Castro No, CUBA Sí

A closed-end fund gets a boost from word that the dictator has resigned as president.

It's not common for a closed-end fund to be among the market's leading gainers (or losers, for that matter). But that is exactly what's been happening on February 19 to the shares of Herzfeld Caribbean Basin, a small closed-end fund designed to benefit from the opening of the Cuban economy once Fidel Castro disappears from the scene.

Castro, Cuba's supreme leader since 1959, finally appears ready to go. He announced early in the day that he has resigned as president and that he will not aspire to regain the post or accept it if it is offered to him. As a result, shares of Herzfeld Caribbean Basin (symbol CUBA (opens in new tab)) jumped $1.26, or 17%, to finish at $8.70 February 19.

Herzfeld, a long-time closed-end fund maven, launched Caribbean Basin in 1994 as a vehicle for benefiting from Cuba's eventual return to the capitalist fold. Herzfeld was, shall we say, a tad early. There is yet no stock market in Communist Cuba. So, until recently Herzfeld had loaded his $30 million fund with companies, mostly based in the U.S. and Latin America, that he believed were likely to benefit once Cuba opens its economy.

Subscribe to Kiplinger’s Personal Finance

Be a smarter, better informed investor.

Save up to 74%

Sign up for Kiplinger’s Free E-Newsletters

Profit and prosper with the best of expert advice on investing, taxes, retirement, personal finance and more - straight to your e-mail.

Profit and prosper with the best of expert advice - straight to your e-mail.

Sign up

Herzfeld continues to hold many of those stocks, which he felt could perform well even without a rapprochement between the U.S. and Cuba. Lately, Herzfeld says, he's been investing in companies that are best positioned to benefit from the possible liberalization of Cuba's economy, regardless of a company's outlook over the next year. Herzfeld, hoarse after giving 14 interviews by late afternoon on February 19, declines to identify any of those stocks.

In addition, Herzfeld says he is negotiating possible Cuban business ventures with Cuban Americans in Florida. "We're looking at every type of business in terms of size and industry, from mom-and-pop hardware stores to major infrastructure rebuilding projects, once they're legally permitted," says Herzfeld, who's based in Miami.

If Herzfeld strikes any deals, his fund would end up with stakes in privately held companies. (How about a business to import '55 Chevys and other golden oldies? Cuba is filled with historic U.S.-made cars that seem to be held together with Band-aids.)

As of September 30, according to Morningstar, 41% of the fund's assets were in U.S. stocks. The biggest position, at nearly 9% of assets, was Seaboard Corp. (SEB (opens in new tab)), which processes food and, more interestingly, provides containerized cargo shipping services between the U.S. and about 25 Latin American countries. Its stock, by the way, trades for nearly $1,600.

Other big holdings were Consolidated Water (CWCO (opens in new tab)), a Cayman Islands-based company that operates water-distribution systems in the Caribbean; Atlantic Tele-Network (ATNI (opens in new tab)), which provides telecommunications services in the U.S. and the Caribbean; and cruise-ship operators Carnival (CCL (opens in new tab)) and Royal Caribbean Cruises (RCL (opens in new tab)).

The fund's long-term performance has been okay, although, frankly, there are no perfect benchmarks with which to compare it. Over the past ten years through January 31, Caribbean Basin returned an annualized 8.1% on assets. That compares with a 7.4% annualized return for the average global stock fund. (Return on assets measures the performance of a fund's holdings and, to some degree, its manager's ability; over the past decade, Caribbean Basin returned 7.8% annualized on its share price; that figure represents what shareholders earned, less trading commissions.) Thanks to the big February 19 advance, the fund's shares have gained 10% year-to-date.

Before jumping into Herzfeld's fund, it's important to know how closed-ends operate. These funds issue a fixed number of shares and then trade just like stocks. Unlike the newer exchange-traded funds, which are designed to minimize gaps between the value of the share prices and the underlying assets, old-fashion closed-ends almost always trade at prices that differ from the value of their assets.

As of the February 19 close, Caribbean Basin shares traded at a 7.8% premium to net asset value, or NAV. Over the past five years, the fund's premium-discount swings have been dramatic. For much of 2004 and 2005, according to Morningstar, the fund's shares sold for about 15% less than NAV.

But the shares spiked dramatically in the middle of 2006, when news about Castro's health problems first emerged. At one point that year, Caribbean Basin's shares sold at nearly twice the value of its underlying holdings. "The fund's shares react favorably or negatively to the news coming out Cuba," says Herzfeld.

So is this a good time to buy into Herzfeld Caribbean Basin? It's always better to invest in a closed-end when you can buy it at a big discount to NAV. But, given this fund's previous response to news about Castro's illness, it's conceivable that the shares may once again command a big premium. As such, risk-tolerant investors who are willing to watch the fund carefully may want to consider buying into CUBA even if it's trading at a small premium to NAV.

Long-term investors, however, need to pay attention to developments in Washington and Havana. Herzfeld says he'll carefully watch events in Cuba on February 24, when the National Assembly is scheduled to choose a Council of State, which, in turn, will select the next president. But what would really propel Caribbean Basin's shares-not to mention those of many of the stocks it holds-is termination of the U.S. trade embargo with Cuba, says Herzfeld. When that will happen is anyone's guess.

Meantime, if you want to celebrate Castro's abdication by lighting up a Cuban cigar, you'll have to travel to Canada or Mexico to buy one.

Manuel Schiffres
Executive Editor, Kiplinger's Personal Finance