"This isn't to say you should never invest at a premium. Most CEF investors have no qualms investing at slight premiums to NAV. But absolute premiums above 10% should really give you pause," say Morningstar analysts. Morningstar uses the term "absolute" when discussing the share price/NAV relationship; it does so to distinguish from when it is referring to historical discounts and premiums.
Income source. Keep in mind that the primary benefit of purchasing a closed-end fund at an absolute discount is for income-seeking investors to enhance their yield, Morningstar research also states. Morningstar advises against purchasing CEFs at absolute discounts in hopes that the share price will converge to a higher NAV, rather than primarily for the income. See more on the yield calculation at Morningstar.
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"For income-seeking investors, instead of viewing discounts as a way to purchase $1.00 of assets for, let's say, $0.70, income seekers should think of buying $1.00 of 'earning assets' for $0.70. After all, if a fund is earning 5% on every $1.00 it invests, those of us purchasing these assets for $0.70 are actually earning 7.1% on our investment," says Mike Taggart, director of closed-end fund research at Morningstar, in a commentary.
"This is referred to as yield enhancement and is, perhaps, the most compelling reason to invest in CEFs for the long term," he writes. "Regardless of subsequent swings in share price, as long as the fund continues to earn 5% and maintains its distribution rate, a buy-and-hold investor under this scenario will continue to earn 7.1%."
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