Our securities law firm is currently pursuing a securities arbitration case on behalf of California investors who suffered losses in the Highland Floating Rate Advantage Fund [Symbols: XSFRX (Class A); XLACX (Class C); XLAZX (Class Z).] These funds are also referred to as “leveraged” loans because the borrowers typically have a significant level of debt relative to equity. The Highland Floating Rate Advantage Fund’s share price declined 8% in 2007 and more than 50% in 2008.
Unlike their peers, the Highland Floating Rate funds have continued to disappoint investors. Compared to the performance of other loan participation funds, the Highland Floating Rate Funds are in a class by themselves due to their five-year history of negative returns. In June 2011, the Highland Floating Rate Advantage Fund and the Highland Floating Rate Fund [Symbol: XLFAX] were merged into the Highland Floating Rate Opportunities Fund. Below are the 5-year return results for the Highland Floating Rate Opportunities Funds:
Highland Floating Rate Opportunities Fund 5 Year Return*
Class C Shares [HFRCX] -20.41%
Class B Shares [HFRBX] -19.80%
Class A Shares [HFRAX] -18.39%
Class Z Shares [HFRZX] -16.96%
Highland’s sales literature claims that its floating rate funds seek “capital preservation and the management of credit risk while utilizing leverage to increase yield potential.” Investors were attracted to the Highland Floating Rate Funds because they supposedly offered a higher return without adding any significant risk. One of the main reasons the Highland Floating Rate funds performed so poorly is that they invested heavily in loans that were rated as below investment grade or “junk.”
Securities Regulators Urge Investors to Use Caution when Investing in Floating Rate Funds
The Financial Industry Regulatory Authority (FINRA) recently issued an “investor alert” to warn investors who may be attracted to the high return promised by floating rate funds. In promoting these investments, FINRA expressed concern about brokers who downplay the potential risks while emphasizing the higher returns.
According to FINRA, floating rate funds have become increasingly popular since 2008 – having grown from $15 billion to $60 billion as of April 2011. These bank-loan funds are highly coveted during periods where investors are concerned with spiked interest rates. Although the funds are low in interest-rate risk, they carry a much higher credit risk. They often extend their portfolios to lower quality borrowers who typically have a higher rate of default than investment-grade bonds. Floating rate funds and other risky high-yield investments should play a very minor role in any investment portfolio–if at all.