Frequently Asked Questions (FAQs) on Closed-End Funds and Distribution Commitments

About Petroleum & Resources Corporation

Petroleum & Resources Corporation is a publicly-traded equity investment fund for investors who seek broadly diversified exposure to the energy and natural resources sectors in a conservatively-managed fund.  Internally managed, the Fund seeks to protect capital and generate dividends and capital gains that can be used as a source of income or reinvestment.
The Corporation has been trading on the New York Stock Exchange since January 1929. 

The portfolio: Petroleum & Resources invests in a diversified group of investments, including multi-national companies, as well as exploration, equipment, and service suppliers – all associated with petroleum and natural gas. In addition, the Fund invests in a variety of basic materials, including coal, precious and industrial metals, aggregates, and chemicals, as these also have attractive investment characteristics.

Q: The dividend yield (annual income dividends divided by average month-end market price) for Petroleum & Resources amounted to 1.4% in 2011 yet the annual distribution rate amounted to 7.1%.  How does that work?
A: Historically, distributions have three components: investment income net of expenses, realized long-term capital gains, and realized short-term capital gains, net of realized capital losses. The chart below shows the distribution composition for the last five years. The dividend yield represents a rate of return earned by the Fund’s portfolio less fund expenses. The annual distribution rate represents a rate of return from investment income and capital gains distributed to shareholders that can be used as a comparison to returns received from other investments.


Q: Why has Petroleum & Resources decided to announce a distribution rate commitment?
A: Petroleum & Resources shareholders have reported that the level of income and capital gains distributed is important to them. By making this distribution commitment, shareholders can depend on a minimum 6% annual distribution rate regardless of market conditions.


Q: What is a distribution rate commitment? How does it vary from a managed distribution policy?
A:  A distribution rate commitment is a distribution policy approved by the Corporation’s Board of Directors that does not involve the payment of realized capital gains more than twice a year, as described below. In this case, it means that, effective immediately, Petroleum & Resources’ shareholders can count on receiving distributions at a 6% annual distribution rate or more for the foreseeable future in both up and down markets. By contrast, a managed distribution policy is a formal action that entails paying out realized capital gains more than twice a year (typically quarterly or monthly) and requires exemptive relief from the Securities & Exchange Commission.

Yield vs. Distribution Commitment

Q: Is a 6% distribution rate the same as “yield”?
A: No, the 6% distribution rate commitment is different from “yield” in several ways:
The distribution rate is calculated based on the Corporation’s twelve-month average month-end market price through October 31, which may be more or less than the current market price. “Yield” typically means the dividends that an operating company pays to its shareholders, calculated as a percentage of its current market price.

Also, to reach the minimum distribution rate commitment, the Corporation distributes not only net investment income, principally dividends received from its portfolio holdings, but also realized capital gains, and if necessary, a return of the shareholder’s capital. The first three quarterly payments by the Corporation will be made from its net investment income. These payments are usually relatively small compared to the fourth quarter when the Fund will make its year-end distribution, typically comprised mostly of realized capital gains. The amount of the year-end distribution will be determined after considering the income, capital gain or capital available, and will bring the distribution to at least 6% of the average market price.

About Closed-end Funds

Q: What distinguishes closed-end funds from open-end (or “mutual funds”) and exchange-traded funds?
A: Closed-end funds are often actively-managed portfolios that are compared to mutual funds. However, there are distinct differences in how closed-end funds work versus how mutual funds or exchange-traded funds (ETFs) work.

  1. With a closed-end fund, the capital structure and number of shares are essentially fixed. This means the portfolio manager has a stable pool of assets to manage. The portfolio can be fully invested and a manager is never forced to sell in a declining market to meet redemptions or buy in a rising market to put new cash to work.
  2. Closed-end funds trade throughout the day on a stock exchange. Closed-end fund investors have control over the direct timing of their buy/sell orders compared with mutual funds whose shares are purchased/sold at the end of day net asset value.
  3. Unlike mutual funds, closed-end funds may trade at more or less than their net asset value (NAV), or the value of the underlying assets. When a closed-end fund trades below NAV, it is called a discount.  When it trades above NAV, it is said to trade at a premium. A fund that trades at a discount offers investors the opportunity to enhance their return by buying assets “on sale,” i.e. the ability to buy a dollar’s worth of assets for less than a dollar.
  4. Exchange-traded funds are typically passively-managed and most often track an index, a commodity or a basket of assets. They trade like a stock on an exchange. ETFs experience price changes throughout the day as they are bought and sold. Most of the time, but not always, ETFs trade with negligible premiums or discounts, because the market tends to keep ETFs in line with their NAV.

Q: Why don’t we hear more about closed-end funds?
A: There are four common causes for the low profile of closed-end funds:

  1. Outnumbered – There are more than 634 closed-end funds, including some like Petroleum & Resources whose management and performance histories date back nearly a century. On the other hand, there are 8,680 mutual funds and 1,166 exchange traded funds (ETFs), according to the 2012 ICI Investment Company Fact Book.
  2. Under followed - Analyst coverage of closed-end funds – The popularity and growth of ETFs have drained analytical closed-end fund coverage from all but a handful of national financial services firm.
  3. Under the radar – After a closed-end fund is “launched” through an initial public offering, the fund is not continuously advertised nor does it add “new money” as mutual funds do. As a result, investors may not recognize the names of many closed-end funds, particularly one whose IPO dates back to 1929, such as Petroleum & Resources.
  4. Under marketed – After a closed-end fund has its IPO, there is typically no long-term secondary market support from the underwriters or distributors to help support sales of the fund’s shares, which is different from other types of funds.  

Benefits of the Closed-end Structure

In a recent Company-sponsored research project, financial advisors who are active users of closed-end funds ranked the advantages of closed-end funds:

  1. Discount – many closed-end funds trade at a discount to NAV, and offer investors the chance to acquire assets on sale
  2. Active management – access to active professional management
  3. Income/yield – the ability to earn investment income

Q: How do closed-end fund investors compare to average investors?
A: Closed-end fund investors have higher incomes and a higher level of financial assets than other U.S. households that own equities or mutual funds:

By Household (HH) All US HHs  HHs Owning CEFs HHs Owning MFs HHs Owning Equities
HH income *

$48,800  

$122,300 

$80,000 

$87,500  

HH financial assets **

$75,000  

$600,000

$200,000 

$242,000 

Age of head / HH

50 

52 

50  

52 

*Total reported is household income before taxes in 2010.
**Household financial assets include assets in employer-sponsored retirement plans but exclude the household’s primary residence.
Source: ICI 2012 Investment Company Fact Book

Q:  What are the characteristics of typical Petroleum & Resources retail shareholders?
A: Our retail shareholder survey in 2010 revealed this profile of the respondents:

RETIRED – The majority of Petroleum & Resources shareholders who responded reported they are age 65 or older

INCOME – 75% reported the amounts of income and capital gains paid out were very or extremely important

HOLDINGS – nearly half of responding shareholders reported positions of 501-3000 shares
Source: Fall 2010 Petroleum & Resources shareholder survey

Dividends and Distributions

Q: How do closed-end equity funds distribute earnings to shareholders?
A: Closed-end equity funds pay out their earnings to shareholders in two ways:

  1. Income dividends – the interest or dividends collected by the fund, net of expenses – pass through to shareholders.
  2. Capital gains distributions – the realized capital gains of the fund, net of realized capital losses – pass through to shareholders. Most closed-end equity funds including Petroleum & Resources make capital gains distributions twice a year a) a small carry over amount from the prior year in the first quarter and b) the bulk of the realized capital gains in a year-end distribution paid in December.

Q: How are distributions treated for tax purposes?
A: The portion of a capital gain distribution the fund reports as “short term” generally is taxable to shareholders as ordinary income (in taxable accounts). The portion reported as “long term” is taxable to shareholders at a maximum federal income tax rate of 15% under current law.

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For further information, please contact:

Lawrence L. Hooper, Jr., Vice President, General Counsel & Secretary
at (410) 752-5900 or (800) 638-2479

E-mail: contact@peteres.com
Website: www.peteres.com

Frequently Asked Questions (FAQs) on Closed-End Funds and Distribution Commitments

Stock and Distribution

Nav & Stock Price PER SHARE
Net Asset Value: $35.78
Closing Price: $30.51
Discount: -14.7%

This is the closing price from the NYSE on 08/22/2014

annual DISTRIBUTION Rate
2013 7.2%

*The annual distribution rate is the total dividends and capital gain distributions divided by the average month-end market price of the Fund's Common Stock for the twelve months ended October 31.

As of September 13, 2012, the Fund committed to an annual distribution rate of at least 6%.