The Securities and Exchange Commission (SEC) has given closed-end funds an important defense mechanism against activist investors. On May 27, the SEC withdrew a decade-old guidance that prevented closed-end funds from using state law control share statutes to discriminate among shareholders.

Boulder letter

In 2010, in response to a letter from Maryland-incorporated Boulder Total Return Fund, the SEC said that opting into the state’s control share statue – which allows closed-end funds to cancel the voting rights of an activist investor holding shares over the 10% threshold – violated Section 18 of the Investment Company Act of 1940 that says all shares of the same class should be treated equally. As such, the SEC concluded that the state law conflicted with the federal law and closed-end funds should defer to it.

The response became known as the “Boulder letter” and provided guidance to all closed-end funds incorporated in states with control share statute provisions. But having expressed skepticism about activism in the sector, the SEC withdrew this guidance, citing “market developments” and “recent feedback from affected market participants.” As a result, activists holding large stakes in closed-end funds might find their ability to enact change severely restricted. According to Activist Insight Online data, 57 closed-end funds incorporated in Maryland were publicly subjected to activist demands since 2013, followed by Massachusetts with 39 and Delaware with 38. Both Maryland and Massachusetts have control share statute provisions, while Delaware does not.

The SEC has not provided further details about its motivation, but said the withdrawal is just a “view” and not a “rule,” and has “no legal force or effect.” It also requested feedback from the market on whether further action is necessary.

Lucrative area

Closed-end funds have been a lucrative area for a handful of specialized activist investors. Typically, activists scour for funds trading at a big discount to net asset value and campaign for a liquidity event, including by nominating board members and submitting shareholder proposals. Phil Goldstein’s Bulldog Investors has been the most active in the space, with 44 funds publicly targeted since 2013, followed by Boaz Weinstein’s Saba Capital Management with 25 and Karpus Investment Management with 14, according to Activist Insight Online. Activists typically build stakes north of 10% to increase their chance of success in a proxy contest.

Sometimes, fights get extremely antagonistic. Late last year, Saba sued three BlackRock funds after they refused to allow the activist to nominate directors. A Maryland court sided with BlackRock in one fund, while Delaware ruled in favor of the activist at the other two.

Law firm Skadden, Arps, Slate, Meagher & Flom, which represented BlackRock in the dispute with Saba, has been calling on the SEC to take a closer look at such tactics, arguing in a June note last year that the activists are pursuing short-term profits “at the expense of the long-term retail investing public.”

“We believe that the current SEC staff is more understanding of the benefits closed-end fund[s] provide to the investing public, and may be more receptive to protecting closed-end funds, than has been the case for over a decade,” Skadden said in the note.

Because closed-end funds more often invest in illiquid assets, such as private equity strategies and private debt, than their open-ended equivalents, activist-driven liquidations can result in retail investors losing access to these products and the strong returns they have posted in recent years, Thomas DeCapo, a partner at Skadden’s investment management practice, told me.

Regulatory capture

However, the SEC’s lack of detailed explanation for the reversal has left some in doubt. “The only reason that I can see [for the withdrawal of the letter] is that they were lobbied heavily by the industry,” Bulldog’s Goldstein told me.

“It’s not a reasoned position, this is a good example of regulatory capture,” Goldstein said, citing a theory that regulatory agencies might come to be dominated by the industries they are trying to regulate. The activist plans to submit comments to the SEC.

Schulte, Roth & Zabel lawyers, which represent activists, said in a note Thursday the SEC’s new position “could have a chilling effect on activism within the closed-end fund space, particularly in view of the many challenges insurgents already face under the 1940 Act.” Aneliya Crawford, one of the authors, told me she noted increased adoption of anti-takeover defenses. The withdrawal of the Boulder letter signals “another barrier to anti-takeover protectionism may be coming down,” she said.
Elsewhere in the news:

Firefly Value Partners ended its proxy fight at Gulfport Energy after one of its director nominees joined the company’s slate, acknowledging “substantial” board refreshment brought about by its engagement with the natural gas company.

D. E. Shaw plans to vote against three Weatherford International directors, including Chairman Thomas Bates, at the upcoming June 12 annual meeting.

Altisource Portfolio Solutions criticized Front Yard Residential for calling its annual meeting at short notice, claiming this was done to entrench the board and avoid potential challenges from shareholders angered by the firm’s recent decision to terminate a planned sale to Amherst Residential.

Twitter appointed a new chairman, months after the firm reached a settlement agreement with Elliott Management and private equity firm Silver Lake.

A group of shareholders in Vietnamese builder Coteccons Construction are pushing for a board revamp and an independent audit of the firm’s contracts, claiming the business is riddled with conflicts of interest.

Institutional Shareholder Services (ISS) and Glass Lewis backed varying numbers of dissident nominees in the proxy fight between Bow Street Capital and Mack-Cali Realty.

B. Braun Melsungen, a large shareholder in German private hospital operator Rhoen-Klinikumlost a proxy fight it launched in opposition to a takeover bid by a group of fellow shareholders.

ISS and Glass Lewis backed Hestia Capital and Permit Capital‘s nominees at GameStop, but Scion Asset Management said it voted its stake for the incumbents.

Robotti & Company wants to replace two Tidewater directors to ensure that the recently adopted shareholder rights plan is not used to block a potential merger.

ISS offered “cautionary support” to OneSpaWorld‘s proposed $75 million equity financing, but at the same time validated Deep Field Asset Management‘s criticism of the company’s governance.

As always, Activist Insight Online reporters will be diligently covering all developments in activism around the world, and Iuri Struta will be highlighting the most remarkable stories in this roundup. If you have suggestions for improving our coverage, or a tip, you can contact us at