depending on whether the Fund would be entitled to receive net
payments from the counterparty on the swap or cap, which in turn would depend on
the general state of the market rates at that point in time, such a default
could negatively impact the performance of the common shares.
PORTFOLIO TURNOVER RISK
The Fund's annual portfolio turnover rate may vary greatly from year to
year. Although the Fund cannot accurately predict its annual portfolio turnover
rate, it is not expected to exceed 30% under normal circumstances, but may be
higher or lower in certain periods. For the fiscal year ended November 30, 2007,
portfolio turnover was approximately 16%. For the six months ended May 31, 2008,
portfolio turnover was approximately 28%. Portfolio turnover rate is not
considered a limiting factor in the execution of investment decisions for the
Fund. High portfolio turnover may result in the Fund's recognition of gains that
will be taxable as ordinary income to the Fund. A high portfolio turnover may
increase the Fund's current and accumulated earnings and profits, resulting in a
greater portion of the Fund's distributions being treated as a dividend to the
Fund's common shareholders. In addition, a higher portfolio turnover rate
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results in correspondingly greater brokerage commissions and other transactional
expenses that are borne by the Fund. See "The Fund's Investments--Investment
Practices - Portfolio Turnover" and "Tax Matters."
RESTRICTED SECURITIES
The Fund invests, and may in the future invest, in unregistered or
otherwise restricted securities. The term "restricted securities" refers to
securities that have not been registered under the 1933 Act or are held by
control persons of the issuer and securities that are subject to contractual
restrictions on their resale. As a result, restricted securities may be more
difficult to value and the Fund may have difficulty disposing of such assets
either in a timely manner or for a reasonable price. Absent an exemption from
registration, the Fund will be required to hold the securities until they are
registered by the issuer. In order to dispose of an unregistered security, the
Fund, where it has contractual rights to do so, may have to cause such security
to be registered. A considerable period may elapse between the time the decision
is made to sell the security and the time the security is registered so that the
Fund could sell it. Contractual restrictions on the resale of securities vary in
length and scope and are generally the result of a negotiation between the
issuer and acquiror of the securities. The Fund would, in either case, bear
market risks during that period.
LIQUIDITY RISK
Although common units of MLPs, I-Shares of MLP-related entities and common
stocks of certain energy companies trade on the NYSE, AMEX and The NASDAQ Stock
Market, certain securities may trade less frequently, particularly those with
smaller capitalizations. Securities with limited trading volumes may display
volatile or erratic price movements. Larger purchases or sales of these
securities by the Fund in a short period of time may result in abnormal
movements in the market price of these securities. This may affect the timing or
size of Fund transactions and may limit the Fund's ability to make alternative
investments.
If the Fund requires significant amounts of cash on short notice in excess
of normal cash requirements or is required to post or return collateral in
connection with the Fund's investment portfolio, derivatives transactions or
leverage restrictions, the Fund may have difficulty selling these investments in
a timely manner, be forced to sell them for less than the Fund otherwise would
have been able to realize, or both. The reported value of some of the Fund's
relatively illiquid types of investments and, at times, the Fund's high quality,
generally liquid asset classes, may not necessarily reflect the lowest current
market price for the asset. If the Fund was forced to sell certain of its assets
in the current market, there can be no assurance that the Fund will be able to
sell them for the prices at which the Fund has recorded them and the Fund may be
forced to sell them at significantly lower prices.
VALUATION RISK
Market prices may not be readily available for subordinated units, direct
ownership of general partner interests, restricted securities or unregistered
securities of certain MLPs, MLP-related entities or private companies, and the
value of such investments will ordinarily be determined based on fair valuations
determined pursuant to procedures adopted by the Board of Trustees. The value of
these securities typically requires more reliance on the judgment of the
Sub-Adviser than that required for securities for which there is an active
trading market. In addition, the Fund will rely to some extent on information
provided by the MLPs, which is usually not timely, to estimate taxable income
allocable to the MLP units held in the Fund's portfolio and to estimate
associated deferred tax liability for purposes of financial statement reporting
and determining the Fund's net asset value. From time to time the Fund will
modify its estimates and/or assumptions regarding its deferred tax liability as
new information becomes available. To the extent the Fund modifies its estimates
and/or assumptions, the net asset value of the Fund would likely fluctuate. See
"Net Asset Value."
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INTEREST RATE RISK
Interest rate risk is the risk that equity and debt securities will decline
in value because of changes in market interest rates. The Fund's investment in
such securities means that the net asset value and market price of the common
shares will tend to decline if market interest rates rise. Interest rates are at
or near historic lows, and as a result, they are likely to rise over time.
Certain debt instruments, particularly below investment grade securities, may
contain call or redemption provisions which would allow the issuer thereof to
prepay principal prior to the debt instrument's stated maturity. This is known
as prepayment risk. Prepayment risk is greater during a falling interest rate
environment as issuers can reduce their cost of capital by refinancing higher
yielding debt instruments with lower yielding debt instruments. An issuer may
also elect to refinance their debt instruments with lower yielding debt
instruments if the credit standing of the issuer improves. To the extent the
Fund's debt securities are called or redeemed, the Fund may be forced to
reinvest in lower yielding securities.
BELOW INVESTMENT GRADE SECURITIES RISK
Below investment grade securities are rated "Ba1" or lower by Moody's,
"BB+" or lower by S&P, or comparably rated by another NRSRO or, if unrated,
determined to be of comparable quality by the Sub-Adviser. As of September 30,
2008, the Fund did not invest in any below investment grade securities. Below
investment grade securities, also sometimes referred to as "junk bonds,"
generally pay a premium above the yields of U.S. government securities or debt
securities of investment grade issuers because they are subject to greater risks
than these securities. These risks, which reflect their speculative character,
include the following:
o greater yield and price volatility;
o greater credit risk and risk of default;
o potentially greater sensitivity to general economic or industry
conditions;
o potential lack of attractive resale opportunities (illiquidity); and
o additional expenses to seek recovery from issuers who default.
In addition, the prices of these below investment grade securities are more
sensitive to negative developments, such as a decline in the issuer's revenues,
downturns in profitability in the energy industry or a general economic
downturn, than are the prices of higher grade securities. Below investment grade
securities tend to be less liquid than investment grade securities and the
market for below investment grade securities could contract further under
adverse market or economic conditions. In such a scenario, it may be more
difficult for the Fund to sell these securities in a timely manner or for as
high a price as could be realized if such securities were more widely traded.
The market value of below investment grade securities may be more volatile than
the market value of investment grade securities and generally tends to reflect
the market's perception of the creditworthiness of the issuer and short-term
market developments to a greater extent than investment grade securities, which
primarily reflect fluctuations in general levels of interest rates. In the event
of a default by a below investment grade security held in the Fund's portfolio
in the payment of principal or interest, the Fund may incur additional expense
to the extent it is required to seek recovery of such principal or interest.
Ratings are relative and subjective and not absolute standards of quality.
Securities ratings are based largely on an issuer's historical financial
condition and the rating agencies' analyses at the time of rating. Consequently,
the rating assigned to any particular security or instrument is not necessarily
a reflection of an issuer's current financial condition. Subsequent to its
purchase by the Fund, the security or instrument may cease to be rated or its
rating may be reduced. In addition, it is possible that NRSROs might not change
their ratings of a particular security or instrument to reflect subsequent
events on a timely basis. Moreover, such ratings do not assess the risk of a
decline in market value. None of these events will require the sale of such
-54-
securities or instruments by the Fund, although the Sub-Adviser will consider
these events in determining whether the Fund should continue to hold the
securities.
The market for below investment grade and comparable unrated securities has
experienced periods of significantly adverse price and liquidity several times,
particularly at or around times of economic recession. Past market recessions
have adversely affected the value of such securities as well as the ability of
certain issuers of such securities to repay principal and pay interest thereon
or to refinance such securities. The market for these securities may react in a
similar fashion in the future.
For a further description of below investment grade securities and the
risks associated therewith, see "Other Investment Policies and Techniques" in
the SAI. For a description of the ratings categories of certain NRSROs, see
Appendix A to the SAI.
NON-DIVERSIFICATION
The Fund is a non-diversified, closed-end management investment company
under the 1940 Act and will not be treated as a regulated investment company
under the Internal Revenue Code. Accordingly, there are no regulatory
requirements under the 1940 Act or the Internal Revenue Code on the minimum
number or size of securities held by the Fund. There currently are approximately
seventy-three (73) publicly traded MLPs, approximately 80% of which operate
energy assets. The Fund intends to select its MLP investments from this small
pool of issuers. The Fund may invest in securities of MLP-related entities and
non-MLP securities issued by energy companies, consistent with its investment
objective and policies. As of August 31, 2008, the Fund held investments in
thirty-five (35) issuers.
MARKET DISRUPTION RISK
The terrorist attacks in the United States on September 11, 2001 had a
disruptive effect on the securities markets. U.S. military and related action in
Iraq is ongoing and events in the Middle East could have significant adverse
effects on the U.S. economy and the stock market. The Fund cannot predict the
effects of similar events in the future on the U.S. economy.
ANTI-TAKEOVER PROVISIONS
The Fund's Declaration includes provisions that could limit the ability of
other entities or persons to acquire control of the Fund or convert the Fund to
open-end status. These provisions could have the effect of depriving the common
shareholders of opportunities to sell their common shares at a premium over the
then current market price of the common shares. See "Certain Provisions in the
Declaration of Trust and By-Laws."
COMPETITION RISK
There exist other alternatives to the Fund as a vehicle for investment in a
portfolio of MLPs, including other publicly traded investment companies and
private funds. In addition, recent tax law changes or future tax law changes may
increase the ability of regulated investment companies or other institutions to
invest in MLPs. Because of the limited number of MLP issuers, these competitive
conditions may adversely impact the Fund's ability to make investments in the
MLP market and could adversely impact the Fund's distributions to common
shareholders.
POTENTIAL TAX CHANGES
In addition to the specific tax risks and matters discussed elsewhere in
this prospectus, the President of the United States has indicated a desire to
overhaul the Internal Revenue Code and has convened a panel of experts to
receive testimony toward that end. The Fund has no way of knowing whether such
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an overhaul of the Internal Revenue Code might occur or, if enacted, what effect
such an overhaul might have on the Fund's common shareholders or the MLPs and
MLP-related entities in which the Fund invests.
MARKET DISCOUNT FROM NET ASSET VALUE
The Fund's common shares have a limited trading history and have traded
both at a premium and at a discount relative to net asset value. There is no
assurance that any premium of the public offering price for the Common Shares in
any offering made hereby will continue after such offering or that the common
shares will not again trade at a discount. Shares of closed-end investment
companies frequently trade at a discount from their net asset value. This
characteristic is a risk separate and distinct from the risk that the Fund's net
asset value could decrease as a result of its investment activities and may be
greater for investors expecting to sell their Common Shares in a relatively
short period following completion of this offering. Although the value of the
Fund's net assets is generally considered by market participants in determining
whether to purchase or sell shares, whether investors will realize gains or
losses upon the sale of the common shares will depend entirely upon whether the
market price of the common shares at the time of sale is above or below the
investor's purchase price for the common shares. Because the market price of the
common shares will be affected by factors such as net asset value, dividend or
distribution levels (which are dependent, in part, on expenses), supply of and
demand for the common shares, stability of dividends or distributions, trading
volume of the common shares, general market and economic conditions, and other
factors beyond the control of the Fund, the Fund cannot predict whether the
Common Shares will trade at, below or above net asset value or at, below or
above the price at which shares may be offered in any offering pursuant to this
prospectus.
INFLATION RISK
Inflation risk is the risk that the value of assets or income from
investment will be worth less in the future as inflation decreases the value of
money. As inflation increases, the real value of the common shares and
distributions can decline.
CERTAIN AFFILIATIONS
Certain broker-dealers may be considered to be affiliated persons of the
Fund, First Trust Advisors or Energy Income Partners. Absent an exemption from
the SEC or other regulatory relief, the Fund is generally precluded from
effecting certain principal transactions with affiliated brokers, and its
ability to utilize affiliated brokers for agency transactions, is subject to
restrictions. This could limit the Fund's ability to engage in securities
transactions and take advantage of market opportunities. In addition, until the
underwriting syndicate is broken in connection with any public offering of the
Common Shares offered by this prospectus, the Fund will be precluded from
effecting principal transactions with brokers who are members of the syndicate.
MANAGEMENT OF THE FUND
TRUSTEES AND OFFICERS
The Board of Trustees is responsible for the general supervision of the
duties performed by the Adviser and the Sub-Adviser. The names and business
addresses of the trustees and officers of the Fund and their principal
occupations and other affiliations during the past five years are set forth
under "Management of the Fund" in the SAI.
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INVESTMENT ADVISER
First Trust Advisors, 1001 Warrenville Road, Suite 300, Lisle, Illinois
60532, is the investment adviser to the Fund and is responsible for supervising
the Sub-Adviser. First Trust Advisors serves as investment adviser or portfolio
supervisor to investment portfolios with approximately $26 billion in assets
which it managed or supervised as of September 30, 2008. On or about November 1,
2008, the principal offices of First Trust Advisors will be 120 East Liberty
Drive, Wheaton, Illinois 60187.
First Trust Advisors is also responsible for the ongoing monitoring of the
Fund's investment portfolio, managing the Fund's business affairs and providing
certain clerical, bookkeeping and other administrative services.
First Trust Advisors is an Illinois limited partnership formed in 1991 and
an investment adviser registered with the SEC under the Investment Advisers Act
of 1940, as amended. First Trust Advisors is a limited partnership with one
limited partner, Grace Partners of DuPage L.P. ("Grace Partners"), and one
general partner, The Charger Corporation. Grace Partners is a limited
partnership with one general partner, The Charger Corporation, and a number of
limited partners. Grace Partners' and The Charger Corporation's primary business
is investment advisory and broker/dealer services through their interests. The
Charger Corporation is an Illinois corporation controlled by the Robert Donald
Van Kampen family. First Trust Advisors is controlled by Grace Partners and The
Charger Corporation.
For additional information concerning First Trust Advisors, including a
description of the services provided, see the SAI under "Investment Adviser."
SUB-ADVISER
Energy Income Partners serves as the Fund's Sub-Adviser. In this capacity,
Energy Income Partners is responsible for the selection and on-going monitoring
of the securities in the Fund's investment portfolio.
Energy Income Partners, located at 49 Riverside Avenue, Westport,
Connecticut 06880, is a registered investment adviser and serves as investment
adviser to investment portfolios with approximately $505 million of assets as of
September 30, 2008.
Energy Income Partners is a Delaware limited liability company and an
SEC-registered investment adviser, founded in October 2003 by James J. Murchie
to provide professional asset management services in the area of energy related
MLPs and other high payout securities in the energy sector. In addition to
serving as sub-adviser to the Fund, Energy Income Partners serves as the
investment manager to three unregistered investment companies and one private
registered investment company for high net worth individuals and institutions.
Energy Income Partners mainly focuses on portfolio companies that operate
infrastructure assets such as pipelines, storage and terminals that receive
fee-based or regulated income from their customers.
Energy Income Partners currently has a staff of seven persons. Energy
Income Partners is a member of the Ospraie Wingspan platform which is comprised
of a group of independent fund managers in the basic industries and commodities
sectors. Ospraie Management, LLC ("Ospraie Management") is the investment
manager of Ospraie Wingspan and other investment funds advised by Ospraie
Management with approximately $2 billion in assets under management. The
relationship with Ospraie Wingspan enhances Energy Income Partner's access to
industry and company investment research. Lehman Brothers owns a 20% interest in
Ospraie Management.
James J. Murchie is the Founder, Chief Executive Officer, co-portfolio
manager and a Principal of Energy Income Partners. After founding Energy Income
Partners in October 2003, Mr. Murchie and the Energy Income Partners investment
team joined Pequot Capital Management Inc. ("Pequot Capital") in December 2004.
In August 2006, Mr. Murchie and the Energy Income Partners investment team left
Pequot Capital and re-established Energy Income Partners. Prior to founding
Energy Income Partners, Mr. Murchie was a Portfolio Manager at Lawhill Capital
Partners, LLC ("Lawhill Capital"), a long/short equity hedge fund investing in
commodities and equities in the energy and basic industry sectors. Before
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Lawhill Capital, Mr. Murchie was a Managing Director at Tiger Management, LLC,
where his primary responsibility was managing a portfolio of investments in
commodities and related equities. Mr. Murchie was also a Principal at Sanford C.
Bernstein. He began his career at British Petroleum, PLC. Mr. Murchie holds a BA
from Rice University and an MA from Harvard University.
Eva Pao is a Principal of Energy Income Partners and is co-portfolio
manager for all its funds. She has been with EIP since inception in 2003. From
2005 to mid-2006, Ms. Pao joined Pequot Capital Management during EIP's
affiliation with Pequot. Prior to Harvard Business School, Ms. Pao was a Manager
at Enron Corp where she managed a portfolio in Canadian oil and gas equities for
Enron's internal hedge fund that specialized in energy-related equities and
managed a natural gas trading book. Ms. Pao holds degrees from Rice University
and Harvard Business School.
Linda Longville is the Research Director and a Principal of Energy Income
Partners. Ms. Longville has been with Energy Income Partners since its inception
in 2003, including the time the Energy Income Partners investment team spent at
Pequot Capital between December 2004 and July 2006. From April 2001 through
September 2003, she was a research analyst for Lawhill Capital. Prior to Lawhill
Capital, Ms. Longville held positions in finance and business development at
British Petroleum, PLC and Advanced Satellite Communications, Inc. She has a BAS
from Miami University (Ohio) and an MA from Case Western Reserve University.
Saul Ballesteros is the Head of Trading and a Principal of Energy Income
Partners. Mr. Ballesteros joined Energy Income Partners in 2006 after six years
as a proprietary trader at FPL Group and Mirant Corp. From 1994 through 1999, he
was with Enron's internal hedge fund in various positions of increased
responsibility, and, from 1991 through 1994, Mr. Ballesteros was a manager of
financial planning at IBM. Mr. Ballesteros holds a BS from Duke University and
an MBA from Northwestern University.
For additional information concerning Energy Income Partners, including a
description of the services provided and additional information about the Fund's
portfolio managers, including the portfolio managers' compensation, other
accounts managed by the portfolio managers and the portfolio managers' ownership
of Fund shares, see "Sub-Adviser" in the SAI.
INVESTMENT MANAGEMENT AGREEMENT
Pursuant to an investment management agreement (the "Investment Management
Agreement") between First Trust Advisors and the Fund, the Fund has agreed to
pay for the services and facilities provided by First Trust Advisors an annual
management fee, payable on a monthly basis, equal to 1.00% of the Fund's Managed
Assets.
For purposes of calculation of the management fee, the Fund's "Managed
Assets" means the average daily gross asset value of the Fund (which includes
assets attributable to the Fund's Preferred Shares, if any, and the principal
amount of Borrowings), minus the sum of the Fund's accrued and unpaid dividends
on any outstanding Preferred Shares and accrued liabilities (other than the
principal amount of any Borrowings incurred and the liquidation preference of
any outstanding Preferred Shares).
In addition to the management fee of First Trust Advisors, the Fund pays
all other costs and expenses of its operations, including compensation of its
trustees (other than those affiliated with First Trust Advisors), custodian,
transfer agency, administrative, accounting and dividend disbursing expenses,
legal fees, leverage expenses, expenses of independent auditors, expenses of
repurchasing shares, expenses of preparing, printing and distributing
shareholder reports, notices, proxy statements and reports to governmental
agencies, and taxes, if any.
The Sub-Adviser receives a portfolio management fee equal to 0.50% of the
Fund's Managed Assets. The Sub-Adviser's fee is paid by the Adviser out of the
Adviser's management fee.
Because the fee paid to the Adviser (and by the Adviser to the Sub-Adviser)
will be calculated on the basis of the Fund's Managed Assets, which include the
proceeds of leverage, the dollar amount of the Adviser's fees from the Fund (and
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Sub-Adviser's fees from the Adviser) will be higher (and the Adviser and
Sub-Adviser will be benefited to that extent) when leverage is utilized. In this
regard, if the Fund uses leverage in the amount equal to 29% of the Fund's
Managed Assets (after their issuance), the Fund's management fee would be 1.42%
of net assets attributable to common shares. See "Summary of Fund Expenses."
NET ASSET VALUE
The Fund determines the net asset value of its common shares daily as of
the close of regular session trading on the NYSE (normally 4:00 p.m. eastern
time). Net asset value is computed by dividing the value of all assets of the
Fund (including option premiums, accrued interest and dividends), less all Fund
liabilities (including accrued expenses, dividends payable, current and deferred
income taxes, any borrowings of the Fund and the market value of written call
options) and the liquidation value of any outstanding Preferred Shares, by the
total number of shares outstanding. The Fund will rely to some extent on
information provided by the MLPs, which is usually not timely, to estimate
taxable income allocable to the MLP units held in the Fund's portfolio and to
estimate the associated deferred tax liability. From time to time the Fund will
modify its estimates and/or assumptions regarding its deferred tax liability as
new information becomes available. To the extent the Fund modifies its estimates
and/or assumptions, the net asset value of the Fund would likely fluctuate.
For purposes of determining the net asset value of the Fund, readily
marketable portfolio securities listed on any exchange other than The Nasdaq
Stock Market are valued, except as indicated below, at the last sale price on
the business day as of which such value is being determined. If there has been
no sale on such day, the securities are valued at the mean of the most recent
bid and asked prices on such day. Securities admitted to trade on The Nasdaq
Stock Market are valued at the NASDAQ Official Closing Price as determined by
NASDAQ. Portfolio securities traded on more than one securities exchange are
valued at the last sale price on the business day as of which such value is
being determined at the close of the exchange representing the principal market
for such securities.
Equity securities traded in the over-the-counter market, but excluding
securities admitted to trading on The Nasdaq Stock Market, are valued at the
closing bid prices. Fixed income securities with a remaining maturity of 60 days
or more will be valued by the Fund using a pricing service. When price quotes
are not available, fair market value is based on prices of comparable
securities. Fixed income securities maturing within 60 days are valued by the
Fund on an amortized cost basis. The value of any portfolio security held by the
Fund for which reliable market quotations are not readily available, including
illiquid securities, or if a valuation is deemed inappropriate, will be
determined under procedures adopted by the Board of Trustees in a manner that
reflects fair market value of the security on the valuation date.
Any derivative transaction that the Fund enters into may, depending on the
applicable market environment, have a positive or negative value for purposes of
calculating net asset value. Any option transaction that the Fund enters into
may, depending on the applicable market environment, have no value or a positive
value. Exchange traded options and futures contracts are valued at the closing
price in the market where such contracts are principally traded.
DISTRIBUTIONS
The Fund intends to make quarterly distributions to common shareholders.
Fund distributions will generally consist of (i) cash or paid-in-kind
distributions from MLPs or their affiliates, interest payments received on debt
securities owned by the Fund and dividend or other payments on equity securities
owned by the Fund, less (ii) current or accrued operating expenses of the Fund,
including taxes on Fund taxable income and leverage costs. The Fund anticipates
that, due to the tax treatment under current law of cash distributions made by
MLPs in which the Fund will invest, a portion of distributions the Fund makes to
common shareholders may consist of a tax-deferred return of capital. All
realized capital gains, if any, net of applicable taxes, will be retained by the
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Fund. Unless you elect to receive cash distributions, your distributions of net
investment income will automatically be reinvested into additional common shares
pursuant to the Fund's Dividend Reinvestment Plan.
Distributions by the Fund, whether paid in cash or in additional common
shares, will be taken into account in measuring the performance of the Fund with
respect to its investment objective.
DIVIDEND REINVESTMENT PLAN
If your common shares are registered directly with the Fund or if you hold
your common shares with a brokerage firm that participates in the Fund's
Dividend Reinvestment Plan, unless you elect to receive cash distributions, all
dividends and distributions on your common shares will be automatically
reinvested by the Plan Agent, PNC Global Investment Servicing (U.S.) Inc., in
additional common shares under the Dividend Reinvestment Plan (the "Plan"). If
you elect to receive cash distributions, you will receive all distributions in
cash paid by check mailed directly to you by PNC Global Investment Servicing
(U.S.) Inc., as dividend paying agent.
You are automatically enrolled in the Plan when you become a shareholder of
the Fund. As a participant in the Plan, the number of common shares you will
receive will be determined as follows:
(1) If the common shares are trading at or above net asset value at the
time of valuation, the Fund will issue new shares at a price equal to the
greater of (i) net asset value per common share on that date or (ii) 95% of the
market price on that date.
(2) If common shares are trading below net asset value at the time of
valuation, the Plan Agent will receive the dividend or distribution in cash and
will purchase common shares in the open market, on the AMEX or elsewhere, for
the participants' accounts. It is possible that the market price for the common
shares may increase before the Plan Agent has completed its purchases.
Therefore, the average purchase price per share paid by the Plan Agent may
exceed the market price at the time of valuation, resulting in the purchase of
fewer shares than if the dividend or distribution had been paid in common shares
issued by the Fund. The Plan Agent will use all dividends and distributions
received in cash to purchase common shares in the open market within 30 days of
the valuation date except where temporary curtailment or suspension of purchases
is necessary to comply with federal securities laws. Interest will not be paid
on any uninvested cash payments.
You may elect to opt-out of or withdraw from the Plan at any time by giving
written notice to the Plan Agent, or by telephone at (800) 331-1710, in
accordance with such reasonable requirements as the Plan Agent and Fund may
agree upon. If you withdraw or the Plan is terminated, you will receive a
certificate for each whole share in your account under the Plan and you will
receive a cash payment for any fraction of a share in your account. If you wish,
the Plan Agent will sell your shares and send you the proceeds, minus brokerage
commissions.
The Plan Agent maintains all shareholders' accounts in the Plan and gives
written confirmation of all transactions in the accounts, including information
you may need for tax records. Common shares in your account will be held by the
Plan Agent in non-certificated form. The Plan Agent will forward to each
participant any proxy solicitation material and will vote any shares so held
only in accordance with proxies returned to the Fund. Any proxy you receive will
include all common shares you have received under the Plan.
There is no brokerage charge for reinvestment of your dividends or
distributions in common shares. However, all participants will pay a pro rata
share of brokerage commissions incurred by the Plan Agent when it makes open
market purchases.
Automatically reinvesting dividends and distributions does not mean that
you do not have to pay income taxes due upon receiving dividends and
distributions. See "Tax Matters."
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If you hold your common shares with a brokerage firm that does not
participate in the Plan, you will not be able to participate in the Plan and any
dividend reinvestment may be effected on different terms than those described
above. Consult your financial advisor for more information.
The Fund reserves the right to amend or terminate the Plan if in the
judgment of the Board of Trustees the change is warranted. There is no direct
service charge to participants in the Plan; however, the Fund reserves the right
to amend the Plan to include a service charge payable by the participants.
Additional information about the Plan may be obtained from PNC Global Investment
Servicing (U.S.) Inc., 301 Bellevue Parkway, Wilmington, Delaware 19809.
PLAN OF DISTRIBUTION
The Fund may offer the Common Shares offered under this prospectus using
one or more of the following methods: (i) at-the-market offerings; (ii) through
an underwriting syndicate; and (iii) through privately negotiated transactions
between the Fund and specific investors.
The Fund will bear the expenses of an offering under this prospectus,
including but not limited to, the expenses of preparing the prospectus and SAI
and the expense of counsel and auditors in connection with the offering.
Pursuant to a requirement of the FINRA, the maximum commission or discount
to be received by any FINRA member or independent broker-dealer may not be
greater than eight percent (8%) of the gross proceeds received by the Fund for
the sale of any securities being registered pursuant to SEC Rule 415 under the
Securities Act of 1933, as amended.
Distribution Through At-the-Market Offerings. An at-the-market offering is
an offering of Common Shares at other than a fixed price to or through a market
maker. The Fund has entered into an Equity Distribution Agreement with (the
"Distribution Agent"), a form of which has been filed as an exhibit to this
Registration Statement of which this prospectus is a part. The summary of the
Equity Distribution Agreement contained herein is qualified by reference to the
Equity Distribution Agreement. Subject to the terms and conditions of the Equity
Distribution Agreement, the Fund may, from time to time, offer the Common Shares
offered hereby through the Distribution Agent. The Fund's Common Shares will
only be sold on such days as shall be agreed to by the Fund and the Distribution
Agent.
The Common Shares sold through at-the-market offerings, if any will be sold
at market prices, which shall be determined with reference to trades on the
AMEX, subject to a minimum price to be established each day by the Fund. The
minimum price on any day will not be less than the current net asset value per
share plus the per share amount of the commission to be paid to the Distribution
Agent. The Fund and the Distribution Agent will suspend the sale of Common
Shares if the per share price of the shares is less than the minimum price. The
Fund will compensate the Distribution Agent with respect to sales of the Common
Shares at a commission rate of up to % of the gross sales price per share of
Common Shares sold. Settlements of Common Share sales will occur on the third
business day following the date of sale. In connection with the sale of the
Common Shares on behalf of the Fund, the Distribution Agent may be deemed to be
an underwriter within the meaning of the 1933 Act, and the compensation of the
Distribution Agent may be deemed to be underwriting commissions or discounts.
Unless otherwise indicated in a further prospectus supplement, the Distribution
Agent will act as underwriter on a reasonable efforts basis. The offering of
Common Shares pursuant to the Equity Distribution Agreement will terminate upon
the earlier of (i) the sale of all Common Shares subject thereto or (ii)
termination of the Equity Distribution Agreement. The Fund and the Distribution
Agent each have the right to terminate the Equity Distribution Agreement in its
discretion at any time, upon ten days written notice. The Fund has agreed to
indemnify the Distribution Agent against certain liabilities, including
liabilities under the 1933 Act, or to contribute to payments the underwriters
may be required to make because of any of those liabilities.
The Fund currently intends to distribute the Common Shares offered pursuant
to this prospectus primarily through at-the-market offerings, although from time
to time it may also distribute Common Shares through an underwriting syndicate
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or a privately negotiated transaction. To the extent Common Shares are
distributed other than through at-the-market offerings, the Fund will file a
supplement to this prospectus describing such transactions.
Distribution Through Underwriting Syndicates. The Fund from time to time
may issue additional Common Shares through a syndicated secondary offering. To
limit the impact on the market price of the Fund's common shares, underwriters
will market and price the offering on an expedited basis (e.g., overnight or
similarly abbreviated offering period). The Fund will launch a syndicated
offering on a day, and upon terms, mutually agreed upon between the Fund, the
Distribution Agent, one of the Fund's underwriters, and the underwriting
syndicate. The Fund will offer its Common Shares at a price equal to a specified
discount of up to % from the closing market price of the Fund's common shares on
the day prior to the offering date. The applicable discount will be negotiated
by the Fund and the Distribution Agent in consultation with the underwriting
syndicate on a transaction-by-transaction basis. The Fund will compensate the
underwriting syndicate out of the proceeds of the offering based upon a sales
load of up to
% of the gross per share offering price. The minimum net proceeds per
share to the Fund will not be less than the greater of (i) the Fund's latest net
asset value per common share or (ii) % of the closing market price of the common
shares on the day prior to the offering date.
Distribution Through Privately Negotiated Transactions. The Fund, through
the Distribution Agent, from time to time may sell directly to, and solicit
offers from, institutional and other sophisticated investors, who may be deemed
to be underwriters as defined in the 1933 Act for any resale of Common Shares.
The terms of such privately negotiated transactions will be subject to the
discretion of the management of the Fund. In determining whether to sell Common
Shares through a privately negotiated transaction, the Fund will consider
relevant factors including, but not limited to, the attractiveness of obtaining
additional funds through the sale of Common Shares, the purchase price to apply
to any such sale of Common Shares issued by the Fund through privately
negotiated transactions will be issued at a price equal to the greater of (i)
the net asset value per common share of the Fund's common shares or (ii) at a
discount ranging from % to % of the average daily closing market price of the
Fund's common shares at the close of business on the two business days preceding
the date upon which Common Shares are sold pursuant to the privately negotiated
transaction. The applicable discount will be determined by the Fund on a
transaction-by-transaction basis.
As defined below under "Corporate Finance Services and Consulting Fee,"
Wachovia Securities, LLC, as successor to A.G. Edwards, provides the corporate
finance and consulting services described below (the "Services") pursuant to an
agreement with First Trust Advisors (the "Services Agreement") and is entitled
to receive the fees (the "Service Fees") described below.
The principal business address of is .
DESCRIPTION OF SHARES
COMMON SHARES
The Declaration of Trust authorizes the issuance of an unlimited number
of common shares. The Common Shares being offered in this offering have a par
value of $0.01 per share and, subject to the rights of holders of Preferred
Shares, if any, have equal rights to the payment of dividends and the
distribution of assets upon liquidation. As of September 30, 2008, the Fund had
6,446,996 common shares outstanding. The Common Shares being offered by this
prospectus will, when issued, be fully paid and, subject to matters discussed in
"Certain Provisions in the Declaration of Trust and By-Laws," non-assessable,
and currently have no preemptive or conversion rights (except as may otherwise
be determined by the Trustees in their sole discretion) or rights to cumulative
voting.
The Fund's currently outstanding common shares are, and the Common
Shares offered in this prospectus will be, subject to notice of issuance, listed
on the AMEX under the trading or "ticker" symbol "FEN."
Unlike open-end funds, closed-end funds like the Fund do not
continuously offer shares and do not provide daily redemptions. Rather, if a
shareholder determines to buy additional common shares or sell shares already
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held, the shareholder may conveniently do so by trading on the exchange through
a broker or otherwise. Shares of closed-end investment companies may frequently
trade on an exchange at prices lower than net asset value. Shares of closed-end
investment companies like the Fund have during some periods traded at prices
higher than net asset value and during other periods have traded at prices lower
than net asset value. Because the market value of the common shares may be
influenced by such factors as dividend levels (which are in turn affected by
expenses), dividend stability, portfolio credit quality, net asset value,
relative demand for and supply of such shares in the market, general market and
economic conditions, and other factors beyond the control of the Fund, the Fund
cannot assure you that the common shares will trade at a price equal to or
higher than net asset value in the future. The common shares are designed
primarily for long-term investors, and investors in the common shares should not
view the Fund as a vehicle for trading purposes. See "Structure of the Fund;
Common Share Repurchases and Change in Fund Structure."
PREFERRED SHARES
The Declaration of Trust provides that the Fund's Board of Trustees may
authorize and issue Preferred Shares with rights as determined by the Board of
Trustees, by action of the Board of Trustees without the approval of the holders
of the common shareholders. Holders of common shares have no preemptive right to
purchase any Preferred Shares that might be issued.
The Fund may elect to issue Preferred Shares as part of its leverage
strategy. The Board of Trustees also reserves the right to issue Preferred
Shares to the extent permitted by the 1940 Act, which currently limits the
aggregate liquidation preference of all outstanding Preferred Shares to 50% of
the value of the Fund's Managed Assets less liabilities and indebtedness of the
Fund. The Fund cannot assure you, however, that any Preferred Shares will be
issued. Although the terms of any Preferred Shares, including dividend rate,
liquidation preference and redemption provisions, will be determined by the
Board of Trustees, subject to applicable law and the Declaration of Trust, it is
likely that the Preferred Shares will be structured to carry a relatively
short-term dividend rate reflecting interest rates on short-term bonds, by
providing for the periodic redetermination of the dividend rate at relatively
short intervals through an auction, remarketing or other procedure. The Fund
also believes that it is likely that the liquidation preference, voting rights
and redemption provisions of the Preferred Shares will be similar to those
stated below.
Liquidation Preference. In the event of any voluntary or involuntary
liquidation, dissolution or winding up of the Fund, the holders of Preferred
Shares will be entitled to receive a preferential liquidating distribution,
which is expected to equal the original purchase price per Preferred Share plus
accrued and unpaid dividends, whether or not declared, before any distribution
of assets is made to holders of common shares. After payment of the full amount
of the liquidating distribution to which they are entitled, the holders of
Preferred Shares will not be entitled to any further participation in any
distribution of assets by the Fund.
Voting Rights. The 1940 Act requires that the holders of any Preferred
Shares, voting separately as a single class, have the right to elect at least
two trustees at all times. The remaining trustees will be elected by holders of
common shares and Preferred Shares, voting together as a single class. In
addition, subject to the prior rights, if any, of the holders of any other class
of senior securities outstanding, the holders of any Preferred Shares have the
right to elect a majority of the trustees of the Fund at any time two years'
dividends on any Preferred Shares are unpaid. The 1940 Act also requires that,
in addition to any approval by shareholders that might otherwise be required,
the approval of the holders of a majority of any outstanding Preferred Shares,
voting separately as a class, would be required to (1) adopt any plan of
reorganization that would adversely affect the Preferred Shares, and (2) take
any action requiring a vote of security holders under Section 13(a) of the 1940
Act, including, among other things, changes in the Fund's subclassification as a
closed-end investment company or changes in its fundamental investment
restrictions. See "Certain Provisions in the Declaration of Trust and By-Laws."
As a result of these voting rights, the Fund's ability to take any such actions
may be impeded to the extent that there are any Preferred Shares outstanding.
The Board of Trustees presently intends that, except as otherwise indicated in
this prospectus and except as otherwise required by applicable law, holders of
Preferred Shares will have equal voting rights with holders of common shares
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(one vote per share, unless otherwise required by the 1940 Act) and will vote
together with holders of common shares as a single class.
The affirmative vote of the holders of a majority of the outstanding
Preferred Shares, voting as a separate class, will be required to amend, alter
or repeal any of the preferences, rights or powers of holders of Preferred
Shares so as to affect materially and adversely such preferences, rights or
powers, or to increase or decrease the authorized number of Preferred Shares.
The class vote of holders of Preferred Shares described above will in each case
be in addition to any other vote required to authorize the action in question.
Redemption, Purchase and Sale of Preferred Shares by the Fund. The terms of
any Preferred Shares issued are expected to provide that (1) they are redeemable
by the Fund in whole or in part at the original purchase price per share plus
accrued dividends per share, (2) the Fund may tender for or purchase Preferred
Shares and (3) the Fund may subsequently resell any shares so tendered for or
purchased. Any redemption or purchase of Preferred Shares by the Fund will
reduce the leverage applicable to the common shares, while any resale of shares
by the Fund will increase that leverage.
The discussion above describes the possible offering of Preferred Shares by
the Fund. If the Board of Trustees determines to proceed with such an offering,
the terms of the Preferred Shares may be the same as, or different from, the
terms described above, subject to applicable law and the Fund's Declaration of
Trust. The Board of Trustees, without the approval of the holders of common
shares, may authorize an offering of Preferred Shares or may determine not to
authorize such an offering, and may fix the terms of the Preferred Shares to be
offered.
DESCRIPTION OF NOTES AND BORROWINGS
The Fund's Declaration of Trust authorizes the Fund, without prior approval
of the common shareholders, to borrow money. In this connection, the Fund may
issue notes or other evidence of indebtedness (including bank borrowings or
commercial paper) and may secure any such borrowings by mortgaging, pledging or
otherwise subjecting as security the Fund's assets. In connection with such
borrowing, the Fund may be required to maintain minimum average balances with
the lender or to pay a commitment or other fee to maintain a line of credit. Any
such requirements will increase the cost of borrowing over the stated interest
rate. Under the requirements of the 1940 Act, the Fund, immediately after any
such borrowings, must have an "asset coverage" of at least 300% (33(1)/3% of
Managed Assets after borrowings). With respect to such borrowing, asset coverage
means the ratio which the value of the Managed Assets of the Fund, less all
liabilities and indebtedness not represented by senior securities (as defined in
the 1940 Act), bears to the aggregate amount of such borrowing represented by
senior securities issued by the Fund.
The rights of lenders to the Fund to receive interest on and repayment of
principal of any such borrowings will be senior to those of the common
shareholders, and the terms of any such borrowings may contain provisions which
limit certain activities of the Fund, including the payment of dividends to
common shareholders in certain circumstances. Further, the 1940 Act does (in
certain circumstances) grant to the lenders to the Fund certain voting rights in
the event of default in the payment of interest on or repayment of principal. In
the event that the Fund elects to be treated as a regulated investment company,
and that such provisions would impair the Fund's status as a regulated
investment company under the Internal Revenue Code, the Fund, subject to its
ability to liquidate its relatively illiquid portfolio, intends to repay the
borrowings. Any borrowing will likely be ranked equal to all other existing and
future borrowings of the Fund.
Certain types of borrowings may result in the Fund being subject to
covenants in credit agreements relating to asset coverage and portfolio
composition requirements. The Fund may be subject to certain restrictions on
investments imposed by guidelines of one or more rating agencies, which may
issue ratings for the short-term corporate debt securities or Preferred Shares
issued by the Fund. These guidelines may impose asset coverage or portfolio
composition requirements that are more stringent than those imposed by the 1940
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Act. It is not anticipated that these covenants or guidelines will impede the
Sub-Adviser from managing the Fund's portfolio in accordance with the Fund's
investment objective and policies.
The Credit Facility can be used by the Fund for general corporate purposes,
including for financing a portion of the Fund's investments. The Credit Facility
is secured by a first priority perfected security interest in the assets of the
Fund. In addition, the loan documents under the Credit Facility restrict the
Fund's ability to change its investment adviser, sub-adviser or custodian, amend
its fundamental investment policies or fundamental investment objectives, or
take on additional indebtedness without prior consent from the provider of the
Credit Facility.
The Series B Notes pay interest at rates that vary based on auctions
normally held every seven (7) days. The Series B Notes and Borrowings under the
Credit Facility rank senior to the Fund's common shares. Under the 1940 Act, the
Fund may only issue one class of senior securities representing indebtedness. So
long as the Series B Notes are outstanding, additional senior debt securities
must rank on a parity with the Series B Notes. The Series B Notes may be
redeemed prior to their maturity at the option of the Fund, in whole or in part,
under certain circumstances and are subject to mandatory redemption upon failure
of the Fund to maintain asset coverage requirements with respect to the Series B
Notes.
CERTAIN PROVISIONS IN THE DECLARATION OF TRUST AND BY-LAWS
Under Massachusetts law, shareholders could, in certain circumstances, be
held personally liable for the obligations of the Fund. However, the Declaration
of Trust contains an express disclaimer of shareholder liability for debts or
obligations of the Fund and requires that notice of such limited liability be
given in each agreement, obligation or instrument entered into or executed by
the Fund or the Board of Trustees. The Declaration of Trust further provides for
indemnification out of the assets and property of the Fund for all loss and
expense of any shareholder of the Fund. Thus, the risk of a shareholder
incurring financial loss on account of shareholder liability is limited to
circumstances in which the Fund would be unable to meet its obligations. The
Fund believes that the likelihood of such circumstances is remote.
The Declaration of Trust and By-Laws include provisions that could limit
the ability of other entities or persons to acquire control of the Fund or to
convert the Fund to open-end status. The number of trustees is currently five,
but by action of two-thirds of the trustees, the Board of Trustees may from time
to time be increased or decreased. The Board of Trustees is divided into three
classes of trustees serving staggered three-year terms, with the terms of one
class expiring at each annual meeting of shareholders. If the Fund issues
Preferred Shares, the Fund may establish a separate class for the trustees
elected by the holders of the Preferred Shares. Subject to applicable provisions
of the 1940 Act, vacancies on the Board of Trustees may be filled by a majority
action of the remaining trustees. Such provisions may work to delay a change in
the majority of the Board of Trustees. The provisions of the Declaration of
Trust relating to the election and removal of trustees may be amended only by a
vote of two-thirds of the trustees then in office. Generally, the Declaration of
Trust requires a vote by holders of at least two-thirds of the common shares and
Preferred Shares, if any, voting together as a single class, except as described
below and in the Declaration of Trust, to authorize: (1) a conversion of the
Fund from a closed-end to an open-end investment company; (2) a merger or
consolidation of the Fund with any corporation, association, trust or other
organization, including a series or class of such other organization (subject to
a limited exception if the acquiring fund is not an operating entity immediately
prior to the transaction); (3) a sale, lease or exchange of all or substantially
all of the Fund's assets (other than in the regular course of the Fund's
investment activities, in connection with the termination of the Fund, and other
limited circumstances set forth in the Declaration of Trust); (4) in certain
circumstances, a termination of the Fund; (5) a removal of trustees by common
shareholders; or (6) certain transactions in which a Principal Shareholder (as
defined in the Declaration of Trust) is a party to the transaction. However,
with respect to (1) above, if there are Preferred Shares outstanding, the
affirmative vote of the holders of two-thirds of the Preferred Shares voting as
a separate class shall also be required. With respect to (2) above, except as
otherwise may be required, if the transaction constitutes a plan of
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reorganization which adversely affects Preferred Shares, if any, then an
affirmative vote of two-thirds of the Preferred Shares voting together as a
separate class is required as well. With respect to (1) through (3), if such
transaction has already been authorized by the affirmative vote of two-thirds of
the trustees, then the affirmative vote of the majority of the outstanding
voting securities, as defined in the 1940 Act (a "Majority Shareholder Vote"),
is required, provided that when only a particular class is affected (or, in the
case of removing a trustee, when the trustee has been elected by only one
class), only the required vote of the particular class will be required. Such
affirmative vote or consent shall be in addition to the vote or consent of the
holders of the Fund's shares otherwise required by law or any agreement between
the Fund and any national securities exchange. Approval of Fund shareholders is
not required, however, for any transaction, whether deemed a merger,
consolidation, reorganization, exchange of shares or otherwise whereby the Fund
issues shares in connection with the acquisition of assets (including those
subject to liabilities) from any other investment company or similar entity.
None of the foregoing provisions may be amended except by the vote of at least
two-thirds of the common shares and Preferred Shares, if any, outstanding and
entitled to vote. See the SAI under "Certain Provisions in the Declaration of
Trust and By-Laws."
The provisions of the Declaration of Trust and By-Laws described above
could have the effect of depriving the common shareholders of opportunities to
sell their common shares at a premium over the then current market price of the
common shares by discouraging a third party from seeking to obtain control of
the Fund in a tender offer or similar transaction. The overall effect of these
provisions is to render more difficult the accomplishment of a merger or the
assumption of control by a third party. They provide, however, the advantage of
potentially requiring persons seeking control of the Fund to negotiate with its
management regarding the price to be paid and facilitating the continuity of the
Fund's investment objective and policies. The Board of Trustees of the Fund has
considered the foregoing anti-takeover provisions and concluded that they are in
the best interests of the Fund and its common shareholders.
Reference should be made to the Declaration of Trust on file with the SEC
for the full text of these provisions.
STRUCTURE OF THE FUND; COMMON SHARE REPURCHASES
AND CHANGE IN FUND STRUCTURE
CLOSED-END STRUCTURE
Closed-end funds differ from open-end management investment companies
(commonly referred to as mutual funds) in that closed-end funds generally list
their shares for trading on a securities exchange and do not redeem their shares
at the option of the shareholder. By comparison, mutual funds issue securities
redeemable at net asset value at the option of the shareholder and typically
engage in a continuous offering of their shares. Mutual funds are subject to
continuous asset in-flows and out-flows that can complicate portfolio
management, whereas closed-end funds generally can stay more fully invested in
securities consistent with the closed-end fund's investment objective and
policies. In addition, in comparison to open-end funds, closed-end funds have
greater flexibility in their ability to make certain types of investments,
including investments in illiquid securities.
However, shares of closed-end investment companies listed for trading on a
securities exchange frequently trade at a discount from net asset value, but in
some cases trade at a premium. The market price may be affected by trading
volume of the shares, general market and economic conditions and other factors
beyond the control of the closed-end fund. The foregoing factors may result in
the market price of the common shares being greater than, less than or equal to
net asset value. The Board of Trustees has reviewed the structure of the Fund in
light of its investment objective and policies and has determined that the
closed-end structure is in the best interests of the shareholders. As described
below, however, the Board of Trustees will review periodically the trading range
and activity of the Fund's shares with respect to its net asset value and the
Board may take certain actions to seek to reduce or eliminate any such discount.
Such actions may include open market repurchases or tender offers for the common
shares at net asset value or the possible conversion of the Fund to an open-end
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fund. There can be no assurance that the Board will decide to undertake any of
these actions or that, if undertaken, such actions would result in the common
shares trading at a price equal to or close to net asset value per common share.
In addition, as noted above, the Board of Trustees determined in connection with
the initial offering of common shares of the Fund that the closed-end structure
is desirable, given the Fund's investment objective and policies. Investors
should assume, therefore, that it is highly unlikely that the Board of Trustees
would vote to convert the Fund to an open-end investment company.
REPURCHASE OF COMMON SHARES AND TENDER OFFERS
In recognition of the possibility that the common shares might trade at a
discount to net asset value and that any such discount may not be in the
interest of shareholders, the Fund's Board of Trustees, in consultation with the
Adviser, Sub-Adviser and the corporate finance services and consulting agent
that the Adviser has retained, from time to time will review possible actions to
reduce any such discount. The Board of Trustees of the Fund will consider from
time to time open market repurchases of and/or tender offers for common shares
to seek to reduce any market discount from net asset value that may develop. In
connection with its consideration from time to time of open-end repurchases of
and/or tender offers for common shares, the Board of Trustees of the Fund will
consider whether to commence a tender offer or share-repurchase program at the
first quarterly board meeting following a calendar year in which the Fund's
common shares have traded at an average weekly discount from net asset value of
more than 10% in the last 12 weeks of that calendar year. After any
consideration of potential actions to seek to reduce any significant market
discount, the Board may, subject to its fiduciary obligations and compliance
with applicable state and federal laws, authorize the commencement of a
share-repurchase program or tender offer. The size and timing of any such share
repurchase program or tender offer will be determined by the Board of Trustees
in light of the market discount of the common shares, trading volume of the
common shares, information presented to the Board of Trustees regarding the
potential impact of any such share repurchase program or tender offer, and
general market and economic conditions. There can be no assurance that the Fund
will in fact effect repurchases of or tender offers for any of its common
shares. The Fund may, subject to its investment limitation with respect to
borrowings and limitations on seniority within the Fund's capital structure if
the Fund has other borrowings outstanding at such time, incur debt to finance
such repurchases or a tender offer or for other valid purposes. Interest on any
such borrowings would increase the Fund's expenses and reduce the Fund's net
income.
There can be no assurance that repurchases of common shares or tender
offers, if any, will cause the common shares to trade at a price equal to or in
excess of their net asset value. Nevertheless, the possibility that a portion of
the Fund's outstanding common shares may be the subject of repurchases or tender
offers may reduce the spread between market price and net asset value that might
otherwise exist. In the opinion of the Fund, sellers may be less inclined to
accept a significant discount in the sale of their common shares if they have a
reasonable expectation of being able to receive a price of net asset value for a
portion of their common shares in conjunction with an announced repurchase
program or tender offer for the common shares.
Although the Board of Trustees believes that repurchases or tender offers
generally would have a favorable effect on the market price of the common
shares, the acquisition of common shares by the Fund will decrease the Managed
Assets of the Fund and therefore will have the effect of increasing the Fund's
expense ratio and decreasing the asset coverage with respect to any Preferred
Shares outstanding. Because of the nature of the Fund's investment objective,
policies and portfolio, the Adviser and the Sub-Adviser do not anticipate that
repurchases of common shares or tender offers should interfere with the ability
of the Fund to manage its investments in order to seek its investment objective,
and does not anticipate any material difficulty in borrowing money or disposing
of portfolio securities to consummate repurchases of or tender offers for common
shares, although no assurance can be given that this will be the case.
CONVERSION TO OPEN-END FUND
The Fund may be converted to an open-end investment company at any time if
approved by the holders of two-thirds of the Fund's common shares outstanding
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and entitled to vote; provided, however, that such vote shall be by Majority
Shareholder Vote if the action in question was previously approved by the
affirmative vote of two-thirds of the Trustees. Such affirmative vote or consent
shall be in addition to the vote or consent of the holders of the shares
otherwise required by law or any agreement between the Fund and any national
securities exchange. In the event of conversion, the common shares would cease
to be listed on the AMEX or other national securities exchange or market system.
Any Preferred Shares would need to be redeemed and any Borrowings may need to be
repaid upon conversion to an open-end investment company. Additionally, the 1940
Act imposes limitations on open-end funds' investments in illiquid securities,
which could restrict the Fund's ability to invest in certain securities
discussed in this prospectus to the extent discussed herein. Such limitations
could adversely affect distributions to Fund common shareholders in the event of
conversion to an open-end fund. The Board of Trustees believes, however, that
the closed-end structure is desirable, given the Fund's investment objective and
policies. Investors should assume, therefore, that it is unlikely that the Board
of Trustees would vote to convert the Fund to an open-end investment company.
Shareholders of an open-end investment company may require the company to redeem
their shares at any time (except in certain circumstances as authorized by or
under the 1940 Act) at their net asset value, less such redemption charge, if
any, as might be in effect at the time of a redemption. The Fund would expect to
pay all such redemption requests in cash, but intends to reserve the right to
pay redemption requests in a combination of cash or securities. If such partial
payment in securities were made, investors may incur brokerage costs in
converting such securities to cash. If the Fund were converted to an open-end
fund, it is likely that new common shares would be sold at net asset value plus
a sales load.
TAX MATTERS
The following discussion of federal income tax matters is based on the
advice of Chapman and Cutler LLP, counsel to the Fund.
MATTERS ADDRESSED
This section and the discussion in the SAI provide a general summary of the
material U.S. federal income tax consequences to the persons who purchase, own
and dispose of the common shares. It does not address all federal income tax
consequences that may apply to investment in the common shares. Unless otherwise
indicated, this discussion is limited to taxpayers who are U.S. persons, as
defined herein. The discussion that follows is based on the provisions of the
Internal Revenue Code, on treasury regulations promulgated thereunder as in
effect on the date hereof and on existing judicial and administrative
interpretations thereof. These authorities are subject to change and to
differing interpretations, which could apply retroactively. Potential investors
should consult their own tax advisors in determining the federal, state, local,
foreign and any other tax consequences to them of the purchase, ownership and
disposition of the common shares. This discussion does not address all tax
consequences that may be applicable to a U.S. person that is a beneficial owner
of common shares, nor does it address, unless specifically indicated, the tax
consequences to, among others, (i) persons that may be subject to special
treatment under U.S. federal income tax law, including, but not limited to,
banks, insurance companies, thrift institutions, regulated investment companies,
real estate investment trusts, tax-exempt organizations and dealers in
securities or currencies, (ii) persons that will hold common shares as part of a
position in a "straddle" or as part of a "hedging," "conversion" or other
integrated investment transaction for U.S. federal income tax purposes, (iii)
persons whose functional currency is not the U.S. dollar or (iv) persons that do
not hold common shares as capital assets within the meaning of Section 1221 of
the Internal Revenue Code.
For purposes of this discussion, a "U.S. person" is (i) an individual
citizen or resident of the United States, (ii) a corporation or partnership
organized in or under the laws of the United States or any state thereof or the
District of Columbia (other than a partnership that is not treated as a U.S.
person under any applicable treasury regulations), (iii) an estate the income of
which is subject to U.S. federal income taxation regardless of its source, or
(iv) a trust if a court within the United States is able to exercise primary
supervision over the administration of such trust and one or more U.S. persons
have the authority to control all the substantial decisions of such trust.
Notwithstanding clause (iv) above, to the extent provided in regulations,
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certain trusts in existence on August 20, 1996 and treated as U.S. persons prior
to such date that elect to continue to be so treated also shall be considered
U.S. persons.
TAX CHARACTERIZATION OF THE FUND FOR U.S. FEDERAL INCOME TAX PURPOSES
The Fund has elected to be treated as a regular C corporation for U.S.
federal income tax purposes. Thus, the Fund is subject to U.S. corporate income
tax on its U.S. taxable income. Such taxable income would generally include all
of the Fund's net income from the MLPs. The current U.S. federal maximum
graduated income tax rate for corporations is 35%. In addition, the United
States also imposes a 20% alternative minimum tax on the recalculated
alternative minimum taxable income of an entity treated as a corporation. Any
such U.S. corporate income tax or alternative minimum tax could materially
reduce cash available to make payments on the common shares. The Fund will also
be obligated to pay state income tax on its taxable income, either because the
states follow the federal election or because the states separately impose a tax
on the Fund.
The MLPs in which the Fund intends to invest are generally treated as
partnerships for U.S. federal income tax purposes. As a partner in the MLPs, the
Fund will be required to report its allocable share of MLP income, gain, loss,
deduction and expense, whether or not any cash is distributed from the MLPs.
The Fund intends to invest in energy MLPs, so the Fund anticipates that the
majority of the Fund's items of income, gain, loss, deduction and expense will
be related to energy ventures. However, some items are likely to relate to the
temporary investment of the Fund's capital, which may be unrelated to energy
ventures.
Although the Fund intends to hold the interests in the MLPs for investment,
the Fund is likely to sell interests in a particular MLP from time to time. On
any such sale, the Fund will recognize gain or loss based upon the difference
between the consideration received for tax purposes on the sale and the Fund's
tax basis in the interest sold. The consideration received is generally the
amount paid by the purchaser plus any debt of the MLP allocated to the Fund that
will shift to the purchaser on the sale. The Fund's tax basis in an MLP is the
amount paid for the interest, decreased for any distributions of cash received
by the Fund in excess of the Fund's allocable share of taxable income and
decreased by the Fund's allocable share of net losses. Thus, although cash in
excess of taxable income and net tax losses may create a temporary economic
benefit to the Fund, they will increase the amount of gain (or decrease the
amount of loss) on the sale of an interest in an MLP. No favorable federal
income tax rate applies to long-term capital gains for entities treated as
corporations for federal income tax purposes, such as the Fund. Thus, the Fund
will be subject to federal income tax on its long-term capital gains, like
ordinary income, at rates of up to 35%.
In calculating the Fund's alternative minimum taxable income, certain
percentage depletion deductions and intangible drilling costs may be treated as
items of tax preference. Items of tax preference increase alternative minimum
taxable income and increase the likelihood that the Fund may be subject to the
alternative minimum tax.
The Fund is not treated as a regulated investment company for federal
income tax purposes. In order to qualify as a regulated investment company, the
income and assets of the company must meet certain minimum threshold tests.
Because the Fund invests a substantial portion of its Managed Assets in MLPs
that invest in energy ventures, the Fund does not meet such tests. In contrast
to the tax rules that will apply to the Fund, a regulated investment company
generally does not pay corporate income tax. Thus, the regulated investment
company taxation rules have no application to the Fund or Common Shareholders of
the Fund.
TAXATION OF THE SHAREHOLDERS
Distributions. The Fund's distributions will be treated as dividends to
common shareholders to the extent of the Fund's current or accumulated earnings
and profits as determined for federal income tax purposes.
As discussed in greater detail below, dividends that qualify as "qualified
dividend income" are generally taxed to individuals at a maximum 15% rate if
certain holding period and other requirements are met by the common shareholder
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receiving such dividend. Corporations are generally subject to tax on dividends
at a maximum 35% rate, but corporations may be eligible to exclude 70% of the
dividends if certain holding period requirements are met. Common shareholders
that are not U.S. persons are generally subject to a 30% withholding tax, unless
(i) the common shareholder's interest in the Fund is effectively connected to a
U.S. trade or business and the common shareholder provides the Fund with a Form
W8ECI signed under penalties of perjury (in which case, the common shareholder
will be subject to the normal U.S. graduated rates) or (ii) the common
shareholder is eligible for the benefits of a U.S. income tax treaty and
provides the Fund with a Form W-8BEN signed under penalties of perjury (in which
case, the common shareholder will be subject to the rate of withholding provided
for in the relevant treaty).
If a Fund distribution exceeds the Fund's current and accumulated earnings
and profits, the distribution will be treated as a non-taxable adjustment to the
basis of the common shares to the extent of such basis, and then as capital gain
to the extent of the excess distribution. Such gain will be long-term capital
gain if the holding period for the common shares is more than one year.
Individuals are currently subject to a maximum tax rate of 15% on long-term
capital gains. This rate is currently scheduled to increase to 20% for tax years
beginning after December 31, 2010. Corporations are taxed on capital gains at
their ordinary graduated rates.
Because unsevered natural resources are viewed as interests in real
property for some purposes of the Internal Revenue Code, depending upon the
nature and location of the MLPs' assets, the Fund could from time to time be
classified as a U.S. real property holding corporation. If the Fund is
classified as a U.S. real property holding corporation, dispositions of
interests in the Fund by a non-U.S. common shareholder and distributions in
excess of a non-U.S. common shareholder's basis may be subject to 10%
withholding.
A corporation's earnings and profits are generally calculated by making
certain adjustments to the corporation's reported taxable income. Based upon the
historic performance of similar MLPs, the Fund anticipates that the distributed
cash from the MLPs in its portfolio will exceed the Fund's earnings and profits.
Thus, the Fund anticipates that only a portion of its distributions will be
treated as dividends to its common shareholders for federal income tax purposes.
Special rules apply to the calculation of earnings and profits for
corporations invested in energy ventures. The Fund's earnings and profits will
be calculated using (i) straight-line depreciation rather than a percentage
depletion method and (ii) five-year and ten-year amortization of drilling costs
and exploration and development costs, respectively. Thus, these deductions may
be significantly lower for purposes of calculating earnings and profits than
they are for purposes of calculating taxable income. Because of these
differences, the Fund may make distributions out of earnings and profits,
treated as dividends, in years in which Fund distributions exceed the Fund's
taxable income.
The maximum federal income tax rate for individuals on qualified dividend
income is currently generally 15% for tax years ending on or before December 31,
2010, unless such favorable treatment is repealed sooner by new legislation. The
portion of the Fund's distributions treated as a dividend for federal income tax
purposes should be treated as qualified dividend income for federal income tax
purposes, subject to certain holding period and other requirements. This rate of
tax on dividends is currently scheduled to increase back to ordinary income
rates after December 31, 2010, with the maximum marginal federal income tax rate
being 39.6% at such time.
A common shareholder participating in the Fund's automatic dividend
reinvestment plan will be taxed upon the reinvested amount as if actually
received by the participating common shareholder and the participating common
shareholder reinvested such amount in additional Fund common shares.
The Fund will notify common shareholders annually as to the federal income
tax status of Fund distributions to them.
Sale of Shares. Upon the sale of common shares, a common shareholder will
generally recognize capital gain or loss measured by the difference between the
amount received on the sale and the common shareholder's tax basis of common
shares sold. As discussed above, such tax basis may be less than the price paid
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for the common shares as a result of Fund distributions in excess of the Fund's
earnings and profits. Such capital gain or loss will generally be long-term
capital gain or loss, if such common shares were capital assets held for more
than one year.
Information Reporting and Withholding. The Fund will be required to report
annually to the IRS, and to each common shareholder, the amount of distributions
and consideration paid in redemptions, and the amount withheld for federal
income taxes, if any, for each calendar year, except as to exempt holders
(including certain corporations, tax-exempt organizations, qualified pension and
profit-sharing trusts, and individual retirement accounts). Each common
shareholder (other than common shareholders who are not subject to the reporting
requirements without supplying any documentation) will be required to provide
the Fund, under penalties of perjury, an IRS Form W-9, Form W-8BEN, Form W-8ECI
or an equivalent form containing the common shareholder's name, address, correct
federal taxpayer identification number and a statement that the common
shareholder is not subject to backup withholding. Should a non-exempt common
shareholder fail to provide the required certification, backup withholding will
apply. The current backup withholding rate for domestic persons is 28%, but such
rate is scheduled to increase to 31% after December 31, 2010. As mentioned
above, non-U.S. persons may be subject to withholding tax at a rate of 30%, if
appropriate documentation demonstrating eligibility for a lower rate is not
provided. Backup withholding is not an additional tax. Any such withholding will
be allowed as a credit against the common shareholder's federal income tax
liability provided the required information is furnished to the IRS.
TAX CONSEQUENCES OF CERTAIN INVESTMENTS
Federal Income Taxation of MLPs. MLPs are generally intended to be taxed as
partnerships for federal income tax purposes. As a partnership, an MLP is
treated as a pass-through entity for federal income tax purposes. This means
that the federal income items of the MLP, though calculated and determined at
the partnership level, are allocated among the partners in the MLP and are
included directly in the calculation of the taxable income of the partners
whether or not cash flow is distributed from the MLP. The MLP files an
information return, but normally pays no federal income tax.
MLPs are often publicly traded. Publicly traded partnerships are generally
treated as corporations for federal income tax purposes. However, if an MLP
satisfies certain income character requirements, the MLP will generally continue
to be treated as partnership for federal income tax purposes. Under these
requirements, an MLP must receive at least 90% of its gross income from certain
"qualifying income" sources.
Qualifying income for this purpose generally includes interest, dividends,
real property rents, real property gains, and income and gain from the
exploration, development, mining or production, processing, refining,
transportation or marketing of any mineral or natural resource (including
fertilizer, geothermal energy, and timber). As discussed above, the Fund
currently invests in energy MLPs, so the income of the MLPs should qualify as
qualifying income.
As discussed above, the tax items of an MLP are allocated through to the
partners of the MLP whether or not an MLP makes any distributions of cash. In
part because estimated tax payments are payable quarterly, partnerships often
make quarterly cash distributions. A distribution from a partnership will
generally be treated as a non-taxable adjustment to the basis of the Fund's
interest in the partnership to the extent of such basis, and then as gain to the
extent of the excess distribution. The gain will generally be capital gain, but
a variety of rules could potentially recharacterize the gain as ordinary income.
The Fund's initial tax basis is the price paid for the MLP interest plus any
debt of the MLP allocated to the Fund. The tax basis is decreased for
distributions and allocations of deductions (such as percentage depletion) and
losses, and increased for capital contributions and allocations of net income
and gains.
When interests in a partnership are sold, the difference between (i) the
sum of the sales price and the Fund's share of debt of the partnership that will
be allocated to the purchaser and (ii) the Fund's adjusted tax basis will be
taxable gain or loss, as the case may be.
-71-
The Fund should receive a Form K-1 from each MLP, showing its share of each
item of MLP income, gain, loss, deductions and expense. The Fund will use that
information to calculate its taxable income and its earnings and profits.
Because the Fund has elected to be taxed as a corporation, the Fund will
report the tax items of the MLPs and any gain or loss on the sale of interests
in the MLPs. The Fund's common shareholders will be viewed for federal income
tax purposes as having income or loss on their investment in the Fund rather
than in the underlying MLPs. Common shareholders will receive a Form 1099 from
the Fund based upon the distributions made (or deemed to have been made) rather
than based upon the income, gain, loss or deductions of the MLPs in which the
Fund invests.
Other Investments. The Fund has in the past, and may in the future, attempt
to generate premiums from the sale of call options. These premiums typically
will result in short-term capital gains to the Fund. Transactions involving the
disposition of the Fund's underlying securities (whether pursuant to the
exercise of a call option, put option or otherwise) will give rise to capital
gains or losses. Because the Fund does not have control over the exercise of the
call options it writes, such exercises or other required sales of the underlying
stocks may cause the Fund to realize capital gains or losses at inopportune
times.
Certain of the Fund's investment practices may be subject to special and
complex federal income tax provisions that may, among other things, (i)
disallow, suspend or otherwise limit the allowance of certain losses or
deductions, (ii) convert an ordinary loss or a deduction into a capital loss
(the deductibility of which is more limited) or (iii) cause the Fund to
recognize income or gain without a corresponding receipt of cash. The Fund will
monitor its transactions and may make certain tax elections in order to mitigate
the effect of these provisions, if possible.
CORPORATE FINANCE SERVICES AND CONSULTING FEE
First Trust Advisors (and not the Fund) has entered into a Corporate
Finance Services and Consulting Agreement with Wachovia Securities, LLC, as
successor to A.G. Edwards (the "Consultant"), and has agreed to pay from its own
assets a fee to the Consultant. This fee was payable quarterly at the annual
rate of 0.10% of the Fund's Managed Assets through June 29, 2006 and is payable
quarterly at the annual rate of 0.15% of the Fund's Managed Assets after June
29, 2006 and will be payable only so long as the Investment Management Agreement
remains in effect between the Fund and First Trust Advisors or any successor in
interest or affiliate of First Trust Advisors, as and to the extent that such
Investment Management Agreement is renewed or continued periodically in
accordance with the 1940 Act. Pursuant to the Corporate Finance Services and
Consulting Agreement, the Consultant will: (i) provide relevant information,
studies or reports regarding closed-end investment companies with similar
investment objectives and/or strategies as the Fund as well as general trends in
the closed-end investment company and asset management industries, and consult
with representatives of First Trust Advisors in connection therewith; (ii) at
the request of First Trust Advisors, provide certain economic research and
statistical information and reports on behalf of First Trust Advisors or the
Fund and consult with representatives of First Trust Advisors or the Fund,
and/or Trustees of the Fund in connection therewith, which information and
reports shall include: (a) statistical and financial market information with
respect to the Fund's market performance; and (b) comparative information
regarding the Fund and other closed-end management investment companies with
respect to (x) the net asset value of their respective shares (as made publicly
available by the Fund and such investment companies), (y) the respective market
performance of the Fund and such other companies, and (z) other relevant
performance indicators; and (iii) provide First Trust Advisors with such other
services in connection with the Common Shares relating to the trading price and
market price thereof upon which First Trust Advisors and the Consultant shall,
from time to time, agree, including after-market services designed to maintain
the visibility of the Fund in the market. The incremental additional amounts
paid as service fees applicable to daily assets of the Fund attributable to the
common shares initially offered by the Fund will not exceed 4.461% of the
offering price of such Common Shares.
-72-
CUSTODIAN, ADMINISTRATOR AND TRANSFER AGENT
The custodian of the assets of the Fund is PFPC Trust Company
("Custodian"), 301 Bellevue Parkway, Wilmington, Delaware 19809. The Fund's
transfer, shareholder services and dividend paying agent is PNC Global
Investment Servicing (U.S.) Inc., 301 Bellevue Parkway, Wilmington, Delaware
19809. Pursuant to an Administration and Accounting Services Agreement, PNC
Global Investment Servicing (U.S.) Inc. also provides certain administrative and
accounting services to the Fund, including maintaining the Fund's books of
account, records of the Fund's securities transactions, and certain other books
and records; acting as liaison with the Fund's independent registered public
accounting firm providing such independent registered public accounting firm
with various audit-related information with respect to the Fund; and providing
other continuous accounting and administrative services. As compensation for
these services, the Fund has agreed to pay PNC Global Investment Servicing
(U.S.) Inc. an annual fee, calculated daily and payable on a monthly basis, of
0.06% of the Fund's first $250 million of average Managed Assets, subject to
decrease with respect to additional Fund Managed Assets.
LEGAL OPINIONS
Certain legal matters in connection with the Common Shares will be passed
upon for the Fund by Chapman and Cutler LLP, Chicago, Illinois, and for the
Distribution Agent by . Chapman and Cutler LLP and
may rely as to certain matters of Massachusetts law on the opinion of Bingham
McCutchen LLP.
-73-
TABLE OF CONTENTS FOR THE
STATEMENT OF ADDITIONAL INFORMATION
PAGE
Use of Proceeds ......................................................... 1
Investment Objective .................................................... 1
Investment Restrictions ................................................. 1
Investment Policies and Techniques ...................................... 3
Additional Information About the Fund's Investments and
Investment Risks.................................................... 6
Other Investment Policies and Techniques ................................ 25
Management of the Fund .................................................. 34
Investment Adviser ...................................................... 40
Sub-Adviser ............................................................. 44
Portfolio Transactions and Brokerage .................................... 48
Certain Provisions in the Declaration of Trust and By-Laws............... 49
Repurchase of Fund Shares; Conversion to Open-End Fund .................. 52
Net Asset Value ......................................................... 54
Tax Matters ............................................................. 57
Performance Related and Comparative Information ......................... 62
Experts ................................................................. 64
Custodian, Administrator and Transfer Agent ............................. 65
Additional Information .................................................. 65
Financial Statements .................................................... F-1
Portfolio Holdings ...................................................... P-1
Appendix A -- Ratings of Investments .................................... A-1
Appendix B -- Energy Income Partners, LLC Proxy Voting Policy ........... B-1
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THIS PAGE IS INTENTIONALLY LEFT BLANK.
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THIS PAGE IS INTENTIONALLY LEFT BLANK.
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YOU SHOULD RELY ONLY ON THE INFORMATION CONTAINED OR INCORPORATED BY
REFERENCE IN THIS PROSPECTUS. THE FUND HAS NOT AUTHORIZED ANYONE TO PROVIDE YOU
WITH DIFFERENT INFORMATION. THE FUND IS NOT MAKING AN OFFER OF THESE SECURITIES
IN ANY STATE WHERE THE OFFER IS NOT PERMITTED.
--------------------------------------------------------------------------------
TABLE OF CONTENTS
PAGE
Prospectus Summary ..................................... 1
Summary of Fund Expenses ............................... 23
Financial Highlights.................................... 26
Senior Securities....................................... 28
Market and Net Asset Value Information.................. 29
The Fund ............................................... 30
Use of Proceeds ........................................ 30
The Fund's Investments ................................. 30
Use of Financial Leverage............................... 35
Risks .................................................. 39
Management of the Fund.................................. 52
Net Asset Value......................................... 54
Distributions .......................................... 55
Dividend Reinvestment Plan ............................. 55
Plan of Distribution.................................... 56
Description of Shares .................................. 57
Certain Provisions in the Declaration
of Trust and By-Laws ................................ 60
Structure of the Fund; Common Share
Repurchases and Change in Fund Structure............. 61
Tax Matters............................................. 62
Corporate Finance Services and Consulting Fee........... 66
Custodian, Administrator and Transfer Agent............. 66
Legal Opinions.......................................... 67
Table of Contents for the Statement of
Additional Information............................... 68
--------------------------------------------------------------------------------
SHARES
ENERGY INCOME AND
GROWTH FUND
COMMON SHARES
--------------------------------------------------------------------------------
PROSPECTUS
--------------------------------------------------------------------------------
, 2008
Back Cover
SUBJECT TO COMPLETION, DATED OCTOBER 14, 2008
ENERGY INCOME AND GROWTH FUND
STATEMENT OF ADDITIONAL INFORMATION
The Energy Income and Growth Fund (the "Fund") is a non-diversified
closed-end management investment company which commenced operations in June
2004. This Statement of Additional Information relates to the common shares of
beneficial interest of the Fund offered by the Fund's Prospectus relating
thereto (the "Common Shares") dated __________, 2008 (the "Prospectus"). This
Statement of Additional Information is not a prospectus, but should be read in
conjunction with the Prospectus. As used in this Statement of Additional
Information, unless the context requires otherwise, "common shares" refers to
the Fund's common shares of beneficial interest currently outstanding as well as
those Common Shares offered by the Prospectus and the holders of the common
shares are called "common shareholders."
On June 29, 2004, the Fund issued an aggregate of 6,400,000 common
shares in its initial public offering. The Fund's currently outstanding common
shares are, and the Common Shares offered by the Prospectus will be, subject to
notice of issuance, listed on the American Stock Exchange ("AMEX") under the
symbol "FEN." On January 28, 2005, the Fund issued $34,000,000 principal amount
of auction rate senior notes due March 2, 2045 (the "Series A Notes") and on
March 26, 2006, issued $25,000,000 principal amount of auction rate senior notes
due March 20, 2046 (the "Series B Notes", together with the Series A Notes, the
"Notes") each of which were rated "Aaa" and "AAA" by Moody's Investors Service,
Inc. ("Moody's") and Fitch Ratings Services, Inc. ("Fitch"), respectively. On
March 26, 2008, the Fund entered into a $55,000,000 senior revolving credit
facility with a bank (the "Credit Facility"), of which $34,000,000 was utilized
to redeem the issued and outstanding Series A Notes on April 18, 2008. As of
October 8, 2008, the principal amount of the Series B Notes and Borrowings under
the Credit Facility represented 29% of the Fund's Managed Assets. The Fund may,
in the future, incur additional Borrowings, issue additional series of Notes, or
issue other senior securities to the extent permitted by the Investment Company
Act of 1940, as amended (the "1940 Act"). The Fund's common shares are junior in
liquidation and distribution rights to the Series B Notes and Borrowings under
the Credit Facility. The incurrence of debt and issuance of preferred stock,
including the Series B Notes and Borrowings under the Credit Facility, represent
the leveraging of the Fund's common shares. The issuance of additional Common
Shares offered by this Prospectus may enable the Fund to increase the aggregate
amount of its leverage.
This Statement of Additional Information does not include all
information that a prospective investor should consider before purchasing Common
Shares. Investors should obtain and read the Fund's Prospectus prior to
purchasing such shares. A copy of the Fund's Prospectus may be obtained without
charge by calling (800) 988-5891 or on the Securities and Exchange Commission's
web site (http://www.sec.gov). Capitalized terms used but not defined in this
Statement of Additional Information have the meanings ascribed to them in the
Prospectus.
This Statement of Additional Information is dated ___________, 2008.
THE INFORMATION IN THIS STATEMENT OF ADDITIONAL INFORMATION IS NOT
COMPLETE AND MAY BE CHANGED. WE MAY NOT SELL THESE SECURITIES UNTIL THE
REGISTRATION STATEMENT FILED WITH THE SECURITIES AND EXCHANGE COMMISSION IS
EFFECTIVE. THIS STATEMENT OF ADDITIONAL INFORMATION IS NOT AN OFFER TO SELL
THESE SECURITIES AND IT IS NOT SOLICITING AN OFFER TO BUY THESE SECURITIES IN
ANY STATE WHERE THE OFFER OR SALE IS NOT PERMITTED.
TABLE OF CONTENTS
PAGE
USE OF PROCEEDS..............................................................1
INVESTMENT OBJECTIVE.........................................................1
INVESTMENT RESTRICTIONS......................................................1
INVESTMENT OBJECTIVE POLICIES AND TECHNIQUES.................................3
ADDITIONAL INFORMATION ABOUT THE FUND'S INVESTMENTS AND
INVESTMENT RISKS.......................................................6
OTHER INVESTMENT POLICIES AND TECHNIQUES....................................25
MANAGEMENT OF THE FUND......................................................34
INVESTMENT ADVISER..........................................................40
SUB-ADVISER.................................................................44
PORTFOLIO TRANSACTIONS AND BROKERAGE........................................48
CERTAIN PROVISIONS IN THE DECLARATION OF TRUST AND BY-LAWS..................49
REPURCHASE OF FUND SHARES; CONVERSION TO OPEN-END FUND......................52
NET ASSET VALUE.............................................................54
TAX MATTERS.................................................................57
PERFORMANCE RELATED AND COMPARATIVE INFORMATION.............................62
EXPERTS.....................................................................64
CUSTODIAN, ADMINISTRATOR AND TRANSFER AGENT.................................65
ADDITIONAL INFORMATION......................................................65
FINANCIAL STATEMENTS AND REPORT OF INDEPENDENT REGISTERED PUBLIC
ACCOUNTING FIRM.......................................................F-1
PORTFOLIO HOLDINGS.........................................................P-1
APPENDIX A -- Ratings of Investments.......................................A-1
APPENDIX B -- Energy Income Partners, LLC Proxy Voting Policy..............B-1
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USE OF PROCEEDS
The Fund will invest substantially all of the net proceeds from any
sales of Common Shares pursuant to this Prospectus in accordance with the Fund's
investment objective and policies as stated below, to repay indebtedness or for
other general corporate purposes.
Pending investment in securities that meet the Fund's investment
objective and policies, the net proceeds of this offering will be invested in
cash or cash equivalents.
INVESTMENT OBJECTIVE
The Fund's investment objective is to seek a high level of after-tax
total return with an emphasis on current distributions paid to shareholders. For
purposes of the Fund's investment objective, total return includes capital
appreciation of, and all distributions received from, securities in which the
Fund invests regardless of the tax character of the distributions. The Fund
seeks to provide its common shareholders with an efficient vehicle to invest in
a portfolio of cash generating securities of energy companies. The Fund focuses
on investing in publicly traded master limited partnerships ("MLPs") and related
public entities in the energy sector which the Fund's Sub-Adviser believes offer
opportunities for income and growth. As used in this Statement of Additional
Information, unless the context requires otherwise, MLPs are MLPs in the energy
sector. Due to the tax treatment under current law of cash distributions made by
MLPs to their investors (such as the Fund), the Fund believes that a portion of
its income may be tax deferred, thereby increasing cash available for
distribution by the Fund to its shareholders. There can be no assurance that the
Fund's investment objective will be achieved.
The Fund's investment objective is considered fundamental and may not
be changed without shareholder approval. The remainder of the Fund's investment
policies, including its investment strategy, are considered non-fundamental and
may be changed by the Board of Trustees without shareholder approval, provided
that shareholders receive at least 60 days prior written notice of any change.
The Fund seeks to achieve its investment objective by investing
primarily in securities of MLPs and MLP-related entities in the energy sector
that the Sub-Adviser believes offer attractive distribution rates and capital
appreciation potential. The Fund also may invest in other securities set forth
below if the Sub-Adviser expects to achieve the Fund's objective with such
investments.
INVESTMENT RESTRICTIONS
The Fund has adopted the following non-fundamental policies:
o Under normal market conditions, the Fund invests at least 85% of
its Managed Assets (including assets obtained through leverage) in
securities of energy companies, energy sector MLPs and MLP-related
entities.
- 1 -
o Under normal market conditions, the Fund invests at least 65% and
up to 100% of its Managed Assets in equity securities of MLPs and
MLP-related entities. MLP and MLP-related entity equity securities
currently consist of common units, subordinated units and I-Shares.
The Fund also may invest in equity securities of MLP-related
entities, such as general partners or other affiliates of MLPs.
o The Fund may invest up to 35% of its Managed Assets in unregistered
or otherwise restricted securities (including up to 10% of its
Managed Assets in securities issued by private companies). The
types of unregistered or otherwise restricted securities that the
Fund may purchase consist of MLP common units, MLP subordinated
units and securities of public and private energy companies.
o The Fund may invest up to 25% of its Managed Assets in debt
securities of energy companies, MLPs and MLP-related entities,
including below investment grade securities, which are commonly
referred to as "junk bonds." Below investment grade debt securities
will be rated at least B3 by Moody's and at least B- by Standard &
Poor's Ratings Group ("S&P") at the time of purchase, or comparably
rated by another nationally recognized statistical rating
organization ("NRSRO") or, if unrated, determined to be of
comparable quality by the Sub-Adviser.
o The Fund will not invest more than 10% of its Managed Assets in any
single issuer.
o The Fund will not engage in short sales, except to the extent the
Fund engages in derivative investments to seek to hedge against
interest rate risk in connection with the Fund's use of Financial
Leverage or market risks associated with the Fund's portfolio.
o The Fund may invest up to 15% of its Managed Assets in non-U.S.
Securities as well as hedge the currency risk of the non-U.S.
Securities using derivative instruments.
To generate additional income, the Fund writes (or sells), covered call
options on the common stock of energy companies held in the Fund's portfolio.
The foregoing non-fundamental policies may be changed by the Board of
Trustees without shareholder approval, provided that shareholders receive at
least 60 days' prior written notice of any change.
Except as described below, the Fund, as a fundamental policy, may not,
without the approval of the holders of a majority of its outstanding common
shares and Preferred Shares, if any, voting together as a single class, and of
the holders of the outstanding Preferred Shares voting as a single class:
(1) Issue senior securities, as defined in the 1940 Act,
other than (i) preferred shares which immediately after issuance will
have asset coverage of at least 200%, (ii) indebtedness which
immediately after issuance will have asset coverage of at least 300%,
or (iii) the borrowings permitted by investment restriction (2) set
forth below;
- 2 -
(2) Borrow money, except as permitted by the 1940 Act;
For a further discussion of the limitations imposed on borrowing by the
1940 Act, please see the section entitled "Use of Financial Leverage"
in the Fund's Prospectus;
(3) Act as underwriter of another issuer's securities, except
to the extent that the Fund may be deemed to be an underwriter within
the meaning of the Securities Act of 1933, as amended ("Securities
Act"), in connection with the purchase and sale of portfolio
securities;
(4) Purchase or sell real estate, but this shall not prevent
the Fund from investing in securities of companies that deal in real
estate or are engaged in the real estate business, including real
estate investment trusts, and securities secured by real estate or
interests therein and the Fund may hold and sell real estate or
mortgages on real estate acquired through default, liquidation, or
other distributions of an interest in real estate as a result of the
Fund's ownership of such securities;
(5) Purchase or sell physical commodities unless acquired as
a result of ownership of securities or other instruments (but this
shall not prevent the Fund from purchasing or selling options, futures
contracts, derivative instruments or from investing in securities or
other instruments backed by physical commodities); or
(6) Make loans of funds or other assets, other than by
entering into repurchase agreements, lending portfolio securities and
through the purchase of securities in accordance with its investment
objective, policies and limitations.
The foregoing fundamental investment policies, together with the
investment objective of the Fund, cannot be changed without approval by holders
of a majority of the outstanding voting securities of the Fund, as defined in
the 1940 Act, which includes common shares and Preferred Shares, if any, voting
together as a single class, and of the holders of the outstanding Preferred
Shares voting as a single class. Under the 1940 Act a "majority of the
outstanding voting securities" means the vote of: (1) 67% or more of the Fund's
shares present at a meeting, if the holders of more than 50% of the Fund's
shares are present or represented by proxy; or (2) more than 50% of the Fund's
shares, whichever is less.
INVESTMENT POLICIES AND TECHNIQUES
The following information supplements the discussion of the Fund's
investment objective, policies, and techniques that are described in the Fund's
Prospectus.
Temporary Investments and Defensive Position. During the period where
the net proceeds of this offering of Common Shares, the issuance of Preferred
Shares, if any, commercial paper or notes and/or borrowings are being invested
or during periods in which the Sub-Adviser determines that it is temporarily
unable to follow the Fund's investment strategy or that it is impractical to do
so, the Fund may deviate from its investment strategy and invest all or any
portion of its net assets in cash, cash equivalents or other securities. The
- 3 -
Sub-Adviser's determination that it is temporarily unable to follow the Fund's
investment strategy or that it is impracticable to do so generally will occur
only in situations in which a market disruption event has occurred and where
trading in the securities selected through application of the Fund's investment
strategy is extremely limited or absent. In such a case, the Fund may not pursue
or achieve its investment objective.
Cash and cash equivalents are defined to include, without limitation,
the following:
(1) U.S. government securities, including bills, notes and
bonds differing as to maturity and rates of interest that are either
issued or guaranteed by the U.S. Treasury or by U.S. government
agencies or instrumentalities. U.S. government agency securities
include securities issued by: (a) the Federal Housing Administration,
Farmers Home Administration, Export-Import Bank of the United States,
Small Business Administration, and the Government National Mortgage
Association, whose securities are supported by the full faith and
credit of the United States; (b) the Federal Home Loan Banks, Federal
Intermediate Credit Banks, and the Tennessee Valley Authority, whose
securities are supported by the right of the agency to borrow from the
U.S. Treasury; (c) the Federal National Mortgage Association, whose
securities are supported by the discretionary authority of the U.S.
government to purchase certain obligations of the agency or
instrumentality; and (d) the Student Loan Marketing Association, whose
securities are supported only by its credit. While the U.S. government
provides financial support to such U.S. government-sponsored agencies
or instrumentalities, no assurance can be given that it always will do
so since it is not so obligated by law. The U.S. government, its
agencies, and instrumentalities do not guarantee the market value of
their securities. Consequently, the value of such securities may
fluctuate.
(2) Certificates of Deposit issued against funds deposited in
a bank or a savings and loan association. Such certificates are for a
definite period of time, earn a specified rate of return, and are
normally negotiable. The issuer of a certificate of deposit agrees to
pay the amount deposited plus interest to the bearer of the certificate
on the date specified thereon. Under current FDIC regulations, the
maximum insurance payable as to any one certificate of deposit is
$100,000, therefore, certificates of deposit purchased by the Fund may
not be fully insured.
(3) Repurchase agreements, which involve purchases of debt
securities. At the time the Fund purchases securities pursuant to a
repurchase agreement, it simultaneously agrees to resell and redeliver
such securities to the seller, who also simultaneously agrees to buy
back the securities at a fixed price and time. This assures a
predetermined yield for the Fund during its holding period, since the
resale price is always greater than the purchase price and reflects an
agreed-upon market rate. Such actions afford an opportunity for the
Fund to invest temporarily available cash. Pursuant to the Fund's
policies and procedures, the Fund may enter into repurchase agreements
only with respect to obligations of the U.S. government, its agencies
or instrumentalities; certificates of deposit; or bankers' acceptances
in which the Fund may invest. Repurchase agreements may be considered
loans to the seller, collateralized by the underlying securities. The
risk to the Fund is limited to the ability of the seller to pay the
- 4 -
agreed-upon sum on the repurchase date; in the event of default, the
repurchase agreement provides that the Fund is entitled to sell the
underlying collateral. If the seller defaults under a repurchase
agreement when the value of the underlying collateral is less than the
repurchase price, the Fund could incur a loss of both principal and
interest. The Sub-Adviser monitors the value of the collateral at the
time the action is entered into and at all times during the term of the
repurchase agreement. The Sub-Adviser does so in an effort to determine
that the value of the collateral always equals or exceeds the
agreed-upon repurchase price to be paid to the Fund. If the seller were
to be subject to a federal bankruptcy proceeding, the ability of the
Fund to liquidate the collateral could be delayed or impaired because
of certain provisions of the bankruptcy laws.
(4) Commercial paper, which consists of short-term unsecured
promissory notes, including variable rate master demand notes issued by
corporations to finance their current operations. Master demand notes
are direct lending arrangements between the Fund and a corporation.
There is no secondary market for such notes. However, they are
redeemable by the Fund at any time. The Sub-Adviser will consider the
financial condition of the corporation (e.g., earning power, cash flow,
and other liquidity measures) and will continuously monitor the
corporation's ability to meet all its financial obligations, because
the Fund's liquidity might be impaired if the corporation were unable
to pay principal and interest on demand. Investments in commercial
paper will be limited to commercial paper rated in the highest
categories by a NRSRO and which mature within one year of the date of
purchase or carry a variable or floating rate of interest.
(5) The Fund may invest in bankers' acceptances which are
short-term credit instruments used to finance commercial transactions.
Generally, an acceptance is a time draft drawn on a bank by an exporter
or an importer to obtain a stated amount of funds to pay for specific
merchandise. The draft is then "accepted" by a bank that, in effect,
unconditionally guarantees to pay the face value of the instrument on
its maturity date. The acceptance may then be held by the accepting
bank as an asset or it may be sold in the secondary market at the going
rate of interest for a specific maturity.
(6) The Fund may invest in bank time deposits, which are
monies kept on deposit with banks or savings and loan associations for
a stated period of time at a fixed rate of interest. There may be
penalties for the early withdrawal of such time deposits, in which case
the yields of these investments will be reduced.
(7) The Fund may invest in shares of money market funds in
accordance with the provisions of the 1940 Act.
- 5 -
ADDITIONAL INFORMATION ABOUT THE FUND'S INVESTMENTS AND INVESTMENT RISKS
ENERGY COMPANIES
For purposes of the Fund's policy of investing 85% of its Managed
Assets (including assets obtained through leverage) in securities of energy
companies, energy sector MLPs and MLP-related entities, an energy company is one
that derives its revenues from transporting, processing, storing, distributing
or marketing natural gas, natural gas liquids ("NGLs"), crude oil, refined
petroleum products, coal or electricity, or exploring, developing, managing or
producing such commodities or products, or in supplying energy-related products
and services.
Energy sector MLPs are limited partnerships that derive at least 90% of
their income from energy operations. The business of energy sector MLPs is
affected by supply and demand for energy commodities because most MLPs derive
revenue and income based upon the volume of the underlying commodity
transported, processed, distributed, and/or marketed. Specifically, MLPs that
provide natural gas services and coal MLPs may be directly affected by energy
commodity prices. Propane MLPs own the underlying energy commodity, and
therefore have direct exposure to energy commodity prices, although the
Sub-Adviser seeks high quality MLPs that are able to mitigate or manage direct
margin exposure to commodity prices. The MLP sector in general could be hurt by
market perception that MLPs' performance and valuation are directly tied to
commodity prices.
Some energy companies operate as "public utilities" or "local
distribution companies," and therefore are subject to rate regulation by state
or federal utility commissions. However, energy companies may be subject to
greater competitive factors than utility companies, including competitive
pricing in the absence of regulated tariff rates, which could cause a reduction
in revenue and which could adversely affect profitability. Most Midstream MLPs
with pipeline assets are subject to government regulation concerning the
construction, pricing and operation of pipelines. In many cases, the rates and
tariffs charged by these pipelines are monitored by the Federal Energy
Regulatory Commission ("FERC") or various state regulatory agencies.
Energy MLPs in which the Fund invests generally can be classified as
Midstream MLPs, Propane MLPs and Coal MLPs.
Midstream MLP natural gas services include treating, gathering,
compression, processing, transmission and storage of natural gas and the
transportation, fractionation and storage of NGLs (primarily propane, ethane,
butane and natural gasoline). Midstream MLP crude oil services include
gathering, transportation, storage and terminalling of crude oil. Midstream MLP
refined petroleum product services include the transportation (usually via
pipelines, barges, rail cars and trucks), storage and terminalling of refined
petroleum products (primarily gasoline, diesel fuel and jet fuel) and other
hydrocarbon by-products. Midstream MLPs also may operate ancillary businesses,
including the marketing of the products and logistical services.
Propane MLP services include the distribution of propane to homeowners
for space and water heating and to commercial, industrial and agriculture
customers. Propane serves approximately 3% of the household energy needs in the
- 6 -
United States, largely for homes beyond the geographic reach of natural gas
distribution pipelines. Volumes are weather dependent and a majority of annual
cash flow is earned during the winter heating season (October through March).
Coal MLP services include the owning, leasing, managing, production and
sale of coal and coal reserves. Electricity generation is the primary use of
coal in the United States. Demand for electricity and supply of alternative
fuels to generators are the primary drivers of coal demand.
MLPs and MLP-related entities typically achieve distribution growth by
internal and external means. MLPs and MLP-related entities achieve growth
internally by experiencing higher commodity volume driven by the economy and
population, and through the expansion of existing operations, including
increasing the use of underutilized capacity, pursuing projects that can
leverage and gain synergies with existing assets and pursuing so called
"greenfield projects." External growth is achieved by making accretive
acquisitions.
MLPs and MLP-related entities are subject to various federal, state and
local environmental laws and health and safety laws as well as laws and
regulations specific to their particular activities. Such laws and regulations
address: health and safety standards for the operation of facilities,
transportation systems and the handling of materials; air and water pollution
requirements and standards; solid waste disposal requirements; land reclamation
requirements; and requirements relating to the handling and disposition of
hazardous materials. Energy MLPs and MLP-related entities are directly or
indirectly subject to the costs of compliance with such laws applicable to them,
and changes in such laws and regulations may adversely affect their results of
operations.
MLPs and MLP-related entities operating interstate pipelines and
storage facilities are subject to substantial regulation by the FERC, which
regulates interstate transportation rates, services and other matters regarding
natural gas pipelines including: the establishment of rates for service;
regulation of pipeline storage and liquefied natural gas facility construction;
issuing certificates of need for companies intending to provide energy services
or constructing and operating interstate pipeline and storage facilities; and
certain other matters. FERC also regulates the interstate transportation of
crude oil, including: regulation of rates and practices of oil pipeline
companies; establishing equal service conditions to provide shippers with equal
access to pipeline transportation; and establishment of reasonable rates for
transporting petroleum and petroleum products by pipeline.
Energy sector MLPs and MLP-related entities may be subject to liability
relating to the release of substances into the environment, including liability
under federal "SuperFund" and similar state laws for investigation and
remediation of releases and threatened releases of hazardous materials, as well
as liability for injury and property damage for accidental events, such as
explosions or discharges of materials causing personal injury and damage to
property. Such potential liabilities could have a material adverse effect upon
the financial condition and results of operations of energy sector MLPs and
MLP-related entities.
- 7 -
Energy sector MLPs and MLP-related entities are subject to numerous
business related risks, including: deterioration of business fundamentals
reducing profitability due to development of alternative energy sources,
changing demographics in the markets served, unexpectedly prolonged and
precipitous changes in commodity prices and increased competition which takes
market share; reliance on growth through acquisitions; disruptions in
transportation systems; the dependence of certain MLPs and MLP-related entities
upon the energy exploration and development activities of unrelated third
parties; availability of capital for expansion and construction of needed
facilities; a significant decrease in natural gas production due to depressed
commodity prices or otherwise; the inability of MLPs and MLP-related entities to
successfully integrate recent or future acquisitions; and the general level of
the economy.
The energy industry and particular energy companies may be adversely
affected by possible terrorist attacks, such as the attacks that occurred on
September 11, 2001. It is possible that facilities of energy companies, due to
the critical nature of their energy businesses to the United States, could be
direct targets of terrorist attacks or be indirectly affected by attacks on
others. They may have to incur significant additional costs in the future to
safeguard their assets. In addition, changes in the insurance markets after
September 11, 2001 may make certain types of insurance more difficult to obtain
or obtainable only at significant additional cost. To the extent terrorism
results in a lower level of economic activity, energy consumption could be
adversely affected, which would reduce revenues and impede growth. Terrorist or
war related disruption of the capital markets could also affect the ability of
energy companies to raise needed capital.
MASTER LIMITED PARTNERSHIPS
Under normal circumstances the Fund will invest at least 65% of its
Managed Assets in equity securities of energy sector MLPs and MLP-related
entities. An MLP is a limited partnership, the interests in which (known as
units) are traded on securities exchanges or over-the-counter. Organization as a
partnership eliminates tax at the entity level.
An MLP has one or more general partners (who may be individuals,
corporations, or other partnerships) which manage the partnership, and limited
partners, which provide capital to the partnership but have no role in its
management. Typically, the general partner is owned by company management or
another publicly traded sponsoring corporation. When an investor buys units in a
MLP, he or she becomes a limited partner.
MLPs are formed in several ways. A nontraded partnership may decide to
go public. Several nontraded partnerships may roll up into a single MLP. A
corporation may spin-off a group of assets or part of its business into a MLP of
which it is the general partner in order to realize the assets' full value on
the marketplace by selling the assets and using the cash proceeds received from
the MLP to address debt obligations or to invest in higher growth opportunities,
while retaining control of the MLP. A corporation may fully convert to a MLP,
although since 1986 the tax consequences have made this an unappealing option
for most corporations. Also, a newly formed company may operate as a MLP from
its inception.
- 8 -
The sponsor or general partner of an MLP, other energy companies, and
utilities may sell assets to MLPs in order to generate cash to fund expansion
projects or repay debt. The MLP structure essentially transfers cash flows
generated from these acquired assets directly to MLP limited partner unit
holders.
In the case of an MLP buying assets from its sponsor or general partner
the transaction is intended to be based upon comparable terms in the acquisition
market for similar assets. To help insure that appropriate protections are in
place, the board of the MLP generally creates an independent committee to review
and approve the terms of the transaction. The committee often obtains a fairness
opinion and can retain counsel or other experts to assist its evaluation. Since
both parties normally have a significant equity stake in the MLP, both parties
generally have an incentive to see that the transaction is accretive and fair to
the MLP.
MLPs tend to pay relatively higher distributions than other types of
companies and the Fund intends to use these MLP distributions in an effort to
meet its investment objective.
As a motivation for the general partner to manage the MLP successfully
and increase cash flows, the terms of MLPs typically provide that the general
partner receives a larger portion of the net income as distributions reach
higher target levels. As cash flow grows, the general partner receives a greater
interest in the incremental income compared to the interest of limited partners.
Although the percentages vary among MLPs, the general partner's marginal
interest in distributions generally increases from 2% to 15% at the first
designated distribution target level moving up to 25% and ultimately 50% as
pre-established distribution per unit thresholds are met. Nevertheless, the
aggregate amount distributed to limited partners will increase as MLP
distributions reach higher target levels. Given this incentive structure, the
general partner has an incentive to streamline operations and undertake
acquisitions and growth projects in order to increase distributions to all
partners.
Because the MLP itself does not pay tax, its income or loss is
allocated to its investors, irrespective of whether the investors receive any
cash payment from the MLP. An MLP typically makes quarterly cash distributions.
Although they resemble corporate dividends, MLP distributions are treated
differently for tax purposes. The MLP distribution is treated as a tax-deferred
return of capital to the extent of the investor's basis in his MLP interest and,
to the extent the distribution exceeds the investor's basis in the MLP, capital
gain. The investor's original basis is the price paid for the units. The basis
is adjusted downwards with each distribution and allocation of deductions (such
as depreciation) and losses, and upwards with each allocation of taxable income.
When the units are sold, the difference between the sales price and the
investor's adjusted basis represents taxable gain. The limited partner will not
be taxed on distributions until (1) he sells his MLP units and pays tax on his
gain, which gain is increased due to the basis decrease resulting from prior
distributions; or (2) his basis reaches zero.
For a further discussion and a description of MLP tax matters, see the
section entitled "Tax Matters."
- 9 -
THE FUND'S INVESTMENTS
The types of securities in which the Fund may invest include, but are
not limited to the following:
Equity Securities of MLPs and MLP-Related Entities. Consistent with its
investment objective, the Fund may invest up to 100% of its Managed Assets in
equity securities issued by energy sector MLPs. Equity securities currently
consist of common units, subordinated units and I-Shares (each discussed below).
The Fund also may invest in equity securities of MLP-related entities, such as
general partners or other affiliates of the MLPs. The Fund also may invest up to
15% of Managed Assets in equity or debt securities of non-MLPs or energy
companies.
The value of equity securities will be affected by changes in the stock
markets, which may be the result of domestic or international political or
economic news, changes in interest rates or changing investor sentiment. At
times, stock markets can be volatile and stock prices can change substantially.
Equity securities risk will affect the Fund's net asset value per share, which
will fluctuate as the value of the securities held by the Fund change. Not all
stock prices change uniformly or at the same time, and not all stock markets
move in the same direction at the same time. Other factors affect a particular
stock's price, such as poor earnings reports by an issuer, loss of major
customers, major litigation against an issuer or changes in governmental
regulations affecting an industry. Adverse news affecting one company can
sometimes depress the stock prices of all companies in the same industry. Not
all factors can be predicted.
Certain of the energy companies in which the Fund invests and may in
the future invest may have comparatively smaller capitalizations. Investing in
securities of smaller MLPs, MLP-related entities and energy companies may
involve greater risk than is associated with investing in more established MLPs,
MLP-related entities and energy companies. Smaller capitalization MLPs,
MLP-related entities and energy companies may have limited product lines,
markets or financial resources; may lack management depth or experience; and may
be more vulnerable to adverse general market or economic developments than
larger more established MLPs, MLP-related entities and energy companies.
MLP Common Units. MLP common units represent a limited partnership
interest in the MLP. Common units are listed and traded on U.S. securities
exchanges or over-the-counter with their value fluctuating predominantly based
on the success of the MLP. The Fund intends to purchase common units in market
transactions but may also purchase securities directly from the MLP or other
parties in private placements. Unlike owners of common stock of a corporation,
owners of common units have limited voting rights and have no ability to
annually elect directors. MLPs generally distribute all available cash flow
(cash flow from operations less maintenance capital expenditures) in the form of
a quarterly distribution. Common unit holders have first priority to receive
quarterly cash distributions up to the MQD and have arrearage rights. In the
event of liquidation, common unit holders have preference over subordinated
units, but not debt holders or preferred unit holders, to the remaining assets
of the MLP.
MLP Subordinated Units. MLP subordinated units typically are issued by
MLPs to their original sponsors, such as their founders, corporate general
partners of MLPs, entities that sell assets to the MLP, and institutional
- 10 -
investors. The Fund expects to purchase subordinated units directly from these
persons. Subordinated units have similar voting rights as common units and are
generally not publicly traded. Once the MQD on the common units, including
arrearage, has been paid, subordinated units will receive cash distributions up
to the MQD prior to any incentive payments to the MLP's general partner. Unlike
common units, subordinated units do not have arrearage rights. In the event of
liquidation, common units have priority over subordinated units. Subordinated
units are typically converted into common units on a one-to-one basis after
certain time periods and/or performance targets have been satisfied.
Subordinated units are generally valued based on the price of the common units,
discounted to reflect the timing or likelihood of their conversion to common
units.
MLP I-Shares. I-Shares represent an ownership interest issued by an
affiliated party of an MLP. The MLP affiliate uses the proceeds from the sale of
I-Shares to purchase limited partnership interests in the MLP in the form of
I-Units. I-Units have features similar to MLP common units in terms of voting
rights, liquidation preference and distributions. However, rather than receiving
cash, the MLP affiliate receives additional I-Units in an amount equal to the
cash distributions received by MLP common units. Similarly, holders of I-Shares
will receive additional I-Shares, in the same proportion as the MLP affiliate's
receipt of I-Units, rather than cash distributions. I-Shares themselves have
limited voting rights similar to those applicable to MLP common units. The MLP
affiliate issuing the I-Shares is structured as a corporation for federal income
tax purposes. As a result, I-Shares holders, such as the Fund, will receive a
Form 1099 rather than a Form K-1 statement. I-Shares are traded on the New York
Stock Exchange.
Equity Securities of Energy Companies. The Fund does not intend to
invest more than 35% of its Managed Assets in equity securities issued by energy
companies. The Fund intends to purchase these equity securities in market
transactions but also may purchase securities directly from the issuers in
private placements. To generate additional income, the Fund may write (or sell),
covered call options on the common stock of energy companies held in the Fund's
portfolio.
Debt Securities. The Fund may invest up to 25% of its Managed Assets in
debt securities of energy companies, MLPs and MLP-related entities, including
securities rated below investment grade. The debt securities in which the Fund
may invest may provide for fixed or variable principal payments and various
types of interest rate and reset terms, including fixed rate, adjustable rate,
zero coupon, contingent, deferred, payment-in-kind and auction rate features.
Certain debt securities are "perpetual" in that they have no maturity date.
Certain debt securities are zero coupon bonds. A zero coupon bond is a bond that
does not pay interest either for the entire life of the obligations or for an
initial period after the issuance of the obligation. To the extent that the Fund
invests in below investment grade debt securities, such securities will be
rated, at the time of investment, at least B- by S&P's or B3 by Moody's or a
comparable rating by at least one other rating agency or, if unrated, determined
by the Sub-Adviser to be of comparable quality. If a security satisfies the
Fund's minimum rating criteria at the time of purchase and is subsequently
downgraded below such rating, the Fund will not be required to dispose of such
security. If a downgrade occurs, the Sub-Adviser will consider what action,
including the sale of such security, is in the best interest of the Fund and its
shareholders. In light of the risks of below investment grade securities, the
Sub-Adviser, in evaluating the creditworthiness of an issue, whether rated or
- 11 -
unrated, will take various factors into consideration, which may include, as
applicable, the issuer's operating history, financial resources and its
sensitivity to economic conditions and trends, the market support for the
facility financed by the issue (if applicable), the perceived ability and
integrity of the issuer's management and regulatory matters.
Below Investment Grade Debt Securities. The Fund may invest up to 25%
of its Managed Assets in below investment grade securities. The below investment
grade debt securities in which the Fund invests are rated from B3 to Bal by
Moody's, from B- to BB+ by S&P's, are comparably rated by another nationally
recognized rating agency or are unrated but determined by the Sub-Adviser to be
of comparable quality.
Investment in below investment grade securities involves substantial
risk of loss. Below investment grade debt securities or comparable unrated
securities are commonly referred to as "junk bonds" and are considered
predominantly speculative with respect to the issuer's ability to pay interest
and principal and are susceptible to default or decline in market value due to
adverse economic and business developments. The market values for high yield
securities tend to be very volatile, and these securities are less liquid than
investment grade debt securities. For these reasons, to the extent the Fund
invests in below investment grade securities, your investment in the Fund is
subject to the following specific risks:
-- increased price sensitivity to changing interest rates and to a
deteriorating economic environment;
-- greater risk of loss due to default or declining credit quality;
-- adverse company specific events are more likely to render the
issuer unable to make interest and/or principal payments; and
-- if a negative perception of the below investment grade debt market
develops, the price and liquidity of below investment grade debt
securities may be depressed. This negative perception could last
for a significant period of time.
Adverse changes in economic conditions are more likely to lead to a
weakened capacity of a below investment grade debt issuer to make principal
payments and interest payments than an investment grade issuer. The principal
amount of below investment grade securities outstanding has proliferated in the
past decade as an increasing number of issuers have used below investment grade
securities for corporate financing. An economic downturn could severely affect
the ability of highly leveraged issuers to service their debt obligations or to
repay their obligations upon maturity. Similarly, down-turns in profitability in
specific industries, such as the energy industry, could adversely affect the
ability of below investment grade debt issuers in that industry to meet their
obligations. The market values of lower quality debt securities tend to reflect
individual developments of the issuer to a greater extent than do higher quality
securities, which react primarily to fluctuations in the general level of
interest rates. Factors having an adverse impact on the market value of lower
quality securities may have an adverse effect on the Fund's net asset value and
the market value of its common shares. In addition, the Fund may incur
- 12 -
additional expenses to the extent it is required to seek recovery upon a default
in payment of principal or interest on its portfolio holdings. In certain
circumstances, the Fund may be required to foreclose on an issuer's assets and
take possession of its property or operations. In such circumstances, the Fund
would incur additional costs in disposing of such assets and potential
liabilities from operating any business acquired.
The secondary market for below investment grade securities may not be
as liquid as the secondary market for more highly rated securities, a factor
which may have an adverse effect on the Fund's ability to dispose of a
particular security when necessary to meet its liquidity needs. There are fewer
dealers in the market for below investment grade securities than investment
grade obligations. The prices quoted by different dealers may vary significantly
and the spread between the bid and asked price is generally much larger than
higher quality instruments. Under adverse market or economic conditions, the
secondary market for below investment grade securities could contract further,
independent of any specific adverse changes in the conditions of a particular
issuer, and these instruments may become illiquid. As a result, the Fund could
find it more difficult to sell these securities or may be able to sell the
securities only at prices lower than if such securities were widely traded.
Because investors generally perceive that there are greater risks
associated with lower quality debt securities of the type in which the Fund may
invest a portion of its assets, the yields and prices of such securities may
tend to fluctuate more than those for higher rated securities. In the lower
quality segments of the debt securities market, changes in perceptions of an
issuer's creditworthiness tend to occur more frequently and in a more pronounced
manner than do changes in higher quality segments of the debt securities market,
resulting in greater yield and price volatility.
The Fund will not invest in distressed, below investment grade
securities (those that are in default or the issuers of which are in
bankruptcy). If a debt security becomes distressed while held by the Fund, the
Fund may be required to bear certain extraordinary expenses in order to protect
and recover its investments if it is recoverable at all.
See Appendix A to this Statement of Additional Information for a
description of Moody's and S&P's ratings.
Restricted Securities. The Fund may invest in unregistered or otherwise
restricted securities. The term "restricted securities" refers to securities
that are unregistered or are held by control persons of the issuer and
securities that are subject to contractual restrictions on their resale. As a
result, restricted securities may be more difficult to value and the Fund may
have difficulty disposing of such assets either in a timely manner or for a
reasonable price. Absent an exemption from registration, the Fund will be
required to hold the securities until they are registered by the issuer. In
order to dispose of an unregistered security, the Fund, where it has contractual
rights to do so, may have to cause such security to be registered. A
considerable period may elapse between the time the decision is made to sell the
security and the time the security is registered so that the Fund could sell it.
Contractual restrictions on the resale of securities vary in length and scope
- 13 -
and are generally the result of a negotiation between the issuer and acquirer of
the securities. The Fund would, in either case, bear market risks during that
period.
Restricted securities generally can be sold in privately negotiated
transactions, pursuant to an exemption from registration under the Securities
Act, or in a registered public offering. The Sub-Adviser has the ability to deem
restricted securities as liquid. To enable the Fund to sell its holdings of a
restricted security not registered for public sale, the Fund may have to cause
those securities to be registered. In situations in which the Fund must arrange
registration because the Fund wishes to sell the security, a considerable period
may elapse between the time the decision is made to sell the security and the
time the security is registered so that the Fund could sell it. The Fund would
bear the risks of any downward price fluctuation during that period.
In recent years, a large institutional market has developed for certain
securities that are not registered under the Securities Act, including private
placements, repurchase agreements, commercial paper, foreign securities and
corporate bonds and notes. These instruments are often restricted securities
because the securities are either themselves exempt from registration or sold in
transactions not requiring registration, such as Rule 144A transactions.
Institutional investors generally will not seek to sell these instruments to the
general public, but instead will often depend on an efficient institutional
market in which such unregistered securities can be readily resold or on an
issuer's ability to honor a demand for repayment. Therefore, the fact that there
are contractual or legal restrictions on resale to the general public or certain
institutions is not dispositive of the liquidity of such investments.
Rule 144A under the Securities Act establishes a "safe harbor" from the
registration requirements of the Securities Act for resales of certain
securities to qualified institutional buyers. Institutional markets for
restricted securities that exist or may develop as a result of Rule 144A may
provide both readily ascertainable values for restricted securities and the
ability to liquidate an investment. An insufficient number of qualified
institutional buyers interested in purchasing Rule 144A-eligible securities held
by the Fund, however, could affect adversely the marketability of such portfolio
securities and the Fund might be unable to dispose of such securities promptly
or at reasonable prices.
Thinly-Traded Securities. The Fund also may invest in securities that
may not be restricted, but are thinly-traded. Although common units of MLPs,
I-Shares of MLP-related entities and common stock of certain energy companies
trade on the New York Stock Exchange, the American Stock Exchange, The Nasdaq
National Market or other securities exchanges or markets, such securities may
trade less than those of larger companies due to their relatively smaller
capitalizations. Such securities may be difficult to dispose of at a fair price
during times when the Fund believes it is desirable to do so. Thinly-traded
securities also are more difficult to value and the Sub-Adviser's judgment as to
value will often be given greater weight than market quotations, if any exist.
If market quotations are not available, thinly-traded securities will be valued
in accordance with procedures established by the Board. Investment of the Fund's
capital in thinly-traded securities may restrict the Fund's ability to take
advantage of market opportunities. The risks associated with thinly-traded
securities may be particularly acute in situations in which the Fund's
- 14 -
operations require cash and could result in the Fund borrowing to meet its short
term needs or incurring losses on the sale of thinly-traded securities.
Margin Borrowing. Although it does not currently intend to, the Fund
may in the future use margin borrowing of up to 33-1/3% of total Managed Assets
for investment purposes when the Sub-Adviser believes it will enhance returns.
Margin borrowings by the Fund create certain additional risks. For example,
should the securities that are pledged to brokers to secure margin accounts
decline in value, or should brokers from which the Fund has borrowed increase
their maintenance margin requirements (i.e., reduce the percentage of a position
that can be financed), then the Fund could be subject to a "margin call,"
pursuant to which it must either deposit additional funds with the broker or
suffer mandatory liquidation of the pledged securities to compensate for the
decline in value. In the event of a precipitous drop in the value of the assets
of the Fund, it might not be able to liquidate assets quickly enough to pay off
the margin debt and might suffer mandatory liquidation of positions in a
declining market at relatively low prices, thereby incurring substantial losses.
For these reasons, the use of borrowings for investment purposes is considered a
speculative investment practice.
COVERED CALL OPTION TRANSACTIONS
Call options are contracts representing the right to purchase a common
stock at a specified price (the "strike price") at a specified future date (the
"expiration date"). The price of the option is determined from trading activity
in the broad options market, and generally reflects the relationship between the
current market price for the underlying common stock and the strike price, as
well as the time remaining until the expiration date. The Fund will write call
options only if they are "covered." In the case of a call option on a common
stock or other security, the option is "covered" if the Fund owns the security
underlying the call or has an absolute and immediate right to acquire that
security without additional cash consideration (or, if additional cash
consideration is required, cash or other assets determined to be liquid by the
Sub-Adviser (in accordance with procedures approved by the Board of Trustees) in
such amount are segregated by the Fund's custodian) upon conversion or exchange
of other securities held by the Fund.
If an option written by the Fund expires unexercised, the Fund realizes
on the expiration date a capital gain equal to the premium received by the Fund
at the time the option was written. If an option purchased by the Fund expires
unexercised, the Fund realizes a capital loss equal to the premium paid at the
time the option expires. Prior to the earlier of exercise or expiration, an
exchange-traded option may be closed out by an offsetting purchase or sale of an
option of the same series (type, underlying security, exercise price, and
expiration). There can be no assurance, however, that a closing purchase or sale
transaction can be effected when the Fund desires. The Fund may sell put or call
options it has previously purchased, which could result in a net gain or loss
depending on whether the amount realized on the sale is more or less than the
premium and other transaction costs paid on the put or call option purchased.
See "Tax Matters."
- 15 -
STRATEGIC TRANSACTIONS
The Fund may, but is not required to, enter into various hedging and
strategic transactions to seek to reduce interest rate risks arising from the
use of Financial Leverage by the Fund, to facilitate portfolio management and
mitigate risks, including interest rate, currency and credit risks. The Fund
writes (or sells), covered call options on the common stock of energy companies
held in the Fund's portfolio. Certain of these hedging and strategic
transactions involve derivative instruments. A derivative is a financial
instrument whose performance is derived at least in part from the performance of
an underlying index, security or asset. The values of certain derivatives can be
affected dramatically by even small market movements, sometimes in ways that are
difficult to predict. There are many different types of derivatives, with many
different uses. The Fund may purchase and sell derivative instruments such as
exchange-listed and over-the-counter put and call options on currencies,
securities, energy-related commodities, equity, fixed income and interest rate
indices, and other financial instruments, purchase and sell financial futures
contracts and options thereon, enter into various interest rate transactions
such as swaps, caps, floors, collars or credit transactions and credit default
swaps. The Fund also may purchase derivative instruments that combine features
of these instruments. Collectively, all of the above are referred to as
"Strategic Transactions." The Fund generally seeks to use Strategic Transactions
as a portfolio management or hedging technique to seek to protect against
possible adverse changes in the market value of securities held in or to be
purchased for the Fund's portfolio, protect the value of the Fund's portfolio,
facilitate the sale of certain securities for investment purposes, manage the
effective interest rate and currency exposure of the Fund, including the
effective yield paid on any Financial Leverage issued by the Fund, or establish
positions in the derivatives markets as a temporary substitute for purchasing or
selling particular securities. Market conditions will determine whether and in
what circumstances the Fund would employ any of the hedging and strategic
techniques described below. The Fund will incur brokerage and other costs in
connection with its hedging transactions.
Options on Securities and Securities Indices. The Fund may purchase and
write (sell) call and put options on any securities and securities indices.
These options may be listed on national domestic securities exchanges or foreign
securities exchanges or traded in the over-the-counter market. The Fund may
write covered put and call options and purchase put and call options as a
substitute for the purchase or sale of securities or to protect against declines
in the value of the portfolio securities and against increases in the cost of
securities to be acquired.
Writing Covered Options. The Fund writes (or sells), covered call
options on the common stock of energy companies held in the Fund's portfolio. A
call option on securities written by the Fund obligates the Fund to sell
specified securities to the holder of the option at a specified price if the
option is exercised at any time before the expiration date. A put option on
securities written by the Fund obligates the Fund to purchase specified
securities from the option holder at a specified price if the option is
exercised at any time before the expiration date. Options on securities indices
are similar to options on securities, except that the exercise of securities
index options requires cash settlement payments and does not involve the actual
purchase or sale of securities. In addition, securities index options are
designed to reflect price fluctuations in a group of securities or segment of
the securities market rather than price fluctuations in a single security.
Writing covered call options may deprive the Fund of the opportunity to profit
from an increase in the market price of the securities in its portfolio. Writing
- 16 -
covered put options may deprive the Fund of the opportunity to profit from a
decrease in the market price of the securities to be acquired for its portfolio.
All call and put options written by the Fund are covered. A written
call option or put option may be covered by (1) maintaining cash or liquid
securities in a segregated account with a value at least equal to the Fund's
obligation under the option, (2) entering into an offsetting forward commitment
and/or (3) purchasing an offsetting option or any other option which, by virtue
of its exercise price or otherwise, reduces the Fund's net exposure on its
written option position. A written call option on securities is typically
covered by maintaining the securities that are subject to the option in a
segregated account. The Fund may cover call options on a securities index by
owning securities whose price changes are expected to be similar to those of the
underlying index.
The Fund may terminate its obligations under an exchange traded call or
put option by purchasing an option identical to the one it has written.
Obligations under over-the-counter options may be terminated only by entering
into an offsetting transaction with the counterparty to such option. Such
purchases are referred to as "closing purchase transactions."
Purchasing Options. The Fund would normally purchase call options in
anticipation of an increase, or put options in anticipation of a decrease
("protective puts"), in the market value of securities of the type in which it
may invest. The Fund may also sell call and put options to close out its
purchased options.
The purchase of a call option would entitle the Fund, in return for the
premium paid, to purchase specified securities or currency at a specified price
during the option period. The Fund would ordinarily realize a gain on the
purchase of a call option if, during the option period, the value of such
securities or currency exceeded the sum of the exercise price, the premium paid
and transaction costs; otherwise the Fund would realize either no gain or a loss
on the purchase of the call option.
The purchase of a put option would entitle the Fund, in exchange for
the premium paid, to sell specified securities at a specified price during the
option period. The purchase of protective puts is designed to offset or hedge
against a decline in the market value of the Fund's portfolio securities. Put
options may also be purchased by the Fund for the purpose of affirmatively
benefiting from a decline in the price of securities which it does not own. The
Fund would ordinarily realize a gain if, during the option period, the value of
the underlying securities decreased below the exercise price sufficiently to
cover the premium and transaction costs; otherwise the Fund would realize either
no gain or a loss on the purchase of the put option. Gains and losses on the
purchase of put options may be offset by countervailing changes in the value of
the Fund's portfolio securities.
The Fund's options transactions will be subject to limitations
established by each of the exchanges, boards of trade or other trading
facilities on which such options are traded. These limitations govern the
maximum number of options in each class which may be written or purchased by a
single investor or group of investors acting in concert, regardless of whether
- 17 -
the options are written or purchased on the same or different exchanges, boards
of trade or other trading facilities or are held or written in one or more
accounts or through one or more brokers. Thus, the number of options which the
Fund may write or purchase may be affected by options written or purchased by
other investment advisory clients of the Sub-Adviser. An exchange, board of
trade or other trading facility may order the liquidation of positions found to
be in excess of these limits, and it may impose certain other sanctions.
Risks Associated with Options Transactions. There is no assurance that
a liquid secondary market on a domestic or foreign options exchange will exist
for any particular exchange-traded option or at any particular time. If the Fund
is unable to effect a closing purchase transaction with respect to covered
options it has written, the Fund will not be able to sell the underlying
securities or dispose of assets held in a segregated account until the options
expire or are exercised. Similarly, if the Fund is unable to effect a closing
sale transaction with respect to options it has purchased, it would have to
exercise the options in order to realize any profit and will incur transaction
costs upon the purchase or sale of underlying securities or currencies.
Reasons for the absence of a liquid secondary market on an exchange
include the following: (1) there may be insufficient trading interest in certain
options; (2) restrictions may be imposed by an exchange on opening transactions
or closing transactions or both; (3) trading halts, suspensions or other
restrictions may be imposed with respect to particular classes or series of
options; (4) unusual or unforeseen circumstances may interrupt normal operations
on an exchange; (5) the facilities of an exchange or the Options Clearing
Corporation may not at all times be adequate to handle current trading volume;
or (6) one or more exchanges could, for economic or other reasons, decide or be
compelled at some future date to discontinue the trading of options (or a
particular class or series of options). If trading were discontinued, the
secondary market on that exchange (or in that class or series of options) would
cease to exist. However, outstanding options on that exchange that had been
issued by the Options Clearing Corporation as a result of trades on that
exchange would continue to be exercisable in accordance with their terms.
The Fund's ability to terminate over-the-counter options is more
limited than with exchange-traded options and may involve the risk that
broker-dealers participating in such transactions will not fulfill their
obligations. The Sub-Adviser will determine the liquidity of each
over-the-counter option in accordance with guidelines adopted by the Board of
Trustees.
The writing and purchase of options is a highly specialized activity
which involves investment techniques and risks different from those associated
with ordinary portfolio securities transactions. The successful use of options
depends in part on the Sub-Adviser's ability to predict future price
fluctuations and, for hedging transactions, the degree of correlation between
the options and securities or currency markets.
Futures Contracts and Options on Futures Contracts. The Fund may
purchase and sell futures contracts based on various securities (such as U.S.
government securities) and securities indices, and any other financial
instruments and indices and purchase and write call and put options on these
futures contracts. The Fund may also enter into closing purchase and sale
- 18 -
transactions with respect to any of these contracts and options. All futures
contracts entered into by the Fund are traded on U.S. or foreign exchanges or
boards of trade that are licensed, regulated or approved by the Commodity
Futures Trading Commission ("CFTC").
Futures Contracts. A futures contract may generally be described as an
agreement between two parties to buy and sell particular financial instruments
or currencies for an agreed price during a designated month (or to deliver the
final cash settlement price, in the case of a contract relating to an index or
otherwise not calling for physical delivery at the end of trading in the
contract).
Positions taken in the futures markets are not normally held to
maturity but are instead liquidated through offsetting transactions which may
result in a profit or a loss. While futures contracts on securities will usually
be liquidated in this manner, the Fund may instead make, or take, delivery of
the underlying securities or currency whenever it appears economically
advantageous to do so. A clearing corporation associated with the exchange on
which futures contracts are traded guarantees that, if still open, the sale or
purchase will be performed on the settlement date.
The Fund may, for example, take a "short" position in the futures
market by selling futures contracts in an attempt to hedge against an
anticipated decline in market prices that would adversely affect the value of
the Fund's portfolio securities. Such futures contracts may include contracts
for the future delivery of securities held by the Fund or securities with
characteristics similar to those of the Fund's portfolio securities.
Hedging and Other Strategies. Hedging is an attempt to establish with
more certainty than would otherwise be possible the effective price or rate of
return on portfolio securities or securities that the Fund proposes to acquire
or the exchange rate of currencies in which the portfolio securities are quoted
or denominated. When securities prices are falling, the Fund can seek to offset
a decline in the value of its current portfolio securities through the sale of
futures contracts. When securities prices are rising, the Fund, through the
purchase of futures contracts, can attempt to secure better rates or prices than
might later be available in the market when it effects anticipated purchases.
If, in the opinion of the Sub-Adviser, there is a sufficient degree of
correlation between price trends for the Fund's portfolio securities and futures
contracts based on other financial instruments, securities indices or other
indices, the Fund may also enter into such futures contracts as part of its
hedging strategy. Although under some circumstances prices of securities in the
Fund's portfolio may be more or less volatile than prices of such futures
contracts, the Sub-Adviser will attempt to estimate the extent of this
volatility difference based on historical patterns and compensate for any
differential by having the Fund enter into a greater or lesser number of futures
contracts or by attempting to achieve only a partial hedge against price changes
affecting the Fund's portfolio securities.
When a short hedging position is successful, any depreciation in the
value of portfolio securities will be substantially offset by appreciation in
the value of the futures position. On the other hand, any unanticipated
appreciation in the value of the Fund's portfolio securities would be
- 19 -
substantially offset by a decline in the value of the futures position. On other
occasions, the Fund may take a "long" position by purchasing futures contracts.
Options on Futures Contracts. The purchase of put and call options on
futures contracts will give the Fund the right (but not the obligation) for a
specified price to sell or to purchase, respectively, the underlying futures
contract at any time during the option period. As the purchaser of an option on
a futures contract, the Fund obtains the benefit of the futures position if
prices move in a favorable direction but limits its risk of loss in the event of
an unfavorable price movement to the loss of the premium and transaction costs.
The writing of a call option on a futures contract generates a premium
which may partially offset a decline in the value of the Fund's assets. By
writing a call option, the Fund becomes obligated, in exchange for the premium
(upon exercise of the option) to sell a futures contract if the option is
exercised, which may have a value higher than the exercise price. Conversely,
the writing of a put option on a futures contract generates a premium which may
partially offset an increase in the price of securities that the Fund intends to
purchase. However, the Fund becomes obligated (upon exercise of the option) to
purchase a futures contract if the option is exercised, which may have a value
lower than the exercise price. The loss incurred by the Fund in writing options
on futures is potentially unlimited and may exceed the amount of the premium
received.
The holder or writer of an option on a futures contract may terminate
its position by selling or purchasing an offsetting option of the same series.
There is no guarantee that such closing transactions can be effected. The Fund's
ability to establish and close out positions on such options will be subject to
the development and maintenance of a liquid market.
Other Considerations. The Fund will engage in futures and related
options transactions either for bona fide hedging or for other purposes as
permitted by the CFTC. These purposes may include using futures and options on
futures as a substitute for the purchase or sale of securities to increase or
reduce exposure to particular markets. To the extent that the Fund is using
futures and related options for hedging purposes, futures contracts will be sold
to protect against a decline in the price of securities that the Fund owns or
futures contracts will be purchased to protect the Fund against an increase in
the price of securities it intends to purchase. The Fund will determine that the
price fluctuations in the futures contracts and options on futures used for
hedging purposes are substantially related to price fluctuations in securities
held by the Fund or securities or instruments which it expects to purchase. As
evidence of its hedging intent, the Fund expects that on occasions on which it
takes a long futures or option position (involving the purchase of futures
contracts), the Fund generally will have purchased, or will be in the process of
purchasing, equivalent amounts of related securities in the cash market at the
time when the futures or option position is closed out. However, in particular
cases, when it is economically advantageous for the Fund to do so, a long
futures position may be terminated or an option may expire without the
corresponding purchase of securities or other assets.
Transactions in futures contracts and options on futures involve
brokerage costs, require margin deposits and, in the case of contracts and
options obligating the Fund to purchase securities, require the Fund to
- 20 -
establish a segregated account consisting of cash or liquid securities in an
amount equal to the underlying value of such contracts and options.
While transactions in futures contracts and options on futures may
reduce certain risks, these transactions themselves entail certain other risks.
For example, unanticipated changes in interest rates or securities prices may
result in a poorer overall performance for the Fund than if it had not entered
into any futures contracts or options transactions.
Perfect correlation between the Fund's futures positions and portfolio
positions will be impossible to achieve. In the event of an imperfect
correlation between a futures position and a portfolio position which is
intended to be protected, the desired protection may not be obtained and the
Fund may be exposed to risk of loss.
Some futures contracts or options on futures may become illiquid under
adverse market conditions. In addition, during periods of market volatility, a
commodity exchange may suspend or limit trading in a futures contract or related
option, which may make the instrument temporarily illiquid and difficult to
price. Commodity exchanges also may establish daily limits on the amount that
the price of a futures contract or related option can vary from the previous
day's settlement price. Once the daily limit is reached, no trades may be made
that day at a price beyond the limit. This may prevent the Fund from closing out
positions and limiting its losses.
Currency Exchange Transactions. The Fund may enter into currency
exchange transactions to hedge the Fund's exposure to foreign currency exchange
rate risk to the extent the Fund invests in non-U.S. denominated securities of
non-U.S. issuers. The Fund's currency transactions will be limited to portfolio
hedging involving portfolio positions. Portfolio hedging is the use of a forward
contract with respect to a portfolio security position denominated or quoted in
a particular currency. A forward contract is an agreement to purchase or sell a
specified currency at a specified future date (or within a specified time
period) and price set at the time of the contract. Forward contracts are usually
entered into with banks, foreign exchange dealers or broker-dealers, are not
exchange-traded, and are usually for less than one year, but may be renewed.
At the maturity of a forward contract to deliver a particular currency,
the Fund may either sell the portfolio security related to such contract and
make delivery of the currency, or it may retain the security and either acquire
the currency on the spot market or terminate its contractual obligation to
deliver the currency by purchasing an offsetting contract with the same currency
trader obligating it to purchase on the same maturity date the same amount of
the currency.
It is impossible to forecast with absolute precision the market value
of portfolio securities at the expiration of a forward contract. Accordingly, it
may be necessary for the Fund to purchase additional currency on the spot market
(and bear the expense of such purchase) if the market value of the security is
less than the amount of currency that the Fund is obligated to deliver and if a
decision is made to sell the security and make delivery of the currency.
Conversely, it may be necessary to sell on the spot market some of the currency
received upon the sale of the portfolio security if its market value exceeds the
amount of currency the Fund is obligated to deliver.
- 21 -
If the Fund retains the portfolio security and engages in an offsetting
transaction, the Fund will incur a gain or a loss to the extent that there has
been movement in forward contract prices. If the Fund engages in an offsetting
transaction, it may subsequently enter into a new forward contract to sell the
currency. Should forward prices decline during the period between the Fund's
entering into a forward contract for the sale of a currency and the date it
enters into an offsetting contract for the purchase of the currency, the Fund
will realize a gain to the extent the price of the currency it has agreed to
sell exceeds the price of the currency it has agreed to purchase. Should forward
prices increase, the Fund will suffer a loss to the extent the price of the
currency it has agreed to purchase exceeds the price of the currency it has
agreed to sell. A default on the contract would deprive the Fund of unrealized
profits or force the Fund to cover its commitments for purchase or sale of
currency, if any, at the current market price.
Hedging against a decline in the value of a currency does not eliminate
fluctuations in the prices of portfolio securities or prevent losses if the
prices of such securities decline. Such transactions also preclude the
opportunity for gain if the value of the hedged currency should rise. Moreover,
it may not be possible for the Fund to hedge against a devaluation that is so
generally anticipated that the Fund is not able to contract to sell the currency
at a price above the devaluation level it anticipates. The cost to the Fund of
engaging in currency exchange transactions varies with such factors as the
currency involved, the length of the contract period, and prevailing market
conditions. Since currency exchange transactions are usually conducted on a
principal basis, no fees or commissions are involved.
Equity Swaps and Interest Rate or Commodity Swaps, Collars, Caps and
Floors. In order to hedge the value of the Fund's portfolio against fluctuations
in the market value of equity securities, interest rates or commodity prices or
to enhance the Fund's income, the Fund may, but is not required to, enter into
equity swaps and various interest rate or commodity transactions such as
interest rate or commodity swaps and the purchase or sale of interest rate or
commodity caps and floors. To the extent that the Fund enters into these
transactions, the Fund expects to do so primarily to preserve a return or spread
on a particular investment or portion of its portfolio, to protect against any
increase in the price of securities the Fund anticipates purchasing at a later
date, to protect against increasing commodity prices or to manage the Fund's
interest rate exposure on any debt securities, including the Notes, or preferred
shares issued by the Fund for leverage purposes. The Fund intends to use these
transactions primarily as a hedge. However, the Fund also may invest in equity
and interest rate or commodity swaps to enhance income or to increase the Fund's
yield, for example, during periods of steep interest rate yield curves (i.e.,
wide differences between short-term and long-term interest rates). The Fund is
not required to hedge its portfolio and may choose not to do so. The Fund cannot
guarantee that any hedging strategies it uses will work.
In an equity swap, the cash flows exchanged by the Fund and the
counterparty are based on the total return on some stock market index and an
interest rate (either a fixed rate or a floating rate). In an interest rate
swap, the Fund exchanges with another party their respective commitments to pay
or receive interest (e.g., an exchange of fixed rate payments for floating rate
payments). For example, if the Fund holds a debt instrument with an interest
rate that is reset only once each year, it may swap the right to receive
interest at this fixed rate for the right to receive interest at a rate that is
reset every week. This would enable the Fund to offset a decline in the value of
- 22 -
the debt instrument due to rising interest rates but would also limit its
ability to benefit from falling interest rates. Conversely, if the Fund holds a
debt instrument with an interest rate that is reset every week and it would like
to lock in what it believes to be a high interest rate for one year, it may swap
the right to receive interest at this variable weekly rate for the right to
receive interest at a rate that is fixed for one year. Such a swap would protect
the Fund from a reduction in yield due to falling interest rates and may permit
the Fund to enhance its income through the positive differential between one
week and one year interest rates, but would preclude it from taking full
advantage of rising interest rates.
The Fund usually will enter into equity and interest rate or commodity
swaps on a net basis (i.e., the two payment streams are netted out with the Fund
receiving or paying, as the case may be, only the net amount of the two
payments). The net amount of the excess, if any, of the Fund's obligations over
its entitlements with respect to each swap contract will be accrued on a daily
basis, and an amount of cash or liquid instruments having an aggregate net asset
value at least equal to the accrued excess will be maintained in a segregated
account by the Fund's custodian. If the swap transaction is entered into on
other than a net basis, the full amount of the Fund's obligations will be
accrued on a daily basis, and the full amount of the Fund's obligations will be
maintained in a segregated account by the Fund's custodian.
The Fund also may engage in interest rate or commodity transactions in
the form of purchasing or selling interest rate or commodity caps or floors. The
Fund will not sell interest rate or commodity caps or floors that it does not
own. The purchase of an interest rate or commodity cap entitles the purchaser,
to the extent that a specified index exceeds a predetermined interest rate or
commodity price, to receive payments equal to the difference of the index and
the predetermined rate on a notional principal amount (i.e., the reference
amount with respect to which interest obligations are determined although no
actual exchange of principal occurs) from the party selling such interest rate
or commodity cap. The purchase of an interest rate or commodity floor entitles
the purchaser, to the extent that a specified index falls below a predetermined
interest rate or commodity price, to receive payments at the difference of the
index and the predetermined rate on a notional principal amount from the party
selling such interest rate or commodity floor.
Typically, the parties with which the Fund will enter into equity and
interest rate or commodity transactions will be broker-dealers and other
financial institutions. The Fund will not enter into any equity swap, interest
rate or commodity swap, cap or floor transaction unless the unsecured senior
debt or the claims-paying ability of the other party thereto is rated investment
grade quality by at least one NRSRO at the time of entering into such
transaction or whose creditworthiness is believed by the Sub-Adviser to be
equivalent to such rating. If there is a default by the other party to such a
transaction, the Fund will have contractual remedies pursuant to the agreements
related to the transaction. The swap market has grown substantially in recent
years with a large number of banks and investment banking firms acting both as
principals and as agents utilizing standardized swap documentation. As a result,
the swap market has become relatively liquid in comparison with other similar
instruments traded in the interbank market. Caps and floors, however, are less
liquid than swaps. Certain federal income tax requirements may limit the Fund's
ability to engage in interest rate swaps.
- 23 -
Credit Default Swap Agreements. The Fund may enter into credit default
swap agreements. The "buyer" in a credit default contract is obligated to pay
the "seller" a periodic stream of payments over the term of the contract
provided that no event of default on an underlying reference obligation has
occurred. If an event of default occurs, the seller must pay the buyer the "par
value" (full notional value) of the reference obligation in exchange for the
reference obligation. The Fund may be either the buyer or seller in the
transaction. If the Fund is a buyer and no event of default occurs, the Fund
loses its investment and recovers nothing. However, if an event of default
occurs, the buyer receives full notional value for a reference obligation that
may have little or no value. As a seller, the Fund receives a fixed rate of
income throughout the term of the contract, which typically is between six
months and three years, provided that there is no default event. If an event of
default occurs, the seller must pay the buyer the full notional value of the
reference obligation.
Credit default swaps involve greater risks than if the Fund had
invested in the reference obligation directly. In addition to general market
risks, credit default swaps are subject to illiquidity risk, counterparty risk
and credit risks. The Fund will enter into swap agreements only with
counterparties who are rated investment grade quality by at least one NRSRO at
the time of entering into such transaction or whose creditworthiness is believed
by the Sub-Adviser to be equivalent to such rating. A buyer also will lose its
investment and recover nothing should no event of default occur. If an event of
default were to occur, the value of the reference obligation received by the
seller, coupled with the periodic payments previously received, may be less than
the full notional value it pays to the buyer, resulting in a loss of value to
the Fund. When the Fund acts as a seller of a credit default swap agreement it
is exposed to the risks of leverage since if an event of default occurs the
seller must pay the buyer the full notional value of the reference obligation.
If the Fund enters into a credit default swap, the Fund may be required
to report the swap as a "reportable transaction" for tax shelter reporting
purposes on the Fund's federal income tax return. If the Internal Revenue
Service (the "IRS") were to determine that the credit default swap is a tax
shelter, the Fund could be subject to penalties under the Internal Revenue Code
of 1986, as amended (the "Code").
The Fund may in the future employ new or additional investment
strategies and hedging instruments if those strategies and instruments are
consistent with the Fund's investment objective and are permissible under
applicable regulations governing the Fund.
OVER-THE-COUNTER MARKET RISK
The Fund may invest in over-the-counter securities. In contrast to the
securities exchanges, the over-the-counter market is not a centralized facility
that limits trading activity to securities of companies which initially satisfy
certain defined standards. Generally, the volume of trading in an unlisted or
over-the-counter security is less than the volume of trading in a listed
security. This means that the depth of market liquidity of some securities in
which the Fund invests may not be as great as that of other securities and, if
the Fund were to dispose of such a security, it might have to offer the
securities at a discount from recent prices, or sell the securities in small
lots over an extended period of time.
- 24 -
LEGISLATION RISK
At any time after the date of this Statement of Additional Information,
legislation may be enacted that could negatively affect the assets of the Fund
or the issuers of such assets. Changing approaches to regulation may have a
negative impact on entities in which the Fund invests. There can be no assurance
that future legislation, regulation or deregulation will not have a material
adverse effect on the Fund or will not impair the ability of the issuers of the
assets held in the Fund to achieve their business goals, and hence, for the Fund
to achieve its investment objective.
OTHER INVESTMENT POLICIES AND TECHNIQUES
HEDGING STRATEGIES
General Description of Hedging Strategies. As more fully described
above, the Fund may use derivatives or other transactions for the purpose of
hedging the Fund's exposure to an increase in the price of a security prior to
its anticipated purchase or a decrease in the price of a security prior to its
anticipated sale, to seek to reduce interest rate risks arising from the use of
any leverage by the Fund and to mitigate risks. The specific derivative
instruments to be used, or other transactions to be entered into, for such
hedging purposes may include options on common equities, energy-related
commodities, equity, fixed income and interest rate indices, futures contracts
(hereinafter referred to as "Futures" or "Futures Contracts"), swap agreements
and related instruments.
Hedging or derivative instruments on securities generally are used to
hedge against price movements in one or more particular securities positions
that the Fund owns or intends to acquire. Such instruments may also be used to
"lock-in" recognized but unrealized gains in the value of portfolio securities.
Hedging strategies, if successful, can reduce the risk of loss by wholly or
partially offsetting the negative effect of unfavorable price movements in the
investments being hedged. However, hedging strategies also can reduce the
opportunity for gain by offsetting the positive effect of favorable price
movements in the hedged investments. The use of hedging instruments is subject
to applicable regulations of the Securities and Exchange Commission (the
"Commission"), the several options and futures exchanges upon which they are
traded, the CFTC and various state regulatory authorities. In addition, the
Fund's ability to use hedging instruments may be limited by tax considerations.
General Limitations on Futures and Options Transactions. The Fund has
filed a notice of eligibility for exclusion from the definition of the term
"commodity pool operator" with the CFTC and the National Futures Association,
which regulate trading in the futures markets. Pursuant to Section 4.5 of the
regulations under the Commodity Exchange Act (the "CEA"), the Fund is not
subject to regulation as a commodity pool under the CEA.
Various exchanges and regulatory authorities have undertaken reviews of
options and futures trading in light of market volatility. Among the possible
actions that have been presented are proposals to adopt new or more stringent
daily price fluctuation limits for Futures and options transactions and
- 25 -
proposals to increase the margin requirements for various types of futures
transactions.
Asset Coverage for Futures and Options Positions. The Fund will comply
with the regulatory requirements of the Commission and the CFTC with respect to
coverage of options and futures positions by registered investment companies
and, if the guidelines so require, will set aside cash, U.S. government
securities, high grade liquid debt securities and/or other liquid assets
permitted by the Commission and CFTC in a segregated custodial account in the
amount prescribed. Securities held in a segregated account cannot be sold while
the futures or options position is outstanding, unless replaced with other
permissible assets, and will be marked-to-market daily.
Options. As an anticipatory hedge, the Fund may purchase put and call
options on stock or other securities. A put option embodies the right of its
purchaser to compel the writer of the option to purchase from the option holder
an underlying security or its equivalent at a specified price at any time during
the option period. In contrast, a call option gives the purchaser the right to
buy the underlying security covered by the option or its equivalent from the
writer of the option at the stated exercise price.
As a holder of a put option, the Fund will have the right to sell the
securities underlying the option and as the holder of a call option, the Fund
will have the right to purchase the securities underlying the option, in each
case at their exercise price at any time prior to the option's expiration date.
The Fund may seek to terminate its option positions prior to their expiration by
entering into closing transactions. The ability of the Fund to enter into a
closing sale transaction depends on the existence of a liquid secondary market.
There can be no assurance that a closing purchase or sale transaction can be
effected when the Fund so desires.
Certain Considerations Regarding Options. The hours of trading for
options may not conform to the hours during which the underlying securities are
traded. To the extent that the options markets close before the markets for the
underlying securities, significant price and rate movements can take place in
the underlying markets that cannot be reflected in the options markets. The
purchase of options is a highly specialized activity which involves investment
techniques and risks different from those associated with ordinary portfolio
securities transactions. The purchase of options involves the risk that the
premium and transaction costs paid by the Fund in purchasing an option will be
lost as a result of unanticipated movements in prices of the securities on which
the option is based. Imperfect correlation between the options and securities
markets may detract from the effectiveness of attempted hedging. Options
transactions may result in significantly higher transaction costs and portfolio
turnover for the Fund.
Some, but not all, of the derivative instruments may be traded and
listed on an exchange. There is no assurance that a liquid secondary market on
an options exchange will exist for any particular option, or at any particular
time, and for some options no secondary market on an exchange or elsewhere may
exist. If the Fund is unable to effect a closing sale transaction with respect
- 26 -
to options on securities that it has purchased, it would have to exercise the
option in order to realize any profit and would incur transaction costs upon the
purchase and sale of the underlying securities.
Futures Contracts. The Fund may enter into securities-related Futures
Contracts, including security futures contracts as an anticipatory hedge. The
Fund's hedging may include sales of Futures as an offset against the effect of
expected declines in securities prices and purchases of Futures as an offset
against the effect of expected increases in securities prices. The Fund will not
enter into Futures Contracts which are prohibited under the CEA and will, to the
extent required by regulatory authorities, enter only into Futures Contracts
that are traded on exchanges and are standardized as to maturity date and
underlying financial instrument. A security futures contract is a legally
binding agreement between two parties to purchase or sell in the future a
specific quantity of shares of a security or of the component securities of a
narrow-based security index, at a certain price. A person who buys a security
Futures Contract enters into a contract to purchase an underlying security and
is said to be "long" the contract. A person who sells a security futures contact
enters into a contract to sell the underlying security and is said to be "short"
the contract. The price at which the contract trades (the "contract price") is
determined by relative buying and selling interest on a regulated exchange.
Transaction costs are incurred when a Futures Contract is bought or
sold and margin deposits must be maintained. In order to enter into a Futures
Contract, the Fund must deposit funds with its custodian in the name of the
futures commodities merchant equal to a specified percentage of the current
market value of the contract as a performance bond. Moreover, all security
futures contracts are marked-to-market at least daily, usually after the close
of trading. At that time, the account of each buyer and seller reflects the
amount of any gain or loss on the security futures contract based on the
contract price established at the end of the day for settlement purposes.
An open position, either a long or short position, is closed or
liquidated by entering into an offsetting transaction (i.e., an equal and
opposite transaction to the one that opened the position) prior to the contract
expiration. Traditionally, most Futures Contracts are liquidated prior to
expiration through an offsetting transaction and, thus, holders do not incur a
settlement obligation. If the offsetting purchase price is less than the
original sale price, a gain will be realized. Conversely, if the offsetting sale
price is more than the original purchase price, a gain will be realized; if it
is less, a loss will be realized. The transaction costs must also be included in
these calculations. There can be no assurance, however, that the Fund will be
able to enter into an offsetting transaction with respect to a particular
Futures Contract at a particular time. If the Fund is not able to enter into an
offsetting transaction, the Fund will continue to be required to maintain the
margin deposits on the Futures Contract and the Fund may not be able to realize
a gain in the value of its future position or prevent losses from mounting. This
inability to liquidate could occur, for example, if trading is halted due to
unusual trading activity in either the security futures contract or the
underlying security; if trading is halted due to recent news events involving
the issuer of the underlying security; if systems failures occur on an exchange
or at the firm carrying the position; or, if the position is on an illiquid
market. Even if the Fund can liquidate its position, it may be forced to do so
at a price that involves a large loss.
- 27 -
Under certain market conditions, it may also be difficult or impossible
to manage the risk from open security futures positions by entering into an
equivalent but opposite position in another contract month, on another market,
or in the underlying security. This inability to take positions to limit the
risk could occur, for example, if trading is halted across markets due to
unusual trading activity in the security futures contract or the underlying
security or due to recent news events involving the issuer of the underlying
security.
There can be no assurance that a liquid market will exist at a time
when the Fund seeks to close out a Futures Contract position. The Fund would
continue to be required to meet margin requirements until the position is
closed, possibly resulting in a decline in the Fund's NAV. In addition, many of
the contracts discussed above are relatively new instruments without a
significant trading history. As a result, there can be no assurance that an
active secondary market will develop or continue to exist.
Security futures contracts that are not liquidated prior to expiration
must be settled in accordance with the terms of the contract. Some security
futures contracts are settled by physical delivery of the underlying security.
At the expiration of a security futures contract that is settled through
physical delivery, a person who is long the contract must pay the final
settlement price set by the regulated exchange or the clearing organization and
take delivery of the underlying shares. Conversely, a person who is short the
contract must make delivery of the underlying shares in exchange for the final
settlement price. Settlement with physical delivery may involve additional
costs.
Other security futures contracts are settled through cash settlement.
In this case, the underlying security is not delivered. Instead, any positions
in such security futures contracts that are open at the end of the last trading
day are settled through a final cash payment based on a final settlement price
determined by the exchange or clearing organization. Once this payment is made,
neither party has any further obligations on the contract.
As noted above, margin is the amount of funds that must be deposited by
the Fund in order to initiate futures trading and to maintain the Fund's open
positions in Futures Contracts. A margin deposit is intended to ensure the
Fund's performance of the Futures Contract. The margin required for a particular
Futures Contract is set by the exchange on which the Futures Contract is traded
and may be significantly modified from time to time by the exchange during the
term of the Futures Contract.
If the price of an open futures contract changes (by increase in the
case of a sale or by decrease in the case of a purchase) so that the loss on the
futures contract reaches a point at which the margin on deposit does not satisfy
margin requirements, the broker will require an increase in the margin. However,
if the value of a position increases because of favorable price changes in the
futures contract so that the margin deposit exceeds the required margin, the
broker will pay the excess to the respective Fund. In computing daily NAV, the
Fund will mark to market the current value of its open futures contract. The
Fund expects to earn interest income on its margin deposits.
- 28 -
Because of the low margin deposits required, futures contracts trading
involves an extremely high degree of leverage. As a result, a relatively small
price movement in a futures contract may result in immediate and substantial
loss, as well as gain, to the investor. For example, if at the time of purchase,
10% of the value of the futures contract is deposited as margin, a subsequent
10% decrease in the value of the futures contract would result in a total loss
of the margin deposit, before any deduction for the transaction costs, if the
account were then closed out. A 15% decrease would result in a loss equal to
150% of the original margin deposit, if the futures contracts were closed out.
Thus, a purchase or sale of a futures contract may result in losses in excess of
the amount initially invested in the futures contract. However, the Fund would
presumably have sustained comparable losses if, instead of the futures contract,
it had invested in the underlying financial instrument and sold it after the
decline.
In addition to the foregoing, imperfect correlation between the futures
contracts and the underlying securities may prevent the Fund from achieving the
intended hedge or expose the Fund to risk of loss. Under certain market
conditions, the prices of security futures contracts may not maintain their
customary or anticipated relationships to the prices of the underlying security
or index. These pricing disparities could occur, for example, when the market
for the security futures contract is illiquid, when the primary market for the
underlying security is closed, or when the reporting of transactions in the
underlying security has been delayed.
In addition, the value of a position in futures contracts could be
affected if trading is halted in either the security futures contract or the
underlying security. In certain circumstances, regulated exchanges are required
by law to halt trading in security futures contracts. For example, trading on a
particular security futures contract must be halted if trading is halted on the
listed market for the underlying security as a result of pending news,
regulatory concerns, or market volatility. Similarly, trading of a security
futures contract on a narrow-based security index must be halted under
circumstances such as where trading is halted on securities accounting for at
least 50% of the market capitalization of the index. In addition, regulated
exchanges are required to halt trading in all security futures contracts for a
specified period of time when the Dow Jones Industrial Average ("DJIA")
experiences one-day declines of 10%, 20% and 30%. The regulated exchanges may
also have discretion under their rules to halt trading in other circumstances -
such as when the exchange determines that the halt would be advisable in
maintaining a fair and orderly market.
A trading halt, either by a regulated exchange that trades security
futures or an exchange trading the underlying security or instrument, could
prevent the Fund from liquidating a position in security futures contracts in a
timely manner, which could expose the Fund to a loss.
Each regulated exchange trading a security futures contract may also
open and close for trading at different times than other regulated exchanges
trading security futures contracts or markets trading the underlying security or
securities. Trading in security futures contracts prior to the opening or after
the close of the primary market for the underlying security may be less liquid
than trading during regular market hours.
- 29 -
Risks and Special Considerations Concerning Derivatives. In addition to
the foregoing, the use of derivative instruments involves certain general risks
and considerations as described below.
(1) Market Risk. Market risk is the risk that the value of
the underlying assets may go up or down. Adverse movements in the value
of an underlying asset can expose the Fund to losses. Market risk is
the primary risk associated with derivative transactions. Derivative
instruments may include elements of leverage and, accordingly,
fluctuations in the value of the derivative instrument in relation to
the underlying asset may be magnified. The successful use of derivative
instruments depends upon a variety of factors, particularly the
Sub-Adviser's ability to predict correctly changes in the relationships
of such hedge instruments to the Fund's portfolio holdings, and there
can be no assurance the Sub-Adviser's judgment in this respect will be
accurate. Consequently, the use of derivatives for hedging purposes
might result in a poorer overall performance for the Fund, whether or
not adjusted for risk, than if the Fund had not hedged its portfolio
holdings.
(2) Credit Risk. Credit risk is the risk that a loss is
sustained as a result of the failure of a counterparty to comply with
the terms of a derivative instrument. The counterparty risk for
exchange-traded derivatives is generally less than for
privately-negotiated or over-the-counter derivatives, since generally a
clearing agency, which is the issuer or counterparty to each
exchange-traded instrument, provides a guarantee of performance. For
privately-negotiated instruments, there is no similar clearing agency
guarantee. In all transactions, the Fund will bear the risk that the
counterparty will default, and this could result in a loss of the
expected benefit of the derivative transactions and possibly other
losses to the Fund. The Fund will enter into transactions in derivative
instruments only with counterparties that the Sub-Adviser reasonably
believes are capable of performing under the contract.
(3) Correlation Risk. Correlation risk is the risk that there
might be an imperfect correlation, or even no correlation, between
price movements of a derivative instrument and price movements of
investments being hedged. When a derivative transaction is used to
completely hedge another position, changes in the market value of the
combined position (the derivative instrument plus the position being
hedged) result from an imperfect correlation between the price
movements of the two instruments. With a perfect hedge, the value of
the combined position remains unchanged with any change in the price of
the underlying asset. With an imperfect hedge, the value of the
derivative instrument and its hedge are not perfectly correlated. For
example, if the value of a derivative instrument used in a short hedge
(such as buying a put option or selling a futures contract) increased
by less than the decline in value of the hedged investments, the hedge
would not be perfectly correlated. This might occur due to factors
unrelated to the value of the investments being hedged, such as
speculative or other pressures on the markets in which these
instruments are traded. In addition, the Fund's success in using
hedging instruments is subject to the Sub-Adviser's ability to
correctly predict changes in relationships of such hedge instruments to
the Fund's portfolio holdings, and there can be no assurance that the
Sub-Adviser's judgment in this respect will be accurate. An imperfect
- 30 -
correlation may prevent the Fund from achieving the intended hedge or
expose the Fund to a risk of loss.
(4) Liquidity Risk. Liquidity risk is the risk that a
derivative instrument cannot be sold, closed out, or replaced quickly
at or very close to its fundamental value. Generally, exchange
contracts are liquid because the exchange clearinghouse is the
counterparty of every contract. OTC transactions are less liquid than
exchange-traded derivatives since they often can only be closed out
with the other party to the transaction. The Fund might be required by
applicable regulatory requirements to maintain assets as "cover,"
maintain segregated accounts and/or make margin payments when it takes
positions in derivative instruments involving obligations to third
parties (i.e., instruments other than purchase options). If the Fund is
unable to close out its positions in such instruments, it might be
required to continue to maintain such accounts or make such payments
until the position expires, matures, or is closed out. These
requirements might impair the Fund's ability to sell a security or make
an investment at a time when it would otherwise be favorable to do so,
or require that the Fund sell a portfolio security at a disadvantageous
time. The Fund's ability to sell or close out a position in an
instrument prior to expiration or maturity depends upon the existence
of a liquid secondary market or, in the absence of such a market, the
ability and willingness of the counterparty to enter into a transaction
closing out the position. Due to liquidity risk, there is no assurance
that any derivatives position can be sold or closed out at a time and
price that is favorable to the Fund.
(5) Legal Risk. Legal risk is the risk of loss caused by the
unenforceability of a party's obligations under the derivative. While a
party seeking price certainty agrees to surrender the potential upside
in exchange for downside protection, the party taking the risk is
looking for a positive payoff. Despite this voluntary assumption of
risk, a counterparty that has lost money in a derivative transaction
may try to avoid payment by exploiting various legal uncertainties
about certain derivative products.
(6) Systemic or "Interconnection" Risk. Systemic or
interconnection risk is the risk that a disruption in the financial
markets will cause difficulties for all market participants. In other
words, a disruption in one market will spill over into other markets,
perhaps creating a chain reaction. Much of the OTC derivatives market
takes place among the OTC dealers themselves, thus creating a large
interconnected web of financial obligations. This interconnectedness
raises the possibility that a default by one large dealer could create
losses for other dealers and destabilize the entire market for OTC
derivative instruments.
SWAP AGREEMENTS
For hedging purposes, the Fund may enter into swap agreements. A swap
is a financial instrument that typically involves the exchange of cash flows
between two parties on specified dates (settlement dates), where the cash flows
are based on agreed-upon prices, rates, indices, etc. The nominal amount on
which the cash flows are calculated is called the notional amount. Swaps are
individually negotiated and structured to include exposure to a variety of
- 31 -
different types of investments or market factors, such as interest rates,
commodity prices, non-U.S. currency rates, mortgage securities, corporate
borrowing rates, security prices, indexes or inflation rates.
Swap agreements may increase or decrease the overall volatility of the
investments of the Fund and its share price. The performance of swap agreements
may be affected by a change in the specific interest rate, currency, or other
factors that determine the amounts of payments due to and from the Fund. If a
swap agreement calls for payments by the Fund, the Fund must be prepared to make
such payments when due. In addition, if the counterparty's creditworthiness
declines, the value of a swap agreement would be likely to decline, potentially
resulting in losses.
Generally, swap agreements have fixed maturity dates that are agreed
upon by the parties to the swap. The agreement can be terminated before the
maturity date only under limited circumstances, such as default by one of the
parties or insolvency, among others, and can be transferred by a party only with
the prior written consent of the other party. The Fund may be able to eliminate
its exposure under a swap agreement either by assignment or by other
disposition, or by entering into an offsetting swap agreement with the same
party or a similarly creditworthy party. If the counterparty is unable to meet
its obligations under the contract, declares bankruptcy, defaults or becomes
insolvent, the Fund may not be able to recover the money it expected to receive
under the contract.
A swap agreement can be a form of leverage, which can magnify the
Fund's gains or losses. In order to reduce the risk associated with leveraging,
the Fund may cover its current obligations under swap agreements according to
guidelines established by the Commission. If the Fund enters into a swap
agreement on a net basis, it will be required to segregate assets with a daily
value at least equal to the excess, if any, of the Fund's accrued obligations
under the swap agreement over the accrued amount the Fund is entitled to receive
under the agreement. If the Fund enters into a swap agreement on other than a
net basis, it will be required to segregate assets with a value equal to the
full amount of the Fund's accrued obligations under the agreement.
Equity Swaps. In a typical equity swap, one party agrees to pay another
party the return on a security, security index or basket of securities in return
for a specified interest rate. By entering into an equity index swap, for
example, the index receiver can gain exposure to securities making up the index
of securities without actually purchasing those securities. Equity index swaps
involve not only the risk associated with investment in the securities
represented in the index, but also the risk that the performance of such
securities, including dividends, will not exceed the interest that the Fund will
be committed to pay under the swap.
WHEN-ISSUED AND DELAYED DELIVERY TRANSACTIONS
The Fund may buy and sell securities on a when-issued or delayed
delivery basis, making payment or taking delivery at a later date, normally
within 15-45 days of the trade date. On such transactions, the payment
obligation and the interest rate are fixed at the time the buyer enters into the
commitment. Beginning on the date the Fund enters into a commitment to purchase
securities on a when-issued or delayed delivery basis, the Fund is required
- 32 -
under rules of the Commission to maintain in a separate account liquid assets,
consisting of cash, cash equivalents or liquid securities having a market value
at all times of at least equal to the amount of the commitment. Income generated
by any such assets which provide taxable income for U.S. federal income tax
purposes is includable in the taxable income of the Fund. The Fund may enter
into contracts to purchase securities on a forward basis (i.e., where settlement
will occur more than 60 days from the date of the transaction) only to the
extent that the Fund specifically collateralizes such obligations with a
security that is expected to be called or mature within sixty days before or
after the settlement date of the forward transaction. The commitment to purchase
securities on a when-issued, delayed delivery or forward basis may involve an
element of risk because at the time of delivery the market value may be less
than cost.
REPURCHASE AGREEMENTS
As temporary investments, the Fund may invest in repurchase agreements.
A repurchase agreement is a contractual agreement whereby the seller of
securities agrees to repurchase the same security at a specified price on a
future date agreed upon by the parties. The agreed-upon repurchase price
determines the yield during the Fund's holding period. Repurchase agreements are
considered to be loans collateralized by the underlying security that is the
subject of the repurchase contract. Income generated from transactions in
repurchase agreements will be taxable. The Fund will only enter into repurchase
agreements with registered securities dealers or domestic banks that, in the
opinion of the Sub-Adviser, present minimal credit risk. The risk to the Fund is
limited to the ability of the issuer to pay the agreed-upon repurchase price on
the delivery date; however, although the value of the underlying collateral at
the time the transaction is entered into always equals or exceeds the
agreed-upon repurchase price, if the value of the collateral declines there is a
risk of loss of both principal and interest. In the event of default, the
collateral may be sold, but the Fund may incur a loss if the value of the
collateral declines, and may incur disposition costs or experience delays in
connection with liquidating the collateral. In addition, if bankruptcy
proceedings are commenced with respect to the seller of the security,
realization upon the collateral by the Fund may be delayed or limited. The
Sub-Adviser will monitor the value of the collateral at the time the transaction
is entered into and at all times subsequent during the term of the repurchase
agreement in an effort to determine that such value always equals or exceeds the
agreed-upon repurchase price. In the event the value of the collateral declines
below the repurchase price, the Fund will demand additional collateral from the
issuer to increase the value of the collateral to at least that of the
repurchase price, including interest.
LENDING OF PORTFOLIO SECURITIES
Although it is not the Fund's current intention, the Fund may lend its
portfolio securities to broker-dealers and banks. Any such loan must be
continuously secured by collateral in cash or cash equivalents maintained on a
current basis in an amount at least equal to the market value of the securities
loaned by the Fund. The Fund would continue to receive the equivalent of the
interest or dividends paid by the issuer on the securities loaned, and would
also receive an additional return that may be in the form of a fixed fee or a
percentage of the collateral. The Fund may pay reasonable fees for services in
arranging these loans. The Fund would have the right to call the loan and obtain
the securities loaned at any time on notice of not more than five business days.
- 33 -
The Fund would not have the right to vote the securities during the existence of
the loan but would call the loan to permit voting of the securities, if, in the
Sub-Adviser's judgment, a material event requiring a shareholder vote would
otherwise occur before the loan was repaid. In the event of bankruptcy or other
default of the borrower, the Fund could experience both delays in liquidating
the loan collateral or recovering the loaned securities and losses, including
(a) possible decline in the value of the collateral or in the value of the
securities loaned during the period while the Fund seeks to enforce its rights
thereto, (b) possible subnormal levels of income and lack of access to income
during this period, and (c) expenses of enforcing its rights.
PORTFOLIO TRADING AND TURNOVER RATE
Portfolio trading will be undertaken as determined by the Fund's
Sub-Adviser. There are no limits on the rate of portfolio turnover. For the
fiscal year ended November 30, 2007, the Fund's actual portfolio turnover rate
was 16%. A higher portfolio turnover rate results in correspondingly greater
brokerage commissions and other transactional expenses that are borne by the
Fund. High portfolio turnover may also result in the Fund's recognition of gains
that will be taxable as ordinary income to the Fund. A high portfolio turnover
may increase the Fund's current and accumulated earnings and profits, resulting
in a greater portion of the Fund's distributions being treated as a dividend to
the Fund's common shareholders. See "Tax Matters" in the Fund's Prospectus and
in this Statement of Additional Information.
MANAGEMENT OF THE FUND
TRUSTEES AND OFFICERS
The general supervision of the duties performed for the Fund under the
Management Agreement and Sub-Advisory Agreement is the responsibility of the
Board of Trustees. The Trustees set broad policies for the Fund and choose the
Fund's officers. The following is a list of the Trustees and officers of the
Fund and a statement of their present positions and principal occupations during
the past five years, with the Trustee who is an "interested person" (as such
term is defined in the 1940 Act) of the Fund identified as such.
NUMBER OF
TERM OF OFFICE PORTFOLIOS IN OTHER
POSITION AND YEAR FIRST FUND COMPLEX DIRECTORSHIPS
NAME, ADDRESS AND AND OFFICES ELECTED OR PRINCIPAL OCCUPATIONS OVERSEEN BY HELD BY
DATE OF BIRTH WITH FUND APPOINTED(2) DURING PAST 5 YEARS TRUSTEE TRUSTEE
Trustee who is an
Interested Person of the
Fund
------------------------
James A. Bowen(1) President, o Class III President, First Trust 59 Portfolios Trustee of
1001 Warrenville Road, Chairman of the Advisors L.P. and First Wheaton College
Suite 300 Board, Chief Trust Portfolios L.P.;
Lisle, IL 60532 Executive Officer o 2004 Chairman of the Board of
D.O.B.: 09/55 and Trustee Directors, BondWave LLC
(Software Development
Company/Broker-Dealer/Investment
Adviser) and Stonebridge
Advisors LLC (Investment
Adviser)
- 34 -
NUMBER OF
TERM OF OFFICE PORTFOLIOS IN OTHER
POSITION AND YEAR FIRST FUND COMPLEX DIRECTORSHIPS
NAME, ADDRESS AND AND OFFICES ELECTED OR PRINCIPAL OCCUPATIONS OVERSEEN BY HELD BY
DATE OF BIRTH WITH FUND APPOINTED(2) DURING PAST 5 YEARS TRUSTEE TRUSTEE
Trustees who are not
Interested Persons of the
Fund
------------------------
Richard E. Erickson Trustee o Class II Physician; President, 59 Portfolios None
c/o First Trust Advisors Wheaton Orthopedics;
L.P. Co-owner and Co-Director
1001 Warrenville Road, o 2004 (January 1996 to May
Suite 300 2007), Sports Med Center
Lisle, IL 60532 for Fitness; Limited
D.O.B.: 04/51 Partner, Gundersen Real
Estate Partnership;
Limited Partner,
Sportsmed LLC
Thomas R. Kadlec Trustee o Class II Senior Vice President and 59 Portfolios None
c/o First Trust Advisors Chief Financial Officer
L.P. (May 2007 to Present),
1001 Warrenville Road, o 2004 Vice President and Chief
Suite 300 Financial Officer (1990
Lisle, IL 60532 to May 2007), ADM
D.O.B.: 11/57 Investor Services, Inc.
(Futures Commission
Merchant); President
(May 2005 to Present),
ADM Derivatives, Inc.;
Registered Representative
(2000 to Present),
Segerdahl & Company,
Inc., a FINRA member
(Broker-Dealer)
Robert F. Keith Trustee o Class I President (2003 to 59 Portfolios None
c/o First Trust Advisors Present),
L.P. Hibs Enterprises
1001 Warrenville Road, o 2006 (Financial and Management
Suite 300 Consulting); President
Lisle, IL 60532 (2001 to 2003), Aramark
D.O.B.: 03/64 Service Master
Management; President and
Chief Operating Officer
(1998 to 2003), Service
Master Management Services
Niel B. Nielson Trustee o Class III President (June 2002 59 Portfolios Director of
c/o First Trust Advisors to Present), Covenant Covenant
L.P. College Transport Inc.
1001 Warrenville Road, o 2004
Suite 300
Lisle, IL 60532
D.O.B.: 03/54
Officers of the Fund
--------------------
Mark R. Bradley Treasurer, o Indefinite Chief Financial Officer, N/A N/A
1001 Warrenville Road Controller, Chief term First Trust Advisors L.P.
Suite 300 Financial Officer and First Trust
Lisle, IL 60532 and Chief o 2004 Portfolios L.P.; Chief
D.O.B.: 11/57 Accounting Officer Financial Officer,
BondWave LLC (Software
Development
Company/Broker-Dealer/Investment
Adviser) and Stonebridge
Advisors LLC (Investment
Adviser)
- 35 -
NUMBER OF
TERM OF OFFICE PORTFOLIOS IN OTHER
POSITION AND YEAR FIRST FUND COMPLEX DIRECTORSHIPS
NAME, ADDRESS AND AND OFFICES ELECTED OR PRINCIPAL OCCUPATIONS OVERSEEN BY HELD BY
DATE OF BIRTH WITH FUND APPOINTED(2) DURING PAST 5 YEARS TRUSTEE TRUSTEE
James M. Dykas Assistant o Indefinite Senior Vice President N/A N/A
1001 Warrenville Road, Treasurer term (April 2007 to Present),
Suite 300 Vice President (January
Lisle, IL 60532 o 2005 2005 to April 2007),
D.O.B.: 01/66 First Trust Advisors L.P.
and First Trust
Portfolios L.P.;
Executive Director
(December 2002 to January
2005), Vice President
(December 2000 to
December 2002), Van
Kampen Asset Management
and Morgan Stanley
Investment Management
Christopher R. Fallow Assistant Vice o Indefinite Assistant Vice President N/A N/A
1001 Warrenville Road President term (August 2006 to Present),
Suite 300 Associate (January 2005
Lisle, IL 60532 o 2006 to August 2006), First
D.O.B.: 04/79 Trust Advisors L.P. and
First Trust Portfolios
L.P.; Municipal Bond
Trader (July 2001 to
January 2005), BondWave
LLC (Software Development
Company/Broker-Dealer/Investment
Adviser)
W. Scott Jardine Secretary and o Indefinite General Counsel, First N/A N/A
1001 Warrenville Road Chief Compliance term Trust Advisors L.P. and
Suite 300 Officer First Trust Portfolios
Lisle, IL 60532 o 2004 L.P.; Secretary,
D.O.B.: 05/60 BondWave LLC (Software
Development
Company/Broker-Dealer/Investment
Adviser) and
Stonebridge Advisors
LLC (Investment Adviser)
Daniel J. Lindquist Vice President o Indefinite Senior Vice President N/A N/A
1001 Warrenville Road term (September 2005 to
Suite 300 Present), Vice
Lisle, IL 60532 o 2005 President (April 2004
D.O.B: 02/70 to September 2005),
First Trust Advisors
L.P. and First Trust
Portfolios L.P.; Chief
Operating Officer
(January 2004 to April
2004), Mina Capital
Management, LLC; Chief
Operating Officer
(April 2000 to January
2004), Samaritan Asset
Management Services,
Inc.
Coleen D. Lynch Assistant Vice o Indefinite Assistant Vice N/A N/A
1001 Warrenville Road President term President (January 2008
Suite 300 to Present), First
Lisle, IL 60532 o 2008 Trust Advisors L.P. and
DOB: 07/58 First Trust Portfolios
L.P.; Vice President
(May 1998 to January
2008), Van Kampen Asset
Management and Morgan
Stanley Investment
Management
- 36 -
NUMBER OF
TERM OF OFFICE PORTFOLIOS IN OTHER
POSITION AND YEAR FIRST FUND COMPLEX DIRECTORSHIPS
NAME, ADDRESS AND AND OFFICES ELECTED OR PRINCIPAL OCCUPATIONS OVERSEEN BY HELD BY
DATE OF BIRTH WITH FUND APPOINTED(2) DURING PAST 5 YEARS TRUSTEE TRUSTEE
Kristi A. Maher Assistant o Indefinite Deputy General Counsel N/A N/A
1001 Warrenville Road Secretary term (May 2007 to Present),
Suite 300 Assistant General Counsel
Lisle, IL 60532 o 2004 (March 2004 to May 2007),
D.O.B.: 12/66 First Trust Advisors L.P.
and First Trust
Portfolios L.P.;
Associate (December 1995
to March 2004), Chapman
and Cutler LLP
____________________
(1) Mr. Bowen is deemed an "interested person" of the Fund due to his
position of President of First Trust Advisors, investment adviser of the
Fund.
(2) Currently, Robert F. Keith, as a Class I Trustee, is serving as a trustee
until the Fund's next annual meeting of shareholders. Richard E. Erickson
and Thomas R. Kadlec, as Class II Trustees, are each serving as trustees
until the Fund's 2009 annual meeting of shareholders. James A. Bowen and
Niel B. Nielson, as Class III Trustees, are each serving as trustees
until the Fund's 2010 annual meeting. Officers of the Fund have an
indefinite term.
The Board of Trustees of the Fund has four standing committees: the
Executive Committee (also known as Pricing and Dividend Committee), the
Nominating and Governance Committee, the Valuation Committee, and the Audit
Committee. The Executive Committee, which meets between Board meetings, is
authorized to exercise all powers of and to act in the place of the Board of
Trustees to the extent permitted by the Fund's Declaration of Trust and By-laws.
The members of the Executive Committee shall also serve as a special committee
of the Board known as the Pricing and Dividend Committee which is authorized to
exercise all of the powers and authority of the Board in respect of the issuance
and sale, through an underwritten public offering, of the Common Shares of the
Fund and all other such matters relating to such financing, including
determining the price at which such shares are to be sold and approval of the
final terms of the underwriting agreement, including approval of the members of
the underwriting syndicate. Such committee is also responsible for the
declaration and setting of dividends. Messrs. Erickson and Bowen are members of
the Executive Committee. The Executive Committee serving as the Pricing and
Dividend Committee met four times during the Fund's last fiscal year.
The Nominating and Governance Committee is responsible for appointing
and nominating non-interested persons to the Fund's Board of Trustees. Messrs.
Erickson, Nielson, Kadlec and Keith are members of the Nominating and Governance
Committee. If there is no vacancy on the Board of Trustees, the Board will not
actively seek recommendations from other parties, including shareholders. When a
vacancy on the Board occurs and nominations are sought to fill such vacancy, the
Nominating and Governance Committee may seek nominations from those sources it
deems appropriate in its discretion, including shareholders of the Fund. To
submit a recommendation for nomination as a candidate for a position on the
Board, shareholders of the Fund shall mail such recommendation to W. Scott
Jardine at the Fund's address, 1001 Warrenville Road, Suite 300, Lisle, Illinois
60532. Such recommendation shall include the following information: (a) evidence
of Fund ownership of the person or entity recommending the candidate (if a Fund
Shareholder), (b) a full description of the proposed candidate's background,
- 37 -
including their education, experience, current employment, and date of birth,
(c) names and addresses of at least three professional references for the
candidate, (d) information as to whether the candidate is an "interested person"
in relation to the Fund, as such term is defined in the 1940 Act, as amended,
and such other information that may be considered to impair the candidate's
independence and (e) any other information that may be helpful to the Committee
in evaluating the candidate. If a recommendation is received with satisfactorily
completed information regarding a candidate during a time when a vacancy exists
on the Board or during such other time as the Nominating and Governance
Committee is accepting recommendations, the recommendation will be forwarded to
the Chair of the Nominating and Governance Committee and the outside counsel to
the independent trustees. Recommendations received at any other time will be
kept on file until such time as the Nominating and Governance Committee is
accepting recommendations, at which point they may be considered for nomination.
The Nominating and Governance Committee met four times during the Fund's last
fiscal year.
The Valuation Committee is responsible for the oversight of the pricing
procedures of the Fund. Messrs. Erickson, Kadlec, Neilson and Keith are members
of the Valuation Committee. The Valuation Committee met four times during the
Fund's last fiscal year. The Audit Committee is responsible for overseeing the
Fund's accounting and financial reporting process, the system of internal
controls, audit process and evaluating and appointing independent auditors
(subject also to Board approval). Messrs. Erickson, Nielson, Kadlec and Oster
serve on the Audit Committee. The Audit Committee met seven times during the
Fund's last fiscal year.
Messrs. Erickson, Nielson, Keith, Kadlec and Bowen are also trustees of
First Defined Portfolio Fund, LLC, an open-end fund with 8 portfolios advised by
First Trust Advisors; First Trust/Four Corners Senior Floating Rate Income Fund,
First Trust/Four Corners Senior Floating Rate Income Fund II, Macquarie/First
Trust Global Infrastructure/Utilities Dividend & Income Fund, First Trust
Enhanced Equity Income Fund, First Trust/Aberdeen Global Opportunity Income
Fund, First Trust/FIDAC Mortgage Income Fund, First Trust Strategic High Income
Fund, First Trust Strategic High Income Fund II, First Trust Strategic High
Income Fund III, First Trust Tax-Advantaged Preferred Income Fund, First
Trust/Aberdeen Emerging Opportunity Fund, First Trust Specialty Finance and
Financial Opportunities Fund and First Trust Active Dividend Income Fund,
closed-end funds advised by First Trust Advisors; and First Trust
Exchange-Traded Fund, First Trust Exchange-Traded Fund II and First Trust
Exchange-Traded AlphaDEX(R) Fund, exchange-traded funds with 38 portfolios
advised by First Trust Advisors (collectively, the "First Trust Fund Complex").
None of the Trustees who are not "interested persons" of the Fund, nor any of
their immediate family members, has ever been a director, officer or employee
of, or consultant to, First Trust Advisors, First Trust Portfolios L.P. or their
affiliates. In addition, Mr. Bowen and the other officers of the Fund (other
than Christopher R. Fallow) hold the same positions with the other funds in the
First Trust Fund Complex as they hold with the Fund. Mr. Fallow, Assistant Vice
President of the Fund, serves in the same position for all of the funds in the
First Trust Fund Complex with the exception of First Defined Portfolio Fund,
LLC, First Trust Exchange-Traded Fund, First Trust Exchange-Traded Fund II and
First Trust Exchange-Traded AlphaDEX(R) Fund.
- 38 -
Each trust in the First Trust Fund Complex pays each Trustee who is not
an officer or employee of First Trust Advisors, any sub-adviser or any of their
affiliates ("Independent Trustees") an annual retainer of $10,000 per trust for
the first 14 trusts in the First Trust Fund Complex and an annual retainer of
$7,500 per trust for each subsequent trust added to the First Trust Fund
Complex. The annual retainer is allocated equally among each of the trusts. In
addition, for all the trusts in the First Trust Fund Complex, Dr. Erickson is
paid annual compensation of $10,000 to serve as the lead Trustee, Mr. Keith is
paid annual compensation of $5,000 to serve as the chairman of the Audit
Committee, Mr. Kadlec is paid annual compensation of $2,500 to serve as chairman
of the Valuation Committee and Mr. Nielson is paid annual compensation of $2,500
to serve as the chairman of the Nominating and Governance Committee. Each
chairman will serve two years before rotating to serve as a chairman of another
committee. The annual compensation is allocated equally among each of the trusts
in the First Trust Fund Complex. Trustees are also reimbursed by the investment
companies in the First Trust Fund Complex for travel and out-of-pocket expenses
incurred in connection with all meetings.
The following table sets forth estimated compensation to be paid by the
Fund projected during the Fund's first full fiscal year to each of the Trustees
and estimated total compensation to be paid to each of the Trustees by the First
Trust Fund Complex for a full calendar year. The Fund has no retirement or
pension plans. The officers and the Trustee who are "interested persons" as
designated above serve without any compensation from the Fund.
ESTIMATED TOTAL
COMPENSATION
ESTIMATED AGGREGATE FROM FUND AND
NAME OF TRUSTEE COMPENSATION FROM FUND (1) FUND COMPLEX(2)
James A. Bowen $0 $0
Richard E. Erickson $10,000 $180,000
Thomas R. Kadlec $9,583 $172,500
Robert F. Keith $9,722 $175,000
Niel B. Nielson $9,583 $172,500
____________________
(1) The compensation estimated to be paid by the Fund to the Trustees for
the first full fiscal year for services to the Fund.
(2) The total estimated compensation to be paid to Messrs. Erickson, Kadlec,
Keith and Nielson, Independent Trustees, from the Fund and the First
Trust Fund Complex for a full calendar year is based on estimated
compensation to be paid to these Trustees for a full calendar year for
services as Trustees to the Fund and the First Defined Portfolio Fund,
LLC, an open-end fund (with 8 portfolios), the First Trust
Exchange-Traded Fund, First Trust Exchange-Traded Fund II and the First
Trust Exchange-Traded AlphaDEX(R) Fund, exchange-traded funds, plus
estimated compensation to be paid to these Trustees by the First
Trust/Four Corners Senior Floating Rate Income Fund, the First Trust/Four
Corners Senior Floating Rate Income Fund II, the Macquarie/First Trust
Global Infrastructure/Utilities Dividend & Income Fund, the First Trust
Enhanced Equity Income Fund, the First Trust/Aberdeen Global Opportunity
Income Fund, the First Trust/FIDAC Mortgage Income Fund, the First Trust
Strategic High Income Fund, the First Trust Strategic High Income Fund
II, First Trust Strategic High Income Fund III, the First Trust
Tax-Advantaged Preferred Income Fund, the First Trust/Aberdeen Emerging
Opportunity Fund, the First Trust Specialty Finance and Financial
Opportunities Fund and the First Trust Active Dividend Income Fund.
- 39 -
The Fund has no employees. Its officers are compensated by First Trust
Advisors. Shareholders of the Fund will elect Trustees at the next annual
meeting of shareholders.
The following table sets forth the dollar range of equity securities
beneficially owned by the Trustees in the Fund and in other funds overseen by
the Trustees in the First Trust Fund Complex as of December 31, 2007:
AGGREGATE DOLLAR RANGE OF
EQUITY SECURITIES IN
DOLLAR RANGE OF ALL REGISTERED INVESTMENT COMPANIES
EQUITY SECURITIES OVERSEEN BY TRUSTEE IN
TRUSTEE IN THE FUND FIRST TRUST FUND COMPLEX
Mr. Bowen None Over $100,000
Mr. Erickson $1 - $10,000 Over $100,000
Mr. Kadlec $10,000 - $50,000 Over $100,000
Mr. Keith None Over $100,000
Mr. Nielson $1 - $10,000 $50,001 - $100,000
As of September 30, 2008, the Trustees of the Fund who are not
"interested persons" of the Fund and immediate family members do not own
beneficially or of record any class of securities of an investment adviser or
principal underwriter of the Fund or any person directly or indirectly
controlling, controlled by, or under common control with an investment adviser
or principal underwriter of the Fund.
CONTROL PERSONS
As of September 30, 2008, no person owned of record or beneficially
more than 5% of the Fund's common shares.
INVESTMENT ADVISER
First Trust Advisors L.P., 1001 Warrenville Road, Suite 300, Lisle,
Illinois 60532, is the investment adviser to the Fund. First Trust Advisors
serves as investment adviser or portfolio supervisor to investment portfolios
with approximately $26 billion in assets which it managed or supervised as of
September 30, 2008. On or about November 1, 2008, the principal offices of First
Trust Advisors L.P. will be 120 East Liberty Drive, Wheaton, Illinois 60187. As
investment adviser, First Trust Advisors provides the Fund with professional
investment supervision and management and permits any of its officers or
employees to serve without compensation as Trustees or officers of the Fund if
elected to such positions. First Trust Advisors supervises the activities of the
Fund's Sub-Adviser and provides the Fund with certain other services necessary
with the management of the Portfolio.
First Trust Advisors is an Illinois limited partnership formed in 1991
and an investment adviser registered with the Commission under the Investment
Advisers Act of 1940. First Trust Advisors is a limited partnership with one
limited partner, Grace Partners of DuPage L.P. ("Grace Partners"), and one
- 40 -
general partner, The Charger Corporation. Grace Partners is a limited
partnership with one general partner, The Charger Corporation, and a number of
limited partners. Grace Partners' and The Charger Corporation's primary business
is investment advisory and broker/dealer services through their interests. The
Charger Corporation is an Illinois corporation controlled by the Robert Donald
Van Kampen family. First Trust Advisors is controlled by Grace Partners and The
Charger Corporation.
First Trust Advisors is also adviser or sub-adviser to 25 mutual funds,
37 exchange-traded funds and 14 closed-end funds (including the Fund) and is the
portfolio supervisor of certain unit investment trusts sponsored by First Trust
Portfolios. First Trust Portfolios specializes in the underwriting, trading and
distribution of unit investment trusts and other securities. First Trust
Portfolios, an Illinois limited partnership formed in 1991, acts as sponsor for
successive series of The First Trust Combined Series, FT Series (formerly known
as The First Trust Special Situations Trust), the First Trust Insured Corporate
Trust, The First Trust of Insured Municipal Bonds and The First Trust GNMA.
First Trust Portfolios introduced the first insured unit investment trust in
1974 and to date, more than $85 billion in gross assets have been deposited in
First Trust Portfolios unit investment trusts.
First Trust Advisors acts as investment adviser to the Fund pursuant to
an Investment Management Agreement. The Investment Management Agreement
continues in effect for the Fund from year to year after its initial two-year
term so long as its continuation is approved at least annually by the Trustees
including a majority of the Trustees who are not parties to such agreement or
interested persons of any such party except in their capacity as Trustees of the
Fund, or the vote of a majority of the outstanding voting securities of the
Fund. It may be terminated at any time without the payment of any penalty upon
60 days' written notice by either party, or by action of the Board or by a
majority vote of the outstanding voting securities of the Fund (accompanied by
appropriate notice), and will terminate automatically upon assignment. The
Investment Management Agreement may also be terminated, at any time, without
payment of any penalty, by the Board or by vote of a majority of the outstanding
voting securities of the Fund, in the event that it shall have been established
by a court of competent jurisdiction that the Adviser, or any officer or
director of the Adviser, has taken any action which results in a breach of the
covenants of the Adviser set forth in the Investment Management Agreement. The
Investment Management Agreement provides that First Trust Advisors shall not be
liable for any loss sustained by reason of the purchase, sale or retention of
any security, whether or not such purchase, sale or retention shall have been
based upon the investigation and research made by any other individual, firm or
corporation, if such recommendation shall have been selected with due care and
in good faith, except loss resulting from willful misfeasance, bad faith or
gross negligence on the part of the Adviser in performance of its obligations
and duties, or by reason of its reckless disregard of its obligations and duties
under the Investment Management Agreement.
Pursuant to the Investment Management Agreement between the Adviser and
the Fund, the Fund has agreed to pay for the services and facilities provided by
the Adviser an annual management fee, payable on a monthly basis, equal to 1.00%
of the Fund's Managed Assets.
For purposes of calculation of the management fee, the Fund's "Managed
Assets" means the average daily gross asset value of the Fund (which includes
assets attributable to the Fund's Preferred Shares, if any, and the principal
- 41 -
amount of borrowings), minus the sum of the Fund's accrued and unpaid dividends
on any outstanding Preferred Shares and accrued liabilities (other than the
principal amount of any borrowings incurred, commercial paper or notes or other
forms of indebtedness issued by the Fund and the liquidation preference of any
outstanding Preferred Shares).
In addition to the fee of the Adviser, the Fund pays all other costs
and expenses of its operations, including compensation of its Trustees (other
than those affiliated with the Adviser), custodian, transfer agency,
administrative, accounting and dividend disbursing expenses, legal fees,
leverage expenses, expenses of independent auditors, expenses of repurchasing
shares, expenses of preparing, printing and distributing shareholder reports,
notices, proxy statements and reports to governmental agencies, and taxes, if
any. All fees and expenses are accrued daily and deducted before payment of
dividends to investors.
The Sub-Adviser receives a portfolio management fee equal to 0.50% of
the Fund's Managed Assets. The Sub-Adviser's fee is paid by the Adviser out of
the Adviser's management fee.
For each of the first two years following the commencement of the
Fund's operations through June 24, 2006, the Adviser agreed to reduce its annual
management fee to 0.75% of the Fund's Managed Assets in order to reimburse the
Fund for certain fees and expenses incurred by the Fund. The Sub-Adviser agreed
to bear a portion of this reduction by reducing the amount of its full
sub-advisory fee during such period to 0.382% of the Fund's Managed Assets.
Because the fee paid to the Adviser and Sub-Adviser will be calculated
on the basis of the Fund's Managed Assets, which include the proceeds of
leverage, the dollar amount of the Adviser's and Sub-Adviser's fees from the
Fund will be higher (and the Adviser and Sub-Adviser will be benefited to that
extent) when leverage is utilized. In this regard, if the Fund uses leverage in
the amount equal to 20% of the Fund's Managed Assets (after their issuance), the
Fund's management fee would be 1.25% of net assets attributable to common
shares. See "Summary of Fund Expenses" in the Fund's Prospectus.
From the commencement of the Fund's operations through September 30,
2008, the Fund paid the Adviser $8,013,087 of which $4,030,778 was paid by the
Adviser to the Sub-Adviser or the predecessor to the Sub-Advisor. Of the
remaining $893,433, the Adviser waived $471,743. See "Summary of Fund
Expenses" and "Management of the Fund -- Investment Management Agreement" in the
Fund's Prospectus.
On April 18, 2004, the Trustees of the Fund met with representatives of
the Adviser and Fiduciary Asset Management, LLC (the "Predecessor Sub-Adviser")
to consider, among other things, the possible approval of the Investment
Management Agreement between the Fund and First Trust Advisors and the
sub-advisory agreement between the Adviser, the Predecessor Sub-Adviser and the
Fund (the "Predecessor Sub-Advisory Agreement"). Prior to the meeting, the
Independent Trustees received a memorandum describing their legal obligations
and duties relating to the approval of an investment advisory contract,
including the duties of the Trustees under the 1940 Act and the general
principles of state law; the requirements of the 1940 Act in such matters; the
- 42 -
fiduciary duty of the Adviser; the standards used in determining whether boards
of trustees have fulfilled their duties; and various factors to be considered by
the Trustees in voting on whether to approve advisory agreements. In evaluating
the Investment Management Agreement and the Predecessor Sub-Advisory Agreement,
the Independent Trustees met with their legal counsel privately to discuss their
responsibilities and obligations with respect to the Investment Management
Agreement and Predecessor Sub-Advisory Agreement and the terms of the proposed
agreements.
In evaluating the Investment Management Agreement and the Predecessor
Sub-Advisory Agreement, the Trustees considered narrative information
concerning, among other things, the nature of the services to be provided by the
respective adviser or sub-adviser, the fees to be paid to the respective adviser
and sub-adviser and the experience, resources and staffing of the respective
adviser and sub-adviser. As First Trust Advisors already serves as investment
adviser on the various funds in the First Trust complex, the Trustees noted that
they are well informed as to its personnel, staffing, experience, investment
philosophy and fees paid by other clients. In evaluating the Investment
Management Agreement, the Trustees considered the supervisory services to be
provided by First Trust Advisors, as the investment adviser, the resources
available to fulfill such function and the advisory fees to be paid to First
Trust Advisors.
On September 14, 2007, the Fund entered into a sub-advisory agreement
with the Adviser and Energy Income Partners. In evaluating the Sub-Advisory
Agreement with Energy Income Partners, the Trustees met with the relevant
investment personnel from Energy Income Partners and considered information
relating to the education, experience and number of investment professionals and
other personnel who would provide services under the applicable agreement, its
investment philosophy and process. The Trustees received and reviewed written
materials regarding Energy Income Partners' organizational structure, Energy
Income Partners' and its affiliates experience with the MLP asset class, and
resources available to Energy Income Partners. The Trustees considered the
nature of the services provided by Energy Income Partners as well as the fee to
be paid.
In considering the overall advisory arrangement, the Trustees also
received and reviewed written information regarding advisory fees paid by other
analogous closed-end funds and their respective expense ratios. The Board of
Trustees, including all of the Independent Trustees of the Fund, and the initial
sole shareholder of the Fund, each approved the Investment Management Agreement
and the Sub-Advisory Agreement. The Independent Trustees determined that the
terms of the Fund's Investment Management Agreement and the Sub-Advisory
Agreement, including the fees, are fair and reasonable, and that they will
enable the Fund to obtain high quality investment management services.
CODE OF ETHICS
The Fund, the Adviser and the Sub-Adviser have each adopted codes of
ethics under Rule 17j-1 under the 1940 Act. These codes permit personnel subject
to the code to invest in securities, including securities that may be purchased
or held by the Fund. These codes can be reviewed and copied at the Commission's
Public Reference Room in Washington, D.C. Information on the operation of the
Public Reference Room may be obtained by calling the Commission at (202)
- 43 -
942-8090. The codes of ethics are available on the EDGAR Database on the
Commission's website (http://www.sec.gov), and copies of these code may be
obtained, after paying a duplicating fee, by electronic request at the following
e-mail address: publicinfo@sec.gov, or by writing the Commission Public
Reference Section, Washington, D.C. 20549-0102.
PROXY VOTING PROCEDURES
The Fund has adopted a proxy voting policy that seeks to ensure that
proxies for securities held by the Fund are voted consistently and solely in the
best economic interests of the Fund.
The Board of Trustees is responsible for oversight of the Fund's proxy
voting process. The Board has delegated day-to-day proxy voting responsibility
to Energy Income Partners. Energy Income Partners' Proxy Voting Policy is set
forth in Appendix B to the Statement of Additional Information.
Information regarding how the Fund voted proxies relating to portfolio
securities is available without charge by calling (800) 988-5891 or by accessing
the Commission's website at http://www.sec.gov.
SUB-ADVISER
Energy Income Partners serves as the Fund's Sub-Adviser. In this
capacity, Energy Income Partners is responsible for the selection and on-going
monitoring of the securities in the Fund's investment portfolio.
Energy Income Partners, located at 49 Riverside Avenue, Westport,
Connecticut 06880, is a registered investment adviser and serves as investment
adviser or portfolio supervisor to investment portfolios with approximately $505
million of assets as of September 30, 2008.
Energy Income Partners is a Delaware limited liability company and an
SEC-registered investment adviser, founded in October 2003 by James J. Murchie
to provide professional asset management services in the area of energy related
master limited partnerships and other high payout securities in the energy
sector. In addition to serving as sub-adviser to the Fund, Energy Income
Partners serves as the investment manager to three unregistered investment
companies and one private registered investment company for high net worth
individuals and institutions. Energy Income Partners mainly focuses on portfolio
companies that operate infrastructure assets such as pipelines, storage and
terminals that receive fee-based or regulated income from their customers.
Energy Income Partners currently has a staff of seven persons. Energy
Income Partners is a member of the Ospraie Wingspan platform which is comprised
of a group of independent fund managers in the basic industries and commodities
sectors. Ospraie Management, LLC ("Ospraie Management") is the investment
manager of Ospraie Wingspan and other investment funds advised by Ospraie
- 44 -
Management with approximately $2 billion in assets under management. The
relationship with Ospraie Wingspan enhances Energy Income Partner's access to
industry and company investment research. Lehman Brothers owns a 20% interest in
Ospraie Management.
James J. Murchie is the Founder, Chief Executive Officer, co-portfolio
manager and a Principal of Energy Income Partners. After founding Energy Income
Partners in October 2003, Mr. Murchie and the Energy Income Partners investment
team joined Pequot Capital Management Inc. ("Pequot Capital") in December 2004.
In August 2006, Mr. Murchie and the Energy Income Partners investment team left
Pequot Capital and re-established Energy Income. Prior to founding Energy Income
Partners, Mr. Murchie was a Portfolio Manager at Lawhill Capital Partners, LLC
("Lawhill Capital"), a long/short equity hedge fund investing in commodities and
equities in the energy and basic industry sectors. Before Lawhill Capital, Mr.
Murchie was a Managing Director at Tiger Management, LLC, where his primary
responsibility was managing a portfolio of investments in commodities and
related equities. Mr. Murchie was also a Principal at Sanford C. Bernstein. He
began his career at British Petroleum, PLC. Mr. Murchie holds a BA from Rice
University and an MA from Harvard University.
Eva Pao is a Principal of Energy Income Partners and is co-portfolio
manager for all its funds. She has been with Energy Income Partners since
inception in 2003. From 2005 to mid-2006, Ms. Pao joined Pequot Capital
Management during Energy Income Partners' affiliation with Pequot. Prior to
Harvard Business School, Ms. Pao was a Manager at Enron Corp where she managed a
portfolio in Canadian oil and gas equities for Enron's internal hedge fund that
specialized in energy-related equities and managed a natural gas trading book.
Ms. Pao holds degrees from Rice University and Harvard Business School.
Linda Longville is the Research Director and a Principal of Energy
Income Partners. Ms. Longville has been with Energy Income Partners since its
inception in 2003, including the time the Energy Income Partners investment team
spent at Pequot Capital between December 2004 and July 2006. From April 2001
through September 2003, she was a research analyst for Lawhill Capital. Prior to
Lawhill Capital, Ms. Longville held positions in finance and business
development at British Petroleum, PLC and Advanced Satellite Communications,
Inc. She has a BAS from Miami University (Ohio) and an MA from Case Western
Reserve University.
Saul Ballesteros is the Head of Trading and a Principal of Energy
Income Partners. Mr. Ballesteros joined Energy Income Partners in 2006 after six
years as a proprietary trader at FPL Group and Mirant Corp. From 1994 through
1999, he was with Enron's internal hedge fund in various positions of increased
responsibility, and, from 1991 through 1994, Mr. Ballesteros was a manager of
financial planning at IBM. Mr. Ballesteros holds a BS from Duke University and
an MBA from Northwestern University.
- 45 -
------------------------------- --------------------------------------------------------------------------------------
NUMBER OF OTHER ACCOUNTS MANAGED AND ASSETS BY ACCOUNT TYPE
AS OF ________, 2008
------------------------------- ---------------------------- ---------------------------- ----------------------------
PORTFOLIO MANAGER REGISTERED INVESTMENT OTHER POOLED INVESTMENT OTHER ACCOUNTS
COMPANIES VEHICLES
(OTHER THAN THE FUND)
------------------------------- ---------------------------- ---------------------------- ----------------------------
Number: ___ Number: ____ Number: ____
Assets: $___________ Assets: _____ Assets: $________
------------------------------- ---------------------------- ---------------------------- ----------------------------
Actual or apparent conflicts of interest may arise when a portfolio
manager has day-to-day management responsibilities with respect to more than one
fund or other account. More specifically, portfolio managers who manage multiple
funds and /or other accounts may be presented with one or more of the following
potential conflicts:
The management of multiple funds and/or other accounts may result in a
portfolio manager devoting unequal time and attention to the management of each
fund and/or other account. The Sub-Adviser seeks to manage such competing
interests for the time and attention of a portfolio manager by having the
portfolio manager focus on a particular investment discipline. Most other
accounts managed by a portfolio manager are managed using the same investment
models that are used in connection with the management of the Fund.
If a portfolio manager identifies a limited investment opportunity
which may be suitable for more than one fund or other account, a fund may not be
able to take full advantage of that opportunity due to an allocation of filled
purchase or sale orders across all eligible funds and other accounts. To deal
with these situations, the Sub-Adviser has adopted procedures for allocating
portfolio transactions across multiple accounts.
With respect to securities transactions for the Fund, the Sub-Adviser
determines which broker to use to execute each order, consistent with its duty
to seek best execution of the transaction. However, with respect to certain
other accounts (such as mutual funds for which the Sub-Adviser acts as
sub-advisor, other pooled investment vehicles that are not registered mutual
funds, and other accounts managed for organizations and individuals), the
Sub-Adviser may be limited by the client with respect to the selection of
brokers or may be instructed to direct trades through a particular broker. In
these cases, trades for a fund in a particular security may be placed separately
from, rather than aggregated with, such other accounts. Having separate
transactions with respect to a security may temporarily affect the market price
of the security or the execution of the transaction, or both, to the possible
detriment of such fund or other account(s) involved.
The Sub-Adviser, the Adviser and the Fund have adopted certain
compliance procedures which are designed to address these types of conflicts.
However, there is no guarantee that such procedures will detect each and every
situation in which a conflict arises.
The Sub-Adviser, subject to the Trustees' and the Adviser's
supervision, provides the Fund with discretionary investment services.
Specifically, the Sub-Adviser is responsible for managing the investments of the
Fund in accordance with the Fund's investment objective, policies and
- 46 -
restrictions as provided in the Prospectus and this Statement of Additional
Information, as may be subsequently changed by the Board of Trustees and
communicated to the Sub-Adviser in writing. The Sub-Adviser further agrees to
conform to all applicable laws and regulations of the Commission in all material
respects and to conduct its activities under the Sub-Advisory Agreement in all
material respects in accordance with applicable regulations of any governmental
authority pertaining to its investment advisory services. In the performance of
its duties, the Sub-Adviser will in all material respects satisfy any applicable
fiduciary duties it may have to the Fund, will monitor the Fund's investments,
and will comply with the provisions of the Fund's Declaration of Trust and
By-laws, as amended from time to time, and the stated investment objective,
policies and restrictions of the Fund. The Sub-Adviser is responsible for
effecting all security transactions for the Fund's assets. The Sub-Advisory
Agreement provides that the Sub-Adviser shall not be liable for any loss
suffered by the Fund or the Adviser (including, without limitation, by reason of
the purchase, sale or retention of any security) in connection with the
performance of the Sub-Adviser's duties under the Sub-Advisory Agreement, except
for a loss resulting from willful misfeasance, bad faith or gross negligence on
the part of the Sub-Adviser in performance of its duties under such Sub-Advisory
Agreement, or by reason of its reckless disregard of its obligations and duties
under such Sub-Advisory Agreement.
Pursuant to the Sub-Advisory Agreement among the Adviser, the
Sub-Adviser and the Fund, the Adviser has agreed to pay for the services and
facilities provided by the Sub-Adviser through sub-advisory fees. The
Sub-Adviser receives a portfolio management fee equal to 0.50% of the Fund's
Managed Assets. The Sub-Adviser's fee is paid by the Adviser out of the
Adviser's management fee.
From the commencement of the Fund's operations through September 30,
2008, the Adviser paid the Sub-Adviser $4,030,778, and $421,690 was waived by
the Sub-Adviser.
The Sub-Advisory Agreement may be terminated without the payment of any
penalty by First Trust Advisors, the Fund's Board of Trustees, or a majority of
the outstanding voting securities of the Fund (as defined in the 1940 Act), upon
60 days' written notice to the Sub-Adviser. Pursuant to a separate agreement
between the Sub-Adviser and First Trust Advisors, First Trust Advisors has
agreed that if First Trust Advisors or the Fund terminates or fails to renew the
Sub-Advisory Agreement with the Sub-Adviser other than for cause, First Trust
Advisors will resign and will not agree to be reinstated as investment adviser
to the Fund, which resignation shall be effective no later than 60 days
following the effective date of the Sub-Adviser's termination.
All fees and expenses are accrued daily and deducted before payment of
dividends to investors. The Sub-Advisory Agreement has been approved by a
majority of the Independent Trustees of the Fund and the initial sole
shareholder of the Fund.
PORTFOLIO TRANSACTIONS AND BROKERAGE
Subject to the supervision of the Board of Trustees, the Sub-Adviser
is responsible for decisions to buy and sell securities for the Fund and for the
placement of the Fund's securities business, the negotiation of the commissions
- 47 -
to be paid on brokered transactions, the prices for principal trades in
securities, and the allocation of portfolio brokerage and principal business. It
is the policy of the Sub-Adviser to seek the best execution at the best security
price available with respect to each transaction, and with respect to brokered
transactions in light of the overall quality of brokerage and research services
provided to the Sub-Adviser and its advisees. The best price to the Fund means
the best net price without regard to the mix between purchase or sale price and
commission, if any. Purchases may be made from underwriters, dealers, and, on
occasion, the issuers. Commissions will be paid on the Fund's futures and
options transactions, if any. The purchase price of portfolio securities
purchased from an underwriter or dealer may include underwriting commissions and
dealer spreads. The Fund may pay mark-ups on principal transactions. In
selecting broker/dealers and in negotiating commissions, the Sub-Adviser
considers, among other things, the firm's reliability, the quality of its
execution services on a continuing basis and its financial condition. The
selection of a broker-dealer may take into account the sale of products
sponsored or advised by the Sub-Adviser and/or its affiliates. If approved by
the Fund's Board of Trustees, the Sub-Adviser may select an affiliated
broker-dealer to effect transactions in the Fund, so long as such transactions
are consistent with Rule 17e-1 under the 1940 Act. From the commencement of the
Fund's operations through September 30, 2008, the Fund paid brokerage
commissions in an aggregate amount of $1,024,570. The Fund did not pay any
brokerage commissions to any affiliated persons of the Fund.
Section 28(e) of the Securities Exchange Act of 1934, as amended
("Section 28(e)"), permits an investment adviser, under certain circumstances,
to cause an account to pay a broker or dealer who supplies brokerage and
research services a commission for effecting a transaction in excess of the
amount of commission another broker or dealer would have charged for effecting
the transaction. Brokerage and research services include (a) furnishing advice
as to the value of securities, the advisability of investing, purchasing or
selling securities, and the availability of securities or purchasers or sellers
of securities; (b) furnishing analyses and reports concerning issuers,
industries, securities, economic factors and trends, portfolio strategy, and the
performance of accounts; and (c) effecting securities transactions and
performing functions incidental thereto (such as clearance, settlement, and
custody).
In light of the above, in selecting brokers, the Sub-Adviser may
consider investment and market information and other research, such as economic,
securities and performance measurement research, provided by such brokers, and
the quality and reliability of brokerage services, including execution
capability, performance, and financial responsibility. Accordingly, the
commissions charged by any such broker may be greater than the amount another
firm might charge if the Sub-Adviser determines in good faith that the amount of
such commissions is reasonable in relation to the value of the research
information and brokerage services provided by such broker to the Sub-Adviser or
the Fund. The Sub-Adviser believes that the research information received in
this manner provides the Fund with benefits by supplementing the research
otherwise available to the Fund. The investment advisory fees paid by the Fund
to the Adviser under the Investment Management Agreement is not reduced as a
result of receipt by the Adviser or the Sub-Adviser of research services.
- 48 -
The Adviser and Sub-Adviser may place portfolio transactions for other
advisory accounts advised by them, and research services furnished by firms
through which the Fund effects its securities transactions may be used by the
Sub-Adviser in servicing all of its accounts; not all of such services may be
used by the Sub-Adviser in connection with the Fund. The Sub-Adviser believes it
is not possible to measure separately the benefits from research services to
each of the accounts (including the Fund) they advise. Because the volume and
nature of the trading activities of the accounts are not uniform, the amount of
commissions in excess of those charged by another broker paid by each account
for brokerage and research services will vary. However, the Sub-Adviser believes
such costs to the Fund will not be disproportionate to the benefits received by
the Fund on a continuing basis. The Sub-Adviser seeks to allocate portfolio
transactions equitably whenever concurrent decisions are made to purchase or
sell securities by the Fund and another advisory account. In some cases, this
procedure could have an adverse effect on the price or the amount of securities
available to the Fund. In making such allocations between the Fund and other
advisory accounts, the main factors considered by the Sub-Adviser are the
investment objective, the relative size of portfolio holding of the same or
comparable securities, the availability of cash for investment and the size of
investment commitments generally held, and the opinions of the persons
responsible for recommending investments to the Fund and such other accounts and
funds.
CERTAIN PROVISIONS IN THE DECLARATION OF TRUST AND BY-LAWS
Under Massachusetts law, shareholders could, in certain circumstances,
be held personally liable for the obligations of the Fund. However, the
Declaration contains an express disclaimer of shareholder liability for debts or
obligations of the Fund and requires that notice of such limited liability be
given in each agreement, obligation or instrument entered into or executed by
the Fund or the Trustees. The Declaration further provides for indemnification
out of the assets and property of the Fund for all loss and expense of any
shareholder held personally liable for the obligations of the Fund solely by
reason of his or her being a shareholder. Thus, the risk of a shareholder
incurring financial loss on account of shareholder liability is limited to
circumstances in which the Fund would be unable to meet its obligations. The
Fund believes that the likelihood of such circumstances is remote.
The Declaration and By-Laws include provisions that could limit the
ability of other entities or persons to acquire control of the Fund or to
convert the Fund to open-end status. The number of trustees is currently five,
but by action of two-thirds of the trustees, the Board of Trustees may from time
to time be increased or decreased. The Board of Trustees is divided into three
classes of trustees serving staggered three-year terms, wit the terms of one
class expiring at each annual meeting of shareholders. If the Fund issues
Preferred Shares, the Fund may establish a separate class for the trustees
elected by the holders of the Preferred Shares. Subject to applicable provisions
of the 1940 Act, vacancies on the Board of Trustees may be filled by a majority
action of the remaining trustees. Such provisions may work to delay a change in
the majority of the Board of Trustees. The provisions of the Declaration of
Trust relating to the election and removal of trustees may be amended only by a
vote of two-thirds of the trustees then in office.
- 49 -
Generally, the Declaration requires the affirmative vote or consent by
holders of at least two-thirds of the shares outstanding and entitled to vote,
except as described below, to authorize (1) a conversion of the Fund from a
closed-end to an open-end investment company, (2) a merger or consolidation of
the Fund with any corporation, association, trust or other organization,
including a series or class of such other organization (other than a merger,
consolidation, reorganization or sale of assets with an acquiring fund that is
not an operating entity immediately prior to the transaction), (3) a sale, lease
or exchange of all or substantially all of the Fund's assets (other than in the
regular course of business of the Fund, sales of assets in connection with the
termination of the Fund as provided in the Declaration of Trust, or sale of
assets with an acquiring fund that is not an operating entity immediately prior
to the transaction), (4) in certain circumstances, a termination of the Fund,
(5) removal of Trustees by shareholders, or (6) certain transactions in which a
Principal Shareholder (as defined below) is a party to the transactions.
However, with respect to items (1), (2) and (3) above, if the applicable
transaction has been already approved by the affirmative vote of two-thirds of
the Trustees, then the majority of the outstanding voting securities as defined
in the 1940 Act (a "Majority Shareholder Vote") is required. In addition, if
there are then preferred shares outstanding, with respect to (1) above,
two-thirds of the preferred shares voting as a separate class shall also be
required unless the action has already been approved by two-thirds of the
Trustees, in which case then a Majority Shareholder Vote is required. Such
affirmative vote or consent shall be in addition to the vote or consent of the
holders of the shares otherwise required by law or by the terms of any class or
series of preferred shares, whether now or hereafter authorized, or any
agreement between the Fund and any national securities exchange. Further, in the
case of items (2) or (3) that constitute a plan of reorganization (as such term
is used in the 1940 Act) which adversely affects the preferred shares within the
meaning of section 18(a)(2)(D) of the 1940 Act, except as may otherwise be
required by law, the approval of the action in question will also require the
affirmative vote of two thirds of the preferred shares voting as a separate
class provided, however, that such separate class vote shall be by a Majority
Shareholder Vote if the action in question has previously been approved by the
affirmative vote of two-thirds of the Trustees.
Approval of shareholders is not required, however, for any transaction,
whether deemed a merger, consolidation, reorganization or otherwise whereby the
Fund issues shares in connection with the acquisition of assets (including those
subject to liabilities) from any other investment company or similar entity.
None of the foregoing provisions may be amended except by the vote of at least
two-thirds of the Shares outstanding and entitled to vote.
As noted above, pursuant to the Declaration of Trust, the affirmative
approval of two-thirds of the Shares outstanding and entitled to vote, subject
to certain exceptions, shall be required for the following transactions in which
a Principal Shareholder (as defined below) is a party: (1) the merger or
consolidation of the Fund or any subsidiary of the Fund with or into any
Principal Shareholder; (2) the issuance of any securities of the Fund to any
Principal Shareholder for cash other than pursuant to a dividend reinvestment or
similar plan available to all shareholders; (3) the sale, lease or exchange of
all or any substantial part of the assets of the Fund to any Principal
Shareholder (except assets having an aggregate fair market value of less than
$1,000,000, aggregating for the purpose of such computation all assets sold,
leased or exchanged in any series of similar transactions within a twelve-month
period); (4) the sale, lease or exchange to the Fund or any subsidiary thereof,
- 50 -
in exchange for securities of the Fund, of any assets of any Principal
Shareholder (except assets having an aggregate fair market value of less than
$1,000,000, aggregating for the purposes of such computation all assets sold,
leased or exchanged in any series of similar transactions within a twelve-month
period). However, shareholder approval for the foregoing transactions shall not
be applicable to (1) any transaction, including, without limitation, any rights
offering, made available on a pro rata basis to all shareholders of the Fund or
class thereof unless the Trustees specifically make such transaction subject to
this voting provision, (2) any transaction if the Trustees shall by resolution
have approved a memorandum of understanding with such Principal Shareholder with
respect to and substantially consistent with such transaction or (3) any such
transaction with any corporation of which a majority of the outstanding shares
of all classes of stock normally entitled to vote in elections of directors is
owned of record or beneficially by the Fund and its subsidiaries. As described
in the Declaration of Trust, a Principal Shareholder shall mean any corporation,
person or other entity which is the beneficial owner, directly or indirectly, of
more than 5% of the outstanding shares and shall include any affiliate or
associate (as such terms are defined in the Declaration of Trust) of a Principal
Shareholder. The above affirmative vote shall be in addition to the vote of the
shareholders otherwise required by law or by the terms of any class or series of
preferred shares, whether now or hereafter authorized, or any agreement between
the Fund and any national securities exchange.
The provisions of the Declaration described above could have the effect
of depriving the common shareholders of opportunities to sell their common
shares at a premium over market value by discouraging a third party from seeking
to obtain control of the Fund in a tender offer or similar transaction. The
overall effect of these provisions is to render more difficult the
accomplishment of a merger or the assumption of control by a third party. They
provide, however, the advantage of potentially requiring persons seeking control
of a Fund to negotiate with its management regarding the price to be paid and
facilitating the continuity of the Fund's investment objective and policies. The
Board of Trustees of the Fund has considered the foregoing anti-takeover
provisions and concluded that they are in the best interests of the Fund and its
common shareholders.
The Declaration provides that the obligations of the Fund are not
binding upon the Trustees of the Fund individually, but only upon the assets and
property of the Fund, and that the Trustees shall not be liable to any person in
connection with the Fund property or the affairs of the Fund or for any neglect
or wrongdoing of any officer, employee or agent of the Fund or for the act or
omission of any other Trustee. Nothing in the Declaration, however, protects a
Trustee against any liability to which he or she would otherwise be subject by
reason of willful misfeasance, bad faith, gross negligence or reckless disregard
of the duties involved in the conduct of his office with or on behalf of the
Fund.
Reference should be made to the Declaration on file with the Commission
for the full text of these provisions.
REPURCHASE OF FUND SHARES; CONVERSION TO OPEN-END FUND
The Fund is a closed-end investment company and as such its
shareholders will not have the right to cause the Fund to redeem their shares.
Instead, the Fund's common shares trade in the open market at a price that is be
a function of several factors, including dividend levels (which are in turn
- 51 -
affected by expenses), NAV, call protection, price, dividend stability, relative
demand for and supply of such shares in the market, general market and economic
conditions and other factors. Because shares of a closed-end investment company
may frequently trade at prices lower than NAV, the Trustees, in consultation
with the Fund's Adviser, Sub-Adviser and the corporate finance services and
consulting agent that the Adviser has retained from time to time, may review
possible actions to reduce any such discount. Actions may include the repurchase
of such shares in the open market or in private transactions, the making of a
tender offer for such shares, or the conversion of the Fund to an open-end
investment company. There can be no assurance, however, that the Trustees will
decide to take any of these actions, or that share repurchases or tender offers,
if undertaken, will reduce a market discount. After any consideration of
potential actions to seek to reduce any significant market discount, the
Trustees may, subject to their fiduciary obligations and compliance with
applicable state and federal laws, authorize the commencement of a
share-repurchase program or tender offer. The size and timing of any such share
repurchase program or tender offer will be determined by the Trustees in light
of the market discount of the common shares, trading volume of the common
shares, information presented to the Trustees regarding the potential impact of
any such share repurchase program or tender offer, and general market and
economic conditions. There can be no assurance that the Fund will in fact effect
repurchases of or tender offers for any of its common shares. Before deciding
whether to take any action if the Fund's common shares trade below NAV, the
Trustees would consider all relevant factors, including the extent and duration
of the discount, the liquidity of the Fund's portfolio, the impact of any action
that might be taken on the Fund or its shareholders and market considerations.
Based on these considerations, even if the Fund's shares should trade at a
discount, the Trustees may determine that, in the interest of the Fund and its
shareholders, no action should be taken.
Further, the staff of the Commission currently requires that any tender
offer made by a closed-end investment company for its shares must be at a price
equal to the NAV of such shares on the close of business on the last day of the
tender offer. Any service fees incurred in connection with any tender offer made
by the Fund will be borne by the Fund and will not reduce the stated
consideration to be paid to tendering shareholders.
Subject to its investment limitations, the Fund may borrow to finance
the repurchase of shares or to make a tender offer. Interest on any borrowings
to finance share repurchase transactions or the accumulation of cash by the Fund
in anticipation of share repurchases or tenders will increase the Fund's
expenses and reduce the Fund's net income. Any share repurchase, tender offer or
borrowing that might be approved by the Trustees would have to comply with the
Securities Exchange Act of 1934, as amended, and the 1940 Act and the rules and
regulations thereunder.
Although the decision to take action in response to a discount from NAV
will be made by the Trustees at the time they consider such issue, it is the
Trustees' present policy, which may be changed by the Trustees, not to authorize
repurchases of common shares or a tender offer for such shares if (1) such
transactions, if consummated, would (a) result in the delisting of the common
shares from the American Stock Exchange, or (b) impair status as a registered
closed-end investment company under the 1940 Act; (2) the Fund would not be able
- 52 -
to liquidate portfolio securities in an orderly manner and consistent with the
Fund's investment objective and policies in order to repurchase shares; or (3)
there is, in the Board's judgment, any (a) material legal action or proceeding
instituted or threatened challenging such transactions or otherwise materially
adversely affecting the Fund, (b) general suspension of or limitation on prices
for trading securities on the American Stock Exchange, (c) declaration of a
banking moratorium by Federal or state authorities or any suspension of payment
by United States or state banks in which the Fund invests, (d) material
limitation affecting the Fund or the issuers of its portfolio securities by
Federal or state authorities on the extension of credit by lending institutions
or on the exchange of non-U.S. currency, (e) commencement of war, armed
hostilities or other international or national calamity directly or indirectly
involving the United States, or (f) other event or condition which would have a
material adverse effect (including any adverse tax effect) on the Fund or its
shareholders if shares were repurchased. The Trustees may in the future modify
these conditions in light of experience with respect to the Fund.
Conversion to an open-end company would require the approval of the
holders of at least two-thirds of the Fund's shares outstanding and entitled to
vote; provided, however, that unless otherwise provided by law, if there are
preferred shares outstanding, the affirmative vote of two-thirds of the
preferred shares voting as a separate class shall be required; provided,
however, that such votes shall be by the affirmative vote of the majority of the
outstanding voting securities, as defined in the 1940 Act, if the action in
question was previously approved by the affirmative vote of two-thirds of the
Trustees. Such affirmative vote or consent shall be in addition to the vote or
consent of the holders of the shares otherwise required by law or by the terms
of any class or series of preferred shares, whether now or hereafter authorized,
or any agreement between the Fund and any national securities exchange. See the
Prospectus under "Closed-End Fund Structure" for a discussion of voting
requirements applicable to conversion of the Fund to an open-end company. If the
Fund converted to an open-end company, the Fund's common shares would no longer
be listed on the American Stock Exchange. Any Preferred Shares would need to be
redeemed and any Borrowings may need to be repaid upon conversion to an open-end
investment company. Additionally, the 1940 Act imposes limitations on open-end
funds' investments in illiquid securities, which could restrict the Fund's
ability to invest in certain securities discussed in the Prospectus to the
extent discussed therein. Such limitations could adversely affect distributions
to Fund common shareholders in the event of conversion to an open-end fund.
Shareholders of an open-end investment company may require the company to redeem
their shares on any business day (except in certain circumstances as authorized
by or under the 1940 Act) at their net asset value, less such redemption charge,
if any, as might be in effect at the time of redemption. In order to avoid
maintaining large cash positions or liquidating favorable investments to meet
redemptions, open-end companies typically engage in a continuous offering of
their shares. Open-end companies are thus subject to periodic asset in-flows and
out-flows that can complicate portfolio management. The Trustees may at any time
propose conversion of the Fund to an open-end company depending upon their
judgment as to the advisability of such action in light of circumstances then
prevailing.
The repurchase by the Fund of its shares at prices below NAV will
result in an increase in the NAV of those shares that remain outstanding.
However, there can be no assurance that share repurchases or tenders at or below
NAV will result in the Fund's shares trading at a price equal to their NAV.
- 53 -
Nevertheless, the fact that the Fund's shares may be the subject of repurchase
or tender offers from time to time may reduce any spread between market price
and NAV that might otherwise exist.
In addition, a purchase by the Fund of its common shares will decrease
the Fund's Managed Assets which would likely have the effect of increasing the
Fund's expense ratio.
NET ASSET VALUE
The NAV of the common shares of the Fund is computed based upon the
value of the Fund's portfolio securities and other assets. The NAV is determined
daily as of the close of regular session trading on the New York Stock Exchange
(normally 4:00 p.m. eastern time). U.S. debt securities will normally be priced
using data reflecting the earlier closing of the principal markets for those
securities. The Fund calculates NAV per Common Share by subtracting the Fund's
liabilities (including accrued expenses, dividends payable, current and deferred
income taxes, any borrowings of the Fund and the market value of written call
options) and the liquidation value of any outstanding Preferred Shares from the
Fund's Managed Assets (the value of the securities and other investments the
Fund holds plus cash or other assets, including interest accrued but not yet
received and option premiums) and dividing the result by the total number of
common shares outstanding. The Fund relies to some extent on information
provided by MLPs, which is not necessarily timely, to estimate taxable income
allocable to MLP units held by the Fund and to estimate associated deferred tax
liability. From time to time the Fund will modify its estimates and/or
assumption regarding its deferred tax liability as new information becomes
available. To the extent the Fund modifies its estimates and/or assumptions, the
net asset value of the Fund would likely fluctuate.
The assets in the Fund's portfolio are valued daily in accordance with
Valuation Procedures adopted by the Trustees. The Sub-Adviser anticipates that a
majority of the Fund's assets will be valued using market information supplied
by third parties. In the event that market quotations are not readily available,
the pricing service does not provide a valuation for a particular asset (as is
the case for unlisted investments), or the valuations are deemed unreliable, or
if events occurring after the close of the principal markets for particular
securities (e.g., U.S. debt securities), but before the Fund values its assets,
would materially affect NAV, the Fund may use a fair value method in good faith
to value the Fund's securities and investments. The use of fair value pricing by
the Fund is governed by Valuation Procedures (as defined below) adopted by the
Trustees, and in accordance with the provisions of the 1940 Act.
For purposes of determining the NAV of the Fund, readily marketable
portfolio securities listed on any U.S. exchange other than The Nasdaq Stock
Market are valued, except as indicated below, at the last sale price on the
business day as of which such value is being determined. If there has been no
sale on such day, the securities are valued at the mean of the most recent bid
and asked prices on such day. Securities admitted to trade on Nasdaq are valued
at the Nasdaq Official Closing Price as determined by Nasdaq. Portfolio
securities traded on more than one securities exchange are valued at the last
sale price on the business day as of which such value is being determined at the
close of the exchange representing the principal market for such securities.
- 54 -
Equity securities traded in the over-the-counter market, but excluding
securities admitted to trading on Nasdaq, are valued at the closing bid prices.
Fixed income securities with a remaining maturity of 60 days or more will be
valued by the Fund using a pricing service. When price quotes are not available,
fair market value is based on prices of comparable securities. Fixed income
securities maturing within 60 days are valued by the Fund on an amortized cost
basis.
Any derivative transaction that the Fund enters into may, depending on
the applicable market environment, have a positive or negative value for
purposes of calculating NAV. Any option transaction that the Fund enters into
may, depending on the applicable market environment, have no value or a positive
value. Exchange traded options and futures contracts are valued at the closing
price in the market where such contracts are principally traded.
The value of any portfolio security held by the Fund for which reliable
market quotations are not readily available, including illiquid securities, or
if a valuation is deemed inappropriate, will be determined under procedures
adopted by the Board of Trustees in a manner that reflects fair market value of
the security on the valuation date.
Unlisted Investments--Fair Value. When applicable, fair value is
determined by the Board of Trustees or its designee. In fair valuing the Fund's
investments, consideration is given to several factors, which may include, among
others, the following:
o the projected cash flows for the issuer or borrower;
o the fundamental business data relating to the issuer or borrower;
o an evaluation of the forces which influence the market in which
these securities are purchased and sold;
o the type, size and cost of holding;
o the financial statements of the issuer or borrower;
o the credit quality and cash flow of issuer, based on the
Sub-Adviser's or external analysis;
o the information as to any transactions in or offers for the
holding;
o the price extent of public trading in similar securities (or equity
securities) of the issuer/borrower, or comparable companies;
o the coupon payments;
o the quality, value and saleability of collateral securing the
security or loan;
- 55 -
o the business prospects of the issuer/borrower, including any
ability to obtain money or resources from a parent or affiliate and
an assessment of the issuer's or borrower's management;
o the prospects for the issuer's or borrower's industry, and
multiples (of earnings and/or cash flow) being paid for similar
businesses in that industry;
o any decline in value over time due to the nature of the assets -
for example, an entity that has a finite-life concession agreement
with a government agency to provide a service (e.g., toll roads and
airports); and
o other relevant factors.
If the Board of Trustees or its designee cannot obtain a market value
or the Board of Trustees or its designee determines that the value of a security
as so obtained does not represent a fair value as of the valuation time (due to
a significant development subsequent to the time its price is determined or
otherwise), fair value for the security shall be determined pursuant to
methodologies established by the Board of Trustees (the "Valuation Procedures").
The Valuation Procedures provide that direct placements of securities of private
companies (i.e., companies with no outstanding public securities) ordinarily
will be valued at cost. The Valuation Procedures provide that securities that
are convertible into publicly traded securities (i.e., subordinated units)
ordinarily will be valued at the market value of the publicly traded security
less a discount equal in amount to the discount negotiated at the time of
purchase. A report of any prices determined pursuant to such methodologies will
be presented to the Board of Trustees or a designated committee thereof for
approval no less frequently than quarterly.
The Valuation Procedures also provide that the Board of Trustees or its
designee will review the valuation of the obligation for income taxes separately
for current taxes and deferred taxes due to the differing impact of each on the
anticipated timing distributions by the Fund to its shareholders.
The allocation between current and deferred income taxes is determined
based upon the value of assets reported for book purposes compared to the
respective net tax bases of assets as recognized for federal income tax
purposes. It is anticipated that cash distributions, for MLPs in which the Fund
invests, will not equal the amount of taxable income allocable to the Fund
primarily due to depreciation and amortization recorded by MLPs which generally
results in a portion of the cash distribution received to not be recognizable as
income for tax purposes. The relative portion of such distributions not
recognized for tax purposes will vary among the MLPs, and will also vary year by
year for each MLP. The Board of Trustees or its designee will be able to
directly confirm the portion of each distribution recognized as taxable income
when it receives annual tax reporting information from each MLP. The allocation
between current and deferred income taxes also impacts the determination of the
Fund's earnings and profits, as described in Internal Revenue Code Section 312.
- 56 -
TAX MATTERS
The following discussion of federal income tax matters is based on the
advice of Chapman and Cutler LLP, counsel to the Fund.
MATTERS ADDRESSED
This section and the discussion in the Prospectus provide a general
summary of the material U.S. federal income tax consequences to the persons who
purchase, own and dispose of the common shares. It does not address all federal
income tax consequences that may apply to investment in the common shares.
Unless otherwise indicated, this discussion is limited to taxpayers who are U.S.
persons, as defined herein. The discussion that follows is based on the
provisions of the Code, treasury regulations promulgated thereunder as in effect
on the date hereof and on existing judicial and administrative interpretations
thereof. These authorities are subject to change and to differing
interpretations, which could apply retroactively. Potential investors should
consult their own tax advisors in determining the federal, state, local, foreign
and any other tax consequences to them of the purchase, ownership and
disposition of the common shares. This discussion does not address all tax
consequences that may be applicable to a U.S. person that is a beneficial owner
of common shares, nor does it address, unless specifically indicated, the tax
consequences to, among others, (i) persons that may be subject to special
treatment under U.S. federal income tax law, including, but not limited to,
banks, insurance companies, thrift institutions, regulated investment companies,
real estate investment trusts, tax-exempt organizations and dealers in
securities or currencies, (ii) persons that will hold common shares as part of a
position in a "straddle" or as part of a "hedging," "conversion" or other
integrated investment transaction for U.S. federal income tax purposes, (iii)
persons whose functional currency is not the United States dollar or (iv)
persons that do not hold common shares as capital assets within the meaning of
Section 1221 of the Code.
For purposes of this discussion, a "U.S. person" is (i) an individual
citizen or resident of the United States, (ii) a corporation or partnership
organized in or under the laws of the United States or any state thereof or the
District of Columbia (other than a partnership that is not treated as a United
States person under any applicable treasury regulations), (iii) an estate the
income of which is subject to U.S. federal income taxation regardless of its
source, or (iv) a trust if a court within the United States is able to exercise
primary supervision over the administration of such trust and one or more U.S.
persons have the authority to control all the substantial decisions of such
trust. Notwithstanding clause (iv) above, to the extent provided in regulations,
certain trusts in existence on August 20, 1996 and treated as U.S. persons prior
to such date that elect to continue to be so treated also shall be considered
U.S. persons.
TAX CHARACTERIZATION OF THE FUND FOR U.S. FEDERAL INCOME TAX PURPOSES
The Fund has elected to be treated as a regular C corporation for U.S.
federal income tax purposes. Thus, the Fund is subject to U.S. corporate income
tax on its U.S. taxable income. Such taxable income generally would include all
of the Fund's net income from the MLPs. The current U.S. federal maximum
graduated income tax rate for corporations is 35%. In addition, the United
States also imposes a 20% alternative minimum tax on the recalculated
- 57 -
alternative minimum taxable income of an entity treated as a corporation. Any
such U.S. corporate income tax or alternative minimum tax could materially
reduce cash available to make payments on the common shares. The Fund will also
be obligated to pay state income tax on its taxable income, either because the
states follow the federal election or because the states separately impose a tax
on the Fund.
The MLPs in which the Fund intends to invest generally are treated as
partnerships for U.S. federal income tax purposes. As a partner in the MLPs, the
Fund will be required to report its allocable share of MLP income, gain, loss,
deduction and expense, whether or not any cash is distributed from the MLPs.
The Fund intends to invest in energy MLPs, so the Fund anticipates that
the majority of the Fund's items of income, gain, loss, deduction and expense
will be related to energy ventures. However, some items are likely to relate to
the temporary investment of the Fund's capital, which may be unrelated to energy
ventures.
In general, for certain periods in the investment life cycle, energy
ventures historically have generated taxable income in amounts less than the
amount of cash distributions that they have produced. The Fund anticipates that
it will not incur U.S. federal income tax on a significant portion of its cash
flow received, particularly after taking into account the Fund's current
operating expenses. However, the Fund's particular investments may not perform
consistently with historical patterns in the industry, and additional tax may be
incurred by the Fund.
Although the Fund intends to hold the interests in the MLPs for
investment, the Fund is likely to sell interests in a particular MLP from time
to time. On any such sale, the Fund generally will recognize gain or loss based
upon the difference between the consideration received for tax purposes on the
sale and the Fund's tax basis in the interest sold. The consideration received
is generally the amount paid by the purchaser plus any debt of the MLP allocated
to the Fund that will shift to the purchaser on the sale. The Fund's tax basis
in an MLP is the amount paid for the interest, decreased for any distributions
of cash received by the Fund in excess of the Fund's allocable share of taxable
income and decreased by the Fund's allocable share of net losses. Thus, although
cash in excess of taxable income and net tax losses may create a temporary
economic benefit to the Fund, they will increase the amount of gain (or decrease
the amount of loss) on the sale of an interest in an MLP. No favorable federal
income tax rate applies to long-term capital gains for entities treated as
corporations for federal income tax purposes, such as the Fund. Thus, the Fund
will be subject to federal income tax on its long-term capital gains, like
ordinary income, at rates of up to 35%.
In calculating the Fund's alternative minimum taxable income, certain
percentage depletion deductions and intangible drilling costs may be treated as
items of tax preference. Items of tax preference increase alternative minimum
taxable income and increase the likelihood that the Fund may be subject to the
alternative minimum tax.
The Fund is not treated as a regulated investment company for federal
income tax purposes. In order to qualify as a regulated investment company, the
income and assets of the company must meet certain minimum threshold tests.
- 58 -
Because the Fund invests a substantial portion of its Managed Assets in MLPs
that invest in energy ventures, the Fund does not meet such tests under current
law. In contrast to the tax rules that will apply to the Fund, a regulated
investment company generally does not pay corporate income tax. Thus, the
regulated investment company taxation rules have no application to the Fund or
common shareholders of the Fund.
TAXATION OF THE SHAREHOLDERS
Distributions. The Fund's distributions will be treated as dividends to
common shareholders to the extent of the Fund's current or accumulated earnings
and profits as determined for federal income tax purposes.
As discussed in greater detail below, dividends that qualify as
"qualified dividend income" are generally taxed to individuals at a maximum 15%
rate if certain holding period and other requirements are met. Corporations are
generally subject to tax on dividends at a maximum 35% rate, but corporations
may be eligible to exclude 70% of the dividends if certain holding period
requirements are met by the common shareholder receiving such dividend. Common
shareholders that are not U.S. persons are generally subject to a 30%
withholding tax, unless (i) the common shareholder's interest in the Fund is
effectively connected to a U.S. trade or business and the common shareholder
provides the Fund with a Form W-8ECI signed under penalties of perjury (in which
case, the common shareholder will be subject to the normal U.S. graduated rates)
or (ii) the common shareholder is eligible for the benefits of a U.S. income tax
treaty and provides the Fund with a Form W-8BEN signed under penalties of
perjury (in which case, the common shareholder will be subject to the rate of
withholding provided for in the relevant treaty).
If a Fund distribution exceeds the Fund's current and accumulated
earnings and profits, the distribution will be treated as a non-taxable
adjustment to the basis of the common shares to the extent of such basis, and
then as capital gain to the extent of the excess distribution. Such gain will be
long-term capital gain if the holding period for the common shares is more than
one year. Individuals are currently subject to a maximum tax rate of 15% on
long-term capital gains. This rate is currently scheduled to increase to 20% for
tax years beginning after December 31, 2010. Corporations are taxed on capital
gains at their ordinary graduated rates.
Because unsevered natural resources are viewed as interests in real
property for some purposes of the Code, depending upon the nature and location
of the MLPs' assets, the Fund could from time to time be classified as a U.S.
real property holding corporation. If the Fund is classified as a U.S. real
property holding corporation, dispositions of interests in the Fund by a
non-U.S. common shareholder and distributions in excess of a non-U.S. common
shareholder's basis may be subject to 10% withholding.
A corporation's earnings and profits are generally calculated by making
certain adjustments to the corporation's reported taxable income. Based upon the
historic performance of similar MLPs, the Fund anticipates that the distributed
cash from the MLPs in its portfolio will exceed the Fund's earnings and profits.
- 59 -
Thus, the Fund anticipates that only a portion of its distributions will be
treated as dividends to its common shareholders for federal income tax purposes.
Special rules apply to the calculation of earnings and profits for
corporations invested in energy ventures. The Fund's earnings and profits will
be calculated using (i) straight-line depreciation rather than a percentage
depletion method and (ii) five-year and ten-year amortization of drilling costs
and exploration and development costs, respectively. Thus, these deductions may
be significantly lower for purposes of calculating earnings and profits than
they are for purposes of calculating taxable income. Because of these
differences, the Fund may make distributions out of earnings and profits,
treated as dividends, in years in which Fund distributions exceed the Fund's
taxable income.
The maximum federal income tax rate for individuals on qualified
dividend income is currently generally 15% for tax years ending on or before
December 31, 2010, unless such favorable treatment is repealed sooner by new
legislation. The portion of the Fund's distributions treated as a dividend for
federal income tax purposes should be treated as qualified dividend income for
federal income tax purposes, subject to certain holding period and other
requirements. This rate of tax on dividends is currently scheduled to increase
back to ordinary income rates after December 31, 2010, with the maximum marginal
federal income tax rate being 39.6%.
A common shareholder participating in the Fund's automatic dividend
reinvestment plan will be taxed upon the reinvested amount as if actually
received by the participating common shareholder and the participating common
shareholder reinvested such amount in additional Fund common shares.
The Fund will notify common shareholders annually as to the federal
income tax status of Fund distributions to them.
Sale of Shares. Upon the sale of common shares, a common shareholder
will generally recognize capital gain or loss measured by the difference between
the amount received on the sale and the common shareholder's tax basis of common
shares sold. As discussed above, such tax basis may be less than the price paid
for the common shares as a result of Fund distributions in excess of the Fund's
earnings and profits. Such capital gain or loss will generally be long-term
capital gain or loss, if such common shares were capital assets held for more
than one year.
Information Reporting and Withholding. The Fund will be required to
report annually to the IRS, and to each common shareholder, the amount of
distributions and consideration paid in redemptions, and the amount withheld for
federal income taxes, if any, for each calendar year, except as to exempt
holders (including certain corporations, tax-exempt organizations, qualified
pension and profit-sharing trusts, and individual retirement accounts). Each
common shareholder (other than common shareholders who are not subject to the
reporting requirements without supplying any documentation) will be required to
provide the Fund, under penalties of perjury, an IRS Form W-9, Form W-8BEN, Form
W-8ECI or an equivalent form containing the common shareholder's name, address,
correct federal taxpayer identification number and a statement that the common
- 60 -
shareholder is not subject to backup withholding. Should a non-exempt common
shareholder fail to provide the required certification, backup withholding will
apply. The current backup withholding rate for domestic persons is 28%, but such
rate is scheduled to increase to 31% after December 31, 2010. As mentioned
above, non-U.S. persons may be subject to withholding tax at a rate of 30%, if
appropriate documentation demonstrating eligibility for a lower rate is not
provided. Backup withholding is not an additional tax. Any such withholding will
be allowed as a credit against the common shareholder's federal income tax
liability provided the required information is furnished to the IRS.
TAX CONSEQUENCES OF CERTAIN INVESTMENTS
Federal Income Taxation of MLPs. MLPs are generally intended to be
taxed as partnerships for federal income tax purposes. As a partnership, an MLP
is treated as a pass-through entity for federal income tax purposes. This means
that the federal income items of the MLP, though calculated and determined at
the partnership level, are allocated among the partners in the MLP and are
included directly in the calculation of the taxable income of the partners
whether or not cash flow is distributed from the MLP. The MLP files an
information return, but normally pays no federal income tax.
MLPs are often publicly traded. Publicly traded partnerships are
generally treated as corporations for federal income tax purposes. However, if
an MLP satisfies certain income character requirements, the MLP will generally
continue to be treated as partnership for federal income tax purposes. Under
these requirements, an MLP must receive at least 90% of its gross income from
certain "qualifying income" sources.
Qualifying income for this purpose generally includes interest,
dividends, real property rents, real property gains, and income and gain from
the exploration, development, mining or production, processing, refining,
transportation or marketing of any mineral or natural resource (including
fertilizer, geothermal energy, and timber). As discussed above, the Fund
currently invests in energy MLPs, so the income of the MLPs should qualify as
qualifying income.
As discussed above, the tax items of an MLP are allocated through to
the partners of the MLP whether or not an MLP makes any distributions of cash.
In part because estimated tax payments are payable quarterly, partnerships often
make quarterly cash distributions. A distribution from a partnership will
generally be treated as a non-taxable adjustment to the basis of the Fund's
interest in the partnership to the extent of such basis, and then as gain to the
extent of the excess distribution. The gain will generally be capital gain, but
a variety of rules could potentially recharacterize the gain as ordinary income.
The Fund's initial tax basis is the price paid for the MLP interest plus any
debt of the MLP allocated to the Fund. The tax basis is decreased for
distributions and allocations of deductions (such as percentage depletion) and
losses, and increased for capital contributions and allocations of net income
and gains.
When interests in a partnership are sold, the difference between (i)
the sum of the sales price and the Fund's share of debt of the partnership that
will be allocated to the purchaser and (ii) the Fund's adjusted tax basis will
be taxable gain or loss, as the case may be.
- 61 -
The Fund should receive a Form K-1 from each MLP, showing its share of
each item of MLP income, gain, loss, deductions and expense. The Fund will use
that information to calculate its taxable income and its earnings and profits.
Because the Fund has elected to be taxed as a corporation, the Fund
will report the tax items of the MLPs and any gain or loss on the sale of
interests in the MLPs. The Fund's common shareholders will be viewed for federal
income tax purposes as having income or loss on their investment in the Fund
rather than in the underlying MLPs. Common shareholders will receive a Form 1099
from the Fund based upon the distributions made (or deemed to have been made)
rather than based upon the income, gain, loss or deductions of the MLPs in which
the Fund invests.
Other Investments. The Fund may attempt to, generate premiums from the
sale of call options. These premiums typically will result in short-term capital
gains to the Fund. Transactions involving the disposition of the Fund's
underlying securities (whether pursuant to the exercise of a call option, put
option or otherwise) will give rise to capital gains or losses. Because the Fund
does not have control over the exercise of the call options it writes, such
exercises or other required sales of the underlying stocks may cause the Fund to
realize capital gains or losses at inopportune times.
Certain of the Fund's investment practices may be subject to special
and complex federal income tax provisions that may, among other things, (i)
disallow, suspend or otherwise limit the allowance of certain losses or
deductions, (ii) convert an ordinary loss or a deduction into a capital loss
(the deductibility of which is more limited) or (iii) cause the Fund to
recognize income or gain without a corresponding receipt of cash. The Fund will
monitor its transactions and may make certain tax elections in order to mitigate
the effect of these provisions, if possible.
PERFORMANCE RELATED AND COMPARATIVE INFORMATION
The Fund may quote certain performance-related information and may
compare certain aspects of its portfolio and structure to other substantially
similar closed-end funds. In reports or other communications to shareholders of
the Fund or in advertising materials, the Fund may compare its performance with
that of (1) other investment companies listed in the rankings prepared by
Lipper, Inc. ("Lipper"), Morningstar Inc. or other independent services;
publications such as Barrons, Business Week, Forbes, Fortune, Institutional
Investor, Kiplinger's Personal Finance, Money, Morningstar Mutual Fund Values,
The New York Times, The Wall Street Journal and USA Today; or other industry or
financial publications or (2) the Standard & Poor's Index of 500 Stocks, the Dow
Jones Industrial Average, NASDAQ Composite Index and other relevant indices and
industry publications. Comparison of the Fund to an alternative investment
should be made with consideration of differences in features and expected
performance. The Fund may obtain data from sources or reporting services, such
as Bloomberg Financial ("Bloomberg") and Lipper, that the Fund believes to be
generally accurate.
From time to time, the Fund may quote the Fund's total return,
aggregate total return or yield in advertisements or in reports and other
communications to shareholders. The Fund's performance will vary depending upon
market conditions, the composition of its portfolio and its operating expenses.
- 62 -
Consequently any given performance quotation should not be considered
representative of the Fund's performance in the future. In addition, because
performance will fluctuate, it may not provide a basis for comparing an
investment in the Fund with certain bank deposits or other investments that pay
a fixed yield for a stated period of time. Investors comparing the Fund's
performance with that of other investment companies should give consideration to
the quality and type of the respective investment companies' portfolio
securities.
The Fund's "average annual total return" is computed according to a
formula prescribed by the Commission. The formula can be expressed as follows:
Average Annual Total Return will be computed as follows:
ERV = P(1+T)/n/
Where P = a hypothetical initial payment of $1,000
T = average annual total return
n = number of years
ERV = ending redeemable value of a hypothetical $1,000
payment made at the beginning of the 1-, 5-, or 10-year
periods at the end of the 1-, 5-, or 10-year periods (or
fractional portion).
The Fund may also quote after-tax total returns to show the impact of
assumed federal income taxes on an investment in the Fund. The Fund's total
return "after taxes on distributions" shows the effect of taxable distributions,
but not any taxable gain or loss, on an investment in shares of the Fund for a
specified period of time. The Fund's total return "after taxes on distributions
and sale of Fund shares" shows the effect of both taxable distributions and any
taxable gain or loss realized by the shareholder upon the sale of fund shares at
the end of a specified period. To determine these figures, all income,
short-term capital gain distributions, and long-term capital gains distributions
are assumed to have been taxed at the highest marginal individualized federal
tax rate then in effect. Those maximum tax rates are applied to distributions
prior to reinvestment and the after-tax portion is assumed to have been
reinvested in the Fund. State and local taxes are ignored.
Actual after-tax returns depend on a shareholder's tax situation and
may differ from those shown. After-tax returns reflect past tax effects and are
not predictive of future tax effects.
- 63 -
Average Annual Total Return (After Taxes on Distributions) will be
computed as follows:
ATV/D/ = P(1+T)/n/
Where: P = a hypothetical initial investment of $1,000
T = average annual total return (after taxes on distributions)
n = number of years
ATV/D/ = ending value of a hypothetical $1,000 investment made
at the beginning of the period, at the end of the period
(or fractional portion thereof), after taxes on fund
distributions but not after taxes on redemptions.
Average Annual Total Return (After Taxes on Distributions and Sale of
Fund Shares) will be computed as follows:
ATV/DR/ = P(1+T)/n/
Where: P = a hypothetical initial investment of $1,000
T = average annual total return (after taxes on distributions
and redemption)
n = number of years
ATV/DR/ = ending value of a hypothetical $1,000 investment made
at the beginning periods, at the end of the periods (or
fractional portion thereof), after taxes on fund
distributions and redemptions.
Quotations of yield for the Fund will be based on all investment income
per share earned during a particular 30-day period (including dividends and
interest), less expenses accrued during the period ("net investment income") and
are computed by dividing net investment income by the maximum offering price per
share on the last day of the period, according to the following formula:
Yield = 2 [( a-b/cd +1)/6/ - 1]
Where: a = dividends and interest earned during the period
b = expenses accrued for the period (net of reimbursements)
c = the average daily number of shares outstanding during the
period that were entitled to receive dividends
d = the maximum offering price per share on the last day of
the period
Past performance is not indicative of future results. At the time
shareholders sell their shares, they may be worth more or less than their
original investment.
EXPERTS
The Financial Statements of the Fund as of November 30, 2007,
incorporated by reference in this Statement of Additional Information have been
audited by Deloitte & Touche LLP, an independent registered public accounting
firm, as set forth in their report thereon, and is incorporated in reliance upon
- 64 -
the report of such firm given upon their authority as experts in accounting and
auditing services. Deloitte & Touche LLP provides auditing services to the Fund.
The principal business address of Deloitte & Touche LLP is 111 South Wacker
Drive, Chicago, Illinois 60606.
CUSTODIAN, ADMINISTRATOR AND TRANSFER AGENT
PFPC Trust Company, 301 Bellevue Parkway, Wilmington, Delaware 19809,
serves as custodian for the Fund. As such, PFPC Trust Company has custody of all
securities and cash of the Fund and attends to the collection of principal and
income and payment for and collection of proceeds of securities bought and sold
by the Fund. PNC Global Investment Servicing (U.S.) Inc., 301 Bellevue Parkway,
Wilmington, Delaware 19809 is the transfer, registrar, dividend disbursing agent
and shareholder servicing agent for the Fund and provides certain clerical,
bookkeeping, shareholder servicing and administrative services necessary for the
operation of the Fund and maintenance of shareholder accounts. PNC Global
Investment Servicing (U.S.) Inc. also provides certain accounting and
administrative services to the Fund pursuant to an Administration and Accounting
Services Agreement, including maintaining the Fund's books of account, records
of the Fund's securities transactions, and certain other books and records;
acting as liaison with the Fund's independent registered public accounting firm
and providing the independent registered public accounting firm with certain
Fund accounting information; and providing other continuous accounting and
administrative services.
ADDITIONAL INFORMATION
A Registration Statement on Form N-2, including amendments thereto,
relating to the shares of the Fund offered hereby, has been filed by the Fund
with the Commission, Washington, D.C. The Fund's Prospectus and this Statement
of Additional Information do not contain all of the information set forth in the
Registration Statement, including any exhibits and schedules thereto. For
further information with respect to the Fund and the shares offered hereby,
reference is made to the Fund's Registration Statement. Statements contained in
the Fund's Prospectus and this Statement of Additional Information as to the
contents of any contract or other document referred to are not necessarily
complete and in each instance reference is made to the copy of such contract or
other document filed as an exhibit to the Registration Statement, each such
statement being qualified in all respects by such reference. Copies of the
Registration Statement may be inspected without charge at the Commission's
principal office in Washington, D.C., and copies of all or any part thereof may
be obtained from the Commission upon the payment of certain fees prescribed by
the Commission.
- 65 -
FINANCIAL STATEMENTS AND
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Our financial statements and financial highlights and the report of
Deloitte & Touche LLP thereon, contained in the Annual Report for the year ended
November 30, 2007 contained in the Fund's Form N-CSR filed with the SEC on
February 8, 2008 are hereby incorporated by reference into, and are made part
of, this SAI. Additionally, the unaudited financial statements and financial
highlights included in the Semi-Annual Report for the six months ended May 31,
2008 contained in the Fund's Form N-CSRS filed with the SEC on August 8, 2008
are hereby incorporated by reference into, and are made part of, this SAI. A
copy of such Annual and Semi-Annual Reports must accompany the delivery of this
SAI.
F-1
APPENDIX A
Standard & Poor's Ratings Group -- A brief description of the
applicable Standard & Poor's Ratings Group, a division of The McGraw-Hill
Companies ("Standard & Poor's" or "S&P"), rating symbols and their meanings (as
published by S&P) follows:
A Standard & Poor's issue credit rating is a current opinion of the
creditworthiness of an obligor with respect to a specific financial obligation,
a specific class of financial obligations, or a specific financial program. It
takes into consideration the creditworthiness of guarantors, insurers, or other
forms of credit enhancement on the obligation. The issue credit rating is not a
recommendation to purchase, sell, or hold a financial obligation, inasmuch as it
does not comment as to market price or suitability for a particular investor.
Issue credit ratings are based on current information furnished by the
obligors or obtained by Standard & Poor's from other sources it considers
reliable. Standard & Poor's does not perform an audit in connection with any
credit rating and may, on occasion, rely on unaudited financial information.
Credit ratings may be changed, suspended, or withdrawn as a result of changes
in, or unavailability of, such information, or based on other circumstances.
Issue credit ratings can be either long-term or short-term. Short-term
ratings are generally assigned to those obligations considered short-term in the
relevant market. In the U.S., for example, that means obligations with an
original maturity of no more than 365 days-including commercial paper.
Short-term ratings are also used to indicate the creditworthiness of an obligor
with respect to put features on long-term obligations. The result is a dual
rating, in which the short-term rating addresses the put feature, in addition to
the usual long-term rating. Medium-term notes are assigned long-term ratings.
LONG-TERM ISSUE CREDIT RATINGS
Issue credit ratings are based in varying degrees, on the following
considerations:
o Likelihood of payment--capacity and willingness of the obligor to
meet its financial commitment on an obligation in accordance with
the terms of the obligation;
o Nature of and provisions of the obligation; and
o Protection afforded by, and relative position of, the obligation in
the event of bankruptcy, reorganization, or other arrangement under
the laws of bankruptcy and other laws affecting creditors' rights.
The issue ratings definitions are expressed in terms of default risk.
As such, they pertain to senior obligations of an entity. Junior obligations are
typically rated lower than senior obligations, to reflect the lower priority in
bankruptcy, as noted above.
A-1
AAA
An obligation rated 'AAA' has the highest rating assigned by Standard &
Poor's. The obligor's capacity to meet its financial commitment on the
obligation is extremely strong.
AA
An obligation rated 'AA' differs from the highest-rated obligations
only in small degree. The obligor's capacity to meet its financial commitment on
the obligation is very strong.
A
An obligation rated 'A' is somewhat more susceptible to the adverse
effects of changes in circumstances and economic conditions than obligations in
higher-rated categories. However, the obligor's capacity to meet its financial
commitment on the obligation is still strong.
BBB
An obligation rated 'BBB' exhibits adequate protection parameters.
However, adverse economic conditions or changing circumstances are more likely
to lead to a weakened capacity of the obligor to meet its financial commitment
on the obligation.
BB, B, CCC, CC, AND C
Obligations rated `BB,' `B,' `CCC,' `CC,' and `C' are regarded as
having significant speculative characteristics. `BB' indicates the least degree
of speculation and `C' the highest. While such obligations will likely have some
quality and protective characteristics, these may be outweighed by large
uncertainties or major exposures to adverse conditions.
BB
An obligation rated `BB' is less vulnerable to nonpayment than other
speculative issues. However, it faces major ongoing uncertainties or exposure to
adverse business, financial, or economic conditions, which could lead to the
obligor's inadequate capacity to meet its financial commitment on the
obligation.
B
An obligation rated `B' is more vulnerable to nonpayment than
obligations rated `BB,' but the obligor currently has the capacity to meet its
financial commitment on the obligation. Adverse business, financial, or economic
conditions will likely impair the obligor's capacity or willingness to meet its
financial commitment on the obligation.
A-2
CCC
An obligation rated `CCC' is currently vulnerable to nonpayment and is
dependent upon favorable business, financial, and economic conditions for the
obligor to meet its financial commitment on the obligation. In the event of
adverse business, financial, or economic conditions, the obligor is not likely
to have the capacity to meet its financial commitment on the obligation.
CC
An obligation rated `CC' is currently highly vulnerable to nonpayment.
C
The `C' rating may be used to cover a situation where a bankruptcy
petition has been filed or similar action has been taken, but payments on this
obligation are being continued.
D
An obligation rated `D' is in payment default. The `D' rating category
is used when payments on an obligation are not made on the date due even if the
applicable grace period has not expired, unless Standard & Poor's believes that
such payments will be made during such grace period. The `D' rating also will be
used upon the filing of a bankruptcy petition or the taking of a similar action
if payments on an obligation are jeopardized.
Plus (+) or minus (-)
The ratings from `AA' to `CCC' may be modified by the addition of a
plus or minus sign to show relative standing within the major rating categories.
c
The `c' subscript is used to provide additional information to
investors that the bank may terminate its obligation to purchase tendered bonds
if the long-term credit rating of the issuer is below an investment-grade level
and/or the issuer's bonds are deemed taxable.
p
The letter `p' indicates that the rating is provisional. A provisional
rating assumes the successful completion of the project financed by the debt
being rated and indicates that payment of debt service requirements is largely
or entirely dependent upon the successful, timely completion of the project.
This rating, however, while addressing credit quality subsequent to completion
of the project, makes no comment on the likelihood of or the risk of default
upon failure of such completion. The investor should exercise his own judgment
with respect to such likelihood and risk.
A-3
*
Continuance of the ratings is contingent upon Standard & Poor's receipt
of an executed copy of the escrow agreement or closing documentation confirming
investments and cash flows.
r
The `r' highlights derivative, hybrid, and certain other obligations
that Standard & Poor's believes may experience high volatility or high
variability in expected returns as a result of noncredit risks. Examples of such
obligations are securities with principal or interest return indexed to
equities, commodities, or currencies; certain swaps and options; and
interest-only and principal-only mortgage securities. The absence of an `r'
symbol should not be taken as an indication that an obligation will exhibit no
volatility or variability in total return.
N.R.
Not rated.
Debt obligations of issuers outside the United States and its
territories are rated on the same basis as domestic corporate and municipal
issues. The ratings measure the creditworthiness of the obligor but do not take
into account currency exchange and related uncertainties.
Bond Investment Quality Standards
Under present commercial bank regulations issued by the Comptroller of
the Currency, bonds rated in the top four categories (`AAA,' `AA,' `A,' `BBB,'
commonly known as investment-grade ratings) generally are regarded as eligible
for bank investment. Also, the laws of various states governing legal
investments impose certain rating or other standards for obligations eligible
for investment by savings banks, trust companies, insurance companies, and
fiduciaries in general.
SHORT-TERM ISSUE CREDIT RATINGS
Notes. A Standard & Poor's note rating reflects the liquidity factors
and market access risks unique to notes. Notes due in three years or less will
likely receive a note rating. Notes maturing beyond three years will most likely
receive a long-term debt rating. The following criteria will be used in making
that assessment:
o Chapter 1 Amortization schedule -- the larger the final maturity
relative to other maturities, the more likely it will be treated as
a note; and
o Chapter 2 Source of payment -- the more dependent the issue is on
the market for its refinancing, the more likely it will be treated
as a note.
A-4
Note rating symbols are as follows:
SP-1
Strong capacity to pay principal and interest. An issue determined to
possess a very strong capacity to pay debt service is given a plus (+)
designation.
SP-2
Satisfactory capacity to pay principal and interest, with some
vulnerability to adverse financial and economic changes over the term of the
notes.
SP-3
Speculative capacity to pay principal and interest.
COMMERCIAL PAPER
An S&P commercial paper rating is a current assessment of the
likelihood of timely payment of debt having an original maturity of no more than
365 days. Ratings are graded into several categories, ranging from `A-1' for the
highest quality obligations to `D' for the lowest. These categories are as
follows:
A-1
A short-term obligation rated `A-1' is rated in the highest category by
Standard & Poor's. The obligor's capacity to meet its financial commitment on
the obligation is strong. Within this category, certain obligations are
designated with a plus sign (+). This indicates that the obligor's capacity to
meet its financial commitment on these obligations is extremely strong.
A-2
A short-term obligation rated `A-2' is somewhat more susceptible to the
adverse effects of changes in circumstances and economic conditions than
obligations in higher rating categories. However, the obligor's capacity to meet
its financial commitment on the obligation is satisfactory.
A-3
A short-term obligation rated `A-3' exhibits adequate protection
parameters. However, adverse economic conditions or changing circumstances are
more likely to lead to a weakened capacity of the obligor to meet its financial
commitment on the obligation.
A-5
B
A short-term obligation rated `B' is regarded as having significant
speculative characteristics. The obligor currently has the capacity to meet its
financial commitment on the obligation; however, it faces major ongoing
uncertainties which could lead to the obligor's inadequate capacity to meet its
financial commitment on the obligation.
C
A short-term obligation rated `C' is currently vulnerable to nonpayment
and is dependent upon favorable business, financial, and economic conditions for
the obligor to meet its financial commitment on the obligation.
D
A short-term obligation rated `D' is in payment default. The `D' rating
category is used when payments on an obligation are not made on the date due
even if the applicable grace period has not expired, unless Standard & Poor's
believes that such payments will be made during such grace period. The `D'
rating also will be used upon the filing of a bankruptcy petition or the taking
of a similar action if payments on an obligation are jeopardized.
Moody's Investors Service, Inc. -- A brief description of the
applicable Moody's Investors Service, Inc. ("Moody's") rating symbols and their
meanings (as published by Moody's) follows:
LONG-TERM DEBT RATINGS
Aaa
Bonds rated Aaa are judged to be of the best quality. They carry the
smallest degree of investment risk and are generally referred to as "gilt
edged." Interest payments are protected by a large or by an exceptionally stable
margin and principal is secure. While the various protective elements are likely
to change, such changes as can be visualized are most unlikely to impair the
fundamentally strong position of such issues.
Aa
Bonds rated Aa are judged to be of high quality by all standards.
Together with the Aaa group they comprise what are generally known as high-grade
bonds. They are rated lower than the best bonds because margins of protection
may not be as large as in Aaa securities or fluctuation of protective elements
may be of greater amplitude or there may be other elements present which make
the long-term risk appear somewhat larger than the Aaa securities.
A-6
A
Bonds rated A possess many favorable investment attributes and are to
be considered as upper-medium-grade obligations. Factors giving security to
principal and interest are considered adequate, but elements may be present
which suggest a susceptibility to impairment some time in the future.
Baa
Bonds rated Baa are considered as medium-grade obligations (i.e., they
are neither highly protected nor poorly secured). Interest payments and
principal security appear adequate for the present, but certain protective
elements may be lacking or may be characteristically unreliable over any great
length of time. Such bonds lack outstanding investment characteristics and in
fact have speculative characteristics as well.
Ba
Bonds rated Ba are judged to have speculative elements; their future
cannot be considered as well-assured. Often the protection of interest and
principal payments may be very moderate, and thereby not well safeguarded during
both good and bad times over the future. Uncertainty of position characterizes
bonds in this class.
B
Bonds rated B generally lack characteristics of the desirable
investment. Assurance of interest and principal payments or of maintenance of
other terms of the contract over any long period of time may be small.
Caa
Bonds rated Caa are of poor standing. Such issues may be in default or
there may be present elements of danger with respect to principal or interest.
Ca
Bonds rated Ca represent obligations which are speculative in a high
degree. Such issues are often in default or have other marked shortcomings.
C
Bonds rated C are the lowest rated class of bonds, and issues so rated
can be regarded as having extremely poor prospects of ever attaining any real
investment standing.
Note: Moody's applies numerical modifiers 1, 2, and 3 in each generic rating
classification from Aa through Caa. The modifier 1 indicates that the obligation
A-7
ranks in the higher end of its generic rating category; the modifier 2 indicates
a mid-range ranking; and the modifier 3 indicates a ranking in the lower end of
that generic rating category.
SHORT-TERM DEBT RATINGS
There are three rating categories for short-term municipal obligations
that are considered investment grade. These ratings are designated as Municipal
Investment Grade (MIG) and are divided into three levels -- MIG 1 through MIG 3.
In addition, those short-term obligations that are of speculative quality are
designated SG, or speculative grade. MIG ratings expire at the maturity of the
obligation.
MIG 1
This designation denotes superior credit quality. Excellent protection
is afforded by established cash flows, highly reliable liquidity support, or
demonstrated broad-based access to the market for refinancing.
MIG 2
This designation denotes strong credit quality. Margins of protection
are ample, although not as large as in the preceding group.
MIG 3
This designation denotes acceptable credit quality. Liquidity and
cash-flow protection may be narrow, and market access for refinancing is likely
to be less well-established.
SG
This designation denotes speculative-grade credit quality. Debt
instruments in this category may lack sufficient margins of protection.
DEMAND OBLIGATION RATINGS
In the case of variable rate demand obligations (VRDOs), a
two-component rating is assigned; a long or short-term debt rating and a demand
obligation rating. The first element represents Moody's evaluation of the degree
of risk associated with scheduled principal and interest payments. The second
element represents Moody's evaluation of the degree of risk associated with the
ability to receive purchase price upon demand ("demand feature"), using a
variation of the MIG rating scale, the Variable Municipal Investment Grade or
VMIG rating. When either the long- or short-term aspect of a VRDO is not rated,
that piece is designated NR, e.g., Aaa/NR or NR/VMIG 1. VMIG rating expirations
are a function of each issue's specific structural or credit features.
A-8
VMIG 1
This designation denotes superior credit quality. Excellent protection
is afforded by the superior short-term credit strength of the liquidity provider
and structural and legal protections that ensure the timely payment of purchase
price upon demand.
VMIG 2
This designation denotes strong credit quality. Good protection is
afforded by the strong short-term credit strength of the liquidity provider and
structural and legal protections that ensure the timely payment of purchase
price upon demand.
VMIG 3
This designation denotes acceptable credit quality. Adequate protection
is afforded by the satisfactory short-term credit strength of the liquidity
provider and structural and legal protections that ensure the timely payment of
purchase price upon demand.
SG
This designation denotes speculative-grade credit quality. Demand
features rated in this category may supported by a liquidity provider that does
not have an investment grade short-term rating or may lack the structural and/or
legal protections necessary to ensure the timely payment of purchase price upon
demand.
COMMERCIAL PAPER
Moody's short-term ratings are opinions of the ability of issuers to
honor short-term financial obligations. Ratings may be assigned to issuers,
short-term programs or to individual short-term debt instruments. Such
obligations generally have an original maturity not exceeding thirteen months,
unless explicitly noted.
Moody's employs the following designations to indicate the relative
repayment ability of rated issuers:
P-1
Issuers (or supporting institutions) rated Prime-1 have a superior
ability to repay short-term debt obligations.
P-2
Issuers (or supporting institutions) rated Prime-2 have a strong
ability to repay short-term debt obligations.
A-9
P-3
Issuers (or supporting institutions) rated Prime-3 have an acceptable
ability to repay short-term obligations.
NP
Issuers (or supporting institutions) rated Not Prime do not fall within
any of the Prime rating categories.
Note: Canadian issuers rated P-1 or P-2 have their short-term ratings enhanced
by the senior-most long-term rating of the issuer, its guarantor or
support-provider.
Fitch Rating Services, Inc.-- A brief description of the applicable
Fitch Rating Services, Inc. ("Fitch") ratings symbols and meanings (as published
by Fitch) follows:
LONG-TERM CREDIT RATINGS
International Long-Term Credit Ratings are more commonly referred to as
simply "Long-Term Ratings." The following scale applies to foreign currency and
local currency ratings.
International credit ratings assess the capacity to meet foreign or
local currency commitments. Both foreign and local currency ratings are
internationally comparable assessments. The local currency rating measures the
probability of payment only within the sovereign state's currency and
jurisdiction.
AAA
Highest credit quality. `AAA' ratings denote the lowest expectation of
credit risk. They are assigned only in case of exceptionally strong capacity for
timely payment of financial commitments. This capacity is highly unlikely to be
adversely affected by foreseeable events.
AA
Very high credit quality. `AA' ratings denote a very low expectation of
credit risk. They indicate very strong capacity for timely payment of financial
commitments. This capacity is not significantly vulnerable to foreseeable
events.
A
High credit quality. `A' ratings denote a low expectation of credit
risk. The capacity for timely payment of financial commitments is considered
strong. This capacity may, nevertheless, be more vulnerable to changes in
circumstances or in economic conditions than is the case for higher ratings.
A-10
BBB
Good credit quality. `BBB' ratings indicate that there is currently a
low expectation of credit risk. The capacity for timely payment of financial
commitments is considered adequate, but adverse changes in circumstances and in
economic conditions are more likely to impair this capacity. This is the lowest
investment-grade category.
BB
Speculative. `BB' ratings indicate that there is a possibility of
credit risk developing, particularly as the result of adverse economic change
over time; however, business or financial alternatives may be available to allow
financial commitments to be met. Securities rated in this category are not
investment grade.
B
Highly speculative. `B' ratings indicate that significant credit risk
is present, but a limited margin of safety remains. Financial commitments are
currently being met; however, capacity for continued payment is contingent upon
a sustained, favorable business and economic environment.
CCC, CC, C
High default risk. Default is a real possibility. Capacity for meeting
financial commitments is solely reliant upon sustained, favorable business or
economic developments. A `CC' rating indicates that default of some kind appears
probable. `C' ratings signal imminent default.
DDD, DD, D
Default. The ratings of obligations in this category are based on their
prospects for achieving partial or full recovery in a reorganization or
liquidation of the obligor. While expected recovery values are highly
speculative and cannot be estimated with any precision, the following serve as
general guidelines. `DDD' obligations have the highest potential for recovery,
around 90%-100% of outstanding amounts and accrued interest. `DD' indicates
potential recoveries in the range of 50%-90% and `D' the lowest recovery
potential, i.e., below 50%.
Entities rated in this category have defaulted on some or all of their
obligations. Entities rated `DDD' have the highest prospect for resumption of
performance or continued operation with or without a formal reorganization
process. Entities rated `DD' and `D' are generally undergoing a formal
reorganization or liquidation process; those rated `DD' are likely to satisfy a
higher portion of their outstanding obligations, while entities rated `D' have a
poor prospect of repaying all obligations.
A-11
SHORT-TERM CREDIT RATINGS
International Short-Term Credit Ratings are more commonly referred to
as simply "Short-Term Ratings." The following scale applies to foreign currency
and local currency ratings.
A short-term rating has a time horizon of less than 12 months for most
obligations, or up to three years for U.S. public finance securities, and thus
places greater emphasis on the liquidity necessary to meet financial commitments
in a timely manner.
International credit ratings assess the capacity to meet foreign or
local currency commitments. Both foreign and local currency ratings are
internationally comparable assessments. The local currency rating measures the
probability of payment only within the sovereign state's currency and
jurisdiction.
F1
Highest credit quality. Indicates the strongest capacity for timely
payment of financial commitments; may have an added "+" to denote any
exceptionally strong credit feature.
F2
Good credit quality. A satisfactory capacity for timely payment of
financial commitments, but the margin of safety is not as great as in the case
of the higher ratings.
F3
Fair credit quality. The capacity for timely payment of financial
commitments is adequate; however, near-term adverse changes could result in a
reduction to non-investment grade.
B
Speculative. Minimal capacity for timely payment of financial
commitments, plus vulnerability to near-term adverse changes in financial and
economic conditions.
C
High default risk. Default is a real possibility. Capacity for meeting
financial commitments is solely reliant upon a sustained, favorable business and
economic environment.
D
Default. Denotes actual or imminent payment default.
A-12
Notes to Long-term and Short-term ratings:
"+" or "-" may be appended to a rating to denote relative status within
major rating categories. Such suffixes are not added to the `AAA' Long-term
rating category, to categories below `CCC,' or to Short-term ratings other than
`F1'.
`NR' indicates that Fitch does not rate the issuer or issue in
question.
`Withdrawn': A rating is withdrawn when Fitch deems the amount of
information available to be inadequate for rating purposes, or when an
obligation matures, is called, or refinanced.
Rating Watch: Ratings are placed on Rating Watch to notify investors
that there is a reasonable probability of a rating change and the likely
direction of such change. These are designated as "Positive," indicating a
potential upgrade, "Negative," for a potential downgrade, or "Evolving," if
ratings may be raised, lowered or maintained. Rating Watch is typically resolved
over a relatively short period.
A Rating Outlook indicates the direction a rating is likely to move
over a one to two year period. Outlooks may be positive, stable, or negative. A
positive or negative Rating Outlook does not imply a rating change is
inevitable. Similarly, ratings for which outlooks are `stable' could be
downgraded before an outlook moves to positive or negative if circumstances
warrant such an action. Occasionally, Fitch may be unable to identify the
fundamental trend. In these cases, the Rating Outlook may be described as
evolving.
A-13
APPENDIX B
ENERGY INCOME PARTNERS, LLC
PROXY VOTING POLICY
1.1. Policy
EIP recognizes that voting rights have economic value and that the
exercise of such voting rights is part of its fiduciary duty. As such, it is
EIP's policy to monitor corporate actions and vote proxies on behalf of its
discretionary clients generally in accordance with these policies and
procedures. EIP will evaluate and vote issues in the best interest of its
clients with a view toward maximizing the ultimate economic value of the
investment. A proxy must be voted on behalf of all discretionary clients in a
prudent manner, considering the prevailing circumstances, and in accordance with
EIP's fiduciary duty. With respect to ERISA clients for which EIP is an
investment manager, EIP will act prudently and solely in the interest of the
participants and beneficiaries of such ERISA client. If a proxy is received
after termination of EIP's services, then the proxy will not be voted, but will
be forwarded directly to the client.
EIP has contracted with Institutional Shareholder Services, Inc.
("ISS") to provide it with proxy voting services, including, but not limited to,
analyses, research, recommendations and guidelines to assist EIP in monitoring
corporate actions and voting proxies on behalf of its clients. EIP has adopted
the ISS Proxy Voting Manual and ISS Global Proxy Voting Guidelines (hereafter,
"Proxy Voting Guidelines") as part of these policies and procedures. In
addition, on an ongoing basis, EIP will identify material conflicts of interest,
if any, which may arise between EIP and its clients as it relates to voting
proxies to ensure that all proxies are voted in the best interest of its
clients. Furthermore, EIP will review ISS's conflict procedures periodically to
ascertain their adequacy.
As further described herein, EIP has assigned a Proxy Voting
Administrator to be responsible for monitoring corporate actions, conduct
administrative functions with regards to proxies, and generally vote on routine
matters. In addition, EIP has established a Proxy Voting Committee to be
responsible for resolving proxy voting issues, for making proxy voting decisions
where material conflicts of interest exist and setting policy.
1.2 PROXY VOTING GUIDELINES
EIP will generally vote proxies in accordance with the Proxy Voting Guidelines
in Appendix A. These guidelines generally provide that: (i) when EIP's view of
the issuer's management is favorable, EIP will generally support current
management initiatives with the exceptions as noted below and (ii) when EIP's
view is that changes to the management structure would probably increase
shareholder value, EIP will not support management on a variety of proposals.
o Where there is a clear conflict between management and shareholder
interests, EIP may elect to vote against management.
o In general, EIP opposes proposals, which in its view, act to
entrench management.
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o In some instances, even though EIP may support management, there
are some corporate governance issues that, in spite of management
objections, EIP believes should be subject to shareholder approval.
Furthermore, with regards to certain issues including, but not limited to,
option re-pricing and the terms and conditions of members of the Board of
Directors, EIP will vote on a case-by-case basis, which may be different than
the recommendations set forth in the Proxy Voting Guidelines. Nevertheless, in
voting all proxies, EIP will take into account what is in the best economic
interest of its clients. EIP will maintain documentation memorializing the
decision to vote a proxy in a manner different than what is stated in the Proxy
Voting Guidelines. In addition, the Proxy Voting Committee will be periodically
informed of all proxies that were not voted in accordance with the Proxy Voting
Guidelines.
There may be times when EIP believes that abstaining from voting a proxy is in
its client's best economic interest, such as when it is determined that the cost
of voting the proxy exceeds the expected benefit to the client. As an example,
voting on a foreign security may involve additional costs such as a translator
or traveling to a foreign country to vote in person. Documentation will be
maintained of all proxies that are not voted and the reasons thereof.
Any person receiving an inquiry directly from a company regarding a
particular proxy issue should immediately notify (via e-mail or other
appropriate means) the Research Coordinator. It is EIP's general policy not to
disclose its clients' ownership interests in securities or EIP's view on a
specific proxy issue.
1.3 PROXY BALLOT INFORMATION
EIP will receive proxy ballot information directly from ISS through its VoteX
platform. In the event that EIP receives any proxy ballots directly, EIP will
send such ballots to ISS to be incorporated into their electronic database. All
proxy ballots should be sent to the Proxy Voting Administrator who will be
responsible to:
1. Monitor all corporate actions.
2. Determine which clients currently hold securities of the company
subject to the proxy and the total number of shares voting
authority is held on behalf of EIP's clients as of the record date.
3. As necessary, reconcile the information obtained from ISS with the
client's positions recorded in EIP's internal accounting system.
Any discrepancies should be noted and documentation as to the
resolution of such discrepancies should be maintained.
4. Maintain a record of any proxy ballot information received. A
record of the proxies EIP receives through ISS will be maintained
in the ISS database.
5. Review the proxy ballot information.
6. Determine whether the company is on the Proxy Watch List (See
Section 1.5). If so, the proxy ballot information should be
forwarded to the Proxy Voting Committee for their review and
decision.
7. Submit all instructions through the ISS VoteX platform in a timely
manner (unless submitted by the research analyst or portfolio
manager).
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8. Maintain a record of the votes cast. A record of the votes cast
through ISS will be maintained in the ISS database.
9. Maintain any documentation or data that was material in making a
decision regarding how to vote a proxy issue, or that memorializes
the basis for the decision, including proxies that were not voted.
1.4 PROXY VOTING RESPONSIBILITIES
The Proxy Voting Administrator will be responsible for making proxy voting
decisions on routine matters where no material conflicts of interest exist. In
making decisions, the Proxy Voting Administrator may either vote in accordance
with the Proxy Voting Guidelines or forward the proxy ballot information to the
Research Coordinator. The Research Coordinator will coordinate the proxy voting
decision-making process by providing the proxy ballot information to the
appropriate research analysts or portfolio managers (as the case may be)
responsible for covering the company. The research analysts or portfolio
managers will then be responsible for making a unanimous decision as to how the
proxy should be voted. If the research analysts or portfolio managers do not
reach a unanimous decision regarding any specific proxy issue, that proxy issue
shall be forwarded to the Proxy Voting Committee for further analysis and voting
resolution.
1.5 MATERIAL CONFLICTS OF INTEREST
Given the nature of EIP's business activities, material conflicts of interest
may arise between EIP and its clients with regards to voting proxies. The Proxy
Voting Committee will be responsible for identifying potential material
conflicts of interest. These conflicts of interest may include, but are not
limited to the following:
1. Directorships: Certain employees and/or members of such employee's
immediate household may be on the Board of Directors of public or
private companies in which EIP may invest on behalf of its clients.
However, a material conflict of interest will generally not exist
in the case where certain employees are on the Board of Directors
of public or private companies on behalf, or at the direction, of
EIP. Nevertheless, EIP will review each of these situations on a
case-by-case basis to confirm that no material conflicts of
interest exist.
2. Management of Pension Plans: EIP may provide portfolio management
services, for which it may receive compensation, to the pension
plan of a public or private company in which EIP may invest on
behalf of its clients.
3. Other Services: EIP may provide other services, for which it may
receive compensation, to public or private companies in which EIP
may invest on behalf of its clients.
The Proxy Voting Committee will maintain a list entitled, Proxy Watch List, of
companies in which it believes EIP may have a potential material conflict of
interest as it relates to voting proxies on behalf of its clients. The Proxy
Watch List will be updated periodically to reflect any changes. The Proxy Voting
Administrator will be provided with a copy of this list so that he/she can
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properly identify these companies and forward their proxy ballot information to
the Proxy Committee.
If it is determined that a material conflict of interest exists, the Proxy
Voting Committee will vote the proxies of that company in accordance with the
Proxy Voting Guidelines unless, the Proxy Voting Committee determines that it
would not be in the best interest of EIP's clients. If a proxy of a company
where a material conflict of interest exists is not voted in accordance with the
Proxy Voting Guidelines, the Proxy Voting Committee will be required to document
the basis for their decision.
If a member of the Proxy Voting Committee has a material conflict of
interest with regards to a company for which a proxy is to be voted, they shall
refrain from participating in making a decision on such proxy. A majority vote
of the Proxy Voting Committee members is required for a final ruling on proxy
issues.
1.6 DISCLOSURE
A. FORM ADV
EIP will include the following disclosures in Part II of its Form ADV:
1. A concise summary of these policies and procedures, and any
amendments thereto;
2. An offer to provide clients with a copy of these policies and
procedures upon request.
3. Information, including contact details (Investor Relations [( ) - ]
or Investor_Relations@energymlp.com), as to how clients can obtain
information regarding how securities held in their account were
voted.
B. CLIENTS
EIP will provide its clients with the disclosures included in
its Form ADV and any material amendments to such disclosures. If a
client requests information on how securities held in their accounts
were voted, EIP will provide, at a minimum, the following information:
(i) the name of the issuer; (ii) the proposal voted upon and (iii) how
EIP voted the proxy.
Client requests for information as to EIP's intentions to vote a
particular proxy prior to the deadline date will be handled on a
case-by-case basis. If the proxy is of a controversial nature, EIP's
intentions may not be disclosed to the client.
1.7 RECORD-KEEPING
EIP must maintain the following documents for a period of not less than
five years, the first two years in its offices:
1. EIP's proxy voting policies and procedures, and any amendments
thereto.
2. Proxy ballot information regarding client securities will generally
be maintained in the ISS database. However, any proxy ballot
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information received by EIP, which is not otherwise maintained in
the ISS database, will be maintained by EIP.
3. Records of the votes that are cast by EIP on behalf of its clients.
4. Written records of client/investor requests for proxy information
and any written response to any (written or oral) client/investor
request for information on how EIP voted the proxies, including any
e-mails.
5. Any documents prepared by EIP that were material in making a
decision regarding how to vote a proxy issue, or that memorializes
the basis for the decision, including e-mails.
6. A copy of the written disclosure provided to clients/investors,
which describe EIP's proxy voting policies and procedures and any
related correspondence sent to clients/investors, including
e-mails.
1.8 REVIEW
These policies and procedures will be reviewed periodically in light of
regulatory developments and will be amended as needed.
In addition, EIP will periodically evaluate the services provided by ISS and the
Proxy Voting Guidelines to ensure compliance with current applicable regulatory
requirements. 1.9 IDENTIFICATION OF PERSONS
The Proxy Voting Administrator, Research Coordinators and members of
the Proxy Voting Committee are identified in Appendix B, which may be amended
from time to time.
APPENDIX A
PROXY VOTING GUIDELINES
ISS PROXY VOTING GUIDELINES SUMMARY
The following is a concise summary of ISS's proxy voting policy guidelines.
1. Auditors
Vote FOR proposals to ratify auditors, unless any of the following apply:
o An auditor has a financial interest in or association with the
company, and is therefore not independent
o Fees for non-audit services are excessive, or
o There is reason to believe that the independent auditor has
rendered an opinion which is neither accurate nor indicative of the
company's financial position.
2. BOARD OF DIRECTORS
VOTING ON DIRECTOR NOMINEES IN UNCONTESTED ELECTIONS
Votes on director nominees should be made on a CASE-BY-CASE basis, examining the
following factors: independence of the board and key board committees,
attendance at board meetings, corporate governance provisions and takeover
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activity, long-term company performance, responsiveness to shareholder
proposals, any egregious board actions, and any excessive non-audit fees or
other potential auditor conflicts.
CLASSIFICATION/DECLASSIFICATION OF THE BOARD
Vote AGAINST proposals to classify the board.
Vote FOR proposals to repeal classified boards and to elect all directors
annually.
INDEPENDENT CHAIRMAN (SEPARATE CHAIRMAN/CEO)
Vote on a CASE-BY-CASE basis shareholder proposals requiring that the positions
of chairman and CEO be held separately. Because some companies have governance
structures in place that counterbalance a combined position, certain factors
should be taken into account in determining whether the proposal warrants
support. These factors include the presence of a lead director, board and
committee independence, governance guidelines, company performance, and annual
review by outside directors of CEO pay.
MAJORITY OF INDEPENDENT DIRECTORS/ESTABLISHMENT OF COMMITTEES
Vote FOR shareholder proposals asking that a majority or more of directors be
independent unless the board composition already meets the proposed threshold by
ISS's definition of independence.
Vote FOR shareholder proposals asking that board audit, compensation, and/or
nominating committees be composed exclusively of independent directors if they
currently do not meet that standard.
3. SHAREHOLDER RIGHTS
Shareholder Ability to Act by Written Consent
Vote AGAINST proposals to restrict or prohibit shareholder ability to take
action by written consent. Vote FOR proposals to allow or make easier
shareholder action by written consent.
Shareholder Ability to Call Special Meetings
Vote AGAINST proposals to restrict or prohibit shareholder ability to call
special meetings. Vote FOR proposals that remove restrictions on the right of
shareholders to act independently of management.
SUPERMAJORITY VOTE REQUIREMENTS
Vote AGAINST proposals to require a supermajority shareholder vote. VOTE FOR
PROPOSALS TO LOWER SUPERMAJORITY VOTE REQUIREMENTS.
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CUMULATIVE VOTING
Vote AGAINST proposals to eliminate cumulative voting. Vote proposals to restore
or permit cumulative voting on a CASE-BY-CASE basis relative to the company's
other governance provisions.
CONFIDENTIAL VOTING
Vote FOR shareholder proposals requesting that corporations adopt confidential
voting, use independent vote tabulators and use independent inspectors of
election, as long as the proposal includes a provision for proxy contests as
follows: In the case of a contested election, management should be permitted to
request that the dissident group honor its confidential voting policy. If the
dissidents agree, the policy remains in place. If the dissidents will not agree,
the confidential voting policy is waived.
Vote FOR management proposals to adopt confidential voting.
4. PROXY CONTESTS
Voting for Director Nominees in Contested Elections
Votes in a contested election of directors must be evaluated on a CASE-BY-CASE
basis, considering the factors that include the long-term financial performance,
management's track record, qualifications of director nominees (both slates),
and an evaluation of what each side is offering shareholders.
Reimbursing Proxy Solicitation Expenses
Vote CASE-BY-CASE. Where ISS recommends in favor of the dissidents, we also
recommend voting for reimbursing proxy solicitation expenses.
5. Poison Pills
Vote FOR shareholder proposals that ask a company to submit its poison
pill for shareholder ratification. Review on a CASE-BY-CASE basis shareholder
proposals to redeem a company's poison pill and management proposals to ratify a
poison pill.
6. MERGERS AND CORPORATE RESTRUCTURINGS
Vote CASE-BY-CASE on mergers and corporate restructurings based on such features
as the fairness opinion, pricing, strategic rationale, and the negotiating
process.
7. REINCORPORATION PROPOSALS
Proposals to change a company's state of incorporation should be evaluated on a
CASE-BY-CASE basis, giving consideration to both financial and corporate
governance concerns, including the reasons for reincorporating, a comparison of
the governance provisions, and a comparison of the jurisdictional laws. Vote FOR
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reincorporation when the economic factors outweigh any neutral or negative
governance changes.
8. CAPITAL STRUCTURE
Common Stock Authorization
VOTES ON PROPOSALS TO INCREASE THE NUMBER OF SHARES OF COMMON STOCK AUTHORIZED
FOR ISSUANCE ARE DETERMINED ON A CASE-BY-CASE BASIS USING A MODEL DEVELOPED BY
ISS. Vote AGAINST proposals at companies with dual-class capital structures to
increase the number of authorized shares of the class of stock that has superior
voting rights.
Vote FOR proposals to approve increases beyond the allowable increase when a
company's shares are in danger of being delisted or if a company's ability to
continue to operate as a going concern is uncertain.
DUAL-CLASS STOCK
Vote AGAINST proposals to create a new class of common stock with superior
voting rights. Vote FOR proposals to create a new class of nonvoting or
subvoting common stock if: o It is intended for financing purposes with minimal
or no dilution to current shareholders o It is not designed to preserve the
voting power of an insider or significant shareholder
9. EXECUTIVE AND DIRECTOR COMPENSATION
Votes with respect to compensation plans should be determined on a CASE-BY-CASE
basis. Our methodology for reviewing compensation plans primarily focuses on the
transfer of shareholder wealth (the dollar cost of pay plans to shareholders
instead of simply focusing on voting power dilution). Using the expanded
compensation data disclosed under the SEC's rules, ISS will value every award
type. ISS will include in its analyses an estimated dollar cost for the proposed
plan and all continuing plans. This cost, dilution to shareholders' equity, will
also be expressed as a percentage figure for the transfer of shareholder wealth,
and will be considered long with dilution to voting power. Once ISS determines
the estimated cost of the plan, we compare it to a company-specific dilution
cap.
Vote AGAINST equity plans that explicitly permit repricing or where the company
has a history of repricing without shareholder approval.
MANAGEMENT PROPOSALS SEEKING APPROVAL TO REPRICE OPTIONS
Votes on management proposals seeking approval to reprice options are evaluated
on a CASE-BY-CASE basis giving consideration to the following:
o Historic trading patterns
o Rationale for the repricing
o Value-for-value exchange
o Option vesting
o Term of the option
o Exercise price
o Participation
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EMPLOYEE STOCK PURCHASE PLANS
VOTES ON EMPLOYEE STOCK PURCHASE PLANS SHOULD BE DETERMINED ON A CASE-BY-CASE
BASIS.
Vote FOR employee stock purchase plans where all of the following apply: o
Purchase price is at least 85 percent of fair market value o Offering period is
27 months or less, and o Potential voting power dilution (VPD) is ten percent or
less. Vote AGAINST employee stock purchase plans where any of the opposite
conditions obtain.
SHAREHOLDER PROPOSALS ON COMPENSATION
Vote on a CASE-BY-CASE basis for all other shareholder proposals regarding
executive and director pay, taking into account company performance, pay level
versus peers, pay level versus industry, and long term corporate outlook.
10. SOCIAL AND ENVIRONMENTAL ISSUES
THESE ISSUES COVER A WIDE RANGE OF TOPICS, INCLUDING CONSUMER
AND PUBLIC SAFETY, ENVIRONMENT AND ENERGY, GENERAL CORPORATE
ISSUES, LABOR STANDARDS AND HUMAN RIGHTS, MILITARY BUSINESS,
AND WORKPLACE DIVERSITY.
IN GENERAL, VOTE CASE-BY-CASE. WHILE A WIDE VARIETY OF FACTORS
GOES INTO EACH ANALYSIS, THE OVERALL PRINCIPAL GUIDING ALL
VOTE RECOMMENDATIONS FOCUSES ON HOW THE PROPOSAL WILL ENHANCE
THE ECONOMIC VALUE OF THE COMPANY.
GLOBAL PROXY VOTING GUIDELINES
Following is a concise summary of general policies for voting global proxies. In
addition, ISS has country- and market-specific policies, which are not captured
below.
Financial Results/Director and Auditor Reports
Vote FOR approval of financial statements and director and auditor reports,
unless:
o there are concerns about the accounts presented or audit procedures
used; or
o the company is not responsive to shareholder questions about
specific items that should be publicly disclosed.
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Appointment of Auditors and Auditor Compensation
Vote FOR the reelection of auditors and proposals authorizing the board to fix
auditor fees, unless:
o there are serious concerns about the accounts presented or the
audit procedures used;
o the auditors are being changed without explanation; or
o nonaudit-related fees are substantial or are routinely in excess of
standard annual audit fees.
Vote AGAINST the appointment of external auditors if they have previously served
the company in an executive capacity or can otherwise be considered affiliated
with the company.
ABSTAIN if a company changes its auditor and fails to provide shareholders with
an explanation for the change.
Appointment of Internal Statutory Auditors
Vote FOR the appointment or reelection of statutory auditors, unless:
o there are serious concerns about the statutory reports presented or
the audit procedures used;
o questions exist concerning any of the statutory auditors being
appointed; or
o the auditors have previously served the company in an executive
capacity or can otherwise be considered affiliated with the
company.
Allocation of Income
Vote FOR approval of the allocation of income, unless:
o the dividend payout ratio has been consistently below 30 percent
without adequate explanation; or
o the payout is excessive given the company's financial position.
Stock (Scrip) Dividend Alternative
Vote FOR most stock (scrip) dividend proposals.
Vote AGAINST proposals that do not allow for a cash option unless management
demonstrates that the cash option is harmful to shareholder value.
Amendments to Articles of Association
Vote amendments to the articles of association on a CASE-BY-CASE basis.
B-10
Change in Company Fiscal Term
Vote FOR resolutions to change a company's fiscal term unless a company's
motivation for the change is to postpone its AGM.
Lower Disclosure Threshold for Stock Ownership
Vote AGAINST resolutions to lower the stock ownership disclosure threshold below
five percent unless specific reasons exist to implement a lower threshold.
Amend Quorum Requirements
Vote proposals to amend quorum requirements for shareholder meetings on a
CASE-BY-CASE basis.
Transact Other Business
Vote AGAINST other business when it appears as a voting item.
Director Elections
Vote FOR management nominees in the election of directors, unless:
o there are clear concerns about the past performance of the company
or the board; or
o the board fails to meet minimum corporate governance standards.
Vote FOR individual nominees unless there are specific concerns about the
individual, such as criminal wrongdoing or breach of fiduciary responsibilities.
Vote AGAINST shareholder nominees unless they demonstrate a clear ability to
contribute positively to board deliberations. Vote AGAINST individual directors
if they cannot provide an explanation for repeated absences at board meetings
(in countries where this information is disclosed)
Director Compensation
Vote FOR proposals to award cash fees to nonexecutive directors unless the
amounts are excessive relative to other companies in the country or industry.
Vote nonexecutive director compensation proposals that include both cash and
share-based components on a CASE-BY-CASE basis.
Vote proposals that bundle compensation for both nonexecutive and executive
directors into a single resolution on a CASE-BY-CASE basis. Vote AGAINST
proposals to introduce retirement benefits for nonexecutive directors.
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Discharge of Board and Management
Vote FOR discharge of the board and management, unless:
o there are serious questions about actions of the board or
management for the year in question; or
o legal action is being taken against the board by other
shareholders.
Director, Officer, and Auditor Indemnification and Liability Provisions
Vote proposals seeking indemnification and liability protection for directors
and officers on a CASE-BY-CASE basis. Vote AGAINST proposals to indemnify
auditors.
Board Structure
Vote FOR proposals to fix board size.
Vote AGAINST the introduction of classified boards and mandatory retirement ages
for directors. Vote AGAINST proposals to alter board structure or size in the
context of a fight for control of the company or the board.
Share Issuance Requests
GENERAL ISSUANCES:
Vote FOR issuance requests with preemptive rights to a maximum of 100 percent
over currently issued capital. Vote FOR issuance requests without preemptive
rights to a maximum of 20 percent of currently issued capital. SPECIFIC
ISSUANCES:
Vote on a CASE-BY-CASE basis on all requests, with or without preemptive rights.
Increases in Authorized Capital
Vote FOR nonspecific proposals to increase authorized capital up to 100 percent
over the current authorization unless the increase would leave the company with
less than 30 percent of its new authorization outstanding.
Vote FOR specific proposals to increase authorized capital to any amount,
unless:
o the specific purpose of the increase (such as a share-based
acquisition or merger) does not meet ISS guidelines for the purpose
being proposed; or
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o the increase would leave the company with less than 30 percent of
its new authorization outstanding after adjusting for all proposed
issuances (and less than 25 percent for companies in Japan).
Vote AGAINST proposals to adopt unlimited capital authorizations.
Reduction of Capital
Vote FOR proposals to reduce capital for routine accounting purposes unless the
terms are unfavorable to shareholders. Vote proposals to reduce capital in
connection with corporate restructuring on a CASE-BY-CASE basis.
Capital Structures
Vote FOR resolutions that seek to maintain or convert to a one share, one vote
capital structure. Vote AGAINST requests for the creation or continuation of
dual class capital structures or the creation of new or additional supervoting
shares.
PREFERRED STOCK
Vote FOR the creation of a new class of preferred stock or for issuances of
preferred stock up to 50 percent of issued capital unless the terms of the
preferred stock would adversely affect the rights of existing shareholders. Vote
FOR the creation/issuance of convertible preferred stock as long as the maximum
number of common shares that could be issued upon conversion meets ISS's
guidelines on equity issuance requests. Vote AGAINST the creation of a new class
of preference shares that would carry superior voting rights to the common
shares.
Vote AGAINST the creation of blank check preferred stock unless the board
clearly states that the authorization will not be used to thwart a takeover bid.
Vote proposals to increase blank check preferred authorizations on a
CASE-BY-CASE basis.
DEBT ISSUANCE REQUESTS
Vote nonconvertible debt issuance requests on a CASE-BY-CASE basis, with or
without preemptive rights. Vote FOR the creation/issuance of convertible debt
instruments as long as the maximum number of common shares that could be issued
upon conversion meets ISS's guidelines on equity issuance requests. Vote FOR
proposals to restructure existing debt arrangements unless the terms of the
restructuring would adversely affect the rights of shareholders.
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PLEDGING OF ASSETS FOR DEBT
Vote proposals to approve the pledging of assets for debt on a CASE-BY-CASE
basis.
INCREASE IN BORROWING POWERS
Vote proposals to approve increases in a company's borrowing powers on a
CASE-BY-CASE basis.
SHARE REPURCHASE PLANS Vote FOR share repurchase plans, unless:
o clear evidence of past abuse of the authority is available; or o the plan
contains no safeguards against selective buybacks.
REISSUANCE OF SHARES REPURCHASED
Vote FOR requests to reissue any repurchased shares unless there is clear
evidence of abuse of this authority in the past.
CAPITALIZATION OF RESERVES FOR BONUS ISSUES/INCREASE IN PAR VALUE:
Vote FOR requests to capitalize reserves for bonus issues of shares or to
increase par value.
Reorganizations/Restructurings:
Vote reorganizations and restructurings on a CASE-BY-CASE basis.
Mergers and Acquisitions:
Vote FOR mergers and acquisitions, unless:
o the impact on earnings or voting rights for one class of
shareholders is disproportionate to the relative contributions of
the group; or
o the company's structure following the acquisition or merger does
not reflect good corporate governance.
Vote AGAINST if the companies do not provide sufficient information upon request
to make an informed voting decision.
ABSTAIN if there is insufficient information available to make an informed
voting decision.
Mandatory Takeover Bid Waivers:
Vote proposals to waive mandatory takeover bid requirements on a CASE-BY-CASE
basis.
Reincorporation Proposals:
Vote reincorporation proposals on a CASE-BY-CASE basis.
B-14
Expansion of Business Activities:
Vote FOR resolutions to expand business activities unless the new business takes
the company into risky areas.
Related-Party Transactions:
Vote related-party transactions on a CASE-BY-CASE basis.
Compensation Plans:
Vote compensation plans on a CASE-BY-CASE basis.
Antitakeover Mechanisms:
Vote AGAINST all antitakeover proposals unless they are structured in such a way
that they give shareholders the ultimate decision on any proposal or offer.
Shareholder Proposals:
Vote all shareholder proposals on a CASE-BY-CASE basis.
Vote FOR proposals that would improve the company's corporate governance or
business profile at a reasonable cost. Vote AGAINST proposals that limit the
company's business activities or capabilities or result in significant costs
being incurred with little or no benefit.
B-15
APPENDIX B
IDENTIFICATION OF PERSONS
This information is as of July 31, 2006:
I. Proxy Administrator:
James Murchie
Eva Pao (backup)
Linda Longville (backup)
II. Research Coordinators:
Linda Longville
Eva Pao
III. Members of the Proxy Voting Committee:
Eva Pao - Chief Compliance Officer
Linda Longville - Research Coordinator
James Murchie - Proxy Administrator
B-16
PART C - OTHER INFORMATION
Item 25: Financial Statements and Exhibits
1. Financial Statements:
The Registrant's audited financial statements, notes to the financial
statements and the report of independent public accounting firm thereon have
been incorporated into Part B of the Registration Statement by reference to
Registrant's Annual Report for the fiscal year ended November 30, 2007 contained
in its Form N-CSR and Semi-Annual Report for the semi-annual period ended May
31, 2008 contained in its Form N-CSR, as described in the statement of
additional information.
2. Exhibits:
a. Declaration of Trust dated March 25, 2004.(4)
b. Amended and Restated By-Laws of Fund.(1)
c. None.
d. Form of Share Certificate.(5)
e. Terms and Conditions of the Dividend Reinvestment Plan.(2)
f. None.
g.1 Investment Management Agreement between Registrant and First Trust
Advisors L.P.(3)
g.2 Sub-Advisory Agreement between Registrant, First Trust Advisors L.P. and
Energy Income Partners, LLC.(6)
h.1 Form of Underwriting Agreement.(5)
i. None.
j. Custodian Services Agreement between Registrant and PFPC Trust Company.(3)
k.1 Transfer Agency Services Agreement between Registrant and PFPC Inc.(3)
k.2 Administration and Accounting Services Agreement.(3)
l.1 Opinion and consent of Chapman and Cutler LLP.(5)
l.2 Opinion and consent of Bingham McCutchen LLP.(5)
m. None.
n. Consent of Independent Registered Public Accounting Firm.
o. None.
p. Subscription Agreement between Registrant and First Trust Advisors L.P.(3)
q. None.
r.1 Code of Ethics of Registrant.(1)
r.2 Code of Ethics of First Trust Portfolios L.P.(1)
r.3 Code of Ethics of First Trust Advisors L.P.(1)
r.4 Code of Ethics of Energy Income Partners, LLC.
s. Powers of Attorney.
--------------------------------------------------------------------------------
(1) Filed on February 10, 2006 in Registrant's Registration Statement on Form
N-2 (File No. 333-131771) and incorporated herein by reference.
(2) Filed on June 24, 2004 in Registrant's Registration Statement on Form N-2
(File No. 333-114131) and incorporated herein by reference.
(3) Filed on November 30, 2004 in Registrant's Registration Statement on Form
N-2 (File No. 333-120853) and incorporated herein by reference.
(4) Filed on April 1, 2004 in Registrant's Registration Statement on Form N-2
(File No. 333-114131) and incorporated herein by reference.
(5) To be filed by amendment.
(6) Filed on January 28, 2008 in Registrant's Annual Report on Form NSAR-B
(File No. 811-21549) and incorporated herein by reference.
Item 26: Marketing Arrangements
Reference is made to the form of underwriting agreement for the
Registrant's common shares to be filed in an amendment to the Registrant's
Registration Statement and the section entitled "Plan of Distribution" contained
in Registrant's Prospectus, filed herewith as Part A of Registrant's
Registration Statement.
- 2 -
Item 27: Other Expenses of Issuance and Distribution
----------------------------------------------------- --------------------------
Securities and Exchange Commission Fees $ *
----------------------------------------------------- --------------------------
Financial Industry Regulatory Authority, Inc. Fees $ *
----------------------------------------------------- --------------------------
Printing and Engraving Expenses $ *
----------------------------------------------------- --------------------------
Legal Fees $ *
----------------------------------------------------- --------------------------
Listing Fees $ *
----------------------------------------------------- --------------------------
Accounting Expenses $ *
----------------------------------------------------- --------------------------
Blue Sky Filing Fees and Expenses $ *
----------------------------------------------------- --------------------------
Miscellaneous Expenses $ *
----------------------------------------------------- --------------------------
Total $ *
----------------------------------------------------- --------------------------
* To be completed by amendment
Item 28: Persons Controlled by or under Common Control with Registrant
Not applicable.
Item 29: Number of Holders of Securities
At __________, 2008
----------------------------------------------------- --------------------------
Title of Class Number of Record Holders
----------------------------------------------------- --------------------------
Common Shares, $0.01 par value *
----------------------------------------------------- --------------------------
Series B Notes *
----------------------------------------------------- --------------------------
* To be completed by amendment
- 3 -
Item 30: Indemnification
Section 5.3 of the Registrant's Declaration of Trust provides as follows:
(a) Subject to the exceptions and limitations contained in paragraph
(b) below:
(i) every person who is or has been a Trustee or officer of
the Trust (hereinafter referred to as a "Covered Person") shall be
indemnified by the Trust against all liability and against all expenses
reasonably incurred or paid by him or her in connection with any claim,
action, suit or proceeding in which that individual becomes involved as
a party or otherwise by virtue of being or having been a Trustee or
officer and against amounts paid or incurred by that individual in the
settlement thereof; and
(ii) the words "claim," "action," "suit" or "proceeding" shall
apply to all claims, actions, suits or proceedings (civil, criminal,
administrative or other, including appeals), actual or threatened; and
the words "liability" and "expenses" shall include, without limitation,
attorneys' fees, costs, judgments, amounts paid in settlement or
compromise, fines, penalties and other liabilities.
(b) No indemnification shall be provided hereunder to a Covered Person:
(i) against any liability to the Trust or the Shareholders by
reason of a final adjudication by the court or other body before which
the proceeding was brought that the Covered Person engaged in willful
misfeasance, bad faith, gross negligence or reckless disregard of the
duties involved in the conduct of that individual's office;
(ii) with respect to any matter as to which the Covered Person
shall have been finally adjudicated not to have acted in good faith in
the reasonable belief that that individual's action was in the best
interest of the Trust; or
(iii) in the event of a settlement involving a payment by a
Trustee, Trustee Emeritus or officer or other disposition not involving
a final adjudication as provided in paragraph (b)(i) or (b)(ii) above
resulting in a payment by a Covered Person, unless there has been
either a determination that such Covered Person did not engage in
willful misfeasance, bad faith, gross negligence or reckless disregard
of the duties involved in the conduct of that individual's office by
the court or other body approving the settlement or other disposition
or by a reasonable determination, based upon a review of readily
available facts (as opposed to a full trial-type inquiry) that that
individual did not engage in such conduct:
(A) by vote of a majority of the Disinterested
Trustees (as defined below) acting on the matter (provided that a
majority of the Disinterested Trustees then in office act on the
matter); or
- 4 -
(B) by written opinion of (i) the then-current legal
counsel to the Trustees who are not Interested Persons of the Trust or
(ii) other legal counsel chosen by a majority of the Disinterested
Trustees (or if there are no Disinterested Trustees with respect to the
matter in question, by a majority of the Trustees who are not
Interested Persons of the Trust) and determined by them in their
reasonable judgment to be independent.
(c) The rights of indemnification herein provided may be insured
against by policies maintained by the Trust, shall be severable, shall not
affect any other rights to which any Covered Person may now or hereafter be
entitled, shall continue as to a person who has ceased to be a Covered Person
and shall inure to the benefit of the heirs, executors and administrators of
such person. Nothing contained herein shall limit the Trust from entering into
other insurance arrangements or affect any rights to indemnification to which
Trust personnel, including Covered Persons, may be entitled by contract or
otherwise under law.
(d) Expenses of preparation and presentation of a defense to any claim,
action, suit, or proceeding of the character described in paragraph (a) of this
Section 5.3 shall be advanced by the Trust prior to final disposition thereof
upon receipt of an undertaking by or on behalf of the Covered Person to repay
such amount if it is ultimately determined that the Covered Person is not
entitled to indemnification under this Section 5.3, provided that either:
(i) such undertaking is secured by a surety bond or some
other appropriate security or the Trust shall be insured against losses
arising out of any such advances; or
(ii) a majority of the Disinterested Trustees acting on the
matter (provided that a majority of the Disinterested Trustees then in
office act on the matter) or legal counsel meeting the requirement in
Section 5.3(b)(iii)(B) above in a written opinion, shall determine,
based upon a review of readily available facts (as opposed to a full
trial-type inquiry), that there is reason to believe that the Covered
Person ultimately will be found entitled to indemnification.
As used in this Section 5.3, a "Disinterested Trustee" is one (i) who
is not an "Interested Person" of the Trust (including anyone who has
been exempted from being an "Interested Person" by any rule, regulation
or order of the Commission), and (ii) against whom none of such
actions, suits or other proceedings or another action, suit or other
proceeding on the same or similar grounds is then or had been pending.
(e) With respect to any such determination or opinion referred to in
clause (b)(iii) above or clause (d)(ii) above, a rebuttable presumption shall be
afforded that the Covered Person has not engaged in willful misfeasance, bad
faith, gross negligence or reckless disregard of the duties involved in the
conduct of such Covered Person's office in accordance with pronouncements of the
Commission.
Item 31: Business and Other Connections of Investment Advisers
(a) First Trust Advisors L.P. ("First Trust Advisors") serves as
investment adviser to the fund and the First Defined Portfolio Fund, LLC and
also serves as adviser or sub-adviser to 26 mutual funds, 38 exchange-traded
- 5 -
funds and 13 other closed-end funds and is the portfolio supervisor of certain
unit investment trusts. Its principal address is 1001 Warrenville Road, Suite
300, Lisle, Illinois 60532.
The principal business of certain of First Trust Advisors' principal executive
officers involves various activities in connection with the family of unit
investment trusts sponsored by First Trust Portfolios L.P. ("First Trust
Portfolios"). The principal address of First Trust Portfolios is 1001
Warrenville Road, Suite 300, Lisle, Illinois 60532.
Information as to Other Business, Profession, Vocation or Employment During Past
Two Years of the Officers and Directors of First Trust Advisors is as follows:
NAME AND POSITION WITH FIRST TRUST EMPLOYMENT DURING PAST TWO YEARS
James A. Bowen, Managing Director/President Managing Director/President, FTP; Chairman of the Board
of Directors, BondWave LLC and Stonebridge Advisors LLC
Ronald D. McAlister, Managing Director Managing Director, FTP
Mark R. Bradley, Chief Financial Officer Chief Financial Officer and Managing Director, FTP; Chief
and Managing Director Financial Officer, BondWave LLC and Stonebridge Advisors LLC
Robert F. Carey, Chief Investment Officer Senior Vice President, FTP
and Senior Vice President
W. Scott Jardine, General Counsel General Counsel, FTP; Secretary of
BondWave LLC and Stonebridge Advisors LLC
Kristi A. Maher, Deputy General Counsel Deputy General Counsel, FTP since May 2007; Assistant
General Counsel, FTP, March 2004 to May 2007
Erin Chapman, Assistant General Counsel Assistant General Counsel, FTP since March 2006
Michelle Quintos, Assistant General Counsel Assistant General Counsel, FTP
John Vasko, Assistant General Counsel Senior Counsel, Michaels and May, October 2006 to May
2007; Assistant General Counsel, ARAMARK Corporation
Pamela Wirt, Assistant General Counsel Of Counsel, Vedder, Price, Kaufman and Kammholz, P.C.,
February 2006 to January 2007; Independent Contractor
Attorney SBA Network Services, Inc.
R. Scott Hall, Managing Director Managing Director, FTP
Andrew S. Roggensack, Managing Director Managing Director, FTP
Elizabeth H. Bull, Senior Vice President Senior Vice President, FTP
- 6 -
NAME AND POSITION WITH FIRST TRUST EMPLOYMENT DURING PAST TWO YEARS
Christopher L. Dixon, Senior Vice President Senior Vice President, FTP
Jane Doyle, Senior Vice President Senior Vice President, FTP
James M. Dykas, Senior Vice President Senior Vice President, FTP since April 2007; Vice
President, FTP from January 2005 to April 2007
Jon C. Erickson, Senior Vice President Senior Vice President, FTP
Kenneth N. Hass, Senior Vice President Senior Vice President, FTP
Jason T. Henry, Senior Vice President Senior Vice President, FTP
Daniel J. Lindquist, Senior Vice President Senior Vice President, FTP
David G. McGarel, Senior Vice President Senior Vice President, FTP
Mitchell Mohr, Senior Vice President Senior Vice President, FTP
Robert M. Porcellino, Senior Vice President Senior Vice President, FTP
Alan M. Rooney, Senior Vice President Senior Vice President, FTP
Roger F. Testin, Senior Vice President Senior Vice President, FTP
Kathleen Brown, Chief Compliance Officer CCO, FTP since February 2008; CCO, William Blair & Company
James P. Koeneman, Vice President Vice President, FTP
Ronda L. Saeli, Vice President Vice President, FTP
Kirk Sims, Vice President Vice President, FTP
Walter E. Stubbings, Jr., Vice President Vice President, FTP
Richard S. Swiatek, Vice President Vice President, FTP
Stan Ueland, Vice President Vice President, FTP
Brad Bradley, Assistant Vice President Assistant Vice President, FTP
Katie D. Collins, Assistant Vice President Assistant Vice President, FTP
Kristen Johanneson, Assistant Vice President Assistant Vice President, FTP
Coleen D. Lynch, Assistant Vice President Assistant Vice President, FTP since January 2008; Vice
President, Van Kampen Asset Management and Morgan Stanley
Investment Management
Lynae Peays, Assistant Vice President Assistant Vice President, FTP
- 7 -
NAME AND POSITION WITH FIRST TRUST EMPLOYMENT DURING PAST TWO YEARS
Omar Sepulveda, Assistant Vice President Assistant Vice President, FTP
John H. Sherren, Assistant Vice President Assistant Vice President, FTP
Michael S. Stange, Assistant Vice President Assistant Vice President, FTP
(b) Sub-Adviser. Energy Income Partners, LLC serves as an investment
sub-adviser of the Fund. Reference is made to: (i) the information set forth
under "Management of the Fund" in the Prospectus and "Sub-Adviser" in the
Statement of Additional Information; and (ii) the Form ADV of Energy Income
Partners, LLC (File No. 801-66907) filed with the Commission, all of which are
incorporated herein by reference.
Item 32: Location of Accounts and Records.
First Trust Advisors L.P. maintains the Declaration of Trust, By-Laws, minutes
of trustees and shareholders meetings and contracts of the Registrant, all
advisory material of the investment adviser, all general and subsidiary ledgers,
journals, trial balances, records of all portfolio purchases and sales, and all
other required records.
Item 33: Management Services
Not applicable.
Item 34: Undertakings
1. Registrant undertakes to suspend the offering of its shares until it
amends its prospectus if (1) subsequent to the effective date of its
Registration Statement, the net asset value declines more than 10 percent
from its net asset value as of the effective date of the Registration
Statement, or (2) the net asset value increases to an amount greater than
its net proceeds as stated in the prospectus.
2. Not applicable.
3. Not applicable.
4. The Registrant undertakes
(a) to file, during any period in which offers or sales are being made,
a post-effective amendment to this Registration Statement:
(1) to include any prospectus required by Section 10(a)(3) of the Securities
Act of 1933;
(2) to reflect in the prospectus any facts or events arising after the
effective date of the registration statement (or the most recent
post-effective amendment thereof) which, individually or in the
aggregate, represent a fundamental change in the information set forth in
the registration statement; and
- 8 -
(3) to include any material information with respect to the plan of
distribution not previously disclosed in the registration statement or
any material change to such information in the registration statement;
(b) that, for the purpose of determining liability under the Securities Act
of 1933, each such post-effective amendment shall be deemed to be a new
registration statement relating to the securities offered therein, and
the offering of those securities at that time shall be deemed to be the
initial bona fide offering thereof; and
(c) to remove from registration by means of a post-effective amendment any of
the securities being registered which remain unsold at the termination of
the offering;
(d) that, for the purpose of determining liability under the Securities
Act of 1933 to any purchaser, if the Registrant is subject to Rule 430C;
each prospectus filed pursuant to Rule 497(b), (c), (d) or (e) under the
Securities Act of 1933, shall be deemed to be part of and included in
this Registration Statement as of the date it is first used after
effectiveness. Provided, however, that no statement made in this
Registration Statement or prospectus that is part of this registration
statement or made in a document incorporated or deemed incorporated by
reference into this registration statement or prospectus that is art of
this registration statement will, as to a purchaser with a time of
contract of sale prior to such first use, supercede or modify any
statement that was made in this registration statement or prospectus
that was part of this registration statement or made in any such
document immediately prior to such date of first use;
(e) that for the purpose of determining liability of the Registrant under the
Securities Act of 1933 to any purchaser in the initial distribution of
securities:
The undersigned Registrant undertakes that in a primary offering of
securities of the undersigned Registrant pursuant to this registration
statement, regardless of the underwriting method used to sell the
securities to the purchaser, if the securities are offered or sold to
such purchaser by means of any of the following communications, the
undersigned Registrant will be a seller to the purchaser and will be
considered to offer or sell such securities to the purchaser:
(1) any preliminary prospectus or prospectus of the undersigned Registrant
relating to the offering required to be filed pursuant to Rule 497 under
the Securities Act of 1933;
(2) the portion of any advertisement pursuant to Rule 482 under the
Securities Act of 1933 relating to the offering containing material
information about the undersigned Registrant or its securities provided
by or on behalf of the undersigned Registrant; and
(3) any other communication that is an offer in the offering made by the
undersigned Registrant to the purchaser.
5. The Registrant undertakes that:
(a) For purposes of determining any liability under the Securities Act of
1933, the information omitted from the form of prospectus filed as part
of a registration statement in reliance upon Rule 430A and contained in
- 9 -
the form of prospectus filed by the Registrant under Rule 497(h) under
the Securities Act of 1933 shall be deemed to be part of the Registration
Statement as of the time it was declared effective; and
(b) For the purpose of determining any liability under the Securities Act of
1933, each post-effective amendment that contains a form of prospectus
shall be deemed to be a new registration statement relating to the
securities offered therein, and the offering of the securities at that
time shall be deemed to be the initial bona fide offering thereof.
6. The Registrant undertakes to send by first class mail or other means
designed to ensure equally prompt delivery, within two business days of
receipt of a written or oral request, any Statement of Additional
Information.
7. Upon each issuance of securities pursuant to this Registration Statement,
the Registrant undertakes to file a form of prospectus and/or prospectus
supplement pursuant to Rule 497 and a post-effective amendment to the
extent required by the Securities Act of 1933 and the rules and
regulations thereunder, including, but not limited to a post-effective
amendment pursuant to Rule 462(c) or Rule 462(d) under the Securities Act
of 1933.
- 10 -
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933 and the
Investment Company Act of 1940, the Registrant has duly caused this Registration
Statement to be signed on its behalf by the undersigned, thereunto duly
authorized, in this City of Lisle, and State of Illinois, on the 14th day of
October, 2008.
ENERGY INCOME AND GROWTH FUND
By: /s/ James A. Bowen
------------------------------------
James A. Bowen, President
Pursuant to the requirements of the Securities Act of 1933, this
Registration Statement has been signed below by the following persons in the
capacities and on the date indicated.
--------------------------------------- -------------------------------------- -------------------------------------
Signature Title Date
--------------------------------------- -------------------------------------- -------------------------------------
/s/ James A. Bowen President, Chairman of the Board and October 14, 2008
----------------------------- Trustee (Principal Executive Officer)
James A. Bowen
--------------------------------------- -------------------------------------- -------------------------------------
/s/ Mark R. Bradley Chief Financial Officer and October 14, 2008
------------------------------ Treasurer (Principal Financial and
Mark R. Bradley Accounting Officer)
--------------------------------------- -------------------------------------- -------------------------------------
Richard E. Erickson (1) Trustee ) By: /s/ W. Scott Jardine
--------------------------------------- -------------------------------------- ----------------------------
Thomas R. Kadlec (1) Trustee ) W. Scott Jardine
--------------------------------------- -------------------------------------- Attorney-In-Fact
Robert F. Keith (1) Trustee ) October 14, 2008
--------------------------------------- -------------------------------------
Niel B. Nielson (1) Trustee )
--------------------------------------- -------------------------------------- -------------------------------------
(1) Original powers of attorney authorizing James A. Bowen, W. Scott Jardine and
Eric F. Fess to execute Registrant's Registration Statement, and Amendments
thereto, for each of the trustees of the Registrant on whose behalf this
Registration Statement is filed, were previously executed and are filed as an
Exhibit hereto.
- 11 -
INDEX TO EXHIBITS
n. Consent of Independent Registered Public Accounting Firm.
r.4. Code of Ethics of Energy Income Partners, LLC.
s. Powers of Attorney.
- 12 -