File No. 333-172439
Rule 497(c)
Rule 497(h)
PROSPECTUS
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17,250,000 SHARES
FIRST TRUST ENERGY INFRASTRUCTURE FUND
COMMON SHARES
$20.00 PER SHARE
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The Fund. First Trust Energy Infrastructure Fund (the "Fund") is a newly
organized, non-diversified, closed-end management investment company.
Investment Objective. The Fund's investment objective is to seek a high level
of total return with an emphasis on current distributions paid to shareholders.
Investment Strategy. The Fund will seek to achieve this objective by
investing primarily in securities of companies engaged in the energy
infrastructure sector. These companies principally include publicly-traded
master limited partnerships and limited liability companies taxed as
partnerships ("MLPs"), MLP affiliates, Canadian income trusts and their
successor companies (collectively, "Canadian Income Equities"), pipeline
companies, utilities, and other companies that derive at least 50% of their
revenues from operating or providing services in support of infrastructure
assets such as pipelines, power transmission and petroleum and natural gas
storage in the petroleum, natural gas and power generation industries
(collectively, "Energy Infrastructure Companies"). Under normal market
conditions, the Fund will invest at least 80% of its Managed Assets (as defined
below) (including assets obtained through leverage) in securities of Energy
Infrastructure Companies.
(continued on following page)
NO PRIOR HISTORY. BECAUSE THE FUND IS NEWLY ORGANIZED, ITS COMMON SHARES OF
BENEFICIAL INTEREST ("COMMON SHARES") HAVE NO HISTORY OF PUBLIC TRADING. SHARES
OF CLOSED-END INVESTMENT COMPANIES FREQUENTLY TRADE AT A DISCOUNT FROM THEIR NET
ASSET VALUE ("NAV"). THIS RISK MAY BE GREATER FOR INVESTORS EXPECTING TO SELL
THEIR SHARES IN A RELATIVELY SHORT PERIOD OF TIME AFTER COMPLETION OF THE PUBLIC
OFFERING.
The Common Shares have been approved for listing on the New York Stock
Exchange, subject to notice of issuance, under the symbol "FIF."
INVESTING IN THE FUND'S COMMON SHARES INVOLVES CERTAIN RISKS, INCLUDING THOSE
DESCRIBED IN THE "RISKS" SECTION BEGINNING ON PAGE 27 OF THIS PROSPECTUS.
NEITHER THE SECURITIES AND EXCHANGE COMMISSION NOR ANY STATE SECURITIES
COMMISSION HAS APPROVED OR DISAPPROVED OF THESE SECURITIES OR DETERMINED IF THIS
PROSPECTUS IS TRUTHFUL OR COMPLETE. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
-------------------------------------
PER SHARE TOTAL (1)
Public offering price............................ $20.00 $345,000,000
Sales load (2)................................... $0.90 $15,525,000
Estimated offering costs (3)..................... $0.04 $690,000
Proceeds, after expenses, to the Fund............ $19.06 $328,785,000
(1) The Fund has granted the underwriters an option to purchase up to
2,518,115 additional Common Shares at the public offering price, less
the sales load, within 45 days of the date of this prospectus solely to
cover overallotments, if any. If such option is exercised in full, the
public offering price, sales load, estimated offering costs and proceeds,
after expenses, to the Fund will be $395,362,300, $17,791,304, $790,725
and $376,780,272, respectively. See "Underwriting."
(2) The Advisor and Sub-Advisor (and not the Fund) have agreed to pay, from
their own assets, a structuring and syndication fee to Morgan Stanley &
Co. LLC, a structuring fee to Citigroup Global Markets Inc., a
structuring fee to Merrill Lynch, Pierce, Fenner & Smith Incorporated and
a structuring fee to RBC Capital Markets, LLC. These fees are not
reflected under sales load in the table above. See "Underwriters--
Additional Compensation to be paid by the Advisor and Sub-Advisor."
(3) Total expenses of the offering of the Common Shares of the Fund paid by
the Fund (other than the sales load) are estimated to be $690,000, which
represents 0.20% (or $0.04 per Common Share) of the Fund's aggregate
offering price. The Advisor and Sub-Advisor have agreed to pay: (i) all
organizational expenses; and (ii) all offering costs of the Fund (other
than the sales load) that exceed 0.20% (or $0.04 per Common Share) of the
Fund's aggregate offering price.
The underwriters expect to deliver the Common Shares to purchasers on or
about September 30, 2011.
-------------------------------------
MORGAN STANLEY CITIGROUP BOFA MERRILL LYNCH
OPPENHEIMER & CO. RBC CAPITAL MARKETS
BAIRD BB&T CAPITAL MARKETS CHARDAN CAPITAL MARKETS, LLC
J.J.B. HILLIARD, W.L. LYONS, LLC JANNEY MONTGOMERY SCOTT LADENBURG THALMANN &CO. INC.
MAXIM GROUP LLC WEDBUSH SECURITIES INC. WUNDERLICH SECURITIES
-------------------------------------
The date of this prospectus is September 27, 2011.
(continued from previous page)
Investment Advisor and Sub-Advisor. First Trust Advisors L.P. ("First Trust
Advisors" or the "Advisor") will be the Fund's investment advisor and Energy
Income Partners, LLC ("Energy Income Partners" or the "Sub-Advisor") will be the
Fund's sub-advisor. See "Management of the Fund" in this prospectus and
"Investment Advisor" and "Sub-Advisor" in the Fund's Statement of Additional
Information (the "SAI").
Distributions. The Fund intends to pay monthly distributions to
shareholders out of legally available funds. Distributions, if any, will be
determined by the Fund's Board of Trustees. THE FUND EXPECTS TO DECLARE ITS
INITIAL DISTRIBUTION APPROXIMATELY 45-60 DAYS FOLLOWING THE COMPLETION OF THIS
OFFERING AND PAY SUCH INITIAL DISTRIBUTION APPROXIMATELY 60-90 DAYS AFTER THE
COMPLETION OF THIS OFFERING, DEPENDING ON MARKET CONDITIONS. There is no
assurance the Fund will continue to pay regular distributions or that we will do
so at a particular rate. See "Distributions" and "Tax Matters."
Leverage. The Fund currently intends to seek to enhance the level of its
current distributions through the use of leverage. The Fund may utilize leverage
through borrowings in an amount up to 33-1/3% of its Managed Assets less all
liabilities other than borrowings or may issue preferred shares of beneficial
interest ("Preferred Shares") in an amount up to 50% of its Managed Assets
(including the proceeds of leverage). The Fund initially anticipates that it
will utilize leverage, through borrowings, in an aggregate amount of
approximately 25% to 30% of the Fund's Managed Assets. The cost associated with
any issuance and use of leverage will be borne by the holders of the Common
Shares ("Common Shareholders"). Through the use of leverage, the Fund will seek
to obtain a higher return for the Common Shareholders than if the Fund did not
use leverage. The use of leverage is a speculative technique and investors
should note that there are special risks and costs associated with the
leveraging of the Common Shares. There can be no assurance that a leveraging
strategy will be successful during any period in which it is employed. See
"Leverage Program--Effects of Leverage," "Risks--Leverage Risk" and "Description
of Shares."
You should read this prospectus, which contains important information about
the Fund, before deciding whether to invest in the Common Shares, and retain it
for future reference. This prospectus sets forth concisely the information about
the Fund that a prospective investor ought to know before investing. The SAI,
dated September 27, 2011, as it may be supplemented, containing additional
information about the Fund, has been filed with the Securities and Exchange
Commission (the "SEC") and is incorporated by reference in its entirety into
this prospectus. You may request a free copy of the SAI, the table of contents
of which is on page 54 of this prospectus, annual and semi-annual reports to
shareholders, when available, and other information about the Fund, and make
shareholder inquiries by calling (800) 988-5891; by writing to the Fund at 120
East Liberty Drive, Wheaton, Illinois 60187; or from the Fund's website
(http://www.ftportfolios.com). You also may obtain a copy of the SAI (and other
information regarding the Fund) from the SEC's website (http://www.sec.gov).
THE COMMON SHARES DO NOT REPRESENT A DEPOSIT OR OBLIGATION OF, AND ARE NOT
GUARANTEED OR ENDORSED BY, ANY BANK OR OTHER INSURED DEPOSITORY INSTITUTION, AND
ARE NOT FEDERALLY INSURED BY THE FEDERAL DEPOSIT INSURANCE CORPORATION, THE
FEDERAL RESERVE BOARD OR ANY OTHER GOVERNMENT AGENCY.
ii
TABLE OF CONTENTS
PAGE
Prospectus Summary...........................................................1
Summary of Fund Expenses....................................................19
The Fund....................................................................20
Use of Proceeds.............................................................20
The Fund's Investments......................................................20
Leverage Program............................................................26
Risks.......................................................................27
Management of the Fund......................................................38
Net Asset Value.............................................................39
Distributions...............................................................40
Dividend Reinvestment Plan..................................................41
Description of Shares.......................................................42
Certain Provisions in the Declaration of Trust and By-Laws..................43
Structure of the Fund; Common Share Repurchases and Change in
Fund Structure...........................................................45
Tax Matters.................................................................46
Underwriters................................................................49
Custodian, Administrator, Fund Accountant and Transfer Agent................53
Legal Opinions..............................................................53
Table of Contents for the Statement of Additional Information...............54
YOU SHOULD RELY ONLY ON THE INFORMATION CONTAINED IN THIS PROSPECTUS. NEITHER
THE FUND NOR THE UNDERWRITERS HAVE AUTHORIZED ANY OTHER PERSON TO PROVIDE YOU
WITH DIFFERENT INFORMATION. IF ANYONE PROVIDES YOU WITH DIFFERENT OR
INCONSISTENT INFORMATION, YOU SHOULD NOT RELY ON IT. NEITHER THE FUND NOR THE
UNDERWRITERS ARE MAKING AN OFFER TO SELL THESE SECURITIES IN ANY JURISDICTION
WHERE THE OFFER OR SALE IS NOT PERMITTED.
CAUTIONARY NOTICE REGARDING FORWARD-LOOKING STATEMENTS
This prospectus and the SAI, including documents incorporated by reference,
contain "forward-looking statements." Forward-looking statements can be
identified by the words "may," "will," "intend," "expect," "believe,"
"estimate," "continue," "plan," "anticipate," and similar terms and the negative
of such terms. By their nature, all forward-looking statements involve risks and
uncertainties, and actual results could differ materially from those
contemplated by the forward-looking statements. Several factors that could
materially affect the Fund's actual results are the performance of the portfolio
of securities held by the Fund, the conditions in the U.S. and international
financial, energy and other markets, the price at which the Common Shares will
trade in the public markets and other factors which may be discussed in the
Fund's periodic filings with the SEC.
Although we believe that the expectations expressed in these forward-looking
statements are reasonable, actual results could differ materially from those
projected or assumed in these forward-looking statements. The Fund's future
financial condition and results of operations, as well as any forward-looking
statements, are subject to change and are subject to inherent risks and
uncertainties, such as those disclosed in the "Risks" section of this
prospectus. All forward-looking statements contained or incorporated by
reference in this prospectus are made as of the date of this prospectus. We do
not intend, and we undertake no obligation, to update any forward-looking
statement. The forward-looking statements contained in this prospectus are
excluded from the safe harbor protection provided by Section 27A of the
Securities Act of 1933, as amended (the "1933 Act").
Currently known risk factors that could cause actual results to differ
materially from the Fund's expectations include, but are not limited to, the
factors described in the "Risks" section of this prospectus. The Fund urges you
to review carefully that section for a more detailed discussion of the risks of
an investment in the Fund's securities.
PROSPECTUS SUMMARY
This summary highlights information contained elsewhere in this prospectus.
This summary does not contain all of the information that you should consider
before investing in the Common Shares. You should carefully read the entire
prospectus and the SAI, particularly the section entitled "Risks."
THE FUND ........... First Trust Energy Infrastructure Fund (the "Fund") is a
newly organized, non-diversified, closed-end management
investment company. See "The Fund."
THE OFFERING ....... The Fund is offering 17,250,000 common shares of
beneficial interest at $20.00 per share through a group of
underwriters (the "Underwriters") led by Morgan Stanley &
Co. LLC, Citigroup Global Markets Inc. and Merrill Lynch,
Pierce, Fenner & Smith Incorporated. You must purchase at
least 100 Common Shares in this offering. The Fund has
given the Underwriters an option to purchase up to
2,518,115 additional Common Shares to cover orders in
excess of 17,250,000 Common Shares. The Advisor and
Sub-Advisor have to agreed to pay: (i) all organizational
expenses; and (ii) all offering costs of the Fund (other
than the sales load) that exceed 0.20% (or $0.04 per
Common Share) of the Fund's aggregate offering price.
WHO MAY WANT TO
INVEST ............ Investors should consider their investment goals, time
horizons and risk tolerance before investing in the Fund.
An investment in the Fund is not appropriate for all
investors, and the Fund is not intended to be a complete
investment program. The Fund is designed as a long-term
investment and not as a trading vehicle. The Fund may be
an appropriate investment for long-term investors who are
seeking:
o a high level of total return with an emphasis on
current distributions
o an efficient vehicle to invest in a portfolio
containing publicly-traded MLPs, pipeline companies,
utilities and Canadian energy infrastructure
companies
o a structure that allows for tax simplification: one
Form 1099 versus multiple Form K-1s
o a management team with extensive experience and
resources in this asset class
o an anticipated monthly distribution to shareholders
o exchange-traded liquidity
INVESTMENT ADVISOR
AND SUB-ADVISOR..... First Trust Advisors L.P. ("First Trust Advisors" or the
"Advisor") will be the Fund's investment advisor,
responsible for supervising the Fund's Sub-Advisor (as
defined below), monitoring the Fund's investment
portfolio, managing the Fund's business affairs and
providing certain clerical and bookkeeping and other
administrative services. The Advisor, in consultation with
the Sub-Advisor, will also be responsible for determining
the Fund's overall investment strategy and overseeing its
implementation. Energy Income Partners, LLC ("Energy
Income Partners" or the "Sub-Advisor") will be the Fund's
sub-advisor and is primarily responsible for the
day-to-day supervision and investment strategy of the
Fund.
First Trust Advisors, a registered investment advisor, is
an Illinois limited partnership formed in 1991. First
Trust Advisors serves as investment advisor or portfolio
supervisor to investment portfolios with approximately $46
billion in assets which it managed or supervised as of
August 31, 2011.
Energy Income Partners, a registered investment advisor,
is a Delaware limited liability company which provides
professional asset management services in the area of
energy-related MLPs, and other high-payout securities.
Founded in 2003, Energy Income Partners serves as
investment advisor to investment portfolios with
approximately $917 million of assets which it managed as
of August 31, 2011.
INVESTMENT
PHILOSOPHY
AND PROCESS......... The Sub-Advisor believes that a professionally managed
portfolio of consistently high dividend paying MLPs,
Canadian Income Equities, pipeline and power utilities and
other Energy Infrastructure Companies in non-cyclical
segments offer an attractive balance of income and growth.
1
The Sub-Advisor believes that the non-cyclical assets that
best support a high-payout ratio are those with steady,
fee-for-service businesses with relatively low sustaining
capital obligations. In the energy infrastructure
industry, such fee-for-service assets are comprised of
interstate pipelines, intrastate pipelines with long-term
contracts, power generation assets, storage and terminal
facilities with long-term contracts and regulated power
transmission and distribution assets. By contrast, the
Sub-Advisor will seek to limit the cyclical energy
exposure of the portfolio. The Sub-Advisor believes that
portfolio investments in oil and gas exploration,
development and production are less well suited for the
Fund because the cash flows from these investments are
cyclical in nature, being driven by commodity prices, and
because oil and gas assets are wasting assets. The
Sub-Advisor believes the use of rigorous investment
research and analytical tools, along with conservative
portfolio construction used to identify appropriate
non-cyclical Energy Infrastructure Company investments,
provides a value added service to the individual investor
making an investment in this asset class. See "The Fund's
Investments--Investment Philosophy and Process--Capital
Discipline."
INVESTMENT OBJECTIVE
AND POLICIES........ The Fund's investment objective is to seek a high level of
total return with an emphasis on current distributions
paid to shareholders. For purposes of the Fund's
investment objective, total return includes capital
appreciation of, and all distributions received from,
securities in which the Fund invests, taking into account
the varying tax characteristics of such securities. The
Fund seeks to provide its shareholders with an efficient
vehicle to invest in a portfolio of cash-generating
securities of Energy Infrastructure Companies. There can
be no assurance that the Fund's investment objective will
be achieved or that the Fund will earn a return on its
assets, and you may lose some or all of your investment.
The Fund has adopted the following non fundamental
investment policies:
o Under normal market conditions, the Fund will invest
at least 80% of its Managed Assets (including assets
obtained through leverage) in securities of Energy
Infrastructure Companies.
o The Fund will invest in equity securities such as
common stocks, preferred stocks, convertible
securities, warrants, depository receipts and other
equity interests in Energy Infrastructure Companies.
o The Fund may directly invest up to 25% (or such
higher amount as permitted by any future tax
diversification rules) of its Managed Assets in
equity securities of MLPs. This limit does not apply
to securities issued by MLP affiliates, such as
I-Shares or general partner interests or other
entities that may own interests of MLPs, unless such
indirect interests are attributed to the Fund's
investment limitation under federal tax law.
o The Fund may invest up to 15% of its Managed Assets
in unregistered or otherwise restricted securities
of Energy Infrastructure Companies. For purposes of
this limitation, "restricted securities" refers to
securities that have not been registered under the
1933 Act or are held by control persons of the
issuer and securities that are subject to
contractual restrictions on their resale.
o The Fund will not invest more than 15% of its
Managed Assets in any single issuer.
o The Fund will not invest directly in commodities.
"Managed Assets" means the average daily gross asset value
of the Fund (which includes assets attributable to the
Fund's Preferred Shares, if any, and the principal amount
of any borrowings), minus the sum of the Fund's accrued
and unpaid dividends on any outstanding Preferred Shares
and accrued liabilities (other than the principal amount
of any borrowings of money incurred or of commercial paper
or notes issued by the Fund). For purposes of determining
Managed Assets, the liquidation preference of the
Preferred Shares is not treated as a liability.
2
To generate additional income, the Fund may write (or
sell) covered call options on up to 30% of its Managed
Assets.
Unless otherwise stated, all investment restrictions apply
at the time of purchase and the Fund will not be required
to reduce a position due solely to market value
fluctuations.
The Fund intends to be treated as a regulated investment
company ("RIC") for tax purposes. Under the current tax
diversification rules applicable to RICs, the Fund may
directly invest up to 25% of its total assets in equity
securities of MLPs treated as publicly traded
partnerships. To the extent permissible by such rules, the
Fund may indirectly invest a higher amount of its assets
in equity securities of MLPs. The Fund intends to invest
the remainder of its assets in other Energy Infrastructure
Companies pursuant to its investment objective and
policies. The types of MLPs in which the Fund intends to
invest historically have made cash distributions to
limited partners or members that exceed the amount of
taxable income allocable to limited partners or members,
due to a variety of factors, including significant
non-cash deductions, such as depreciation and depletion.
If the cash distribution exceeds the taxable income
reported in a particular tax year, a portion of the excess
cash distribution would not be treated as income to the
Fund in that tax year but would rather be treated as a
return of capital for federal income tax purposes to the
extent of the Fund's basis in its MLP units. The Fund
expects to distribute cash in excess of its earnings and
profits to Common Shareholders, which may be treated as a
return of capital to the extent of the Common
Shareholders' basis in the Common Shares. See
"Distributions."
The Fund's investment objective and the investment
restrictions listed in the SAI are considered fundamental
and may not be changed without approval by holders of a
majority of the outstanding voting securities of the Fund,
as defined in the Investment Company Act of 1940, as
amended (the "1940 Act"), which includes Common Shares and
Preferred Shares, if any, voting together as a single
class, and the holders of the outstanding Preferred
Shares, if any, voting as a single class. The remainder of
the Fund's investment policies, including its investment
strategy, are considered non-fundamental and may be
changed by the Board of Trustees without shareholder
approval. The Fund will provide investors with at least 60
days prior notice of any change in the Fund's investment
strategy. Unless otherwise stated, all investment
restrictions apply at the time of purchase and the Fund
will not be required to reduce a position due solely to
market fluctuations. There can be no assurance that the
Fund's investment objective will be achieved. See "The
Fund's Investments" and "Risks" in this prospectus and
"Investment Policies and Techniques" in the Fund's SAI.
DISTRIBUTIONS ...... The Fund intends to pay out substantially all of its
distributable cash flow ("DCF"), generally consisting of
(i) cash and paid in kind distributions from MLPs or their
affiliates, dividends from common stocks and income from
other investments held by the Fund less (ii) current or
accrued operating expenses of the Fund, including taxes on
Fund taxable income and leverage costs. Dividends to
Common Shareholders relating to in kind dividends or
distributions received by the Fund on its investments,
including I-Shares, will be paid in cash or additional
Common Shares of the Fund. Unless a shareholder elects to
receive distributions in cash, distributions will be used
to purchase additional Common Shares of the Fund. See
"Dividend Reinvestment Plan."
Due to the tax treatment under current law of cash
distributions made by MLPs in which the Fund may invest, a
portion of distributions the Fund anticipates making to
Common Shareholders may consist of tax-deferred return of
capital. To the extent that distributions exceed the
Fund's earnings and profits, distributions are generally
not treated as taxable income for the investor. Instead,
the Fund's Common Shareholders will experience a reduction
in the basis of their shares, which may increase the
capital gain, or reduce capital loss, realized upon the
sale of such shares. Section 19(a) of the 1940 Act and
Rule 19a-1 thereunder requires the Fund to provide a
written statement accompanying payment from any source
other than income that adequately discloses the source or
sources of such payment. Thus, if the Fund's capital was
the source of a distribution and the payment amounted to a
return of capital, the Fund would be required to provide a
written notice to that effect. The amount of the Fund's
distribution that constitutes a return of capital
3
represents a return of a Common Shareholder's original
investment in the Common Shares. Accordingly, Common
Shareholders should carefully read any written disclosure
accompanying a distribution and should not assume that the
source of payment is our income.
The Board of Trustees has established a target for payment
of substantially all DCF to Common Shareholders on an
annual basis. The Fund's initial distribution is expected
to be declared approximately 45 to 60 days after the
completion of this offering and paid approximately 60 to
90 days after the completion of this offering, depending
on market conditions. Subsequent distributions will be
paid each month out of DCF, if any. There is no assurance
that the Fund will make regular distributions. See "Tax
Matters" in this Prospectus Summary.
HEDGING AND
STRATEGIC
TRANSACTIONS ....... The Fund may, but is not required to, use various hedging
and strategic transactions to seek to reduce interest rate
risks arising from any use of leverage, to facilitate
portfolio management and to mitigate risks, including,
without limitation, interest rate, currency and credit
risks and equity security price risk. Collectively, these
transactions referred to above are "Strategic
Transactions."
The Fund currently expects to write (or sell) covered call
options on up to 30% of its Managed Assets. Such call
options would give the option holders the right, but not
the obligation, to purchase a common stock at a specified
price (the "strike price") on one or more future dates
(each, an "exercise date"). The price of the option is
determined from trading activity in the broad options
market, and generally reflects the relationship between
the market price for the underlying common stock and the
strike price, as well as the time remaining until the
expiration date. The Fund will write call options only if
they are "covered." In the case of a call option on a
common stock or other security, the option is "covered" if
the Fund owns the security underlying the call or has an
absolute and immediate right to acquire that security
without additional cash consideration (or, if additional
cash consideration is required, cash or other assets
determined to be liquid by the Sub-Advisor (in accordance
with procedures established by the Board of Trustees) in
such amount are segregated by the Fund's custodian) upon
conversion or exchange of other securities held by the
Fund. The Fund expects to utilize hedging techniques such
as interest rate swaps, caps, floors or collars or credit
transactions and credit default swaps (or any combination
thereof) to mitigate potential interest rate risk on a
portion of its leverage instruments. Such interest rate
and credit hedges would principally be used to protect the
Fund against higher costs on the Fund's leverage
instruments resulting from increases in short-term
interest rates. The Fund anticipates that the majority of
the Fund's interest rate hedges will be interest rate
swap contracts with financial institutions. The Fund
also expects to enter into currency exchange transactions
to hedge the Fund's exposure to foreign currency exchange
rate risk to the extent the Fund invests in non-U.S.
dollar denominated securities of non-U.S. issuers. The
Fund's currency transactions will be limited to portfolio
hedging involving portfolio positions. Portfolio hedging
is the use of a currency forward contract with respect to
a portfolio security position denominated or quoted in a
particular currency. A currency forward contract is an
agreement to purchase or sell a specified currency at a
specified future date (or within a specified time period)
and at a price set (or determined pursuant to parameters
provided) at the time of the contract. Currency forward
contracts are usually entered into with banks, foreign
exchange dealers or broker-dealers, are not
exchange-traded, and are usually for less than one year,
but may be renewed.
The Fund may, to a lesser extent, purchase and sell other
derivative investments such as exchange-listed and
over-the-counter put and call options on securities,
energy-related commodities, equity, fixed-income and
interest rate indices and other financial instruments and
purchase and sell financial futures contracts and options
thereon. The Fund also may purchase derivative investments
that combine features of these instruments.
4
The Fund will generally seek to use Strategic Transactions
as a portfolio management or hedging technique to seek to
protect against possible adverse changes in the market
value of securities held in or to be purchased for the
Fund's portfolio, protect the value of the Fund's
portfolio, facilitate the sale of certain securities for
investment purposes, manage the effective interest rate
and currency exposure of the Fund, or establish positions
in the derivatives markets as a temporary substitute for
purchasing or selling particular securities. The notional
amount of the Fund's investments in these instruments and
transactions that increase or decrease the Fund's exposure
to Energy Infrastructure Companies, including investments
in derivatives, will be counted towards the Fund's policy
to invest 80% of its Managed Assets in securities of
Energy Infrastructure Companies. See "Risks--Derivatives
Risk" and "The Fund's Investments--Investment
Practices--Strategic Transactions" in this prospectus and
"Additional Information About the Fund's Investments and
Investment Risks--Strategic Transactions Risk" in the SAI.
TAX MATTERS ........ Distributions with respect to the Common Shares will
constitute dividends to the extent of the Fund's current
and accumulated earnings and profits, as calculated for
U.S. federal income tax purposes. Such dividends generally
will be taxable as ordinary income to Common Shareholders.
Distributions of net capital gain that are designated by
the Fund as capital gain dividends will be treated as
long-term capital gains in the hands of Common
Shareholders receiving such distributions. Distributions
in excess of the Fund's current and accumulated earnings
and profits would first be a tax free return of capital to
the extent of a Common Shareholder's adjusted tax basis in
its Common Shares. After such adjusted tax basis is
reduced to zero, the distribution would constitute capital
gain (assuming the Common Shares are held as capital
assets). In addition, a significant portion of the
distributions generally will not constitute "qualified
dividend income" for federal income tax purposes and thus
will not be eligible for the lower tax rates on qualified
dividend income. See "Tax Matters."
LEVERAGE PROGRAM ... Under normal market conditions, the Fund currently intends
to use leverage through borrowings and/or through the
issuance of commercial paper, notes or Preferred Shares in
an aggregate amount of approximately 25% to 30% of the
Fund's Managed Assets after such borrowings and/or
issuance. The Fund will not, however, be required to
reduce leverage to the extent the above percentage
limitation is exceeded as a result of a decline in the
value of the Fund's assets. The Fund intends to leverage
its assets through borrowings from banks and other
financial institutions. It is expected that these
borrowings will be made pursuant to a revolving credit
facility established with a bank or other financial
institution. Certain types of borrowings may result in the
Fund being subject to covenants in credit agreements
relating to asset coverage and portfolio composition
requirements. Leverage creates a greater risk of loss, as
well as potential for more gain, for the Common Shares
than if leverage is not used. The Fund's leveraging
strategy may not be successful. See "Risks--Leverage
Risk." Subject to market conditions, approximately three
months after completion of this offering, the Fund intends
to establish a leverage program. Leverage instruments will
have seniority over the Common Shares and may be secured
by the assets of the Fund. The use of leverage will
leverage your investment in the Common Shares. If the Fund
uses leverage, associated costs will be borne immediately
by Common Shareholders through a reduction of the NAV of
the Common Shares. Costs associated with any borrowings
would likely include legal fees, audit fees, structuring
fees, commitment fees, and a usage (borrowing) fee.
Preferred Shares, if issued, may pay fixed or floating
rate dividends based on short-term rates. Borrowings may
be at a fixed or floating rate and generally will be based
upon short-term rates.
So long as the rate of return, net of applicable Fund
expenses, on the Fund's portfolio investments purchased
with leverage exceeds the then current interest rate or
dividend rate on the leverage, the Fund will generate more
return or income than will be needed to pay such dividends
or interest payments. In this event, the excess will be
5
available to pay higher dividends to Common Shareholders.
When leverage is employed, the NAV and market prices of
the Common Shares and the yield to Common Shareholders
will be more volatile.
There is no assurance that a leverage strategy will be
utilized by the Fund or that, if utilized, it will be
successful. See "Risks--Leverage Risk."
CUSTODIAN,
ADMINISTRATOR,
FUND ACCOUNTANT AND
TRANSFER AGENT ..... The Fund has retained The Bank of New York Mellon as
custodian and BNY Mellon Investment Servicing (US) Inc. as
administrator, fund accountant and transfer agent for the
Fund. The Advisor and the Board of Trustees will be
responsible for overseeing the activities of the
custodian, administrator, fund accountant and transfer
agent. See "Custodian, Administrator, Fund Accountant and
Transfer Agent."
LISTING ............ The Common Shares have been approved for listing on the
New York Stock Exchange ("NYSE"), subject to notice of
issuance, under the symbol "FIF."
CLOSED-END
STRUCTURE .......... Closed-end funds differ from open-end management
investment companies (commonly referred to as mutual
funds) in that closed-end funds generally list their
shares for trading on a securities exchange and do not
redeem their shares at the option of the shareholder. By
comparison, mutual funds issue securities redeemable at
NAV at the option of the shareholder and typically engage
in a continuous offering of their shares. Mutual funds are
subject to continuous asset in-flows and out-flows that
can complicate portfolio management, whereas closed-end
funds generally can stay more fully invested in securities
consistent with the closed-end fund's investment objective
and policies. In addition, in comparison to open-end
funds, closed-end funds have greater flexibility in their
ability to make certain types of investments, including
investments in illiquid securities.
Shares of closed-end investment companies listed for
trading on a securities exchange frequently trade at a
discount from NAV, but in some cases trade at a premium.
The market price may be affected by NAV, dividend or
distribution levels (which are dependent, in part, on
expenses), supply of and demand for the shares, stability
of dividends or distributions, trading volume of the
shares, general market and economic conditions and other
factors beyond the control of the closed-end fund. The
foregoing factors may result in the market price of the
Common Shares of the Fund being greater than, less than or
equal to, NAV.
The Board of Trustees has reviewed the structure of the
Fund in light of its investment objective and policies and
has determined that the closed-end structure is
appropriate. As described in this prospectus, however, the
Board of Trustees may review periodically the trading
range and activity of the Common Shares with respect to
their NAV and may take certain actions to seek to reduce
or eliminate any such discount. Such actions may include
open-market repurchases or tender offers for the Common
Shares at or near NAV or the possible conversion of the
Fund to an open-end investment company. There can be no
assurance that the Board of Trustees will decide to
undertake any of these actions or that, if undertaken,
such actions would result in the Common Shares trading at
a price equal to or close to NAV per common share.
Investors should assume that it is highly unlikely that
the Board of Trustees would vote to convert the Fund to an
open-end investment company. See "Structure of the Fund;
Common Share Repurchases and Change in Fund Structure."
SPECIAL RISK
CONSIDERATIONS ..... Risk is inherent in all investing. The following
discussion summarizes the principal risks that you should
consider before deciding whether to invest in the Fund.
For additional information about the risks associated with
investing in the Fund, see "Risks."
No Operating History. The Fund is a newly organized,
non-diversified, closed-end management investment company
with no operating history. It is designed for long-term
investing and not as a vehicle for trading. Shares of
6
closed-end investment companies frequently trade at a
discount from their NAV. This risk may be greater for
investors expecting to sell their shares in a relatively
short period of time after completion of the public
offering.
Investment and Market Risk. An investment in the Common
Shares is subject to investment risk, including the
possible loss of the entire amount that you invest. Your
investment in Common Shares represents an indirect
investment in the securities owned by the Fund, a
significant portion of which will be traded on a national
securities exchange or in the over-the-counter markets.
The value of these securities, like other market
investments, may move up or down, sometimes rapidly and
unpredictably. The value of the securities in which the
Fund invests will affect the value of the Common Shares.
Your Common Shares at any point in time may be worth less
than your original investment, even after taking into
account the reinvestment of Fund dividends and
distributions.
Global financial markets and economic conditions have
been, and continue to be, volatile due to a variety of
factors, including significant write-offs in the financial
services sector. As a result, the cost of raising capital
in the debt and equity capital markets has increased
substantially while the ability to raise capital from
those markets has diminished significantly. Due to these
factors, Energy Infrastructure Companies may be unable to
obtain new debt or equity financing on acceptable terms or
at all. If funding is not available when needed, or is
available only on unfavorable terms, such companies in
which the Fund may invest may not be able to meet their
obligations as they come due. Moreover, without adequate
funding, such companies may be unable to execute their
growth strategies, complete future acquisitions, take
advantage of other business opportunities or respond to
competitive pressures, any of which could have a material
adverse effect on their revenues and results of
operations.
The recent instability in the financial markets has led
the U.S. government and foreign governments to take a
number of unprecedented actions designed to support
certain financial institutions and segments of the
financial markets that have experienced extreme
volatility, and in some cases a lack of liquidity. U.S.
federal and state governments and foreign governments,
their regulatory agencies or self regulatory organizations
may take additional actions that affect the regulation of
the securities in which the Fund invests, or the issuers
of such securities, in ways that are unforeseeable and on
an "emergency" basis with little or no notice with the
consequence that some market participants' ability to
continue to implement certain strategies or manage the
risk of their outstanding positions has been suddenly
and/or substantially eliminated or otherwise negatively
implicated. Given the complexities of the global financial
markets and the limited time frame within which
governments have been able to take action, these
interventions have sometimes been unclear in scope and
application, resulting in confusion and uncertainty, which
in itself has been materially detrimental to the efficient
functioning of such markets as well as previously
successful investment strategies. Decisions made by
government policy makers could exacerbate the nation's or
the world's current economic difficulties.
Market Discount from Net Asset Value. Shares of closed-end
investment companies frequently trade at a discount from
their NAV. This characteristic is a risk separate and
distinct from the risk that the Fund's NAV could decrease
as a result of its investment activities and may be
greater for investors expecting to sell their Common
Shares in a relatively short period following completion
of this offering. The NAV per Common Share will be reduced
immediately following this offering as a result of the
payment of certain offering costs. Although the value of
the Fund's net assets will generally be considered by
market participants in determining whether to purchase or
sell shares, whether investors will realize gains or
losses upon the sale of the Common Shares will depend
entirely upon whether the market price of the Common
Shares at the time of sale is above or below the
investor's purchase price for the Common Shares. Because
the market price of the Common Shares will be affected by
factors such as NAV, dividend or distribution levels
(which are dependent, in part, on expenses), supply of and
demand for the Common Shares, stability of dividends or
distributions, trading volume of the Common Shares,
general market and economic conditions, and other factors
7
beyond the control of the Fund, the Fund cannot predict
whether the Common Shares will trade at, below or above
NAV or at, below or above the initial public offering
price.
Management Risk. The Fund is subject to management risk
because it is an actively managed portfolio. The Advisor
and Sub-Advisor will apply investment techniques and risk
analyses in making investment decisions for the Fund, but
there can be no guarantee that these will produce the
desired results.
In addition, the implementation of the Fund's investment
strategy depends upon the continued contributions of
certain key employees of the Advisor and Sub-Advisor, some
of whom have unique talents and experience and would be
difficult to replace. The loss or interruption of the
services of a key member of the portfolio management team
could have a negative impact on the Fund during the
transitional period that would be required for a successor
to assume the responsibilities of the position.
Potential Conflicts of Interest Risk. First Trust
Advisors, Energy Income Partners and the portfolio
managers have interests which may conflict with the
interests of the Fund. In particular, First Trust Advisors
and Energy Income Partners may manage and/or advise other
investment funds or accounts with the same investment
objective and strategies as the Fund. As a result, First
Trust Advisors, Energy Income Partners and the Fund's
portfolio managers may devote unequal time and attention
to the management of the Fund and those other funds and
accounts, and may not be able to formulate as complete a
strategy or identify equally attractive investment
opportunities as might be the case if they were to devote
substantially more attention to the management of the
Fund. First Trust Advisors, Energy Income Partners and the
Fund's portfolio managers may identify a limited
investment opportunity that may be suitable for multiple
funds and accounts, and the opportunity may be allocated
among these several funds and accounts, which may limit
the Fund's ability to take full advantage of the
investment opportunity. Additionally, transaction orders
may be aggregated for multiple accounts for purpose of
execution, which may cause the price or brokerage costs to
be less favorable to the Fund than if similar transactions
were not being executed concurrently for other accounts.
At times, a portfolio manager may determine that an
investment opportunity may be appropriate for only some of
the funds and accounts for which he or she exercises
investment responsibility, or may decide that certain of
the funds and accounts should take differing positions
with respect to a particular security. In these cases, the
portfolio manager may place separate transactions for one
or more funds or accounts which may affect the market
price of the security or the execution of the transaction,
or both, to the detriment or benefit of one or more other
funds and accounts. For example, a portfolio manager may
determine that it would be in the interest of another
account to sell a security that the Fund holds,
potentially resulting in a decrease in the market value of
the security held by the Fund.
The portfolio managers may also engage in cross trades
between funds and accounts, may select brokers or dealers
to execute securities transactions based in part on
brokerage and research services provided to First Trust
Advisors or Energy Income Partners which may not benefit
all funds and accounts equally and may receive different
amounts of financial or other benefits for managing
different funds and accounts. Finally, First Trust
Advisors or its affiliates may provide more services to
some types of funds and accounts than others.
There is no guarantee that the policies and procedures
adopted by First Trust Advisors, Energy Income Partners
and the Fund will be able to identify or mitigate the
conflicts of interest that arise between the Fund and any
other investment funds or accounts that First Trust
Advisors and/or Energy Income Partners may manage or
advise from time to time. For further information on
potential conflicts of interest, see "Investment Advisor"
and "Sub-Advisor" in the SAI.
Investment Concentration Risk. The Fund's investments will
be generally concentrated in Energy Infrastructure
Companies. Certain risks inherent in investing in these
types of securities include the following:
8
o Commodity Pricing Risk. Energy Infrastructure
Companies may be directly affected by energy
commodity prices, especially those Energy
Infrastructure Companies which own the underlying
energy commodity. Commodity prices fluctuate for
several reasons, including changes in market and
economic conditions, the impact of weather on
demand, levels of domestic production and imported
commodities, energy conservation, domestic and
foreign governmental regulation and taxation and the
availability of local, intrastate and interstate
transportation systems. Volatility of commodity
prices which leads to a reduction in production or
supply may also impact the performance of Energy
Infrastructure Companies that are solely involved in
the transportation, processing, storing,
distribution or marketing of commodities. Volatility
of commodity prices may also make it more difficult
for Energy Infrastructure Companies to raise capital
to the extent the market perceives that their
performance may be directly tied to commodity
prices.
o Supply and Demand Risk. A decrease in the production
of natural gas, NGLs, crude oil, coal or other
energy commodities or a decrease in the volume of
such commodities available for transportation,
processing, storage or distribution may adversely
impact the financial performance of Energy
Infrastructure Companies. Production declines and
volume decreases could be caused by various factors,
including catastrophic events affecting production,
depletion of resources, labor difficulties,
environmental proceedings, increased regulations,
equipment failures and unexpected maintenance
problems, import supply disruption, increased
competition from alternative energy sources or
depressed commodity prices. Alternatively, a
sustained decline in demand for such commodities
could also impact the financial performance of
Energy Infrastructure Companies. Factors which could
lead to a decline in demand include economic
recession or other adverse economic conditions,
higher fuel taxes or governmental regulations,
increases in fuel economy, consumer shifts to the
use of alternative fuel sources, an increase in
commodity prices, or weather.
o Depletion and Exploration Risk. Energy
Infrastructure Companies also engaged in the
production (exploration, development, management or
production) of natural gas, NGLs (including
propane), crude oil, refined petroleum products or
coal are subject to the risk that their commodity
reserves naturally deplete over time. Reserves are
generally increased through expansion of their
existing business, through exploration of new
sources or development of existing sources, through
acquisitions or by securing long-term contracts to
acquire additional reserves, each of which entails
risk. The financial performance of these issuers may
be adversely affected if they are unable to acquire,
cost-effectively, additional reserves at a rate at
least equal to the rate of natural decline. A
failure to maintain or increase reserves could
reduce the amount and change the characterization of
cash distributions paid by these Energy
Infrastructure Companies.
o Regulatory Risk. Energy Infrastructure Companies are
subject to significant federal, state and local
government regulation in virtually every aspect of
their operations, including how facilities are
constructed, maintained and operated, environmental
and safety controls, and the prices they may charge
for products and services. Various governmental
authorities have the power to enforce compliance
with these regulations and the permits issued under
them and violators are subject to administrative,
civil and criminal penalties, including civil fines,
injunctions or both. Stricter laws, regulations or
enforcement policies could be enacted in the future
which would likely increase compliance costs and may
adversely affect the financial performance of Energy
Infrastructure Companies. In particular, changes to
laws and increased regulations or enforcement
policies as a result of the Macondo oil spill in the
Gulf of Mexico may adversely affect the financial
performance of Energy Infrastructure Companies. In
addition, such regulation can change rapidly or over
time in both scope and intensity. For example, a
particular by-product or process, including
hydraulic fracturing, may be declared
9
hazardous--sometimes retroactively--by a regulatory
agency and unexpectedly increase production costs.
o Interest Rate Risk. Rising interest rates could
adversely impact the financial performance of Energy
Infrastructure Companies. Rising interest rates may
increase an Energy Infrastructure Company's cost of
capital, which would increase operating costs and
may reduce an Energy infrastructure Company's
ability to execute acquisitions or expansion
projects in a cost-effective manner. Rising interest
rates may also impact the price of Energy
Infrastructure Company shares as the yields on
alternative investments increase.
o Acquisition or Reinvestment Risk. The ability of
Energy Infrastructure Companies to grow and to
increase distributions to their equityholders can be
dependent in part on their ability to make
acquisitions or find organic projects that result in
an increase in adjusted operating cash flow. In the
event that Energy Infrastructure Companies are
unable to make such accretive acquisitions/projects
either because they are unable to identify
attractive acquisition/project candidates or
negotiate acceptable purchase contracts or because
they are unable to raise financing on economically
acceptable terms or because they are outbid by
competitors, their future growth and ability to
raise distributions may be hindered. Furthermore,
even if Energy Infrastructure Companies do
consummate acquisitions/projects that they believe
will be accretive, the acquisitions/projects may in
fact turn out to result in a decrease in adjusted
operating cash flow. Any acquisition/project
involves risks, including among other things:
mistaken assumptions about revenues and costs,
including synergies; the assumption of unknown
liabilities; limitations on rights to indemnity from
the seller; the diversion of management's attention
from other business concerns; unforeseen
difficulties operating in new product areas or new
geographic areas; and customer or key employee
losses at the acquired businesses.
o Affiliated Party Risk. Certain Energy Infrastructure
Companies are dependent on their parents or sponsors
for a majority of their revenues. Any failure by the
parents or sponsors to satisfy their payments or
obligations would impact the Energy Infrastructure
Companies' revenues and cash flows and ability to
make distributions.
o Catastrophe Risk. The operations of Energy
Infrastructure Companies are subject to many hazards
inherent in transporting, processing, storing,
distributing or marketing natural gas, NGLs, crude
oil, refined petroleum products or other
hydrocarbons, or in exploring, managing or producing
such commodities or products, including: damage to
pipelines, storage tanks or related equipment and
surrounding properties caused by hurricanes,
tornadoes, floods, fires and other natural disasters
and acts of terrorism; inadvertent damage from
construction and farm equipment; leaks of natural
gas, NGLs, crude oil, refined petroleum products or
other hydrocarbons; fires and explosions. These
risks could result in substantial losses due to
personal injury and/or loss of life, severe damage
to and destruction of property and equipment and
pollution or other environmental damage and may
result in the curtailment or suspension of their
related operations. Not all Energy Infrastructure
Companies are fully insured against all risks
inherent to their businesses. If a significant
accident or event occurs that is not fully insured,
it could adversely affect their operations and
financial condition.
o Terrorism/Market Disruption Risk. The terrorist
attacks in the United States on September 11, 2001
had a disruptive effect on the securities markets.
U.S. military and related action in Afghanistan and
Iraq is ongoing and events in the Middle East could
have significant adverse effects on the U.S. economy
and the stock market. Uncertainty surrounding
retaliatory military strikes or a sustained military
campaign may affect Energy Infrastructure Company
operations in unpredictable ways, including
disruptions of fuel supplies and markets, and
transmission and distribution facilities could be
direct targets, or indirect casualties, of an act of
terror. Since the September 11th attacks, the U.S.
government has issued warnings that energy assets,
10
specifically the U.S. pipeline infrastructure, may
be the future target of terrorist organizations. In
addition, changes in the insurance markets
attributable to the September 11th attacks have made
certain types of insurance more difficult, if not
impossible, to obtain and have generally resulted in
increased premium costs.
o MLP Risks. An investment in MLP units involves risks
which differ from an investment in common stock of a
corporation. Holders of MLP units have limited
control and voting rights on matters affecting the
partnership. In addition, there are certain tax
risks associated with an investment in MLP units and
conflicts of interest exist between common unit
holders and the general partner, including those
arising from incentive distribution payments.
o Industry Specific Risk. Energy Infrastructure
Companies are also subject to risks that are
specific to the industry they serve.
o Midstream Energy Infrastructure Companies that
provide crude oil, refined product and natural
gas services are subject to supply and demand
fluctuations in the markets they serve which
will be impacted by a wide range of factors
including, fluctuating commodity prices,
weather, increased conservation or use of
alternative fuel sources, increased governmental
or environmental regulation, depletion, rising
interest rates, declines in domestic or foreign
production, accidents or catastrophic events,
and economic conditions, among others.
o Propane companies are subject to earnings
variability based upon weather conditions in the
markets they serve, fluctuating commodity
prices, increased use of alternative fuels,
increased governmental or environmental
regulation, and accidents or catastrophic
events, among others.
o Energy Infrastructure Companies with coal assets
are subject to supply and demand fluctuations in
the markets they serve which will be impacted by
a wide range of factors including, fluctuating
commodity prices, the level of their customers'
coal stockpiles, weather, increased conservation
or use of alternative fuel sources, increased
governmental or environmental regulation,
depletion, rising interest rates, transportation
issues, declines in domestic or foreign
production, mining accidents or catastrophic
events, health claims and economic conditions,
among others.
o Energy Infrastructure Companies that own
interstate pipelines are subject to regulation
by the Federal Energy Regulatory Commission
("FERC") with respect to the tariff rates they
may charge for transportation services. An
adverse determination by FERC with respect to
the tariff rates of such a company could have a
material adverse effect on its business,
financial condition, results of operations and
cash flows and its ability to pay cash
distributions or dividends. In addition, FERC
has a tax allowance policy, which permits such
companies to include in their cost of service an
income tax allowance to the extent that their
owners have an actual or potential tax liability
on the income generated by them. If FERC's
income tax allowance policy were to change in
the future to disallow a material portion of the
income tax allowance taken by such interstate
pipeline companies, it would adversely impact
the maximum tariff rates that such companies are
permitted to charge for their transportation
services, which in turn could adversely affect
such companies' financial condition and ability
to pay distributions to shareholders.
o Marine shipping (or "tanker") companies are
exposed to many of the same risks as other
Energy Infrastructure Companies. In addition,
the highly cyclical nature of the industry may
lead to volatile changes in charter rates and
vessel values, which may adversely affect a
tanker company's earnings. Fluctuations in
charter rates and vessel values result from
changes in the supply and demand for tanker
capacity and changes in the supply and demand
for oil and oil products. Historically, the
tanker markets have been volatile because many
11
conditions and factors can affect the supply and
demand for tanker capacity. Changes in demand
for transportation of oil over longer distances
and supply of tankers to carry that oil may
materially affect revenues, profitability and
cash flows of tanker companies. The successful
operation of vessels in the charter market
depends upon, among other things, obtaining
profitable spot charters and minimizing time
spent waiting for charters and traveling unladen
to pick up cargo. The value of tanker vessels
may fluctuate and could adversely affect the
value of tanker company securities. Declining
tanker values could affect the ability of tanker
companies to raise cash by limiting their
ability to refinance their vessels, thereby
adversely impacting tanker company liquidity.
Tanker company vessels are at risk of damage or
loss because of events such as mechanical
failure, collision, human error, war, terrorism,
piracy, cargo loss and bad weather. In addition,
changing economic, regulatory and political
conditions in some countries, including
political and military conflicts, have from time
to time resulted in attacks on vessels, mining
of waterways, piracy, terrorism, labor strikes,
boycotts and government requisitioning of
vessels. These sorts of events could interfere
with shipping lanes and result in market
disruptions and a significant loss of tanker
company earnings.
Cash Flow Risk. A substantial portion of the cash flow
received by the Fund will be derived from its investment
in equity securities. The amount of cash an entity has
available for distributions and the tax character of such
distributions is dependent upon the amount of cash
generated by the entity's operations. Cash available for
distribution varies from month to month and is largely
dependent on factors affecting the entity's operations and
factors affecting the energy industry in general. In
addition to the risk factors described above, other
factors which may reduce the amount of cash an entity has
available for distribution include increased operating
costs, capital expenditures, acquisition costs, expansion,
construction or exploration costs and borrowing costs.
MLP Tax Risk. The Fund's ability to meet its investment
objective depends, in part, on the level of taxable income
and distributions it receives from the MLP, MLP-related
entities and other Energy Infrastructure Company
securities in which the Fund invests, a factor over which
the Fund has no control. The benefit the Fund derives from
its investment in MLPs is largely dependent on their being
treated as partnerships for federal income tax purposes.
As a partnership, an MLP has no income tax liability at
the entity level. If, as a result of a change in an MLP's
business, an MLP were treated as a corporation for federal
income tax purposes, such MLP would be obligated to pay
federal income tax on its income at the applicable
corporate tax rate. If an MLP was classified as a
corporation for federal income tax purposes, the amount of
cash available for distribution with respect to its units
would be reduced and any such distributions received by
the Fund would be taxed entirely as dividend income if
paid out of the earnings of the MLP. Therefore, treatment
of an MLP as a corporation for federal income tax purposes
would result in a material reduction in the after-tax
return to the Fund, likely causing a substantial reduction
in the value of the Common Shares.
Non-U.S. Securities Risk. Investing in non-U.S. securities
involves certain risks not involved in domestic
investments, including, but not limited to: fluctuations
in currency exchange rates; future foreign economic,
financial, political and social developments; different
legal systems; the possible imposition of exchange
controls or other foreign governmental laws or
restrictions; lower trading volume; greater price
volatility and illiquidity; different trading and
settlement practices; less governmental supervision; high
and volatile rates of inflation; fluctuating interest
rates; less publicly available information; and different
accounting, auditing and financial recordkeeping standards
and requirements. Because the Fund intends to invest in
securities denominated or quoted in non-U.S. currencies,
changes in the non-U.S. currency/United States dollar
exchange rate may affect the value of our securities and
the unrealized appreciation or depreciation of
investments.
Failure to Qualify as a Regulated Investment Company. If,
in any year, the Fund fails to qualify as a RIC under the
applicable tax laws, the Fund would be taxed as an
ordinary corporation. In such circumstances, the Fund
could be required to recognize unrealized gains, pay
12
substantial taxes and interest and make substantial
distributions before requalifying as a RIC that is
accorded special tax treatment. If the Fund fails to
qualify as a RIC, distributions to the Fund's Common
Shareholders generally would be eligible (i) for treatment
as qualified dividend income in the case of individual
shareholders (for taxable years beginning on or before
December 31, 2012), and (ii) for the dividends received
deduction in the case of corporate shareholders. See "Tax
Matters."
Tax Law Change Risk. Changes in tax laws or regulations,
or interpretations thereof in the future, could adversely
affect the Fund or the Energy Infrastructure Companies in
which it invests. Any such changes could negatively impact
the Fund and its Common Shareholders.
Deferred Tax Risk. As a limited partner in the MLPs in
which it may invest, the Fund will be allocated its pro
rata share of income, gains, losses, deductions and
expenses from the MLPs. A significant portion of MLP
income has historically been offset by tax deductions. The
Fund will recognize income with respect to that portion of
a distribution that is not offset by tax deductions, with
the remaining portion of the distribution being treated as
a tax-deferred return of capital. The percentage of an
MLP's distribution which is offset by tax deductions will
fluctuate over time for various reasons. A significant
slowdown in acquisition or investment activity by MLPs
held in the Fund's portfolio could result in a reduction
of accelerated depreciation or other deductions generated
by these activities, which may result in increased net
income to the Fund. A reduction in the percentage of the
income from an MLP offset by tax deductions or gains as a
result of the sale of portfolio securities will reduce
that portion, if any, of the Fund's distribution treated
as a tax-deferred return of capital and increase that
portion treated as dividend income, resulting in lower
after-tax distributions to the Fund's Common Shareholders.
The Fund will rely to some extent on information provided
by MLPs, which is usually not timely, to determine the tax
character of the distributions to Common Shareholders.
Delay in Investing the Proceeds. Although the Fund
currently intends to invest the proceeds from the sale of
the Common Shares as soon as practicable, such investments
may be delayed if suitable investments are unavailable at
the time. The trading market and volumes for Energy
Infrastructure Company shares may at times be less liquid
than the market for other securities. Prior to the time
the proceeds of any offering are invested, such proceeds
may be invested in cash, cash equivalents or other
securities, pending investment in Energy Infrastructure
Company securities. As a result, the return and yield on
the Common Shares in the year following the issuance of
Common Shares may be lower than when the Fund is fully
invested in accordance with its objective and policies.
See "Use of Proceeds."
Equity Securities Risk. Equity securities are sensitive to
general movements in the stock market and a drop in the
stock market may depress the price of securities to which
the Fund has exposure. Equity securities prices fluctuate
for several reasons including changes in the financial
condition of a particular issuer (generally measured in
terms of distributable cash flow in the case of MLPs),
investors' perceptions of Energy Infrastructure Companies,
the general condition of the relevant stock market, such
as the current market volatility, or when political or
economic events affecting the issuers occur. In addition,
the price of equity securities may be particularly
sensitive to rising interest rates, as the cost of capital
rises and borrowing costs increase.
Certain of the Energy Infrastructure Companies in which
the Fund may invest may have comparatively smaller
capitalizations. Investing in securities of smaller Energy
Infrastructure Companies presents some unique investment
risks. These companies may have limited product lines and
markets, as well as shorter operating histories, less
experienced management and more limited financial
resources than larger Energy Infrastructure Companies and
may be more vulnerable to adverse general market or
economic developments. Stocks of smaller Energy
Infrastructure Companies may be less liquid than those of
larger Energy Infrastructure Companies and may experience
13
greater price fluctuations than larger Energy
Infrastructure Companies. In addition, small-cap
securities may not be widely followed by the investment
community, which may result in reduced demand.
MLP subordinated units in which the Fund may invest will
generally convert to common units at a one-to-one ratio.
The purchase or sale price is generally tied to the common
unit price less a discount. The size of the discount
varies depending on the likelihood of conversion, the
length of time remaining to conversion, the size of the
block purchased and other factors.
The Fund may invest in I-Shares, which represent an
indirect investment in MLP Iunits. While not precise, the
price of I-Shares and their volatility tend to be
correlated to the price of common units. I-Shares are
subject to the same risks as MLP common units.
Canadian Income Equities Risks. Canadian Income Equities
share many of the risks inherent in investing in equity
securities and are also subject to the risks specific to
the energy infrastructure sector described above. In many
circumstances, the Canadian Income Equities in which the
Fund may invest have limited operating histories. The
value of Canadian Income Equities in which the Fund may
invest are influenced by factors that are not within the
Fund's control, including the financial performance of the
respective issuers, interest rates, exchange rates,
commodity prices (which will vary and are determined by
supply and demand factors, including weather and general
economic and political conditions), the hedging policies
employed by such issuers, issues relating to the
regulation of the energy industry and operational risks
relating to the energy industry. The Canadian tax
treatment of certain income that allowed income to flow
through to investors and be taxed only at the individual
level changed beginning in 2011. In general, Canada now
imposes a withholding tax on the distributions as if the
distributions were dividends. The distribution tax could
have a material impact on the current market value of
Canadian Income Equities.
Leverage Risk. The Fund intends to utilize leverage in an
aggregate amount of approximately 25% to 30% of the Fund's
Managed Assets. The Fund will not, however, be required to
reduce leverage to the extent the above percentage
limitation is exceeded as a result of a decline in the
value of the Fund's assets. Pursuant to the provisions of
the 1940 Act, the Fund may borrow an amount up to 33-1/3%
of its Managed Assets less all liabilities other than
borrowing or may issue Preferred Shares in an amount up to
50% of the Fund's Managed Assets (including the proceeds
from leverage). Leverage instruments will have seniority
over the Common Shares and may be secured by the assets of
the Fund. The Fund intends to leverage its assets through
borrowings from banks and other financial institutions. It
is expected that these borrowings will be made pursuant to
a revolving credit facility established with a bank or
other financial institution. Certain types of borrowings
may result in the Fund being subject to covenants in
credit agreements relating to asset coverage and portfolio
composition requirements. The Fund may use leverage for
investment purposes, to finance the repurchase of its
Common Shares and to meet cash requirements. Although the
use of leverage by the Fund may create an opportunity for
increased return for the Common Shares, it also results in
additional risks and can magnify the effect of any losses.
If the income and gains earned on the securities and
investments purchased with leverage proceeds are greater
than the cost of the leverage, the Common Shares' return
will be greater than if leverage had not been used.
Conversely, if the income and gains from the securities
and investments purchased with such proceeds do not cover
the cost of leverage, the return to the Common Shares will
be less than if leverage had not been used. There is no
assurance that a leveraging strategy will be successful.
Leverage involves risks and special considerations for
Common Shareholders including:
o the likelihood of greater volatility of NAV and
market price of the Common Shares than a comparable
portfolio without leverage;
o the risk that fluctuations in interest rates on
borrowings and short-term debt or in the dividend
14
rates on any Preferred Shares that the Fund may pay
will reduce the return to the Common Shareholders or
will result in fluctuations in the dividends paid on
the Common Shares;
o the effect of leverage in a declining market, which
is likely to cause a greater decline in the NAV of
the Common Shares than if the Fund were not
leveraged, which may result in a greater decline in
the market price of the Common Shares; and
o when the Fund uses certain types of leverage, the
investment advisory fee payable to the Advisor will
be higher than if the Fund did not use leverage.
The Fund may continue to use leverage if the benefits to
the Fund's shareholders of maintaining the leveraged
position are believed to outweigh any current reduced
return.
Derivatives Risk. The Fund may enter into total return
swaps, credit default swaps or other types of swaps,
options, forwards and combinations thereof and related
derivatives for the purpose of hedging and risk
management. These transactions generally provide for the
transfer from one counterparty to another of certain risks
inherent in the ownership of a financial asset such as a
common stock or debt instrument. Such risks include, among
other things, the risk of default and insolvency of the
obligor of such asset, the risk that the credit of the
obligor or the underlying collateral will decline or the
risk that the common stock of the underlying issuer will
decline in value. The transfer of risk pursuant to a
derivative of this type may be complete or partial, and
may be for the life of the related asset or for a shorter
period. These derivatives may be used for investment
purposes or as a risk management tool for a pool of
financial assets, providing the Fund with the opportunity
to gain or reduce exposure to one or more reference
securities or other financial assets without actually
owning or selling such assets in order, for example, to
increase or reduce a concentration risk or to diversify a
portfolio. Conversely, these derivatives may be used by
the Fund to reduce exposure to an owned asset without
selling it. Furthermore, the ability to successfully use
hedging and interest rate transactions depends on the
Sub-Advisor's ability to predict pertinent market
movements, which cannot be assured. Thus, the use of
derivatives for hedging and interest rate management
purposes may result in losses greater than if they had not
been used, may require the Fund to sell or purchase
portfolio securities at inopportune times or for prices
other than current market values, may limit the amount of
appreciation the Fund can realize on an investment, or may
cause the Fund to hold a security that it might otherwise
sell. Additionally, amounts paid by the Fund as premiums
and cash or other assets held in margin accounts with
respect to hedging and strategic transactions are not
otherwise available to the Fund for investment purposes.
As a writer of a covered call option, the Fund would
forgo, during the option's life, the opportunity to profit
from increases in the market value of the security
underlying the call option above the strike price of the
call, but has retained the risk of loss should the price
of the underlying security decline. The writer of a
covered call option has no control over the time when it
may be required to fulfill its obligation as a writer of
the option. Once an option writer has received an exercise
notice, it cannot effect a closing purchase transaction in
order to offset its obligation under the option and must
deliver the underlying security at the exercise price.
Congress has recently enacted the Restoring American
Financial Stability Act of 2010 (the "Financial Stability
Act"). The Financial Stability Act will likely impact the
use of certain derivatives by entities, which may include
the Fund, and is intended to improve the existing
regulatory framework by closing the regulatory gaps and
eliminating the speculative trading practices that
contributed to the 2008 financial market crisis. The
legislation is designed to impose stringent regulation on
the over-the-counter derivatives market in an attempt to
increase transparency and accountability. Such legislation
or policies may impact or restrict the Fund's ability to
use certain Strategic Transactions and/or increase the
costs of entering into and/or maintaining certain
Strategic Transactions.
15
The SEC has also indicated that it may adopt new policies
on the use of derivatives by registered investment
companies. Such policies could affect the nature and
extent of derivative use by the Fund. See
"Risks--Derivatives Risk" in this prospectus and
"Additional Information About the Fund's Investments and
Investment Risks--Strategic Transactions Risk" in the SAI.
Portfolio Turnover Risk. The Fund's annual portfolio
turnover rate may vary greatly from year to year. Although
the Fund cannot accurately predict its annual portfolio
turnover rate, it is not expected to exceed 30% under
normal circumstances, but may be higher or lower in
certain periods. Portfolio turnover rate is not considered
a limiting factor in the execution of investment decisions
for the Fund. High portfolio turnover may result in the
Fund's recognition of gains that will be taxable as
ordinary income when distributed to the Fund's Common
Shareholders. A high portfolio turnover may also increase
the Fund's current and accumulated earnings and profits,
resulting in a greater portion of the Fund's distributions
being treated as a dividend to the Fund's Common
Shareholders. In addition, a higher portfolio turnover
rate results in correspondingly greater brokerage
commissions and other transactional expenses that are
borne by the Fund. See "The Fund's Investments--Investment
Practices--Portfolio Turnover" and "Tax Matters."
Competition Risk. A number of alternatives as vehicles for
investment in a portfolio of energy MLPs and their
affiliates currently exist, including other
publicly-traded investment companies, structured notes and
private funds. In addition, recent tax law changes have
increased the ability of regulated investment companies or
other institutions to invest in MLPs. These competitive
conditions may adversely impact our ability to meet our
investment objective, which in turn could adversely impact
our ability to make distributions.
Restricted Securities. The Fund may invest in unregistered
or otherwise restricted securities. The term "restricted
securities" refers to securities that have not been
registered under the 1933 Act or are held by control
persons of the issuer and securities that are subject to
contractual restrictions on their resale. As a result,
restricted securities may be more difficult to value and
the Fund may have difficulty disposing of such assets
either in a timely manner or for a reasonable price.
Absent an exemption from registration, the Fund will be
required to hold the securities until they are registered
by the issuer. In order to dispose of an unregistered
security, the Fund, where it has contractual rights to do
so, may have to cause such security to be registered. A
considerable period may elapse between the time the
decision is made to sell the security and the time the
security is registered so that the Fund could sell it.
Contractual restrictions on the resale of securities vary
in length and scope and are generally the result of a
negotiation between the issuer and acquirer of the
securities. The Fund would, in either case, bear market
risks during that period.
Liquidity Risk. Although common units of MLPs, I-Shares of
MLP-related entities, and common stock of certain other
Energy Infrastructure Companies trade on the New York
Stock Exchange ("NYSE"), NYSE Amex, and The NASDAQ Stock
Market, certain securities may trade less frequently,
particularly those of issuers with smaller
capitalizations. Securities with limited trading volumes
may display volatile or erratic price movements. Larger
purchases or sales of these securities by the Fund in a
short period of time may result in abnormal movements in
the market price of these securities. This may affect the
timing or size of Fund transactions and may limit the
Fund's ability to make alternative investments. If the
Fund requires significant amounts of cash on short notice
in excess of normal cash requirements or is required to
post or return collateral in connection with the Fund's
investment portfolio, derivatives transactions or leverage
restrictions, the Fund may have difficulty selling these
investments in a timely manner, be forced to sell them for
less than it otherwise would have been able to realize, or
both. The reported value of some of the Fund's relatively
illiquid types of investments and, at times, the Fund's
high quality, generally liquid asset classes, may not
necessarily reflect the lowest current market price for
the asset. If the Fund was forced to sell certain of its
assets in the current market, there can be no assurance
16
that the Fund will be able to sell them for the prices at
which the Fund has recorded them and the Fund may be
forced to sell them at significantly lower prices. See
"The Fund's Investments--Investment Philosophy and
Process."
Valuation Risk. Market prices generally will not be
available for subordinated units, direct ownership of
general partner interests, restricted securities or
unregistered securities of certain MLPs, MLP-related
entities or private companies, and the value of such
investments will ordinarily be determined based on fair
valuations determined pursuant to procedures adopted by
the Board of Trustees. The value of these securities
typically requires more reliance on the judgment of the
Sub-Advisor than that required for securities for which
there is an active trading market. In addition, the Fund
will rely on information provided by certain MLPs, which
is usually not timely, to calculate taxable income
allocable to the MLP units held in the Fund's portfolio
and to determine the tax character of distributions to
Common Shareholders. From time to time the Fund will
modify its estimates and/or assumptions as new information
becomes available. To the extent the Fund modifies its
estimates and/or assumptions, the NAV of the Fund would
likely fluctuate. See "Net Asset Value."
Interest Rate Risk. Interest rate risk is the risk that
securities will decline in value because of changes in
market interest rates. When market interest rates rise,
the market value of the securities in which the Fund
invests generally will fall. The Fund's investment in such
securities means that the NAV and market price of the
Common Shares will tend to decline if market interest
rates rise. Interest rates are at or near historic lows,
and as a result, they are likely to rise over time.
Non-Diversification Risk. The Fund is a non-diversified,
closed-end investment company under the 1940 Act. Although
the Fund may invest a relatively high percentage of its
assets in a limited number of issuers, in order to qualify
as a RIC for federal income tax purposes, the Fund must
diversify its holdings so that, at the end of each quarter
of each taxable year (i) at least 50% of the value of its
total Managed Assets is represented by cash and cash
items, U.S. Government securities, the securities of other
RICs and other securities, with such other securities
limited for purposes of such calculation, in respect of
any one issuer, to an amount not greater than 5% of the
value of its total assets and not more than 10% of the
outstanding voting securities of such issuer, and (ii) not
more than 25% of the value of its total assets is invested
in the securities of any one issuer (other than U.S.
Government securities or the securities of other RICs),
the securities (other than the securities of other RICs)
of any two or more issuers that the Fund controls and that
are determined to be engaged in the same business or
similar or related trades or businesses, or the securities
of one or more qualified publicly-traded partnerships. To
the extent the Fund invests a relatively high percentage
of our assets in the obligations of a limited number of
issuers, the Fund may be more susceptible than a more
widely diversified investment company to any single
economic, political or regulatory occurrence.
Anti-Takeover Provisions. The Fund's Declaration of Trust
includes provisions that could limit the ability of other
entities or persons to acquire control of the Fund or
convert the Fund to open-end status. These provisions
could have the effect of depriving the Common Shareholders
of opportunities to sell their Common Shares at a premium
over the then current market price of the Common Shares.
See "Certain Provisions in the Declaration of Trust and
By-Laws" and "Risks--Anti-Takeover Provisions."
Inflation Risk. Inflation risk is the risk that the value
of assets or income from investment will be worth less in
the future as inflation decreases the value of money. As
inflation increases, the real value of the Common Shares
and distributions can decline.
Certain Affiliations. Certain broker-dealers may be
considered to be affiliated persons of the Fund, First
Trust Advisors or Energy Income Partners. Absent an
exemption from the SEC or other regulatory relief, the
Fund is generally precluded from effecting certain
principal transactions with affiliated brokers, and its
ability to utilize affiliated brokers for agency
transactions, is subject to restrictions. This could limit
the Fund's ability to engage in securities transactions
and take advantage of market opportunities.
17
Secondary Market for the Fund's Common Shares. The
issuance of Common Shares through the Fund's dividend
reinvestment plan may have an adverse effect on the
secondary market for the Common Shares. The increase in
the number of outstanding Common Shares resulting from
issuances pursuant to the Fund's dividend reinvestment
plan and the discount to the market price at which such
Common Shares may be issued, may put downward pressure on
the market price for the Common Shares. Common Shares will
not be issued pursuant to the dividend reinvestment plan
at any time when Common Shares are trading at a lower
price than the Fund's NAV per Common Share. When the
Fund's Common Shares are trading at a premium, the Fund
may also issue Common Shares that may be sold through
private transactions effected on the NYSE or through
broker-dealers. The increase in the number of outstanding
Common Shares resulting from these offerings may put
downward pressure on the market price for Common Shares.
18
SUMMARY OF FUND EXPENSES
The following table assumes the use of leverage in the form of bank loan
facilities in an amount equal to 30% of the Fund's Managed Assets (after their
utilization), and shows Fund expenses as a percentage of net assets attributable
to Common Shares. The "Other expenses" shown in the table for the current fiscal
year are based on estimated amounts.
SHAREHOLDER TRANSACTION EXPENSES
Sales load paid by you (as a percentage of offering price) ...................................... 4.50%
Offering expenses borne by the Fund (as a percentage of offering price).......................... 0.20%(1)(2)
Dividend reinvestment plan fees.................................................................. None(3)
PERCENTAGE OF NET ASSETS
ATTRIBUTABLE TO COMMON SHARES
-----------------------------
ANNUAL EXPENSES
Management fees(4) .............................................................................. 1.43%
Interest on borrowed funds(5).................................................................... 0.50%
Other expenses................................................................................... 0.28%
-----
Total annual expenses....................................................................... 2.21%
=====
The purpose of the table above and the example below is to help you
understand all fees and expenses that you, as a holder of Common Shares, would
bear directly or indirectly. The expenses shown in the table under "Total annual
expenses" assume that the Fund issues 17,250,000 Common Shares. See
"Management of the Fund" and "Dividend Reinvestment Plan."
EXAMPLE
Investors would pay the following expenses on a $1,000 investment, assuming
a 5% annual return, and sales load of $45 and estimated offering expenses of
$2.
1 YEAR 3 YEARS 5 YEARS 10 YEARS
------ ------- ------- --------
$68 $113 $160 $289
* The example should not be considered a representation of future expenses.
Actual expenses may be greater or less than those shown.
(1) The Advisor and Sub-Advisor have agreed to pay: (i) all organizational
expenses; and (ii) all offering costs of the Fund (other than the sales
load) that exceed 0.20% (or $0.04 per Common Share) of the Fund's
aggregate offering price. Assuming the Fund issues 17,250,000 Common
Shares ($345,000,000), the Fund's offering costs are estimated to be
$690,000. The Fund, and therefore Common Shareholders, will bear up to
$690,000 or approximately $0.04 per Common Share of such estimated
expenses, and the Advisor and Sub-Advisor will bear any expenses above
that amount.
(2) The Advisor and the Sub-Advisor (and not the Fund) have agreed to pay
from their own assets a structuring fee and syndication fee to Morgan
Stanley & Co. LLC, a structuring fee to Citigroup Global Markets Inc., a
structuring fee to Merrill Lynch, Pierce, Fenner & Smith Incorporated and
a structuring fee to RBC Capital Markets, LLC. Each of the Advisor and
the Sub-Advisor will be responsible for one-half of such fees. See
"Underwriters."
(3) You will pay brokerage charges if you direct BNY Mellon Investment
Servicing (US) Inc., as agent for the Common Shareholders, to sell your
Common Shares held in a dividend reinvestment account.
(4) Represents the aggregate fee payable to the Advisor and Sub-Advisor.
(5) Interest on borrowed funds is based upon assumed borrowings of
$141,000,000 at an annual interest rate of 1.16%.
19
THE FUND
The Fund is a newly organized, non-diversified, closed-end management
investment company registered under the 1940 Act. The Fund was organized on
February 22, 2011, as a Massachusetts business trust pursuant to a Declaration
of Trust (the "Declaration of Trust"). As a newly organized entity, the Fund has
no operating history. The Fund's principal office is located at 120 East Liberty
Drive, Wheaton, Illinois 60187, and its telephone number is (630) 765-8000.
Investment in the Fund involves certain risks and special considerations,
including risks associated with the Fund's use of leverage. See "Risks."
USE OF PROCEEDS
The net proceeds of the offering of Common Shares will be approximately
$328,785,000 ($376,780,272 if the Underwriters exercise the overallotment option
in full) after payment of the estimated offering costs. The Advisor and
Sub-Advisor have agreed to pay: (i) all organizational expenses; and (ii) all
offering costs of the Fund (other than the sales load) that exceed 0.20% (or
$0.04 per Common Share) of the Fund's aggregate offering price. The Fund will
invest the net proceeds of the offering in accordance with the Fund's investment
objective and policies as stated below. The Fund expects it will be able to
invest substantially all of the net proceeds in securities that meet the Fund's
investment objective and policies within 45 to 60 days after the completion of
the offering. Pending such investment, it is anticipated that the proceeds will
be invested in cash or cash equivalents.
THE FUND'S INVESTMENTS
INVESTMENT OBJECTIVE AND POLICIES
The Fund's investment objective is to seek a high level of total return with
an emphasis on current distributions paid to shareholders. For purposes of the
Fund's investment objective, total return includes capital appreciation of, and
all distributions received from, securities in which the Fund will invest,
taking into account the varying tax characteristics of such securities. The Fund
will seek to provide its shareholders with an efficient vehicle to invest in a
portfolio of cash-generating securities of Energy Infrastructure Companies.
There can be no assurance that the Fund's investment objective will be achieved
or that the Fund will earn a return on its assets, and you may lose some or all
of your investment.
The Fund's investment objective and investment restrictions listed in the SAI
are considered fundamental and may not be changed without Common Shareholder
approval. The remainder of the Fund's investment policies, including its
investment strategy, are considered non-fundamental and may be changed by the
Board of Trustees without the approval of the holders of a "majority of the
outstanding" common shares, provided that Common Shareholders receive at least
60 days prior written notice of any change. When used with respect to particular
shares of the Fund, a "majority of the outstanding" shares means (i) 67% or more
of the shares present at a meeting, if the holders of more than 50% of the
shares are present or represented by proxy, or (ii) more than 50% of the shares,
whichever is less.
The Fund's policy of investing at least 80% of its Managed Assets (including
assets obtained through leverage) in securities of Energy Infrastructure
Companies is non-fundamental.
The Fund has adopted the following additional non-fundamental policies:
o The Fund will invest in equity securities such as common stocks,
preferred stocks, convertible
securities, warrants, depository receipts and other equity interests in
Energy Infrastructure Companies.
o The Fund may directly invest up to 25% (or such higher amount as
permitted by any future tax diversification rules) of its Managed
Assets in equity securities of MLPs. This limit does not apply to
securities issued by MLP affiliates, such as I-Shares or general
partner interests or other entities that may own interests of MLPs,
unless such interests are attributed to the Fund's investment
limitations under federal tax law.
o The Fund may invest up to 15% of its Managed Assets in unregistered or
otherwise restricted securities of Energy Infrastructure Companies.
For purposes of this limitation, "restricted securities" refers to
securities that have not been registered under the 1933 Act or are
held by control persons of the issuer and securities that are subject
to contractual restrictions on their resale.
o The Fund will not invest more than 15% of its Managed Assets in any
single issuer.
o The Fund will not invest directly in commodities.
To generate additional income, the Fund may write (or sell) covered call
options on up to 30% of its Managed Assets.
20
Unless otherwise stated, all investment restrictions apply at the time of
purchase and the Fund will not be required to reduce a position due solely to
market value fluctuations.
For a more complete discussion of the Fund's portfolio composition, see
"Portfolio Composition."
INVESTMENT PHILOSOPHY AND PROCESS
The Sub-Advisor believes that a professionally managed portfolio of
consistently high dividend paying Energy Infrastructure Companies in
non-cyclical segments offers an attractive balance of income and growth. The
Sub-Advisor's priority is to focus on steady fee-for-service income and will
limit the cyclical energy exposure of the portfolio in order to reduce the
volatility of returns. The Sub-Advisor believes the use of rigorous investment
research and analytical tools along with conservative portfolio construction
provides a value added service to the individual investor making an investment
in these asset classes.
Capital Discipline. The Sub-Advisor believes that successful investing in the
energy infrastructure industry requires strict capital spending discipline
because the industry is capital intensive, mature and has low rates of overall
growth. The Sub-Advisor believes there is a high correlation between rates of
return and the portion of cash flow reinvested in the business - the lower the
level of reinvestment, the higher the return. Capital spending discipline can
result from careful prudent management or an agreement with shareholders to pay
out most available free cash flow. The Sub-Advisor believes that companies
paying out a large portion of their available free cash flow in the form of
monthly or quarterly distributions or dividends - MLPs in the U.S., Canadian
Income Equities in Canada, and pipeline companies and utilities in the U.S. and
Canada - have a built-in capital spending discipline and provide an attractive
investment universe from which to construct a portfolio. While growth
opportunities are still available to these companies, they must go to the
capital markets and justify to yield-sensitive shareholders the issuance of more
equity and debt in order to fund those opportunities. The Sub-Advisor believes
that this transparency tends to discourage acquisitions and new construction
that would be dilutive to the dividend paying capability on existing shares and
tends to encourage expenditures that are accretive.
A high-payout ratio, however, brings with it an income obligation that the
Sub-Advisor believes is matched by an expectation on the part the shareholders
that such dividends will be steady. Retail investors that make up the bulk of
the shareholder base of these securities have punished the share prices of MLPs
and similar securities when dividends or distributions have been cut or
eliminated. The Sub-Advisor believes that the assets that best support a
high-payout ratio are those with steady, fee-for-service businesses with
relatively low sustaining capital obligations. In the energy infrastructure
industry, assets such as interstate pipelines, intrastate pipelines with
long-term contracts, power generation assets, storage and terminal facilities
with long-term contracts and regulated power transmission and distribution
assets are the types of assets that fit best. By contrast, other areas of the
energy industry such as oil and gas exploration, development and production are
less well suited because the cash flows are cyclical in nature, being driven by
commodity prices, and because oil and gas assets are wasting assets, while the
dividend obligation is perpetual.
Energy Infrastructure. Unlike oil and gas exploration, development and
production and petroleum refining, the energy infrastructure industry is
characterized by non-cyclical fee-for-service revenues. Also, unlike the other
segments of the energy industry, the sustaining capital requirements for
pipelines, storage and other infrastructure is low. The Sub-Advisor believes
that these two characteristics make energy infrastructure assets a good match
for investors who desire steady income that has the ability to grow.
Much of the pipeline and storage infrastructure currently owned by Energy
Infrastructure Companies were built many years ago by the major oil companies
and pipeline and power utilities. Over the years, these assets have been sold
off to fund projects with higher risk such as oil drilling, unregulated power
generation or energy trading. The result is that the legacy assets, many of
which are natural monopolies, can now be owned as pure plays in the energy
infrastructure asset classes.
As oil and gas production in the U.S. continues to rise, new technologies
have made long known resources economic, even at lower prices. The resulting
higher margins for oil and gas drilling have made the oil and gas production
companies more willing to guarantee solid returns for long-term contracts to
pipeline owners as an incentive to add capacity so they can deliver their oil
and gas to market more quickly. In essence, Energy Infrastructure Companies have
an increased ability to "lock-in" the attractive economics of today's energy
industry.
Master Limited Partnerships. Much of the opportunities in higher payout
energy infrastructure are in the form of MLPs. The Fund may invest up to 25% (or
such higher amount as permitted by any future tax diversification rules) of its
Managed Assets in equity securities of MLPs. The Sub-Advisor believes that this
investment opportunity is difficult for many large investors to take advantage
of, which has left these securities largely in the hands of retail investors.
Non-taxable investors, such as pension funds and endowments, have not
historically owned significant portions of these securities because MLPs can
generate a substantial amount of "unrelated business taxable income," or UBTI,
which can be disadvantageous to such institutions. In addition, for tax years
beginning on or before October 22, 2004, MLPs represented non-qualifying income
for mutual funds. Prior to the rapid growth of these asset classes over the last
21
few years, MLPs were considered too small for most large investor allocations.
As a result, the Sub-Advisor believes the combination of the lack of
institutional investment and the growth in size of these asset classes has made
this an attractive investment universe.
Investment Manager Strengths. The Sub-Advisor has many years of experience
investing in the energy sector. Combined, the four principals of Energy Income
Partners have over 65 years of experience in the energy industry, investment
research, commodity trading and portfolio management. The Sub-Advisor believes
that investment success in the energy infrastructure industry requires a working
knowledge of the entire energy industry. In essence, it is the businesses the
pipelines connect to, much more than the pipe itself, that determines financial
success. That means knowledge of the oil and gas segment, refining and
marketing, petrochemicals and natural gas processing and storage. It also means
understanding price and cost competitiveness of competing fuels such as coal and
nuclear as well as the impact of imports and global markets in the North
American energy industry.
In addition, the Sub-Advisor believes that the attractive characteristics of
the energy infrastructure business can be materially enhanced by a rigorous
application of investment research and portfolio construction tools. There is
generally less research coverage of these companies than in other sectors of
comparable size whose securities are owned by institutional investors. In
addition, the Sub-Advisor believes that retail investors today are enjoying bond
like yields from Energy Infrastructure Companies and, as such, hold them as bond
substitutes and pay little attention to the growth rates of the dividends and
distributions. The Sub-Advisor believes this creates an opportunity to
outperform the sector using such investment research and portfolio construction
tools. Since the companies in this asset class are affected by virtually every
phase of the energy business (even if they are not directly invested in every
phase), the Sub-Advisor believes it is necessary to have a strong working
knowledge of the business including oil and gas production and gathering,
transportation, refining and marketing, gas liquids processing and
fractionation, petrochemical demand and cost structure as well as the regulatory
framework that regulates the industry.
PORTFOLIO COMPOSITION
The Fund's portfolio will be composed principally of the following
investments. A more detailed description of the Fund's investment policies and
restrictions and more detailed information about the Fund's portfolio
investments are contained in the SAI.
Energy Infrastructure Companies. Under normal market conditions, the Fund
will invest at least 80% of its Managed Assets (including assets obtained
through leverage) in securities of Energy Infrastructure Companies, principally
including publicly-traded MLPs, MLP affiliates, Canadian Income Equities,
pipeline companies, utilities, and other companies that derive at least 50% of
their revenues from operating or providing services in support of infrastructure
assets such as pipelines, power transmission and petroleum and natural gas
storage in the petroleum, natural gas and power generation industries.
Equity Securities. The Fund intends to invest in equity securities, including
common stocks, preferred shares, convertible securities, warrants, depository
receipts and equity interests in Energy Infrastructure Companies. Common stocks
generally represent an equity ownership interest in an issuer. Although common
stocks have historically generated higher average total returns than
fixed-income securities over the long-term, common stocks also have experienced
significantly more volatility in those returns and may under-perform relative to
fixed-income securities during certain periods. An adverse event, such as an
unfavorable earnings report, may depress the value of a particular common stock
held by the Fund. Also, prices of common stocks are sensitive to general
movements in the stock market and a drop in the stock market may depress the
price of common stocks to which we have exposure. Common stock prices fluctuate
for several reasons including changes in investors' perceptions of the financial
condition of an issuer or the general condition of the relevant stock market, or
when political or economic events affecting the issuers occur. In addition,
common stock prices may be particularly sensitive to rising interest rates, as
the cost of capital rises and borrowing costs increase.
Restricted/Unregistered Securities. The Fund also expects to invest in
unregistered or otherwise restricted securities. The term "restricted
securities" refers to refers to securities that have not been registered under
the 1933 Act or are held by control persons of the issuer and securities that
are subject to contractual restrictions on their resale. Restricted securities
may be more difficult to value and we may have difficulty disposing of such
assets either in a timely manner or for a reasonable price. In order to dispose
of an unregistered security, the Fund, where it has contractual rights to do so,
may have to cause such security to be registered. A considerable period may
elapse between the time the decision is made to sell the security and the time
the security is registered so that we could sell it. Contractual restrictions on
the resale of securities vary in length and scope and are generally the result
of a negotiation between the issuer and acquiror of the securities. The Fund
would, in either case, bear the risks of any downward price fluctuation during
that period. The difficulties and delays associated with selling restricted
securities could result in our inability to realize a favorable price upon
disposition of such securities, and at times might make disposition of such
securities impossible.
The Fund expects its investments in restricted securities to include
investments in private companies. These securities may not be registered under
the 1933 Act for sale by the Fund until the company becomes a public company.
Accordingly, in addition to the risks described above, our ability to dispose of
such securities on favorable terms may be limited until the portfolio company
becomes a public company.
22
Master Limited Partnerships. The Fund will directly invest up to 25% (or such
higher amount as permitted by any future tax diversification rules) of its
Managed Assets in equity securities of MLPs that are treated as publicly-traded
partnerships for federal income tax purposes. This limit does not apply to (1)
securities issued by MLP affiliates, such as I-Shares or general partner
interests or (2) the Fund's indirect investments in MLPs, such as an investment
in another issuer with investments in MLPs, unless, in any case, such indirect
interests are attributed to the Fund under federal tax law. MLPs are limited
partnerships whose shares (or units) are listed and traded on a U.S. securities
exchange, just like common stock. To qualify as an MLP, a partnership must
receive at least 90% of its income from qualifying sources such as natural
resource activities. Natural resource activities include the exploration,
development, mining, production, processing, refining, transportation and
marketing of mineral or natural resources. MLPs generally have two classes of
owners, the general partner and limited partners. The general partner, which is
generally a major energy company, investment fund or the management of the MLP,
typically controls the MLP through a 2% general partner equity interest in the
MLP plus common units and subordinated units. Limited partners own the remainder
of the partnership, through ownership of common units, and have a limited role
in the partnership's operations and management.
MLPs are typically structured such that common units have first priority to
receive quarterly cash distributions up to an established minimum quarterly
distributions ("MQD"). Common units also accrue arrearages in distributions to
the extent the MQD is not paid. Once common units have been paid, subordinated
units receive distributions of up to the MQD, but subordinated units do not
accrue arrearages. Distributable cash in excess of the MQD paid to both common
and subordinated units is distributed to both common and subordinated units
generally on a pro rata basis. The general partner is also eligible to receive
incentive distributions if the general partner operates the business in a manner
which maximizes value to unit holders. As the general partner increases cash
distributions to the limited partners, the general partner receives an
increasingly higher percentage of the incremental cash distributions. A common
arrangement provides that the general partner can reach a tier where the general
partner is receiving 50% of every incremental dollar paid to common and
subordinated unit holders. By providing for incentive distributions the general
partner is encouraged to streamline costs and acquire assets in order to grow
the partnership, increase the partnership's cash flow, and raise the quarterly
cash distribution in order to reach higher tiers. Such results benefit all
security holders of the MLP.
MLP common units represent a limited partnership interest in the MLP. Common
units are listed and traded on U.S. securities exchanges or over-the-counter,
with their value fluctuating predominantly based on the success of an MLP. The
Fund intends to purchase common units in market transactions but may also
purchase securities directly from the MLP or other parties in private
placements. Unlike owners of common stock of a corporation, owners of common
units have limited voting rights and have no ability to annually elect
directors. MLPs generally distribute all available cash flow (cash flow from
operations less maintenance capital expenditures) in the form of a quarterly
distribution. Common unit holders have first priority to receive quarterly cash
distributions up to the MQD and have arrearage rights. In the event of
liquidation, common unit holders have preference over subordinated units, but
not debt holders or preferred unit holders, to the remaining assets of the MLP.
MLP subordinated units are typically issued by MLPs to their original
sponsors, such as their founders, corporate general partners of MLPs, entities
that sell assets to the MLP, and institutional investors. The Fund expects to
purchase subordinated units directly from these persons. Subordinated units have
similar voting rights as common units and are generally not publicly traded.
Once the MQD on the common units, including any arrearages, has been paid,
subordinated units will receive cash distributions up to the MQD prior to any
incentive payments to the MLP's general partner. Unlike common units,
subordinated units do not have arrearage rights. In the event of liquidation,
common units have priority over subordinated units. Subordinated units are
typically converted into common units on a one-to-one basis after certain time
periods and/or performance targets have been satisfied. Subordinated units are
generally valued based on the price of the common units, discounted to reflect
the timing or likelihood of their conversion to common units.
I-Shares represent an ownership interest issued by an affiliated party of an
MLP. The MLP affiliate uses the proceeds from the sale of I-Shares to purchase
limited partnership interests in the MLP in the form of I-units. I-units have
similar features as MLP common units in terms of voting rights, liquidation
preference and distributions. However, rather than receiving cash, the MLP
affiliate receives additional I-units in an amount equal to the cash
distributions received by MLP common units. Similarly, holders of I-Shares will
receive additional I-Shares, in the same proportion as the MLP affiliates'
receipt of I-units, rather than cash distributions. I-Shares themselves have
limited voting rights which are similar to those applicable to MLP common units.
However, I-Shares holders, such as the Fund, will receive a Form 1099 rather
than a Form K-1 statement. I-Shares are traded on the NYSE and the NYSE Amex.
Energy infrastructure MLPs in which the Fund invests can generally be
classified as Midstream MLPs, Propane MLPs, Coal MLPs and Marine Shipping MLPs.
o Midstream MLP natural gas services include the treating, gathering,
compression, processing, transmission and storage of natural gas and
the transportation, fractionation and storage of NGLs (primarily
propane, ethane, butane and natural gasoline). Midstream MLP crude oil
services include the gathering, transportation, storage and
terminalling of crude oil. Midstream MLP refined petroleum product
services include the transportation (usually via pipelines, barges,
23
rail cars and trucks), storage and terminalling of refined petroleum
products (primarily gasoline, diesel fuel and jet fuel) and other
hydrocarbon by products. Midstream MLPs may also operate ancillary
businesses including the marketing of the products and logistical
services.
o Propane MLP services include the distribution of propane to homeowners
for space and water heating and to commercial, industrial and
agricultural customers. Propane serves approximately 3% of the
household energy needs in the United States, largely for homes beyond
the geographic reach of natural gas distribution pipelines. Volumes
are weather dependent and a majority of annual cash flow is earned
during the winter heating season (October through March).
o Coal MLP services include the owning, leasing, managing, production
and sale of coal and coal reserves. Electricity generation is the
primary use of coal in the United States. Demand for electricity and
supply of alternative fuels to generators are the primary drivers of
coal demand.
o Marine shipping MLPs are primarily marine transporters of natural gas,
crude oil or refined petroleum products. Marine shipping MLPs derive
revenue from charging customers for the transportation of these
products utilizing the MLPs' vessels. Transportation services are
typically provided pursuant to a charter or contract, the terms of
which vary depending on, for example, the length of use of a
particular vessel, the amount of cargo transported, the number of
voyages made, the parties operating a vessel or other factors.
Utility Companies. Utility companies are involved in providing products,
services or equipment for the generation, transmission, distribution or sale of
electricity, gas or water. Electric utilities, gas utilities (also called local
distribution companies or "LDCs") and water utilities deliver electricity,
natural gas and water, respectively, to residential, industrial and commercial
customers within specific geographic regions and are generally subject to the
rules and regulations of federal and/or state agencies. Pursuant to their
regulation, electric, gas and water utilities generate profits based on formulas
as prescribed by the regulating agency or agencies and, as such, are less
sensitive to movements in commodity prices and other macroeconomic factors than
non-regulated entities. However, electric utilities and LDCs do generally
generate less profits and cash flows during certain periods of abnormal weather
conditions (i.e., warmer winters or cooler summers than typical) as the amount
of electricity or gas they distribute is negatively affected by such weather
events. Additionally, electric, water and gas utilities may own certain
non-regulated businesses, including electric generation, oil and gas exploration
and production, gas gathering and processing, water and wastewater contract
management, and commodity marketing businesses. Electric, gas and water
utilities are either owned by public investors or are public systems owned by
local governments.
Non-U.S. Securities. The Fund may invest in non-U.S. securities, including
Canadian Income Equities, which may include securities denominated in U.S.
dollars or in non-U.S. currencies. Because evidences of ownership of such
securities usually are held outside the United States, the Fund would be subject
to additional risks if we invested in non-U.S. securities, which include
possible adverse political and economic developments, seizure or nationalization
of foreign deposits and adoption of governmental restrictions which might
adversely affect or restrict the payment of distributions on the non-U.S.
securities to investors located outside the country of the issuer, whether from
currency blockage or otherwise. Since non-U.S. securities may be purchased with
and payable in foreign currencies, the value of these assets as measured in U.S.
dollars may be affected favorably or unfavorably by changes in currency rates
and exchange control regulations.
Short-Term Investments; Temporary Defensive Position; Invest-Up Period.
During the period in which the net proceeds of the Common Shares or the proceeds
of leverage are being invested, during periods in which the Fund invests
temporarily available cash or during periods in which the Sub-Advisor determines
that it is temporarily unable to follow the Fund's investment strategy or that
it is impractical to do so, the Fund may deviate from its investment strategy
and invest all or any portion of its net assets in cash, cash equivalents or
other securities. The Sub-Advisor's determination that it is temporarily unable
to follow the Fund's investment strategy or that it is impractical to do so will
generally occur only in situations in which a market disruption event has
occurred and where trading in the securities selected through application of the
Fund's investment strategy is extremely limited or absent. In such a case,
shares of the Fund may be adversely affected and the Fund may not pursue or
achieve its investment objective.
INVESTMENT PRACTICES
Strategic Transactions. The Fund may, but is not required to, use various
hedging and strategic transactions described below to seek to reduce interest
rate risks arising from any use of leverage by the Fund, to facilitate portfolio
management and mitigate risks, including without limitation interest rate,
currency and credit risks and equity security price risk. The Fund currently
expects to write (or sell) covered call options on its Managed Assets.
Collectively, all of the above are referred to as "Strategic Transactions."
Hedging and strategic transactions are generally accepted under modern portfolio
management theory and are regularly used by many investment companies and other
institutional investors. Although the Sub-Advisor will seek to use such
practices to further the Fund's investment objective, no assurance can be given
that these practices will achieve this result.
24
The Fund currently expects to write (or sell) covered call options on up to
30% of its Managed Assets. Such call options would give the option holders the
right, but not the obligation, to purchase a common stock at a specified price
(the "strike price") on one or more future dates (each, an "exercise date"). The
price of the option is determined from trading activity in the broad options
market, and generally reflects the relationship between the current market price
for the underlying common stock and the strike price, as well as the time
remaining until the expiration date. The Fund will write call options only if
they are "covered." In the case of a call option on a common stock or other
security, the option will be "covered" if the Fund owns the security underlying
the call or has an absolute and immediate right to acquire that security without
additional cash consideration (or, if additional cash consideration is required,
cash or other assets determined to be liquid by the Sub-Advisor (in accordance
with procedures approved by the Board of Trustees) in such amount are segregated
by the Fund's custodian) upon conversion or exchange of other securities held by
the Fund. If an option written by the Fund expires unexercised, the Fund will
realize on the expiration date a capital gain equal to the premium received by
the Fund at the time the option was written. If an option purchased by the Fund
expires unexercised, the Fund will realize a capital loss equal to the premium
paid at the time the option expires. Prior to the earlier of exercise or
expiration, an exchange-traded option may be closed out by an offsetting
purchase or sale of an option of the same series (type, underlying security,
exercise price, and expiration). There can be no assurance, however, that a
closing purchase or sale transaction can be effected when the Fund desires. The
Fund may sell put or call options it has previously purchased, which could
result in a net gain or loss depending on whether the amount realized on the
sale is more or less than the premium and other transaction costs paid on the
put or call option purchased. See "Tax Matters."
The Fund currently expects to utilize hedging techniques such as interest
rate swaps, caps, floors or collars or credit transactions and credit default
swaps (or any combination thereof) to mitigate potential interest rate risk on a
portion of its leverage instruments. Such interest rate and credit hedges would
principally be used to protect the Fund against higher costs on the Fund's
leverage instruments resulting from increases in short-term interest rates. The
Fund anticipates that the majority of the Fund's interest rate hedges will be
interest rate swap contracts with financial institutions. The Fund also expects
to enter into currency exchange transactions to hedge the Fund's exposure to
foreign currency exchange rate risk to the extent the Fund invests in non-U.S.
dollar denominated securities of non-U.S. issuers. The Fund's currency
transactions will be limited to portfolio hedging involving portfolio positions.
Portfolio hedging is the use of a currency forward contract with respect to a
portfolio security position denominated or quoted in a particular currency. A
currency forward contract is an agreement to purchase or sell a specified
currency at a specified future date (or within a specified time period) and at a
price set (or determined pursuant to parameters set) at the time of the
contract. Currency forward contracts are usually entered into with banks,
foreign exchange dealers or broker-dealers, are not exchange-traded, and are
usually for less than one year, but may be renewed.
The Fund may also, to a lesser extent, purchase and sell derivative
investments such as exchange-listed and over-the-counter put and call options on
securities, energy-related commodities, equity, fixed-income and interest rate
indices and other financial instruments and purchase and sell financial futures
contracts and options thereon. The Fund also may purchase derivative investments
that combine features of these instruments. The Fund will generally seek to use
Strategic Transactions as a portfolio management or hedging technique to seek to
protect against possible adverse changes in the market value of securities held
in or to be purchased for the Fund's portfolio, protect the value of the Fund's
portfolio, facilitate the sale of certain securities for investment purposes,
manage the effective interest rate and currency exposure of the Fund, including
the effective yield paid on any leverage issued by the Fund, or establish
positions in the derivatives markets as a temporary substitute for purchasing or
selling particular securities.
Strategic Transactions have risks, including the imperfect correlation
between the value of such instruments and the underlying assets, the possible
default of the other party to the transactions or illiquidity of the derivative
investments. Furthermore, the ability to successfully use Strategic Transactions
depends on the Sub-Advisor's ability to predict pertinent market movements,
which cannot be assured. Thus, the use of Strategic Transactions may result in
losses greater than if they had not been used, may require the Fund to sell or
purchase portfolio securities at inopportune times or for prices other than
current market values, may limit the amount of appreciation the Fund can realize
on an investment, or may cause the Fund to hold a security that it might
otherwise sell. Additionally, amounts paid by the Fund as premiums and cash or
other assets held in margin accounts with respect to Strategic Transactions are
not otherwise available to the Fund for investment purposes.
The notional amount of the Fund's investments in these instruments and
transactions that increase or decrease the Fund's exposure to Energy
Infrastructure Companies, including investments in derivatives, will be counted
towards the Fund's policy to invest 80% of its Managed Assets in securities of
Energy Infrastructure Companies. See "Risks--Derivatives Risk" in the prospectus
and "Additional Information About the Fund's Investments and Investment
Risks--Strategic Transactions Risk" in the SAI for a more complete discussion of
Strategic Transactions and their risks.
Portfolio Turnover. The Fund's annual portfolio turnover rate may vary
greatly from year to year. Although the Fund cannot accurately predict its
annual portfolio turnover rate, it is not expected to exceed 30% under normal
circumstances, but may be higher or lower in certain periods. Portfolio turnover
rate is not considered a limiting factor in the execution of investment
decisions for the Fund. A higher turnover rate results in correspondingly
greater brokerage commissions and other transactional expenses that are borne by
the Fund. High portfolio turnover may result in the Fund's recognition of gains
that will be taxable as ordinary income when distributed to the Fund's Common
25
Shareholders. In addition, high portfolio turnover may increase the Fund's
current and accumulated earnings and profits, resulting in a greater portion of
the Fund's distributions being treated as taxable dividends for federal income
tax purposes. See "Tax Matters."
LEVERAGE PROGRAM
The Fund intends to use leverage in an aggregate amount of approximately 25%
to 30% of the Fund's Managed Assets after such borrowings and/or issuance. The
Fund will not, however, be required to reduce leverage to the extent the above
percentage limitation is exceeded as a result of a decline in the value of the
Fund's assets. The Fund intends to leverage its assets through borrowings from
banks and other financial institutions. It is expected that these borrowings
will be made pursuant to a revolving credit facility established with a bank or
other financial institution. Any use of leverage by the Fund will be consistent
with the provisions of the 1940 Act. The leverage would have complete priority
upon distribution of assets over Common Shares and may be secured by the assets
of the Fund. The issuance of leverage would leverage the Common Shares. Although
the timing of any leverage and the terms of the leverage would be determined by
the Fund's Board of Trustees, the Fund expects to invest the proceeds derived
from any leverage offering in securities consistent with the Fund's investment
objective and policies. If Preferred Shares are issued, they may pay fixed or
floating rate dividends based on shorter term interest rates. So long as the
Fund's portfolio is invested in securities that provide a higher rate of return
than the dividend rate or interest rate of the leverage, after taking expenses
into consideration, the leverage will cause Common Shareholders to receive a
higher rate of return than if the Fund were not leveraged.
Leverage creates risk for the Common Shareholders, including the likelihood
of greater volatility of NAV and market price of the Common Shares, and the risk
that fluctuations in interest rates on borrowings and debt or in the dividend
rates on any Preferred Shares may affect the return to the Common Shareholders
or will result in fluctuations in the dividends paid on the Common Shares. To
the extent total return exceeds the cost of leverage, the Fund's return will be
greater than if leverage had not been used. Conversely, if the total return
derived from securities purchased with funds received from the use of leverage
is less than the cost of leverage, the Fund's return will be less than if
leverage had not been used, and therefore the amount available for distribution
to Common Shareholders as dividends and other distributions will be reduced. In
the latter case, the Advisor in its best judgment nevertheless may determine to
maintain the Fund's leveraged position if it expects that the benefits to the
Fund's Common Shareholders of maintaining the leveraged position will outweigh
the current reduced return. Under normal market conditions, the Fund anticipates
that it will be able to invest the proceeds from leverage at a higher rate of
return than the costs of leverage, which would enhance returns to Common
Shareholders. The fees paid to the Advisor and Sub-Advisor will be calculated on
the basis of the Managed Assets, including proceeds from borrowings for leverage
and the issuance of Preferred Shares. During periods in which the Fund is
utilizing leverage, the investment advisory and sub-advisory fees payable to the
Advisor and Sub-Advisor, respectively, will be higher than if the Fund did not
utilize a leveraged capital structure. The use of leverage creates risks and
involves special considerations. See "Risks--Leverage Risk."
The Fund's Declaration of Trust authorizes the Fund, without prior approval
of the Common Shareholders, to borrow money. In this connection, the Fund may
issue notes or other evidence of indebtedness (including bank borrowings or
commercial paper) and may secure any such borrowings by mortgaging, pledging or
otherwise subjecting as security the Fund's assets. In connection with such
borrowing, the Fund may be required to maintain minimum average balances with
the lender or to pay a commitment or other fee to maintain a line of credit. Any
such requirements will increase the cost of borrowing over the stated interest
rate. Under the requirements of the 1940 Act, the Fund, immediately after any
such borrowings, must have an "asset coverage" of at least 300% (33-1/3% of
Managed Assets). With respect to such borrowing, asset coverage means the ratio
which the value of the total assets of the Fund, less all liabilities and
indebtedness not represented by senior securities (as defined in the 1940 Act),
bears to the aggregate amount of such borrowing represented by senior securities
issued by the Fund.
The rights of lenders to the Fund to receive interest on and repayment of
principal of any such borrowings will be senior to those of the Common
Shareholders, and the terms of any such borrowings may contain provisions which
limit certain activities of the Fund, including the payment of dividends to
Common Shareholders in certain circumstances. Further, the 1940 Act does (in
certain circumstances) grant to the lenders to the Fund certain voting rights in
the event of default in the payment of interest on or repayment of principal. In
the event that such provisions would impair the Fund's status as a regulated
investment company under the Internal Revenue Code of 1986, as amended (the
"Code"), the Fund intends to repay the borrowings. Any borrowing will likely be
ranked senior or equal to all other existing and future borrowings of the Fund.
Certain types of borrowings may result in the Fund being subject to covenants
in credit agreements relating to asset coverage and portfolio composition
requirements. Generally, covenants to which the Fund may be subject include
affirmative covenants, negative covenants, financial covenants, and investment
covenants. An example of an affirmative covenant would be one that requires the
Fund to send its annual audited financial report to the lender. An example of a
negative covenant would be one that prohibits the Fund from making any
amendments to its fundamental policies. An example of a financial covenant is
one that would require the Fund to maintain a 3:1 asset coverage ratio. An
26
example of an investment covenant is one that would require the Fund to limit
its investment in a particular asset class. The Fund may be subject to certain
restrictions on investments imposed by guidelines of one or more rating
agencies, which may issue ratings for the short-term corporate debt securities
or Preferred Shares issued by the Fund. These guidelines may impose asset
coverage or portfolio composition requirements that are more stringent than
those imposed by the 1940 Act. It is not anticipated that these covenants or
guidelines will impede the Advisor from managing the Fund's portfolio in
accordance with the Fund's investment objective and policies.
Under the 1940 Act, the Fund is not permitted to issue Preferred Shares
unless immediately after such issuance the value of the Fund's Managed Assets is
at least 200% of the liquidation value of the outstanding Preferred Shares
(i.e., the liquidation value may not exceed 50% of the Fund's Managed Assets).
In addition, the Fund is not permitted to declare any cash dividend or other
distribution on its Common Shares unless, at the time of such declaration, the
value of the Fund's Managed Assets is at least 200% of such liquidation value.
If Preferred Shares are issued, the Fund intends, to the extent possible, to
purchase or redeem Preferred Shares from time to time to the extent necessary in
order to maintain coverage of any Preferred Shares of at least 200%. In
addition, as a condition to obtaining ratings on the Preferred Shares, the terms
of any Preferred Shares issued are expected to include more stringent asset
coverage maintenance provisions which will require the redemption of the
Preferred Shares in the event of non-compliance by the Fund and may also
prohibit dividends and other distributions on the Common Shares in such
circumstances. In order to meet redemption requirements, the Fund may have to
liquidate portfolio securities. Such liquidations and redemptions would cause
the Fund to incur related transaction costs and could result in capital losses
to the Fund. Prohibitions on dividends and other distributions on the Common
Shares could impair the Fund's ability to qualify as a regulated investment
company under the Code. If the Fund has Preferred Shares outstanding, two of the
Fund's Trustees will be elected by the holders of Preferred Shares as a class.
The remaining Trustees of the Fund will be elected by holders of Common Shares
and Preferred Shares voting together as a single class. In the event the Fund
failed to pay dividends on Preferred Shares for two years, holders of Preferred
Shares would be entitled to elect a majority of the Trustees of the Fund.
The Fund may also borrow money as a temporary measure for extraordinary or
emergency purposes, including the payment of dividends and the settlement of
securities transactions which otherwise might require untimely dispositions of
Fund securities.
Assuming that the leverage will represent approximately 30% of the Fund's
Managed Assets and pay dividends or interest at an annual combined average rate
of 1.16%, the return generated by the Fund's portfolio (net of estimated
expenses) must exceed 0.35% in order to cover the dividend or interest payments
specifically related to the leverage. Of course, these numbers are merely
estimates used for illustration. Actual dividend or interest rates on the
leverage will vary frequently and may be significantly higher or lower than the
rate estimated above.
The following table is furnished in response to requirements of the SEC. It
is designed to illustrate the effect of leverage on Common Share total return,
assuming investment portfolio total returns (comprised of income and changes in
the value of securities held in the Fund's portfolio) of (10)%, (5)%, 0%, 5% and
10%. These assumed investment portfolio returns are hypothetical figures and are
not necessarily indicative of the investment portfolio returns experienced or
expected to be experienced by the Fund. See "Risks."
The table further reflects the issuance of leverage representing 30% of the
Fund's Managed Assets, and the Fund's currently projected annual dividend or
interest on its leverage of 1.16%.
Assumed Portfolio Total Return (Net of Expenses) ............ (10)% (5)% 0% 5% 10%
Common Share Total Return ................................... -14.79% -7.64% -0.50% 6.65% 13.79%
Common Share total return is composed of two elements: the Common Share
dividends paid by the Fund (the amount of which is largely determined by the net
investment income of the Fund after paying dividends or interest on its
leverage) and gains or losses on the value of the securities the Fund owns. As
required by SEC rules, the table above assumes that the Fund is more likely to
suffer capital losses than to enjoy capital appreciation.
While the Fund is using leverage, the amount of the fees paid to both the
Advisor and the Sub-Advisor for investment advisory and management services are
higher than if the Fund did not use leverage because the fees paid are
calculated based on the Fund's Managed Assets, which include assets purchased
with leverage. Therefore, the Advisor and the Sub-Advisor have a financial
incentive to leverage the Fund, which may create a conflict of interest between
the Advisor and Sub-Advisor on the one hand and the Common Shareholders on the
other. Because payments on any leverage would be paid by the Fund at a specified
rate, only the Fund's Common Shareholders would bear the Fund's management fees
and other expenses.
RISKS
Risk is inherent in all investing. The following discussion summarizes the
principal risks that you should consider before deciding whether to invest in
the Fund.
27
NO OPERATING HISTORY
The Fund is a newly organized, non-diversified, closed-end management
investment company with no operating history. It is designed for long-term
investing and not as a vehicle for trading. Shares of closed-end investment
companies frequently trade at a discount from their NAV. This risk may be
greater for investors expecting to sell their shares in a relatively short
period of time after completion of the public offering.
INVESTMENT AND MARKET RISK
An investment in the Common Shares is subject to investment risk, including
the possible loss of the entire amount that you invest. Your investment in
Common Shares represents an indirect investment in the securities owned by the
Fund, a significant portion of which will be traded on a national securities
exchange or in the over-the-counter markets. An investment in the Common Shares
is not intended to constitute a complete investment program and should not be
viewed as such. The value of these securities, like other market investments,
may move up or down, sometimes rapidly and unpredictably. The value of the
securities in which the Fund invests will affect the value of the Common Shares.
Your Common Shares at any point in time may be worth less than your original
investment, even after taking into account the reinvestment of Fund dividends
and distributions. The fund has been designed primarily as a long-term
investment vehicle and is not intended to be used as a short-term trading
vehicle.
Global financial markets and economic conditions have been, and continue to
be, volatile due to a variety of factors, including significant write-offs in
the financial services sector. As a result, the cost of raising capital in the
debt and equity capital markets has increased substantially while the ability to
raise capital from those markets has diminished significantly. Due to these
factors, Energy Infrastructure Companies may be unable to obtain new debt or
equity financing on acceptable terms or at all. If funding is not available when
needed, or is available only on unfavorable terms, such companies in which the
Fund may invest may not be able to meet their obligations as they come due.
Moreover, without adequate funding, such companies may be unable to execute
their growth strategies, complete future acquisitions, take advantage of other
business opportunities or respond to competitive pressures, any of which could
have a material adverse effect on their revenues and results of operations.
The recent instability in the financial markets has led the U.S. government
and foreign governments to take a number of unprecedented actions designed to
support certain financial institutions and segments of the financial markets
that have experienced extreme volatility, and in some cases a lack of liquidity.
U.S. federal and state governments and foreign governments, their regulatory
agencies or self regulatory organizations may take additional actions that
affect the regulation of the securities in which the Fund invests, or the
issuers of such securities, in ways that are unforeseeable and on an "emergency"
basis with little or no notice with the consequence that some market
participants' ability to continue to implement certain strategies or manage the
risk of their outstanding positions has been suddenly and/or substantially
eliminated or otherwise negatively implicated. Given the complexities of the
global financial markets and the limited time frame within which governments
have been able to take action, these interventions have sometimes been unclear
in scope and application, resulting in confusion and uncertainty, which in
itself has been materially detrimental to the efficient functioning of such
markets as well as previously successful investment strategies. Decisions made
by government policy makers could exacerbate the nation's or the world's current
economic difficulties.
MARKET DISCOUNT FROM NET ASSET VALUE
Shares of closed-end investment companies frequently trade at a discount from
their NAV. This characteristic is a risk separate and distinct from the risk
that the Fund's NAV could decrease as a result of its investment activities and
may be greater for investors expecting to sell their Common Shares in a
relatively short period following completion of this offering. The NAV per
Common Share will be reduced immediately following this offering as a result of
the payment of certain offering costs. Although the value of the Fund's net
assets will generally be considered by market participants in determining
whether to purchase or sell shares, whether investors will realize gains or
losses upon the sale of the Common Shares will depend entirely upon whether the
market price of the Common Shares at the time of sale is above or below the
investor's purchase price for the Common Shares. Because the market price of the
Common Shares will be affected by factors such as NAV, dividend or distribution
levels (which are dependent, in part, on expenses), supply of and demand for the
Common Shares, stability of dividends or distributions, trading volume of the
Common Shares, general market and economic conditions, and other factors beyond
the control of the Fund, the Fund cannot predict whether the Common Shares will
trade at, below or above NAV or at, below or above the initial public offering
price.
MANAGEMENT RISK
The Fund is subject to management risk because it is an actively managed
portfolio. The Advisor and Sub-Advisor will apply investment techniques and risk
analyses in making investment decisions for the Fund, but there can be no
guarantee that these will produce the desired results.
In addition, the implementation of the Fund's investment strategy depends
upon the continued contributions of certain key employees of the Advisor and
Sub-Advisor, some of whom have unique talents and experience and would be
difficult to replace. The loss or interruption of the services of a key member
of the portfolio management team could have a negative impact on the Fund during
the transitional period that would be required for a successor to assume the
responsibilities of the position.
28
POTENTIAL CONFLICTS OF INTEREST RISK
First Trust Advisors, Energy Income Partners and the portfolio managers have
interests which may conflict with the interests of the Fund. In particular,
First Trust Advisors and Energy Income Partners may at some time in the future
manage and/or advise other investment funds or accounts with the same investment
objective and strategies as the Fund. As a result, First Trust Advisors, Energy
Income Partners and the Fund's portfolio managers may devote unequal time and
attention to the management of the Fund and those other funds and accounts, and
may not be able to formulate as complete a strategy or identify equally
attractive investment opportunities as might be the case if they were to devote
substantially more attention to the management of the Fund. First Trust
Advisors, Energy Income Partners and the Fund's portfolio managers may identify
a limited investment opportunity that may be suitable for multiple funds and
accounts, and the opportunity may be allocated among these several funds and
accounts, which may limit the Fund's ability to take full advantage of the
investment opportunity. Additionally, transaction orders may be aggregated for
multiple accounts for purpose of execution, which may cause the price or
brokerage costs to be less favorable to the Fund than if similar transactions
were not being executed concurrently for other accounts. At times, a portfolio
manager may determine that an investment opportunity may be appropriate for only
some of the funds and accounts for which he or she exercises investment
responsibility, or may decide that certain of the funds and accounts should take
differing positions with respect to a particular security. In these cases, the
portfolio manager may place separate transactions for one or more funds or
accounts which may affect the market price of the security or the execution of
the transaction, or both, to the detriment or benefit of one or more other funds
and accounts. For example, a portfolio manager may determine that it would be in
the interest of another account to sell a security that the Fund holds,
potentially resulting in a decrease in the market value of the security held by
the Fund.
The portfolio managers may also engage in cross trades between funds and
accounts, may select brokers or dealers to execute securities transactions based
in part on brokerage and research services provided to First Trust Advisors or
Energy Income Partners which may not benefit all funds and accounts equally and
may receive different amounts of financial or other benefits for managing
different funds and accounts. Finally, First Trust Advisors or its affiliates
may provide more services to some types of funds and accounts than others.
There is no guarantee that the policies and procedures adopted by First
Trust Advisors, Energy Income Partners and the Fund will be able to identify or
mitigate the conflicts of interest that arise between the Fund and any other
investment funds or accounts that First Trust Advisors and/or Energy Income
Partners may manage or advise from time to time. For further information on
potential conflicts of interest, see "Investment Advisor" and "Sub-Advisor" in
the SAI.
INVESTMENT CONCENTRATION RISK
The Fund's investments will be generally concentrated in Energy
Infrastructure Companies. Certain risks inherent in investing in these types of
securities include the following:
o Commodity Pricing Risk. Energy Infrastructure Companies may be
directly affected by energy commodity prices, especially those Energy
Infrastructure Companies which own the underlying energy commodity.
Commodity prices fluctuate for several reasons, including changes in
market and economic conditions, the impact of weather on demand,
levels of domestic production and imported commodities, energy
conservation, domestic and foreign governmental regulation and
taxation and the availability of local, intrastate and interstate
transportation systems. Volatility of commodity prices which leads to
a reduction in production or supply may also impact the performance of
Energy Infrastructure Companies that are solely involved in the
transportation, processing, storing, distribution or marketing of
commodities. Volatility of commodity prices may also make it more
difficult for Energy Infrastructure Companies to raise capital to the
extent the market perceives that their performance may be directly
tied to commodity prices.
o Supply and Demand Risk. A decrease in the production of natural gas,
NGLs, crude oil, coal or other energy commodities or a decrease in the
volume of such commodities available for transportation, processing,
storage or distribution may adversely impact the financial performance
of Energy Infrastructure Companies. Production declines and volume
decreases could be caused by various factors, including catastrophic
events affecting production, depletion of resources, labor
difficulties, environmental proceedings, increased regulations,
equipment failures and unexpected maintenance problems, import supply
disruption, increased competition from alternative energy sources or
depressed commodity prices. Alternatively, a sustained decline in
demand for such commodities could also impact the financial
performance of Energy Infrastructure Companies. Factors which could
lead to a decline in demand include economic recession or other
adverse economic conditions, higher fuel taxes or governmental
regulations, increases in fuel economy, consumer shifts to the use of
alternative fuel sources, an increase in commodity prices, or weather.
o Depletion and Exploration Risk. Energy Infrastructure Companies also
engaged in the production (exploration, development, management or
production) of natural gas, NGLs (including propane), crude oil,
refined petroleum products or coal are subject to the risk that their
commodity reserves naturally deplete over time. Reserves are generally
increased through expansion of their existing business, through
exploration of new sources or development of existing sources, through
acquisitions or by securing long-term contracts to acquire additional
reserves, each of which entails risk. The financial performance of
29
these issuers may be adversely affected if they are unable to acquire,
cost-effectively, additional reserves at a rate at least equal to the
rate of natural decline. A failure to maintain or increase reserves
could reduce the amount and change the characterization of cash
distributions paid by these Energy Infrastructure Companies.
o Regulatory Risk. Energy Infrastructure Companies are subject to
significant federal, state and local government regulation in
virtually every aspect of their operations, including how facilities
are constructed, maintained and operated, environmental and safety
controls, and the prices they may charge for products and services.
Various governmental authorities have the power to enforce compliance
with these regulations and the permits issued under them and violators
are subject to administrative, civil and criminal penalties, including
civil fines, injunctions or both. Stricter laws, regulations or
enforcement policies could be enacted in the future which would likely
increase compliance costs and may adversely affect the financial
performance of Energy Infrastructure Companies. In particular, changes
to laws and increased regulations or enforcement policies as a result
of the Macondo oil spill in the Gulf of Mexico may adversely affect
the financial performance of Energy Infrastructure Companies. In
addition, such regulation can change rapidly or over time in both
scope and intensity. For example, a particular by-product or process,
including hydraulic fracturing, may be declared hazardous--sometimes
retroactively--by a regulatory agency and unexpectedly increase
production costs.
o Interest Rate Risk. Rising interest rates could adversely impact the
financial performance of Energy Infrastructure Companies. Rising
interest rates may increase an Energy Infrastructure Company's cost of
capital, which would increase operating costs and may reduce an Energy
Infrastructure Company's ability to execute acquisitions or expansion
projects in a cost-effective manner. Rising interest rates may also
impact the price of Energy Infrastructure Company shares as the yields
on alternative investments increase.
o Acquisition or Reinvestment Risk. The ability of Energy Infrastructure
Companies to grow and to increase distributions to their equityholders
can be dependent in part on their ability to make acquisitions or find
organic projects that result in an increase in adjusted operating cash
flow. In the event that Energy Infrastructure Companies are unable to
make such accretive acquisitions/projects either because they are
unable to identify attractive acquisition/project candidates or
negotiate acceptable purchase contracts or because they are unable to
raise financing on economically acceptable terms or because they are
outbid by competitors, their future growth and ability to raise
distributions may be hindered. Furthermore, even if Energy
Infrastructure Companies do consummate acquisitions/projects that they
believe will be accretive, the acquisitions/projects may in fact turn
out to result in a decrease in adjusted operating cash flow. Any
acquisition/project involves risks, including among other things:
mistaken assumptions about revenues and costs, including synergies;
the assumption of unknown liabilities; limitations on rights to
indemnity from the seller; the diversion of management's attention
from other business concerns; unforeseen difficulties operating in new
product areas or new geographic areas; and customer or key employee
losses at the acquired businesses.
o Affiliated Party Risk. Certain Energy Infrastructure Companies are
dependent on their parents or sponsors for a majority of their
revenues. Any failure by the parents or sponsors to satisfy their
payments or obligations would impact the Energy Infrastructure
Companies' revenues and cash flows and ability to make distributions.
o Catastrophe Risk. The operations of Energy Infrastructure Companies
are subject to many hazards inherent in transporting, processing,
storing, distributing or marketing natural gas, NGLs, crude oil,
refined petroleum products or other hydrocarbons, or in exploring,
managing or producing such commodities or products, including: damage
to pipelines, storage tanks or related equipment and surrounding
properties caused by hurricanes, tornadoes, floods, fires and other
natural disasters and acts of terrorism; inadvertent damage from
construction and farm equipment; leaks of natural gas, NGLs, crude
oil, refined petroleum products or other hydrocarbons; fires and
explosions. These risks could result in substantial losses due to
personal injury and/or loss of life, severe damage to and destruction
of property and equipment and pollution or other environmental damage
and may result in the curtailment or suspension of their related
operations. Not all MLPs, MLP-related entities and Energy
Infrastructure Companies are fully insured against all risks inherent
to their businesses. If a significant accident or event occurs that is
not fully insured, it could adversely affect their operations and
financial condition.
o Terrorism/Market Disruption Risk. The terrorist attacks in the United
States on September 11, 2001 had a disruptive effect on the securities
markets. U.S. military and related action in Iraq is ongoing and
events in the Middle East could have significant adverse effects on
the U.S. economy and the stock market. Uncertainty surrounding
retaliatory military strikes or a sustained military campaign may
affect Energy Infrastructure Company operations in unpredictable ways,
including disruptions of fuel supplies and markets, and transmission
and distribution facilities could be direct targets, or indirect
casualties, of an act of terror. Since the September 11th attacks, the
U.S. government has issued warnings that energy assets, specifically
the U.S. pipeline infrastructure, may be the future target of
terrorist organizations. In addition, changes in the insurance markets
attributable to the September 11th attacks have made certain types of
insurance more difficult, if not impossible, to obtain and have
generally resulted in increased premium costs.
30
o MLP Risks. An investment in MLP units involves risks which differ from
an investment in common stock of a corporation. Holders of MLP units
have limited control and voting rights on matters affecting the
partnership. In addition, there are certain tax risks associated with
an investment in MLP units and conflicts of interest exist between
common unit holders and the general partner, including those arising
from incentive distribution payments.
INDUSTRY SPECIFIC RISK
Energy Infrastructure Companies are also subject to risks that are specific
to the industry they serve.
o Midstream Energy Infrastructure Companies that provide crude oil,
refined product and natural gas services are subject to supply and
demand fluctuations in the markets they serve which will be impacted
by a wide range of factors including, fluctuating commodity prices,
weather, increased conservation or use of alternative fuel sources,
increased governmental or environmental regulation, depletion, rising
interest rates, declines in domestic or foreign production, accidents
or catastrophic events, and economic conditions, among others.
o Propane companies are subject to earnings variability based upon
weather conditions in the markets they serve, fluctuating commodity
prices, increased use of alternative fuels, increased governmental or
environmental regulation, and accidents or catastrophic events, among
others.
o Energy Infrastructure Companies with coal assets are subject to supply
and demand fluctuations in the markets they serve which will be
impacted by a wide range of factors including, fluctuating commodity
prices, the level of their customers' coal stockpiles, weather,
increased conservation or use of alternative fuel sources, increased
governmental or environmental regulation, depletion, rising interest
rates, transportation issues, declines in domestic or foreign
production, mining accidents or catastrophic events, health claims and
economic conditions, among others.
o Energy Infrastructure Companies that own interstate pipelines are
subject to regulation by FERC with respect to the tariff rates they
may charge for transportation services. An adverse determination by
FERC with respect to the tariff rates of such a company could have a
material adverse effect on its business, financial condition, results
of operations and cash flows and its ability to pay cash distributions
or dividends. In addition, FERC has a tax allowance policy, which
permits such companies to include in their cost of service an income
tax allowance to the extent that their owners have an actual or
potential tax liability on the income generated by them. If FERC's
income tax allowance policy were to change in the future to disallow a
material portion of the income tax allowance taken by such interstate
pipeline companies, it would adversely impact the maximum tariff rates
that such companies are permitted to charge for their transportation
services, which in turn could adversely affect such companies'
financial condition and ability to pay distributions to shareholders.
o Marine shipping (or "tanker") companies are exposed to many of the
same risks as other Energy Infrastructure Companies. In addition, the
highly cyclical nature of the industry may lead to volatile changes in
charter rates and vessel values, which may adversely affect a tanker
company's earnings. Fluctuations in charter rates and vessel values
result from changes in the supply and demand for tanker capacity and
changes in the supply and demand for oil and oil products.
Historically, the tanker markets have been volatile because many
conditions and factors can affect the supply and demand for tanker
capacity. Changes in demand for transportation of oil over longer
distances and supply of tankers to carry that oil may materially
affect revenues, profitability and cash flows of tanker companies. The
successful operation of vessels in the charter market depends upon,
among other things, obtaining profitable spot charters and minimizing
time spent waiting for charters and traveling unladen to pick up
cargo. The value of tanker vessels may fluctuate and could adversely
affect the value of tanker company securities. Declining tanker values
could affect the ability of tanker companies to raise cash by limiting
their ability to refinance their vessels, thereby adversely impacting
tanker company liquidity. Tanker company vessels are at risk of damage
or loss because of events such as mechanical failure, collision, human
error, war, terrorism, piracy, cargo loss and bad weather. In
addition, changing economic, regulatory and political conditions in
some countries, including political and military conflicts, have from
time to time resulted in attacks on vessels, mining of waterways,
piracy, terrorism, labor strikes, boycotts and government
requisitioning of vessels. These sorts of events could interfere with
shipping lanes and result in market disruptions and a significant loss
of tanker company earnings.
CASH FLOW RISK
A substantial portion of the cash flow received by the Fund will be derived
from its investment in equity securities. The amount of cash an entity has
available for distributions and the tax character of such distributions is
dependent upon the amount of cash generated by the entity's operations. Cash
available for distribution varies from month to month and is largely dependent
on factors affecting the entity's operations and factors affecting the energy
industry in general. In addition to the risk factors described above, other
factors which may reduce the amount of cash an entity has available for
distribution include increased operating costs, capital expenditures,
acquisition costs, expansion, construction or exploration costs and borrowing
costs.
31
MLP TAX RISK
The Fund's ability to meet its investment objective depends, in part, on the
level of taxable income and distributions it receives from the MLP, MLP-related
entities and Energy Infrastructure Company securities in which the Fund invests,
a factor over which the Fund has no control. The benefit the Fund derives from
its investment in MLPs is largely dependent on their being treated as
partnerships for federal income tax purposes. As a partnership, an MLP has no
income tax liability at the entity level. If, as a result of a change in an
MLP's business, an MLP were treated as a corporation for federal income tax
purposes, such MLP would be obligated to pay federal income tax on its income at
the applicable corporate tax rate. If an MLP was classified as a corporation for
federal income tax purposes, the amount of cash available for distribution with
respect to its units would be reduced and any such distributions received by the
Fund would be taxed entirely as dividend income if paid out of the earnings of
the MLP. Therefore, treatment of an MLP as a corporation for federal income tax
purposes would result in a material reduction in the after-tax return to the
Fund, likely causing a substantial reduction in the value of the Common Shares.
NON-U.S. SECURITIES RISK
Investing in non-U.S. securities involves certain risks not involved in
domestic investments, including, but not limited to: fluctuations in currency
exchange rates; future foreign economic, financial, political and social
developments; different legal systems; the possible imposition of exchange
controls or other foreign governmental laws or restrictions; lower trading
volume; greater price volatility and illiquidity; different trading and
settlement practices; less governmental supervision; high and volatile rates of
inflation; fluctuating interest rates; less publicly available information; and
different accounting, auditing and financial recordkeeping standards and
requirements. Because the Fund intends to invest in securities denominated or
quoted in non-U.S. currencies, changes in the non-U.S. currency/United States
dollar exchange rate may affect the value of our securities and the unrealized
appreciation or depreciation of investments.
FAILURE TO QUALIFY AS A REGULATED INVESTMENT COMPANY
If, in any year, the Fund fails to qualify as a RIC under the applicable tax
laws, the Fund would be taxed as an ordinary corporation. In such circumstances,
the Fund could be required to recognize unrealized gains, pay substantial taxes
and interest and make substantial distributions before requalifying as a RIC
that is accorded special tax treatment. If the Fund fails to qualify as a RIC,
distributions to the Fund's Common Shareholders generally would be eligible (i)
for treatment as qualified dividend income in the case of individual
shareholders (for taxable years beginning on or before December 31, 2012), and
(ii) for the dividends received deduction in the case of corporate shareholders.
See "Tax Matters".
TAX LAW CHANGE RISK
Changes in tax laws or regulations, or interpretations thereof in the future,
could adversely affect the Fund or the Energy Infrastructure Companies in which
it invests. Any such changes could negatively impact the Fund and its Common
Shareholders.
DEFERRED TAX RISK
As a limited partner in the MLPs in which it invests, the Fund will be
allocated its pro rata share of income, gains, losses, deductions and expenses
from the MLPs. A significant portion of MLP income has historically been offset
by tax deductions. The Fund will recognize income with respect to that portion
of a distribution that is not offset by tax deductions, with the remaining
portion of the distribution being treated as a tax-deferred return of capital.
The percentage of an MLP's distribution which is offset by tax deductions will
fluctuate over time for various reasons. A significant slowdown in acquisition
or investment activity by MLPs held in the Fund's portfolio could result in a
reduction of accelerated depreciation or other deductions generated by these
activities, which may result in increased net income to the Fund. A reduction in
the percentage of the income from an MLP offset by tax deductions or gains as a
result of the sale of portfolio securities will reduce that portion, if any, of
the Fund's distribution treated as a tax-deferred return of capital and increase
that portion treated as dividend income, resulting in lower after-tax
distributions to the Fund's Common Shareholders. The Fund will rely to some
extent on information provided by MLPs, which is usually not timely, to
determine the tax character of the distributions to Common Shareholders.
DELAY IN INVESTING THE PROCEEDS
Although the Fund currently intends to invest the proceeds from the sale of
the Common Shares as soon as practicable, such investments may be delayed if
suitable investments are unavailable at the time. The trading market and volumes
for Energy Infrastructure Company shares may at times be less liquid than the
market for other securities. Prior to the time the proceeds of any offering are
invested, such proceeds may be invested in cash, cash equivalents or other
securities, pending investment in Energy Infrastructure Company securities. As a
result, return and yield on the Common Shares in the year following the issuance
of Common Shares may be lower than when the Fund is fully invested in accordance
with its objective and policies. See "Use of Proceeds."
32
EQUITY SECURITIES RISK
Equity securities are sensitive to general movements in the stock market and
a drop in the stock market may depress the price of securities to which the Fund
has exposure. Equity securities prices fluctuate for several reasons including
changes in the financial condition of a particular issuer (generally measured in
terms of distributable cash flow in the case of MLPs), investors' perceptions of
Energy Infrastructure Companies, the general condition of the relevant stock
market, such as the current market volatility, or when political or economic
events affecting the issuers occur. In addition, the price of equity securities
may be particularly sensitive to rising interest rates, as the cost of capital
rises and borrowing costs increase.
Certain of the Energy Infrastructure Companies in which the Fund may invest
may have comparatively smaller capitalizations. Investing in securities of
smaller Energy Infrastructure Companies presents some unique investment risks.
These companies may have limited product lines and markets, as well as shorter
operating histories, less experienced management and more limited financial
resources than larger Energy Infrastructure Companies and may be more vulnerable
to adverse general market or economic developments. Stocks of smaller Energy
Infrastructure Companies may be less liquid than those of larger Energy
Infrastructure Companies and may experience greater price fluctuations than
larger Energy Infrastructure Companies. In addition, small-cap securities may
not be widely followed by the investment community, which may result in reduced
demand.
MLP subordinated units in which the Fund may invest will generally convert to
common units at a one-to-one ratio. The purchase or sale price is generally tied
to the common unit price less a discount. The size of the discount varies
depending on the likelihood of conversion, the length of time remaining to
conversion, the size of the block purchased and other factors.
The Fund may invest in I-Shares, which represent an indirect investment in
MLP I-units. While not precise, the price of I-Shares and their volatility tend
to be correlated to the price of common units. I-Shares are subject to the same
risks as MLP common units.
CANADIAN INCOME EQUITIES RISKS
Canadian Income Equities share many of the risks inherent in investing in
equity securities and are also subject to the risks specific to the energy
infrastructure sector described above. In many circumstances, the Canadian
Income Equities in which the Fund may invest may have limited operating
histories. The value of Canadian Income Equities in which the Trust may invest
are influenced by factors that are not within the Fund's control, including the
financial performance of the respective issuers, interest rates, exchange rates,
commodity prices (which will vary and are determined by supply and demand
factors, including weather and general economic and political conditions), the
hedging policies employed by such issuers, issues relating to the regulation of
the energy industry and operational risks relating to the energy industry.
The Canadian tax treatment of certain income that allowed income to flow
through to investors and be taxed only at the individual level changed beginning
in 2011. In general, Canada now imposes a withholding tax on the distributions
as if they were dividends. The distribution tax could have a material impact on
the market value of Canadian Income Equities.
LEVERAGE RISK
The Fund intends to utilize leverage in an aggregate amount of approximately
25% to 30% of the Fund's Managed Assets. The Fund will not, however, be required
to reduce leverage to the extent the above percentage limitation is exceeded as
a result of a decline in the value of the Fund's assets. Pursuant to the
provisions of the 1940 Act, the Fund may borrow an amount up to 33-1/3% of its
Managed Assets less all liabilities other than borrowing or may issue Preferred
Shares in an amount up to 50% of the Fund's Managed Assets (including the
proceeds from leverage). Leverage instruments will have seniority over the
Common Shares and may be secured by the assets of the Fund. The Fund intends to
leverage its assets through borrowings from banks and other financial
institutions. It is expected that these borrowings will be made pursuant to a
revolving credit facility established with a bank or other financial
institution. Certain types of borrowings may result in the Fund being subject to
covenants in credit agreements relating to asset coverage and portfolio
composition requirements. The Fund may use leverage for investment purposes, to
finance the repurchase of its Common Shares and to meet cash requirements.
Although the use of leverage by the Fund may create an opportunity for increased
return for the Common Shares, it also results in additional risks and can
magnify the effect of any losses. If the income and gains earned on the
securities and investments purchased with leverage proceeds are greater than the
cost of the leverage, the Common Shares' return will be greater than if leverage
had not been used. Conversely, if the income and gains from the securities and
investments purchased with such proceeds do not cover the cost of leverage, the
return to the Common Shares will be less than if leverage had not been used.
There is no assurance that a leveraging strategy will be successful. Leverage
involves risks and special considerations for Common Shareholders including:
o the likelihood of greater volatility of NAV and market price of the
Common Shares than a comparable portfolio without leverage;
33
o the risk that fluctuations in interest rates on borrowings and
short-term debt or in the dividend rates on any Preferred Shares that
the Fund may pay will reduce the return to the Common Shareholders or
will result in fluctuations in the dividends paid on the Common
Shares;
o the effect of leverage in a declining market, which is likely to cause
a greater decline in the NAV of the Common Shares than if the Fund
were not leveraged, which may result in a greater decline in the
market price of the Common Shares; and
o when the Fund uses certain types of leverage, the investment advisory
fee payable to the Advisor will be higher than if the Fund did not use
leverage.
The Fund may continue to use leverage if the benefits to the Fund's
shareholders of maintaining the leveraged position are believed to outweigh any
current reduced return.
DERIVATIVES RISK
The Fund may enter into total return swaps, credit default swaps or other
types of swaps, options, forwards and combinations thereof and related
derivatives for the purpose of hedging and risk management. These transactions
generally provide for the transfer from one counterparty to another of certain
risks inherent in the ownership of a financial asset such as a common stock or
debt instrument. Such risks include, among other things, the risk of default and
insolvency of the obligor of such asset, the risk that the credit of the obligor
or the underlying collateral will decline or the risk that the common stock of
the underlying issuer will decline in value. The transfer of risk pursuant to a
derivative of this type may be complete or partial, and may be for the life of
the related asset or for a shorter period. These derivatives may be used for
investment purposes or as a risk management tool for a pool of financial assets,
providing the Fund with the opportunity to gain or reduce exposure to one or
more reference securities or other financial assets without actually owning or
selling such assets in order, for example, to increase or reduce a concentration
risk or to diversify a portfolio. Conversely, these derivatives may be used by
the Fund to reduce exposure to an owned asset without selling it. Furthermore,
the ability to successfully use hedging and interest rate transactions depends
on the Sub-Advisor's ability to predict pertinent market movements, which cannot
be assured. Thus, the use of derivatives for hedging and interest rate
management purposes may result in losses greater than if they had not been used,
may require the Fund to sell or purchase portfolio securities at inopportune
times or for prices other than current market values, may limit the amount of
appreciation the Fund can realize on an investment, or may cause the Fund to
hold a security that it might otherwise sell. Additionally, amounts paid by the
Fund as premiums and cash or other assets held in margin accounts with respect
to hedging and strategic transactions are not otherwise available to the Fund
for investment purposes.
There are several risks associated with transactions in options on
securities. For example, there are significant differences between the
securities and options markets that could result in an imperfect correlation
between these markets, causing a given transaction not to achieve its
objectives. A decision as to whether, when and how to use options involves the
exercise of skill and judgment, and even a well-conceived transaction may be
unsuccessful to some degree because of market behavior or unexpected events. As
a writer of a covered call option, the Fund would forgo, during the option's
life, the opportunity to profit from increases in the market value of the
security underlying the call option above the strike price of the call but has
retained the risk of loss should the price of the underlying security decline.
The writer of a covered call option has no control over the time when it may be
required to fulfill its obligation as a writer of the option. Once an option
writer has received an exercise notice, it cannot effect a closing purchase
transaction in order to offset its obligation under the option and must deliver
the underlying security at the exercise price.
There are several risks associated with the use of futures contracts and
futures options. The purchase or sale of a futures contract may result in losses
in excess of the amount invested in the futures contract. While the Fund may
enter into futures contracts and options on futures contracts for hedging
purposes, the use of futures contracts and options on futures contracts might
result in a poorer overall performance for the Fund than if it had not engaged
in any such transactions. There may be an imperfect correlation between the
Fund's portfolio holdings and futures contracts or options on futures contracts
entered into by the Fund, which may prevent the Fund from achieving the intended
hedge or expose the Fund to risk of loss. The degree of imperfection of
correlation depends on circumstances such as variations in market demand for
futures, options on futures and their related securities, including technical
influences in futures and futures options trading, and differences between the
securities markets and the securities underlying the standard contracts
available for trading. Further, the Fund's use of futures contracts and options
on futures contracts to reduce risk involves costs and will be subject to the
Sub-Advisor's ability to predict correctly changes in interest rate
relationships or other factors.
Depending on whether the Fund would be entitled to receive net payments from
the counterparty on a swap or cap, which in turn would depend on the general
state of short-term interest rates at that point in time, a default by a
counterparty could negatively impact the performance of the Common Shares. In
addition, at the time an interest rate or commodity swap or cap transaction
reaches its scheduled termination date, there is a risk that the Fund would not
be able to obtain a replacement transaction or that the terms of the replacement
would not be as favorable as on the expiring transaction. If this occurs, it
could have a negative impact on the performance of the Common Shares. If the
Fund fails to maintain any required asset coverage ratios in connection with any
34
use by the Fund of leverage, the Fund may be required to redeem or prepay some
or all of the leverage. Such redemption or prepayment would likely result in the
Fund seeking to terminate early all or a portion of any swap or cap
transactions. Early termination of a swap could result in a termination payment
by or to the Fund. Early termination of a cap could result in a termination
payment to the Fund. The Fund intends to maintain, in a segregated account, cash
or liquid securities having a value at least equal to the Fund's net payment
obligations under any swap transaction, marked to market daily. The Fund will
not enter into interest rate swap or cap transactions having a notional amount
that exceeds the outstanding amount of the Fund's leverage.
The Fund may enter into currency exchange transactions to hedge the Fund's
exposure to foreign currency exchange rate risk to the extent the Fund invests
in non-U.S. dollar denominated securities of non-U.S. issuers. The Fund's
currency transactions will be limited to portfolio hedging involving portfolio
positions. Portfolio hedging is the use of a forward contract with respect to a
portfolio security position denominated or quoted in a particular currency. A
currency forward contract is an agreement to purchase or sell a specified
currency at a specified future date (or within a specified time period) and at a
price set (or determined pursuant to parameters set) at the time of the
contract. Forward contracts are usually entered into with banks, foreign
exchange dealers or broker-dealers, are not exchange-traded, and are usually for
less than one year, but may be renewed.
At the maturity of a forward contract to deliver a particular currency, the
Fund may either sell the portfolio security related to such contract and make
delivery of the currency, or it may retain the security and either acquire the
currency on the spot market or terminate its contractual obligation to deliver
the currency by purchasing an offsetting contract with the same currency trader
obligating the Fund to purchase on the same maturity date the same amount of the
currency.
It is impossible to forecast with absolute precision the market value of
portfolio securities at the expiration of a forward contract. Accordingly, it
may be necessary for the Fund to purchase additional currency on the spot market
(and bear the expense of such purchase) if a decision is made to sell the
security and make delivery of the currency and the market value of the security
is less than the amount of currency that the Fund is obligated to deliver.
Conversely, it may be necessary to sell on the spot market some of the currency
received upon the sale of the portfolio security if its market value exceeds the
amount of currency the Fund is obligated to deliver under the forward contract.
If the Fund retains the portfolio security and engages in an offsetting
transaction, the Fund will incur a gain or a loss to the extent that there has
been movement in forward contract prices. If the Fund engages in an offsetting
transaction, it may subsequently enter into a new forward contract to buy the
currency. Should forward prices decline during the period between the Fund's
entering into a forward contract for the sale of a currency and the date it
enters into an offsetting contract for the purchase of the currency, the Fund
will realize a gain to the extent the price of the currency it has agreed to
sell exceeds the price of the currency it has agreed to purchase. Should forward
prices increase, the Fund will suffer a loss to the extent the price of the
currency it has agreed to purchase exceeds the price of the currency it has
agreed to sell. A default on the contract would deprive the Fund of unrealized
profits or force the Fund to cover its commitments for purchase or sale of
currency, if any, at the current market price.
Hedging against a decline in the value of a currency does not eliminate
fluctuations in the prices of portfolio securities or prevent losses if the
prices of such securities decline. Such transactions may also preclude the
opportunity for gain if the value of the hedged currency should rise. Moreover,
it may not be possible for the Fund to hedge against a devaluation that is so
generally anticipated that the Fund is not able to contract to sell the currency
at a price above the devaluation level it anticipates. The cost to the Fund of
engaging in currency exchange transactions varies with such factors as the
currency involved, the length of the contract period, and prevailing market
conditions. Since currency exchange transactions are usually conducted on a
principal basis, no fees or commissions are involved.
The use of interest rate and commodity swaps and caps is a highly specialized
activity that involves investment techniques and risks different from those
associated with ordinary portfolio security transactions. Depending on market
conditions in general, the Fund's use of swaps or caps could enhance or harm the
overall performance of the Common Shares. For example, the Fund may utilize
interest rate swaps and caps in connection with the Fund's use of leverage. To
the extent there is a decline in interest rates, the value of the interest rate
swap or cap could decline, and could result in a decline in the NAV of the
Common Shares. In addition, if short-term interest rates are lower than the
Fund's fixed rate of payment on the interest rate swap, the swap will reduce
common share net earnings. If, on the other hand, short-term interest rates are
higher than the fixed rate of payment on the interest rate swap, the swap will
enhance common share net earnings. Buying interest rate caps could enhance the
performance of the Common Shares by providing a maximum leverage expense. Buying
interest rate caps could also decrease the net earnings of the Common Shares in
the event that the premium paid by the Fund to the counterparty exceeds the
additional amount of interest the Fund would have been required to pay had it
not entered into the cap agreement. The Fund has no current intention of
entering into an interest rate swap but is expected to enter into an interest
rate cap.
Interest rate and commodity swaps and caps do not involve the delivery of
securities or other underlying assets or principal. Accordingly, the risk of
loss with respect to interest rate and commodity swaps is limited to the net
amount of interest payments that the Fund is contractually obligated to make. If
the counterparty defaults, the Fund would not be able to use the anticipated net
receipts under the swap or cap to offset any declines in the value of the Fund's
portfolio assets being hedged or the increase in the Fund's cost of financial
35
leverage. Depending on whether the Fund would be entitled to receive net
payments from the counterparty on the swap or cap, which in turn would depend on
the general state of the market rates at that point in time, such a default
could negatively impact the performance of the Common Shares.
Congress has recently enacted the Financial Stability Act, which will likely
impact the use of certain derivatives by entities, which may include the Fund,
and is intended to improve the existing regulatory framework by closing the
regulatory gaps and eliminating the speculative trading practices that
contributed to the 2008 financial market crisis. The legislation is designed to
impose stringent regulation on the over-the-counter derivatives market in an
attempt to increase transparency and accountability. Such legislation or
policies may impact or restrict the Fund's ability to use certain Strategic
Transactions and/or increase the costs of entering into and/or maintaining
certain Strategic Transactions.
The SEC has also indicated that it may adopt new policies on the use of
derivatives by registered investment companies. Such policies could affect the
nature and extent of derivative use by the Fund.
See "Additional Information About the Fund's Investments and Investment
Risks--Strategic Transactions Risks" in the SAI.
PORTFOLIO TURNOVER RISK
The Fund's annual portfolio turnover rate may vary greatly from year to year.
Although the Fund cannot accurately predict its annual portfolio turnover rate,
it is not expected to exceed 30% under normal circumstances, but may be higher
or lower in certain periods. Portfolio turnover rate is not considered a
limiting factor in the execution of investment decisions for the Fund. High
portfolio turnover may result in the Fund's recognition of gains that will be
taxable as ordinary income when distributed to the Fund's Common Shareholders. A
high portfolio turnover may also increase the Fund's current and accumulated
earnings and profits, resulting in a greater portion of the Fund's distributions
being treated as a dividend to the Fund's Common Shareholders. In addition, a
higher portfolio turnover rate results in correspondingly greater brokerage
commissions and other transactional expenses that are borne by the Fund. See
"The Fund's Investments--Investment Practices--Portfolio Turnover" and "Tax
Matters."
COMPETITION RISK
A number of alternatives as vehicles for investment in a portfolio of energy
MLPs and their affiliates currently exist, including other publicly-traded
investment companies, structured notes and private funds. In addition, recent
tax law changes have increased the ability of regulated investment companies or
other institutions to invest in MLPs. These competitive conditions may adversely
impact our ability to meet our investment objective, which in turn could
adversely impact our ability to make distributions.
RESTRICTED SECURITIES
The Fund may invest in unregistered or otherwise restricted securities. The
term "restricted securities" refers to securities that have not been registered
under the 1933 Act or are held by control persons of the issuer and securities
that are subject to contractual restrictions on their resale. As a result,
restricted securities may be more difficult to value and the Fund may have
difficulty disposing of such assets either in a timely manner or for a
reasonable price. Absent an exemption from registration, the Fund will be
required to hold the securities until they are registered by the issuer. In
order to dispose of an unregistered security, the Fund, where it has contractual
rights to do so, may have to cause such security to be registered. A
considerable period may elapse between the time the decision is made to sell the
security and the time the security is registered so that the Fund could sell it.
Contractual restrictions on the resale of securities vary in length and scope
and are generally the result of a negotiation between the issuer and acquirer of
the securities. The Fund would, in either case, bear market risks during that
period.
LIQUIDITY RISK
Although common units of MLPs, I-Shares of MLP-related entities, and common
stock of certain other Energy Infrastructure Companies trade on the NYSE, NYSE
Amex, and The NASDAQ Stock Market, certain securities may trade less frequently,
particularly those of issuers with smaller capitalizations. Securities with
limited trading volumes may display volatile or erratic price movements. Larger
purchases or sales of these securities by the Fund in a short period of time may
result in abnormal movements in the market price of these securities. This may
affect the timing or size of Fund transactions and may limit the Fund's ability
to make alternative investments. If the Fund requires significant amounts of
cash on short notice in excess of normal cash requirements or is required to
post or return collateral in connection with the Fund's investment portfolio,
derivatives transactions or leverage restrictions, the Fund may have difficulty
selling these investments in a timely manner, be forced to sell them for less
than it otherwise would have been able to realize, or both. The reported value
of some of the Fund's relatively illiquid types of investments and, at times,
the Fund's high quality, generally liquid asset classes, may not necessarily
reflect the lowest current market price for the asset. If the Fund was forced to
sell certain of its assets in the current market, there can be no assurance that
the Fund will be able to sell them for the prices at which the Fund has recorded
them and the Fund may be forced to sell them at significantly lower prices. See
"The Fund's Investments--Investment Philosophy and Process."
36
VALUATION RISK
Market prices generally will not be available for subordinated units, direct
ownership of general partner interests, restricted securities or unregistered
securities of certain MLPs, MLP-related entities or private companies, and the
value of such investments will ordinarily be determined based on fair valuations
determined pursuant to procedures adopted by the Board of Trustees. The value of
these securities typically requires more reliance on the judgment of the
Sub-Advisor than that required for securities for which there is an active
trading market. In addition, the Fund will rely on information provided by
certain MLPs, which is usually not timely, to determine the tax character of
distributions to Common Shareholders. From time to time the Fund will modify its
estimates and/or assumptions as new information becomes available. To the extent
the Fund modifies its estimates and/or assumptions, the NAV of the Fund would
likely fluctuate. See "Net Asset Value."
INTEREST RATE RISK
Interest rate risk is the risk that securities will decline in value because
of changes in market interest rates. When market interest rates rise, the market
value of the securities in which the Fund invests generally will fall. The
Fund's investment in such securities means that the NAV and market price of the
Common Shares will tend to decline if market interest rates rise. Interest rates
are at or near historic lows, and as a result, they are likely to rise over
time.
NON-DIVERSIFICATION RISK
The Fund is a non-diversified, closed-end investment company under the 1940
Act. Although the Fund may invest a relatively high percentage of its assets in
a limited number of issuers, in order to qualify as a RIC for federal income tax
purposes, the Fund must diversify its holdings so that, at the end of each
quarter of each taxable year (i) at least 50% of the value of its total Managed
Assets is represented by cash and cash items, U.S. Government securities, the
securities of other RICs and other securities, with such other securities
limited for purposes of such calculation, in respect of any one issuer, to an
amount not greater than 5% of the value of its total assets and not more than
10% of the outstanding voting securities of such issuer, and (ii) not more than
25% of the value of our total assets is invested in the securities of any one
issuer (other than U.S. Government securities or the securities of other RICs),
the securities (other than the securities of other RICs) of any two or more
issuers that the Fund controls and that are determined to be engaged in the same
business or similar or related trades or businesses, or the securities of one or
more qualified publicly-traded partnerships. To the extent the Fund invests a
relatively high percentage of our assets in the obligations of a limited number
of issuers, the Fund may be more susceptible than a more widely diversified
investment company to any single economic, political or regulatory occurrence.
ANTI-TAKEOVER PROVISIONS
The Fund's Declaration of Trust includes provisions that could limit the
ability of other entities or persons to acquire control of the Fund or convert
the Fund to open-end status. These provisions could have the effect of depriving
the Common Shareholders of opportunities to sell their Common Shares at a
premium over the then current market price of the Common Shares. See "Certain
Provisions in the Declaration of Trust and By-Laws."
INFLATION RISK
Inflation risk is the risk that the value of assets or income from investment
will be worth less in the future as inflation decreases the value of money. As
inflation increases, the real value of the Common Shares and distributions can
decline.
CERTAIN AFFILIATIONS
Certain broker-dealers may be considered to be affiliated persons of the
Fund, First Trust Advisors or Energy Income Partners. Absent an exemption from
the SEC or other regulatory relief, the Fund is generally precluded from
effecting certain principal transactions with affiliated brokers, and its
ability to utilize affiliated brokers for agency transactions, is subject to
restrictions. This could limit the Fund's ability to engage in securities
transactions and take advantage of market opportunities. In addition, until the
underwriting syndicate is broken in connection with any public offering of the
Common Shares offered by this prospectus, the Fund will be precluded from
effecting principal transactions with brokers who are members of the syndicate.
SECONDARY MARKET FOR THE FUND'S COMMON SHARES
The issuance of Common Shares through the Fund's dividend reinvestment plan
may have an adverse effect on the secondary market for the Common Shares. The
increase in the number of outstanding Common Shares resulting from issuances
pursuant to the Fund's dividend reinvestment plan and the discount to the market
price at which such Common Shares may be issued, may put downward pressure on
the market price for the Common Shares. Common Shares will not be issued
pursuant to the dividend reinvestment plan at any time when Common Shares are
trading at a lower price than the Fund's NAV per Common Share. When the Fund's
37
Common Shares are trading at a premium, the Fund may also issue Common Shares
that may be sold through private transactions effected on the NYSE or through
broker-dealers. The increase in the number of outstanding Common Shares
resulting from these offerings may put downward pressure on the market price for
Common Shares.
MANAGEMENT OF THE FUND
TRUSTEES AND OFFICERS
General oversight of the duties performed by the Advisor and Sub-Advisor is
the responsibility of the Board of Trustees. There are five Trustees of the
Fund, one of whom is an "interested person" (as defined in the 1940 Act) and
four of whom are not "interested persons." The names and business addresses of
the Trustees and officers of the Fund and their principal occupations and other
affiliations during the past five years are set forth under "Management of the
Fund" in the SAI.
INVESTMENT ADVISOR
First Trust Advisors L.P. is the investment advisor to the Fund. First Trust
Advisors L.P. serves as investment advisor or portfolio supervisor to investment
portfolios with approximately $46 billion in assets which it managed or
supervised as of August 31, 2011. It is located at 120 East Liberty Drive,
Wheaton, Illinois 60187.
First Trust Advisors L.P. is responsible for the day-to-day management of the
Fund's portfolio, managing the Fund's business affairs and providing certain
clerical, bookkeeping and other administrative services.
First Trust Advisors L.P. is an Illinois limited partnership formed in 1991
and an investment advisor registered with the SEC under the Investment Advisers
Act of 1940, as amended (the "Advisers Act"). First Trust Advisors L.P. is a
limited partnership with one limited partner, Grace Partners of DuPage L.P.
("Grace Partners"), and one general partner, The Charger Corporation. Grace
Partners is a limited partnership with one general partner, The Charger
Corporation, and a number of limited partners. Grace Partners' and The Charger
Corporation's primary business is investment advisory and broker-dealer services
through their ownership interests. The Charger Corporation is an Illinois
corporation controlled by James A. Bowen, Chief Executive Officer of the
Advisor. First Trust Advisors L.P. is controlled by Grace Partners and The
Charger Corporation.
For additional information concerning First Trust Advisors, including a
description of the services provided, see the SAI under "Investment Advisor."
SUB-ADVISOR
Energy Income Partners serves as the Fund's Sub-Advisor. In this capacity,
Energy Income Partners is responsible for the selection and on-going monitoring
of the securities in the Fund's investment portfolio.
Energy Income Partners, located at 49 Riverside Avenue, Westport, Connecticut
06880, is a registered investment advisor and serves as investment advisor to
investment portfolios with approximately $917 million of assets as of August 31,
2011.
Energy Income Partners is a Delaware limited liability company and an
SEC-registered investment advisor, founded in October 2003 by James J. Murchie
to provide professional asset management services in the area of energy-related
MLPs and other high-payout securities in the energy infrastructure sector. In
addition to serving as sub-advisor to the Fund, Energy Income Partners serves as
the investment manager to three unregistered investment companies and one
private registered investment company for high net worth individuals and
institutions. Energy Income Partners also serves as the sub-advisor to the
Energy Income and Growth Fund (NYSE: FEN). Energy Income Partners mainly focuses
on portfolio companies that operate infrastructure assets such as pipelines,
storage and terminals that receive fee-based or regulated income from their
customers.
First Trust Capital Partners, LLC, an affiliate of the Advisor, owns, through
a wholly-owned subsidiary, a 20% ownership interest in each of the Sub-Advisor
and EIP Partners, LLC, a Delaware limited liability company and affiliate of the
Sub-Advisor. In addition, it is anticipated that an affiliate of the Advisor
will purchase preferred interests in the Sub-Advisor concurrently with the
closing of the offering contemplated by this Prospectus.
James J. Murchie is the Founder, Chief Executive Officer, co portfolio
manager and a Principal of Energy Income Partners. After founding Energy Income
Partners in October 2003, Mr. Murchie and the Energy Income Partners investment
team joined Pequot Capital Management Inc. ("Pequot Capital") in December 2004.
In August 2006, Mr. Murchie and the Energy Income Partners investment team left
Pequot Capital and re-established Energy Income Partners. Prior to founding
Energy Income Partners, Mr. Murchie was a Portfolio Manager at Lawhill Capital
Partners, LLC ("Lawhill Capital"), a long/short equity hedge fund investing in
commodities and equities in the energy and basic industry sectors. Before
Lawhill Capital, Mr. Murchie was a Managing Director at Tiger Management, LLC,
38
where his primary responsibility was managing a portfolio of investments in
commodities and related equities. Mr. Murchie was also a Principal at Sanford C.
Bernstein. He began his career at British Petroleum, PLC. Mr. Murchie holds a BA
from Rice University and an MA from Harvard University.
Eva Pao is a Principal of Energy Income Partners and is co portfolio manager
for all its funds. She has been with EIP since inception in 2003. From 2005 to
mid-2006, Ms. Pao joined Pequot Capital Management during EIP's affiliation with
Pequot. Prior to Harvard Business School, Ms. Pao was a Manager at Enron Corp
where she managed a portfolio in Canadian oil and gas equities for Enron's
internal hedge fund that specialized in energy-related equities and managed a
natural gas trading book. Ms. Pao holds degrees from Rice University and Harvard
Business School.
Linda Longville is the Research Director and a Principal of Energy Income
Partners. Ms. Longville has been with Energy Income Partners since its inception
in 2003, including the time the Energy Income Partners investment team spent at
Pequot Capital between December 2004 and July 2006. From April 2001 through
September 2003, she was a research analyst for Lawhill Capital. Prior to Lawhill
Capital, Ms. Longville held positions in finance and business development at
British Petroleum, PLC and Advanced Satellite Communications, Inc. She has a BAS
from Miami University (Ohio) and an MA from Case Western Reserve University.
Saul Ballesteros is the Head of Trading and a Principal of Energy Income
Partners. Mr. Ballesteros joined Energy Income Partners in 2006 after six years
as a proprietary trader at FPL Group and Mirant Corp. From 1994 through 1999, he
was with Enron's internal hedge fund in various positions of increased
responsibility, and, from 1991 through 1994, Mr. Ballesteros was a manager of
financial planning at IBM. Mr. Ballesteros holds a BS from Duke University and
an MBA from Northwestern University.
For additional information concerning Energy Income Partners, including a
description of the services provided and additional information about the Fund's
portfolio managers, including the portfolio managers' compensation, other
accounts managed by the portfolio managers and the portfolio managers' ownership
of Fund shares, see "Sub-Advisor" in the SAI.
INVESTMENT MANAGEMENT AGREEMENT
Pursuant to an investment management agreement (the "Investment Management
Agreement") between First Trust Advisors and the Fund, the Fund has agreed to
pay for the services and facilities provided by First Trust Advisors an annual
management fee, payable on a monthly basis, equal to 1.00% of the Fund's Managed
Assets.
For purposes of calculation of the management fee, the Fund's "Managed
Assets" means the average daily gross asset value of the Fund (which includes
assets attributable to the Fund's Preferred Shares, if any, and the principal
amount of Borrowings), minus the sum of the Fund's accrued and unpaid dividends
on any outstanding Preferred Shares and accrued liabilities (other than the
principal amount of any Borrowings incurred and the liquidation preference of
any outstanding Preferred Shares).
In addition to the management fee of First Trust Advisors, the Fund pays all
other costs and expenses of its operations, including compensation of its
trustees (other than those affiliated with First Trust Advisors), custodian,
transfer agency, administrative, accounting and dividend disbursing expenses,
legal fees, leverage expenses, expenses of independent auditors, expenses of
repurchasing shares, expenses of preparing, printing and distributing
shareholder reports, notices, proxy statements and reports to governmental
agencies, and taxes, if any.
The Sub-Advisor will receive a portfolio management fee equal to 0.50% of the
Fund's Managed Assets. The Sub-Advisor's fee is paid by the Advisor out of the
Advisor's management fee.
Because the fee paid to the Advisor (and by the Advisor to the Sub-Advisor)
will be calculated on the basis of the Fund's Managed Assets, which include the
proceeds of leverage, the dollar amount of the Advisor's fees from the Fund (and
Sub-Advisor's fees from the Advisor) will be higher (and the Advisor and
Sub-Advisor will be benefited to that extent) when leverage is utilized. In this
regard, if the Fund uses leverage in the amount equal to 30% of the Fund's
Managed Assets (after their issuance), the Fund's management fee would be 1.43%
of net assets attributable to Common Shares. See "Summary of Fund Expenses."
NET ASSET VALUE
The Fund will determine the NAV of its Common Shares daily as of the close of
regular session trading on the NYSE (normally 4:00 p.m. eastern time). NAV is
computed by dividing the value of all assets of the Fund (including option
premiums, accrued interest and dividends), less all Fund liabilities (including
accrued expenses, dividends payable, current and deferred income taxes, any
borrowings of the Fund and the market value of written call options) and the
liquidation value of any outstanding Preferred Shares, by the total number of
shares outstanding. The Fund will rely to some extent on information provided by
39
the MLPs, which is usually not timely, to estimate taxable income allocable to
the MLP units held in the Fund's portfolio. From time to time the Fund will
modify its estimates and/or assumptions as new information becomes available. To
the extent the Fund modifies its estimates and/or assumptions, the NAV of the
Fund would likely fluctuate.
For purposes of determining the NAV of the Fund, readily marketable portfolio
securities listed on any exchange other than The Nasdaq Stock Market are valued,
except as indicated below, at the last sale price on the business day as of
which such value is being determined. If there has been no sale on such day, the
securities are valued at the mean of the most recent bid and asked prices on
such day. Securities admitted to trade on The Nasdaq Stock Market are valued at
the NASDAQ Official Closing Price as determined by NASDAQ. Portfolio securities
traded on more than one securities exchange are valued at the last sale price on
the business day as of which such value is being determined at the close of the
exchange representing the principal market for such securities.
Equity securities traded in the over-the-counter market, but excluding
securities admitted to trading on The Nasdaq Stock Market, will be valued at the
closing bid prices. Fixed-income securities with a remaining maturity of 60 days
or more will be valued by the Fund using a pricing service. When price quotes
are not available, fair market value is based on prices of comparable
securities. Fixed-income securities maturing within 60 days are valued by the
Fund on an amortized cost basis. In the event that market quotations are not
readily available, a pricing service does not provide a valuation for a
particular asset, or the valuations are deemed unreliable, or if events
occurring after the close of the principal markets for particular securities
(e.g., domestic debt and foreign securities), but before the Fund values its
assets, would call into doubt whether the market quotations or pricing service
valuations represent fair value, the Fund may use a fair value method in good
faith to value the Fund's securities and investments. The use of fair value
pricing by the Fund will be governed by valuation procedures established by the
Fund's Board of Trustees, and in accordance with the provisions of the 1940 Act.
When applicable, fair value of securities of an issuer is determined by the
Board or a committee of the Board or a designee of the Board. In fair valuing
the Fund's investments, consideration is given to several factors, which may
include, among others, the following:
o the fundamental business data relating to the issuer;
o an evaluation of the forces which influence the market in which the
securities of the issuer are purchased and sold;
o the type, size and cost of the security;
o the financial statements of the issuer;
o the credit quality and cash flow of the issuer, based on the
Sub-Advisor's or external analysis;
o the information as to any transactions in or offers for the security;
o the price and extent of public trading in similar securities (or
equity securities) of the issuer, or comparable companies;
o the coupon payments;
o the quality, value and saleability of collateral, if any, securing the
security;
o the business prospects of the issuer, including any ability to obtain
money or resources from a parent or affiliate and an assessment of the
issuer's management;
o the prospects for the issuer's industry, and multiples (of earnings
and/or cash flow) being paid for similar businesses in that industry;
and
o other relevant factors.
Any derivative transaction that the Fund enters into may, depending on the
applicable market environment, have a positive or negative value for purposes of
calculating NAV. Any option transaction that the Fund enters into may, depending
on the applicable market environment, have no value or a positive value.
Exchange-traded options and futures contracts are valued at the closing price in
the market where such contracts are principally traded.
DISTRIBUTIONS
The Fund intends to make monthly distributions of its DCF to Common
Shareholders. The Fund anticipates that, due to the tax treatment under current
law of cash distributions made by MLPs in which the Fund will invest, a portion
of distributions the Fund makes to Common Shareholders may consist of a
tax-deferred return of capital. The Board of Trustees has established a target
40
for payment of substantially all DCF to holders of Common Shares on an annual
basis. The Fund's initial distribution is expected to be declared approximately
45 to 60 days after the completion of this offering and paid approximately 60 to
90 days after the completion of this offering, depending on market conditions.
Subsequent distributions will be paid each month out of DCF, if any.
Distributions to Common Shareholders will be recorded on the ex-date and are
determined based on U.S. generally accepted accounting principles, which may
differ from their ultimate characterization for federal income tax purposes.
Distributions made from current and accumulated earnings and profits of the
Fund will be taxable to shareholders as dividend income. Distributions that are
in an amount greater than the Fund's current and accumulated earnings and
profits will represent a tax-deferred return of capital to the extent of a
shareholder's basis in the Common Shares, and such distributions will
correspondingly increase the realized gain upon the sale of the Common Shares.
Additionally, distributions not paid from current and accumulated earnings and
profits that exceed a shareholder's tax basis in the Common Shares will be taxed
as a capital gain. Unless you elect to receive cash distributions, your
distributions of net investment income will automatically be reinvested into
additional Common Shares pursuant to the Fund's Dividend Reinvestment Plan.
Distributions by the Fund, whether paid in cash or in additional Common
Shares, will be taken into account in measuring the performance of the Fund with
respect to its investment objective.
DIVIDEND REINVESTMENT PLAN
If your Common Shares are registered directly with the Fund or if you hold
your Common Shares with a brokerage firm that participates in the Fund's
dividend reinvestment plan (the "Plan"), unless you elect to receive cash
distributions, all dividends and distributions on your Common Shares will be
automatically reinvested by the Plan Agent, BNY Mellon Investment Servicing (US)
Inc., in additional Common Shares under the Plan. If you elect to receive cash
distributions, you will receive all distributions in cash paid by check mailed
directly to you by BNY Mellon Investment Servicing (US) Inc., as dividend paying
agent.
You are automatically enrolled in the Plan when you become a shareholder of
the Fund. As a participant in the Plan, the number of Common Shares you will
receive will be determined as follows:
(1) If the Common Shares are trading at or above NAV at the time of
valuation, the Fund will issue new shares at a price equal to the greater of (i)
NAV per common share on that date or (ii) 95% of the market price on that date.
(2) If Common Shares are trading below NAV at the time of valuation, the Plan
Agent will receive the dividend or distribution in cash and will purchase Common
Shares in the open market, on the NYSE Amex or elsewhere, for the participants'
accounts. It is possible that the market price for the Common Shares may
increase before the Plan Agent has completed its purchases. Therefore, the
average purchase price per share paid by the Plan Agent may exceed the market
price at the time of valuation, resulting in the purchase of fewer shares than
if the dividend or distribution had been paid in Common Shares issued by the
Fund. The Plan Agent will use all dividends and distributions received in cash
to purchase Common Shares in the open market within 30 days of the valuation
date except where temporary curtailment or suspension of purchases is necessary
to comply with federal securities laws. Interest will not be paid on any
uninvested cash payments.
You may elect to opt-out of or withdraw from the Plan at any time by giving
written notice to the Plan Agent, or by telephone at (800) 331-1710, in
accordance with such reasonable requirements as the Plan Agent and Fund may
agree upon. If you withdraw or the Plan is terminated, you will receive a
certificate for each whole share in your account under the Plan and you will
receive a cash payment for any fraction of a share in your account. If you wish,
the Plan Agent will sell your shares and send you the proceeds, minus brokerage
commissions.
The Plan Agent maintains all shareholders' accounts in the Plan and gives
written confirmation of all transactions in the accounts, including information
you may need for tax records. Common Shares in your account will be held by the
Plan Agent in non-certificated form. The Plan Agent will forward to each
participant any proxy solicitation material and will vote any shares so held
only in accordance with proxies returned to the Fund. Any proxy you receive will
include all Common Shares you have received under the Plan.
There is no brokerage charge for reinvestment of your dividends or
distributions in Common Shares. However, all participants will pay a pro rata
share of brokerage commissions incurred by the Plan Agent when it makes
open-market purchases.
Automatically reinvesting dividends and distributions does not mean that you
do not have to pay income taxes due upon receiving dividends and distributions.
See "Tax Matters."
If you hold your Common Shares with a brokerage firm that does not
participate in the Plan, you will not be able to participate in the Plan and any
dividend reinvestment may be effected on different terms than those described
above. Consult your financial advisor for more information.
41
Neither the Fund nor the Plan Agent shall be liable with respect to the Plan
for any act done in good faith or for any good faith omission to act, including,
without limitation, any claim of liability: (i) arising out of failure to
terminate any participant's account upon such participant's death prior to
receipt of notice in writing of such death; and (ii) with respect to the prices
at which Common Shares are purchased and sold for the participant's account and
the times such purchases and sales are made.
The Fund reserves the right to amend or terminate the Plan if in the judgment
of the Board of Trustees the change is warranted. There is no direct service
charge to participants in the Plan; however, the Fund reserves the right to
amend the Plan to include a service charge payable by the participants.
Additional information about the Plan may be obtained from BNY Mellon Investment
Servicing (US) Inc., 301 Bellevue Parkway, Wilmington, Delaware 19809.
DESCRIPTION OF SHARES
COMMON SHARES
The Declaration of Trust authorizes the issuance of an unlimited number of
Common Shares. The Common Shares being offered have a par value of $0.01 per
share and, subject to the rights of the holders of Preferred Shares, if issued,
have equal rights to the payment of dividends and the distribution of assets
upon liquidation. The Common Shares being offered will, when issued, be fully
paid and non-assessable, subject to matters discussed in "Certain Provisions in
the Declaration of Trust and By-Laws," and currently have no preemptive or
conversion rights (except as may otherwise be determined by the Board of
Trustees in their sole discretion) or rights to cumulative voting.
The Common Shares have been approved for listing on the NYSE, subject to
notice of issuance, under the symbol "FIF." The Fund intends to hold annual
meetings of shareholders so long as the Common Shares are listed on a national
securities exchange and such meetings are required as a condition to such
listing.
The NAV of the Common Shares will be reduced immediately following the
offering by the amount of the sales load and offering expenses paid by the Fund.
The Advisor has agreed to pay: (i) all organizational expenses; and (ii) all
offering costs of the Fund (other than sales load, but including the partial
reimbursement of certain underwriter expenses incurred in connection with this
offering) that exceed 0.20% (or $0.04 per Common Share) of the Fund's aggregate
offering price. See "Use of Proceeds."
Unlike open-end funds, closed-end funds like the Fund do not continuously
offer shares and do not provide daily redemptions. Rather, if a shareholder
determines to buy additional Common Shares or sell shares already held, the
shareholder may conveniently do so by trading on the exchange through a broker
or otherwise. Shares of closed-end investment companies may frequently trade on
an exchange at prices lower than NAV. Shares of closed-end investment companies
like the Fund have during some periods traded at prices higher than NAV and
during other periods have traded at prices lower than NAV. Because the market
value of the Common Shares may be influenced by such factors as dividend levels
(which are in turn affected by expenses), dividend stability, portfolio credit
quality, NAV, relative demand for and supply of such shares in the market,
general market and economic conditions, and other factors beyond the control of
the Fund, the Fund cannot assure you that Common Shares will trade at a price
equal to or higher than NAV in the future. The Common Shares are designed
primarily for long-term investors, and investors in the Common Shares should not
view the Fund as a vehicle for trading purposes.
PREFERRED SHARES
The Declaration of Trust provides that the Fund's Board of Trustees may
authorize and issue Preferred Shares with rights as determined by the Board of
Trustees, by action of the Board of Trustees without the approval of the Common
Shareholders. Common Shareholders have no preemptive right to purchase any
Preferred Shares that might be issued.
The Fund may elect to issue Preferred Shares as part of its leverage
strategy. The Fund currently has the ability to issue leverage through
borrowings in an amount up to 33-1/3% of the Fund's Managed Assets less all
liabilities other than borrowings. The Board of Trustees also reserves the right
to authorize the Fund to issue Preferred Shares to the extent permitted by the
1940 Act, which currently limits the aggregate liquidation preference of all
outstanding Preferred Shares plus the principal amount of any outstanding
leverage consisting of debt to 50% of the value of the Fund's Managed Assets
less liabilities and indebtedness of the Fund (other than leverage consisting of
debt). Although the terms of any Preferred Shares, including dividend rate,
liquidation preference and redemption provisions, will be determined by the
Board of Trustees, subject to applicable law and the Declaration of Trust, it is
likely that the Preferred Shares will be structured to carry a relatively
short-term dividend rate reflecting interest rates on short-term bonds, by
providing for the periodic redetermination of the dividend rate at relatively
short intervals through an auction, remarketing or other procedure. The Fund
also believes that it is likely that the liquidation preference, voting rights
and redemption provisions of the Preferred Shares will be similar to those
stated below.
42
Liquidation Preference. In the event of any voluntary or involuntary
liquidation, dissolution or winding up of the Fund, the holders of Preferred
Shares will be entitled to receive a preferential liquidating distribution,
which is expected to equal the original purchase price per Preferred Share plus
accrued and unpaid dividends, whether or not declared, before any distribution
of assets is made to Common Shareholders. After payment of the full amount of
the liquidating distribution to which they are entitled, the holders of
Preferred Shares will not be entitled to any further participation in any
distribution of assets by the Fund.
Voting Rights. The 1940 Act requires that the holders of any Preferred
Shares, voting separately as a single class, have the right to elect at least
two trustees at all times. The remaining trustees will be elected by holders of
Common Shares and Preferred Shares, voting together as a single class. In
addition, subject to the prior rights, if any, of the holders of any other class
of senior securities outstanding, the holders of any Preferred Shares have the
right to elect a majority of the trustees of the Fund at any time that two years
of dividends on any Preferred Shares are unpaid. The 1940 Act also requires
that, in addition to any approval by shareholders that might otherwise be
required, the approval of the holders of a majority of any outstanding Preferred
Shares, voting separately as a class, would be required to: (i) adopt any plan
of reorganization that would adversely affect the Preferred Shares; and (ii)
take any action requiring a vote of security holders under Section 13(a) of the
1940 Act, including, among other things, changes in the Fund's subclassification
as a closed-end investment company or changes in its fundamental investment
restrictions. See "Certain Provisions in the Declaration of Trust and By-Laws."
As a result of these voting rights, the Fund's ability to take any such actions
may be impeded to the extent that there are any Preferred Shares outstanding.
The Board of Trustees presently intends that, except as otherwise indicated in
this prospectus and except as otherwise required by applicable law or the
Declaration of Trust, holders of Preferred Shares will have equal voting rights
with Common Shareholders (one vote per share, unless otherwise required by the
1940 Act) and will vote together with Common Shareholders as a single class.
The affirmative vote of the holders of a majority of the outstanding
Preferred Shares, voting as a separate class, will be required to amend, alter
or repeal any of the preferences, rights or powers of holders of Preferred
Shares so as to affect materially and adversely such preferences, rights or
powers, or to increase or decrease the authorized number of Preferred Shares.
The class vote of holders of Preferred Shares described above will in each case
be in addition to any other vote required to authorize the action in question.
Redemption, Purchase and Sale of Preferred Shares by the Fund. The terms of
any Preferred Shares issued are expected to provide that: (i) they are
redeemable by the Fund in whole or in part at the original purchase price per
share plus accrued dividends per share; (ii) the Fund may tender for or purchase
Preferred Shares; and (iii) the Fund may subsequently resell any shares so
tendered for or purchased. Any redemption or purchase of Preferred Shares by the
Fund will reduce any leverage applicable to the Common Shares, while any resale
of shares by the Fund will increase that leverage.
The discussion above describes the possible offering of Preferred Shares by
the Fund. If the Board of Trustees determines to proceed with such an offering,
the terms of the Preferred Shares may be the same as, or different from, the
terms described above, subject to applicable law and the Fund's Declaration of
Trust. The Board of Trustees, without the approval of the Common Shareholders,
may authorize an offering of Preferred Shares or may determine not to authorize
such an offering, and may fix the terms of the Preferred Shares to be offered.
CERTAIN PROVISIONS IN THE DECLARATION OF TRUST AND BY-LAWS
Under Massachusetts law, shareholders, in certain circumstances, could be
held personally liable for the obligations of the Fund. However, the Declaration
of Trust contains an express disclaimer of shareholder liability for debts or
obligations of the Fund and requires that notice of such limited liability be
given in each agreement, obligation or instrument entered into or executed by
the Fund or the Board of Trustees. The Declaration of Trust further provides for
indemnification out of the assets and property of the Fund for all loss and
expense of any shareholder held personally liable for the obligations of the
Fund. In addition, the Fund will assume the defense of any claim against a
shareholder for personal liability at the request of the shareholder. Thus, the
risk of a shareholder incurring financial loss on account of shareholder
liability is limited to circumstances in which the Fund would be unable to meet
its obligations. The Fund believes that the likelihood of such circumstances is
remote.
The Declaration of Trust requires a Common Shareholder vote only on those
matters where the 1940 Act or the Fund's listing with an exchange require a
Common Shareholder vote, but otherwise permits the Board of Trustees to take
action without seeking the consent of Common Shareholders. For example, the
Declaration of Trust gives the Board of Trustees broad authority to approve
reorganizations between the Fund and another entity, such as another closed-end
fund, and the sale of all or substantially all of its assets without Common
Shareholder approval if the 1940 Act would not require such approval. The
Declaration of Trust further provides that the Board of Trustees may amend the
Declaration of Trust in any respect without Common Shareholder approval. The
Declaration of Trust, however, prohibits amendments that impair the exemption
from personal liability granted in the Declaration of Trust to persons who are
or have been shareholders, trustees, officers or employees of the Fund or that
limit the rights to indemnification or insurance provided in the Declaration of
Trust with respect to actions or omissions of persons entitled to
indemnification under the Declaration of Trust prior to the amendment.
43
The Declaration of Trust and By-Laws include provisions that could limit the
ability of other entities or persons to acquire control of the Fund or to
convert the Fund to open-end status.
The number of trustees is currently five, but by action of two-thirds of the
trustees, the number of trustees may from time to time be increased or
decreased. The Board of Trustees is divided into three classes of trustees
serving staggered three year terms, with the terms of one class expiring at each
annual meeting of shareholders. If the Fund issues Preferred Shares, the Fund
may establish a separate class for the trustees elected by the holders of the
Preferred Shares. Subject to applicable provisions of the 1940 Act, vacancies on
the Board of Trustees may be filled by a majority action of the remaining
trustees. Such provisions may work to delay a change in the majority of the
Board of Trustees. The provisions of the Declaration of Trust relating to the
election and removal of trustees may be amended only by a vote of two-thirds of
the trustees then in office. Generally, the Declaration of Trust requires a vote
by holders of at least two-thirds of the Common Shares and Preferred Shares, if
any, voting together as a single class, except as described below and in the
Declaration of Trust, to authorize: (1) a conversion of the Fund from a
closed-end to an open-end investment company; (2) a merger or consolidation of
the Fund with any corporation, association, trust or other organization,
including a series or class of such other organization (in the limited
circumstances where a vote by shareholders is otherwise required under the
Declaration of Trust); (3) a sale, lease or exchange of all or substantially all
of the Fund's assets (in the limited circumstances where a vote by shareholders
is otherwise required under the Declaration); (4) in certain circumstances, a
termination of the Fund; (5) a removal of trustees by shareholders; or (6)
certain transactions in which a principal shareholder (as defined in the
Declaration of Trust) is a party to the transaction. However, with respect to
(1) above, if there are Preferred Shares outstanding, the affirmative vote of
the holders of two-thirds of the Preferred Shares voting as a separate class
shall also be required. With respect to (2) above, except as otherwise may be
required, if the transaction constitutes a plan of reorganization which
adversely affects Preferred Shares, if any, then an affirmative vote of
two-thirds of the Preferred Shares voting together as a separate class is
required as well. With respect to (1) through (3), if such transaction has
already been authorized by the affirmative vote of two-thirds of the trustees,
then the affirmative vote of the majority of the outstanding voting securities,
as defined in the 1940 Act (a "Majority Shareholder Vote"), is required,
provided that when only a particular class is affected (or, in the case of
removing a trustee, when the trustee has been elected by only one class), only
the required vote of the particular class will be required. Such affirmative
vote or consent shall be in addition to the vote or consent of the holders of
the Fund's shares otherwise required by law or any agreement between the Fund
and any national securities exchange. See the SAI under "Certain Provisions in
the Declaration of Trust and By-Laws."
The provisions of the Declaration of Trust described above could have the
effect of depriving the Common Shareholders of opportunities to sell their
Common Shares at a premium over the then current market price of the Common
Shares by discouraging a third party from seeking to obtain control of the Fund
in a tender offer or similar transaction. The overall effect of these provisions
is to render more difficult the accomplishment of a merger or the assumption of
control by a third party. They provide, however, the advantage of potentially
requiring persons seeking control of the Fund to negotiate with its management
regarding the price to be paid and facilitating the continuity of the Fund's
investment objective and policies. The Board of Trustees of the Fund has
considered the foregoing anti-takeover provisions and concluded that they are in
the best interests of the Fund.
The Declaration of Trust also provides that prior to bringing a derivative
action, a demand must first be made on the Board of Trustees by at least three
unrelated shareholders that hold shares representing at least 5% of the voting
power of the Fund or affected class. The Declaration of Trust details various
information, certifications, undertakings and acknowledgements that must be
included in the demand. Following receipt of the demand, the trustees who are
considered independent for the purposes of considering the demand have a period
of 90 days, which may be extended by an additional 60 days, to consider the
demand. If a majority of the trustees who are considered independent for the
purposes of considering the demand determine that maintaining the suit would not
be in the best interests of the Fund, the Board of Trustees is required to
reject the demand and the complaining shareholders may not proceed with the
derivative action unless the shareholders are able to sustain the burden of
proof to a court that the decision of the Board of Trustees not to pursue the
requested action was not a good faith exercise of their business judgment on
behalf of the Fund. If a demand is rejected, the complaining shareholders will
be responsible for the costs and expenses (including attorneys' fees) incurred
by the Fund in connection with the consideration of the demand under a number of
circumstances. If a derivative action is brought in violation of the Declaration
of Trust, the shareholders bringing the action may be responsible for the Fund's
costs, including attorney's fees. The Declaration of Trust also includes a forum
selection clause requiring that any shareholder litigation be brought in certain
courts in Illinois and further provides that any shareholder bringing an action
against the Fund waive the right to trial by jury to the fullest extent
permitted by law.
Reference should be made to the Declaration of Trust on file with the SEC for
the full text of these provisions.
44
STRUCTURE OF THE FUND; COMMON SHARE REPURCHASES
AND CHANGE IN FUND STRUCTURE
CLOSED-END STRUCTURE
Closed-end funds differ from open-end management investment companies
(commonly referred to as mutual funds) in that closed-end funds generally list
their shares for trading on a securities exchange and do not redeem their shares
at the option of the shareholder. By comparison, mutual funds issue securities
redeemable at NAV at the option of the shareholder and typically engage in a
continuous offering of their shares. Mutual funds are subject to continuous
asset in-flows and out-flows, whereas closed-end funds generally can stay more
fully invested in securities consistent with the closed-end fund's investment
objective and policies. In addition, in comparison to open-end funds, closed-end
funds have greater flexibility in their ability to make certain types of
investments, including investments in illiquid securities.
However, shares of closed-end investment companies listed for trading on a
securities exchange frequently trade at a discount from NAV, but in some cases
trade at a premium. The market price may be affected by trading volume of the
shares, general market and economic conditions and other factors beyond the
control of the closed-end fund. The foregoing factors may result in the market
price of the Common Shares being greater than, less than or equal to NAV. The
Board of Trustees has reviewed the structure of the Fund in light of its
investment objective and policies and has determined that the closed-end
structure is in the best interests of the shareholders. As described below,
however, the Board of Trustees will review periodically the trading range and
activity of the Fund's shares with respect to its NAV, and the Board may take
certain actions to seek to reduce or eliminate any such discount. Such actions
may include open-market repurchases or tender offers for the Common Shares at or
near NAV or the possible conversion of the Fund to an open-end fund. There can
be no assurance that the Board will decide to undertake any of these actions or
that, if undertaken, such actions would result in the Common Shares trading at a
price equal to or close to their NAV. In addition, as noted above, the Board of
Trustees has determined in connection with this initial offering of Common
Shares of the Fund that the closed-end structure is desirable, given the Fund's
investment objective and policies. Investors should assume, therefore, that it
is highly unlikely that the Board would vote to propose to shareholders that the
Fund convert to an open-end investment company.
REPURCHASE OF COMMON SHARES AND TENDER OFFERS
Shares of closed-end funds frequently trade at a discount to their NAV.
Because of this possibility and the recognition that any such discount may not
be in the interest of Common Shareholders, the Board of Trustees might consider
from time to time engaging in open-market repurchases, tender offers for shares
or other programs intended to reduce the discount. The Fund cannot guarantee or
assure, however, that the Board of Trustees will decide to engage in any of
these actions. After any consideration of potential actions to seek to reduce
any significant market discount, the Board of Trustees may, subject to its
fiduciary obligations and compliance with applicable state and federal laws and
the requirements of the principal stock exchange on which the Common Shares are
listed, authorize the commencement of a share repurchase program or tender
offer. The size and timing of any such share repurchase program or tender offer
will be determined by the Board of Trustees in light of the market discount of
the Common Shares, trading volume of the Common Shares, information presented to
the Board of Trustees regarding the potential impact of any such share
repurchase program or tender offer, and general market and economic conditions.
There can be no assurance that the Fund will in fact effect repurchases of or
tender offers for any of its Common Shares. The Fund may, subject to its
investment limitation with respect to borrowings, incur debt to finance such
repurchases or a tender offer or for other valid purposes. Interest on any such
borrowings would increase the Fund's expenses and reduce the Fund's net income.
There can be no assurance that repurchases of Common Shares or tender offers,
if any, will cause the Common Shares to trade at a price equal to or in excess
of their NAV. Nevertheless, the possibility that a portion of the Fund's
outstanding Common Shares may be the subject of repurchases or tender offers may
reduce the spread between market price and NAV that might otherwise exist. In
the opinion of the Fund, sellers may be less inclined to accept a significant
discount in the sale of their Common Shares if they have a reasonable
expectation of being able to receive a price of NAV for a portion of their
Common Shares in conjunction with an announced repurchase program or tender
offer for the Common Shares.
Although the Board of Trustees believes that repurchases or tender offers may
have a favorable effect on the market price of the Common Shares, the
acquisition of Common Shares by the Fund will decrease the Managed Assets of the
Fund and therefore will have the effect of increasing the Fund's expense ratio
and decreasing the asset coverage with respect to any borrowings or Preferred
Shares outstanding. Because of the nature of the Fund's investment objective,
policies and portfolio, the Advisor does not anticipate that repurchases of
Common Shares or tender offers should interfere with the ability of the Fund to
manage its investments in order to seek its investment objective, and do not
anticipate any material difficulty in borrowing money or disposing of portfolio
securities to consummate repurchases of or tender offers for Common Shares,
although no assurance can be given that this will be the case.
45
CONVERSION TO OPEN-END FUND
The Fund may be converted to an open-end investment company at any time if
approved by the holders of two-thirds of the Fund's shares outstanding and
entitled to vote, provided that, unless otherwise required by law, if there are
Preferred Shares outstanding, the affirmative vote of the holders of two-thirds
of the Preferred Shares voting as a separate class shall also be required;
provided, however, that such votes shall be by Majority Shareholder Vote if the
action in question was previously approved by the affirmative vote of two-thirds
of the Board of Trustees. Such affirmative vote or consent shall be in addition
to the vote or consent of the holders of the shares otherwise required by law or
any agreement between the Fund and any national securities exchange. In the
event of conversion, the Common Shares would cease to be listed on the NYSE or
other national securities exchange. Any Preferred Shares or borrowings would
need to be redeemed or repaid upon conversion to an open-end investment company.
The Board of Trustees believes, however, that the closed-end structure is
desirable, given the Fund's investment objective and policies. Investors should
assume, therefore, that it is unlikely that the Board of Trustees would vote to
propose to shareholders that the Fund convert to an open-end investment company.
Shareholders of an open-end investment company may require the company to redeem
their shares at any time (except in certain circumstances as authorized by or
under the 1940 Act) at their NAV, less such redemption charge or contingent
deferred sales charge, if any, as might be in effect at the time of a
redemption. The Fund would expect to pay all such redemption requests in cash,
but would intend to reserve the right to pay redemption requests in a
combination of cash or securities. If such partial payment in securities were
made, investors may incur brokerage costs in converting such securities to cash.
If the Fund were converted to an open-end fund, it is likely that new Common
Shares would be sold at NAV plus a sales load.
TAX MATTERS
This section summarizes some of the main federal income tax consequences of
owning Common Shares of the Fund. This section is current and based upon federal
income tax laws in effect as of the date of this prospectus. Tax laws and
interpretations change frequently, possibly with retroactive effect, and these
summaries do not describe all of the tax consequences to all taxpayers. For
example, these summaries generally do not describe your situation if you are a
non-U.S. person, financial institution, insurance company, investor in a
pass-through entity, person whose "functional currency" is not the U.S. dollar,
tax-exempt organization, broker/dealer, or other investor with special
circumstances. In addition, this section does not describe your state, local or
foreign tax consequences. Unless otherwise noted, the following tax discussion
assumes that you hold Common Shares as a capital asset (generally, property held
for investment).
This federal income tax summary is based in part on the advice of counsel to
the Fund. The Internal Revenue Service could disagree with any conclusions set
forth in this section. In addition, the Fund's counsel was not asked to review,
and has not reached a conclusion with respect to the federal income tax
treatment of the assets to be deposited in the Fund. This may not be sufficient
for you to use for the purpose of avoiding penalties under federal tax law.
As with any investment, you should seek advice based on your individual
circumstances from your own tax advisor.
Fund Status. The Fund intends to elect and to qualify annually as a
"regulated investment company" under the federal tax laws. To qualify, the Fund
must, among other things, satisfy certain requirements relating to the source
and nature of its income and the diversification of its assets. If the Fund
qualifies as a regulated investment company and distributes all of its income in
a timely manner, the Fund generally will not pay federal income or excise taxes.
Distributions. As a regulated investment company, the Fund generally will not
be subject to U.S. federal income tax on its investment company taxable income
(as that term is defined in the Code, but determined without regard to the
deduction for dividends paid) and net capital gain (the excess of net long-term
capital gain over net short-term capital loss), if any, that it distributes to
its Common Shareholders. The Fund intends to distribute to its Common
Shareholders, at least annually, substantially all of its investment company
taxable income and net capital gain. If the Fund retains any net capital gain or
investment company taxable income, it will generally be subject to federal
income tax at regular corporate rates on the amount retained. In addition,
amounts not distributed on a timely basis in accordance with a calendar year
distribution requirement are subject to a nondeductible 4% excise tax unless,
generally, the Fund distributes during each calendar year an amount equal to the
sum of (i) at least 98% of its ordinary income (not taking into account any
capital gains or losses) for the calendar year, (ii) at least 98.2% of its
capital gains in excess of its capital losses (adjusted for certain ordinary
losses) for the one year period ending October 31 of the calendar year, and
(iii) any ordinary income and capital gains for previous years that were not
distributed during those years and on which the Fund did not pay federal income
tax. To prevent application of the 4% excise tax, the Fund intends to make its
distributions in accordance with the calendar year distribution requirement. A
distribution will be treated as paid on December 31 of the current calendar year
if it is declared by the Fund in October, November or December with a record
date in such a month and paid by the Fund during January of the following
calendar year. These distributions will be taxable to shareholders in the
calendar year in which the distributions are declared, rather than the calendar
year in which the distributions are received.
46
Fund distributions will constitute dividends to the extent of the Fund's
current and accumulated earnings and profits. After the end of each year, you
will receive a tax statement that separates your Fund dividends into two
categories, ordinary income distributions and capital gains dividends. Ordinary
income distributions are generally taxed at your ordinary tax rate, but, as
further discussed below, certain ordinary income distributions received from the
Fund may be taxed at tax rates equal to those applicable to net capital gains.
Generally, you will treat all capital gains dividends as long-term capital gains
regardless of how long you have owned your Common Shares. To determine your
actual tax liability for your capital gains dividends, you must calculate your
total net capital gain or loss for the tax year after considering all of your
other taxable transactions, as described below. The Fund may make distributions
in some years in excess of its earnings and profits. To the extent that the Fund
makes distributions in excess of its current and accumulated earnings and
profits, such distributions will represent a return of capital for tax purposes
to the extent of your tax basis in your Common Shares and thus will generally
not be currently taxable to you and will thereafter constitute a capital gain.
The tax status of your distributions from the Fund is not affected by whether
you reinvest your distributions in additional Common Shares or receive them in
cash. The tax laws may require you to treat distributions made to you in January
as if you had received them on December 31 of the previous year. If you own
Common Shares in your own name, under the Plan, any distributions are
automatically reinvested in additional Common Shares unless you opt-out of the
Plan.
Under the "Health Care and Education Reconciliation Act of 2010," income from
the Fund may also be subject to a new 3.8% "Medicare tax" imposed for taxable
years beginning after 2012. This tax will generally apply to your net investment
income if your adjusted gross income exceeds certain threshold amounts, which
are $250,000 in the case of married couples filing joint returns and $200,000 in
the case of single individuals.
Dividends Received Deduction. A corporation that owns Common Shares generally
will not be entitled to the dividends received deduction with respect to
dividends received from the Fund because the dividends received deduction is
generally not available for distributions from regulated investment companies.
However, certain ordinary income distributions on Common Shares that are
attributable to dividends received by the Fund (if any) from certain domestic
corporations may be reported by the Fund as being eligible for the dividends
received deduction. A corporation that owns Common Shares may be eligible to
take a dividends received deduction if such a reporting is made and certain
holding period requirements are met by both the Fund and such corporation.
If You Sell Shares. If you sell your Common Shares, you will generally
recognize capital gain or loss. To determine the amount of this gain or loss,
you must subtract your tax basis in your Common Shares from the amount you
receive in the transaction. Your tax basis in your Common Shares is generally
equal to the cost of your Common Shares, generally including sales charges. In
some cases, however, you may have to adjust your tax basis after you purchase
your Common Shares, such as to account for any distributions which are a return
of capital as discussed above. Any loss realized upon a taxable disposition of
the Common Shares may be disallowed if other substantially identical shares are
acquired within a 61-day period beginning 30 days before and ending 30 days
after the date the original Common Shares are disposed of. If disallowed, the
loss will be reflected by an upward adjustment to the basis of the Common Shares
acquired. In addition, the ability to deduct capital losses may otherwise be
limited.
Taxation of Capital Gains and Losses and Certain Ordinary Income
Distributions. If you are an individual, the maximum marginal federal tax rate
for net capital gain is generally 15%. These capital gains rates are generally
effective for taxable years beginning before January 1, 2013. For later periods,
if you are an individual, the maximum marginal federal tax rate for capital
gains is generally 20%; however, the 20% rate will be reduced to 18% for net
capital gains from most property acquired after December 31, 2000 with a holding
period of more than five years.
Net capital gain equals net long-term capital gain minus net short-term
capital loss for the taxable year. Capital gain or loss is long-term if the
holding period for the asset is more than one year and is short-term if the
holding period for the asset is one year or less. You must exclude the date you
purchase your Common Shares to determine your holding period. However, if you
receive a capital gain dividend from the Fund (or amounts are designated as
undistributed capital gains with respect to your Common Shares) and sell your
Common Shares at a loss after holding it for six months or less, the loss will
be recharacterized as long-term capital loss to the extent of the capital gain
dividend received (or amounts designated as undistributed capital gains). The
tax rates for capital gains realized from assets held for one year or less are
generally the same as for ordinary income. For individual taxpayers, however,
long-term capital gains are currently eligible for reduced rates of taxation.
The Code treats certain capital gains as ordinary income in special situations.
A portion of the ordinary income distributions received by an individual
shareholder from a regulated investment company such as the Fund generally will
be taxed at the same new rates that apply to net capital gain (as discussed
above), but only if certain holding period requirements are satisfied by both
the regulated investment company and the shareholder and provided the dividends
are attributable to qualified dividends received by the regulated investment
company itself. For this purpose, qualified dividends mean dividends received by
the Fund from U.S. corporations and qualifying foreign corporations, provided
that the Fund satisfies certain holding period and other requirements in respect
of the stock of such corporations. These special rules relating to the taxation
47
of ordinary income distributions from regulated investment companies generally
apply to taxable years beginning before January 1, 2013. The Fund will provide
notice to its shareholders of the amount of any distribution which may be taken
into account as a dividend which is eligible for the capital gains tax rates.
Foreign Tax Credit. Investment income that may be received by the Fund from
sources within foreign countries may be subject to foreign taxes withheld at the
source. The United States has entered into tax treaties with many foreign
countries that entitle the Fund to a reduced rate of, or exemption from, taxes
on such income. If more than 50% of the value of the Fund's total assets at the
close of the taxable year consists of stock or securities of foreign
corporations, the Fund may elect to "pass through" to the Fund's Common
Shareholders the amount of foreign taxes paid by the Fund. If the Fund so
elects, each Common Shareholder would be required to include in gross income,
even though not actually received, his pro rata share of the foreign taxes paid
by the Fund, but would be treated as having paid his pro rata share of such
foreign taxes and would therefore be allowed to either deduct such amount in
computing taxable income or use such amount (subject to various Code
limitations) as a foreign tax credit against federal income tax (but not both).
For purposes of the foreign tax credit limitation rules of the Code, each Common
Shareholder would treat as foreign source income his pro rata share of such
foreign taxes plus the portion of dividends received from the Fund representing
income derived from foreign sources. No deduction for foreign taxes could be
claimed by an individual Common Shareholder who does not itemize deductions. In
certain circumstances, a Common Shareholder that (i) has held Common Shares of
the Fund for less than a specified minimum period during which it is not
protected from risk of loss or (ii) is obligated to make payments related to the
dividends will not be allowed a foreign tax credit for foreign taxes deemed
imposed on dividends paid on such Common Shares. Additionally, the Fund must
also meet this holding period requirement with respect to its foreign stocks and
securities in order for "creditable" taxes to flow-through. Each Common
Shareholder should consult his own tax advisor regarding the potential
application of foreign tax credits.
Investments in Certain Foreign Corporations. The Fund expects to invest a
portion of its portfolio in non-U.S. securities. If the Fund holds an equity
interest in any "passive foreign investment companies" ("PFICs"), which are
generally certain foreign corporations that receive at least 75% of their annual
gross income from passive sources (such as interest, dividends, certain rents
and royalties or capital gains) or that hold at least 50% of their assets in
investments producing such passive income, the Fund could be subject to U.S.
federal income tax and additional interest charges on gains and certain
distributions with respect to those equity interests, even if all the income or
gain is timely distributed to its shareholders. The Fund will not be able to
pass through to its shareholders any credit or deduction for such taxes. The
Fund may be able to make an election that could ameliorate these adverse tax
consequences. In this case, the Fund would recognize as ordinary income any
increase in the value of such PFIC shares, and as ordinary loss any decrease in
such value to the extent it did not exceed prior increases included in income.
Under this election, the Fund might be required to recognize in a year income in
excess of its distributions from PFICs and its proceeds from dispositions of
PFIC stock during that year, and such income would nevertheless be subject to
the distribution requirement for taxation as a regulated investment company and
would be taken into account for purposes of the 4% excise tax. Dividends paid by
PFICs will not be treated as qualified dividend income.
Backup Withholding. The Fund may be required to withhold, for U.S. federal
income taxes, a portion of all taxable dividends and redemption proceeds payable
to shareholders who fail to provide the Fund with their correct taxpayer
identification numbers or who otherwise fail to make required certifications, or
if the Fund or a shareholder has been notified by the Internal Revenue Service
that such shareholder is subject to backup withholding. Corporate shareholders
and certain other shareholders under federal tax laws are generally exempt from
such backup withholding. Backup withholding is not an additional tax. Any
amounts withheld will be allowed as a refund or credit against the shareholder's
federal income tax liability if the appropriate information is provided to the
Internal Revenue Service.
Alternative Minimum Tax. As with any taxable investment, investors may be
subject to the federal alternative minimum tax on their income (including
taxable income from the Fund), depending on their individual circumstances.
Further Information. The SAI summarizes further federal income tax
considerations that may apply to the Fund and its shareholders and may qualify
the considerations discussed herein.
48
UNDERWRITERS
Under the terms and subject to the conditions contained in the underwriting
agreement, dated the date of this prospectus, the underwriters named below, for
whom Morgan Stanley & Co. LLC, Citigroup Global Markets Inc. and Merrill Lynch,
Pierce, Fenner & Smith Incorporated are acting as representatives (the
"Representatives"), have severally agreed to purchase, and the Fund has agreed
to sell to them, the number of Common Shares indicated below.
NUMBER OF
UNDERWRITER SHARES
------------------------------------------------------------------------------------------------------
Morgan Stanley & Co. LLC............................................................ 3,550,000
Citigroup Global Markets Inc........................................................ 4,350,000
Merrill Lynch, Pierce, Fenner & Smith
Incorporated............................................................. 3,750,000
Oppenheimer & Co. Inc............................................................... 875,000
RBC Capital Markets, LLC ........................................................... 1,550,000
Robert W. Baird & Co. Incorporated.................................................. 225,000
BB&T Capital Markets, a division of Scott & Stringfellow, LLC....................... 135,000
Chardan Capital Markets, LLC ....................................................... 275,000
J.J.B. Hilliard, W.L. Lyons, LLC ................................................... 255,000
Janney Montgomery Scott LLC......................................................... 140,000
Ladenburg Thalmann & Co. Inc........................................................ 210,000
MaximGroup LLC ..................................................................... 37,000
Wedbush Securities Inc.............................................................. 105,000
Wunderlich Securities, Inc.......................................................... 95,000
Brean Murray, Carret & Co., LLC..................................................... 11,000
Capitol Securities Management Incorporated.......................................... 17,000
D.A. Davidson & Co.................................................................. 70,000
David A. Noyes & Company............................................................ 23,000
Dominick & Dominick LLC............................................................. 28,000
Feltl and Company................................................................... 9,000
Geoffrey Richards Securities Corp................................................... 90,000
Gilford Securities Incorporated..................................................... 55,000
Huntleigh Securities Corporation.................................................... 26,000
LaSalle Street Securities, LLC...................................................... 10,000
Matrix Capital Group, Inc........................................................... 95,000
Morgan Keegan & Company, Inc........................................................ 245,000
Muriel Siebert & Co., Inc........................................................... 10,000
Newbridge Securities Corporation.................................................... 32,000
Paulson Investment Company, Inc..................................................... 80,000
Pershing LLC........................................................................ 410,000
J. P. Turner & Company, L.L.C....................................................... 22,000
Source Capital Group, Inc........................................................... 30,000
Southwest Securities, Inc........................................................... 85,000
Stifel Nicolaus Weisel.............................................................. 160,000
Synovus Securities, Inc............................................................. 100,000
Wayne Hummer Investments L.L.C...................................................... 90,000
-----------
Total ....................................................................... 17,250,000
===========
The underwriters are offering the Common Shares subject to their acceptance
of the shares from the Fund and subject to prior sale. The underwriting
agreement provides that the obligations of the several underwriters to pay for
and accept delivery of the Common Shares offered by this prospectus are subject
to the approval of legal matters by their counsel and to certain other
conditions. The underwriters are obligated to take and pay for all of the Common
Shares offered by this prospectus if any such shares are taken. However, the
underwriters are not required to take or pay for the Common Shares covered by
the underwriters' over-allotment option described below.
The underwriters initially propose to offer part of the Common Shares
directly to the public at the public offering price listed on the cover page of
this prospectus and part to certain dealers at a price that represents a
concession not in excess of $0.60 per Common Share under the public offering
price. After the initial offering of the Common Shares, the offering price and
other selling terms may from time to time be varied by the Representatives. The
underwriting discounts and commissions (sales load) of $0.90 per Common Share
are equal to 4.50% of the public offering price. Investors must pay for any
Common Shares purchased on or before September 30, 2011.
49
The Fund has granted to the underwriters an option, exercisable for 45 days
from the date of this prospectus, to purchase up to an aggregate of 2,518,115
Common Shares at the public offering price per Common Share listed on the cover
page of this prospectus, less underwriting discounts and commissions. The
underwriters may exercise this option solely for the purpose of covering
over-allotments, if any, made in connection with the offering of the Common
Shares offered by this prospectus. To the extent the option is exercised, each
underwriter will become obligated, subject to limited conditions, to purchase
approximately the same percentage of the additional Common Shares as the number
listed next to the underwriter's name in the preceding table bears to the total
number of Common Shares listed next to the names of all underwriters in the
preceding table. If the underwriters' over-allotment option is exercised in
full, the total public offering price would be $395,362,300, the total
underwriters' discounts and commissions (sales load) would be $17,791,304 and
the total proceeds, after expenses, to the Fund would be $376,780,272.
The following table summarizes the estimated expenses (assuming the Fund
issues 17,250,000 Common Shares) and compensation that the Fund will pay:
PER COMMON SHARE TOTAL
WITHOUT WITH WITHOUT WITH
OVER-ALLOTMENT OVER-ALLOTMENT OVER-ALLOTMENT OVER-ALLOTMENT
Public offering price $ 20.00 $ 20.00 $ 345,000,000 $ 395,362,300
Sales load $ 0.90 $ 0.90 $ 15,525,000 $ 17,791,304
Estimated offering expenses $ 0.04 $ 0.04 $ 690,000 $ 790,725
Proceeds, after expenses, to the Fund $ 19.06 $ 19.06 $ 328,785,000 $ 376,780,272
The fees to certain underwriters described below under "--Additional
Compensation to Be Paid by the Advisor and Sub-Advisor" are not reimbursable to
the Advisor or Sub-Advisor by the Fund, and are therefore not reflected in
expenses payable by the Fund in the table above.
Offering expenses paid by the Fund (other than the sales load) will not
exceed $0.04 per Common Share sold by the Fund in this offering. If the offering
expenses referred to in the preceding sentence exceed this amount, the Advisor
and Sub-Advisor will pay the excess. The aggregate offering expenses (excluding
the sales load) to be borne by the Fund are estimated to be $690,000 in total
(or $790,725 if the underwriters exercise their over-allotment option in full).
See "Summary of Fund Expenses."
The underwriters have informed the Fund that they do not intend sales to
discretionary accounts to exceed five percent of the total number of Common
Shares offered by them.
In order to meet requirements for listing the Common Shares on the NYSE, the
underwriters have undertaken to sell lots of 100 or more shares to a minimum of
400 beneficial owners in the United States. The minimum investment requirement
is 100 Common Shares ($2,000).
The Common Shares have been approved for listing on the NYSE, subject to
notice of issuance, under the symbol "FIF."
The Fund has agreed that, without the prior written consent of the
Representatives on behalf of the underwriters, it will not, during the period
ending 180 days after the date of this prospectus, (1) offer, pledge, sell,
contract to sell, sell any option or contract to purchase, purchase any option
or contract to sell, grant any option, right or warrant to purchase, lend, or
otherwise transfer or dispose of, directly or indirectly, any Common Shares or
any securities convertible into or exercisable or exchangeable for Common Shares
or (2) enter into any swap or other arrangement that transfers to another, in
whole or in part, any of the economic consequences of ownership of the Common
Shares, whether any such transaction described in clause (1) or (2) above is to
be settled by delivery of Common Shares or such other securities, in cash or
otherwise or (3) file any registration statement with the Commission relating to
the offering of any Common Shares or any securities convertible into or
exercisable or exchangeable for Common Shares. In the event that either (x)
during the last 17 days of the 180-day period referred to above, the Fund issues
an earnings release or material news or a material event relating to the Fund
occurs or (y) prior to the expiration of such 180-day period, the Fund announces
that it will release earnings results during the 16-day period beginning on the
last day of such 180-day period, the restrictions described above shall continue
to apply until the expiration of the 18-day period beginning on the date of the
earnings release or the occurrence of the material news or material event, as
applicable. This lock-up agreement will not apply to the Common Shares to be
sold pursuant to the underwriting agreement or any Common Shares issued pursuant
to the Plan.
In order to facilitate the offering of Common Shares, the underwriters may
engage in transactions that stabilize, maintain or otherwise affect the price of
the Common Shares. The underwriters currently expect to sell more Common Shares
than they are obligated to purchase under the underwriting agreement, creating a
short position in the Common Shares for their own account. A short sale is
covered if the short position is no greater than the number of Common Shares
available for purchase by the underwriters under the over-allotment option
(exercisable for 45 days from the date of this prospectus). The underwriters can
close out a covered short sale by exercising the over-allotment option or
purchasing Common Shares in the open market. In determining the source of Common
Shares to close out a covered short sale, the underwriters will consider, among
other things, the open-market price of the Common Shares compared to the price
available under the over-allotment option. The underwriters may also sell Common
Shares in excess of the over-allotment option, creating a naked short position.
50
The underwriters must close out any naked short position by purchasing Common
Shares in the open market. A naked short position is more likely to be created
if the underwriters are concerned that there may be downward pressure on the
price of the Common Shares in the open market after pricing that could adversely
affect investors who purchase in the offering. As an additional means of
facilitating the offering, the underwriters may bid for, and purchase, Common
Shares in the open market to stabilize the price of the Common Shares. Finally,
the underwriting syndicate may also reclaim selling concessions allowed to an
underwriter or a dealer for distributing the Common Shares in the offering, if
the syndicate repurchases previously distributed Common Shares in transactions
to cover syndicate short positions or to stabilize the price of the Common
Shares. Any of these activities may raise or maintain the market price of the
Common Shares above independent market levels or prevent or retard a decline in
the market price of the Common Shares. The underwriters are not required to
engage in these activities, and may end any of these activities at any time.
Prior to this offering, there has been no public or private market for the
Common Shares or any other securities of the Fund. Consequently, the offering
price for the Common Shares was determined by negotiation among the Fund, the
Advisor, the Sub-Advisor and the Representatives. There can be no assurance,
however, that the price at which the Common Shares trade after this offering
will not be lower than the price at which they are sold by the underwriters or
that an active trading market in the Common Shares will develop and continue
after this offering.
The Fund anticipates that the Representatives and certain other underwriters
may from time to time act as brokers and dealers in connection with the
execution of its portfolio transactions after they have ceased to act as
underwriters and, subject to certain restrictions, may act as such brokers while
they act as underwriters.
In connection with this offering, certain of the underwriters or selected
dealers may distribute prospectuses electronically. The Fund, the Advisor, the
Sub-Advisor and the underwriters have agreed to indemnify each other against
certain liabilities, including liabilities under the 1933 Act.
The underwriters and their respective affiliates are full service financial
institutions engaged in various activities, which may include securities
trading, commercial and investment banking, financial advisory, investment
management, principal investment, hedging, financing and brokerage activities.
Certain of the underwriters or their respective affiliates from time to time
have provided in the past, and may provide in the future, investment banking,
securities trading, hedging, brokerage activities, commercial lending and
financial advisory services to the Fund, certain of its executive officers and
affiliates and the Advisor, the Sub-Advisor and their affiliates in the ordinary
course of business, for which they have received, and may receive, customary
fees and expenses.
No action has been taken in any jurisdiction (except in the United States)
that would permit a public offering of the Common Shares, or the possession,
circulation or distribution of this prospectus or any other material relating to
the Fund or the Common Shares in any jurisdiction where action for that purpose
is required. Accordingly, the Common Shares may not be offered or sold, directly
or indirectly, and neither this prospectus nor any other offering material or
advertisements in connection with the Common Shares may be distributed or
published, in or from any country or jurisdiction except in compliance with the
applicable rules and regulations of any such country or jurisdiction.
Prior to the public offering of Common Shares, the Advisor or an affiliate
will purchase Common Shares from the Fund in an amount satisfying the net worth
requirements of Section 14(a) of the 1940 Act.
The principal business address of Morgan Stanley & Co. LLC is 1585 Broadway,
New York, New York 10036, the principal business address of Citigroup Global
Markets Inc. is 388 Greenwich Street, New York, New York 10013 and the principal
business address of Merrill Lynch, Pierce, Fenner & Smith Incorporated is One
Bryant Park, New York, New York 10036.
ADDITIONAL COMPENSATION TO BE PAID BY THE ADVISOR AND SUB-ADVISOR
The Advisor and Sub-Advisor (and not the Fund) have agreed to pay Morgan
Stanley & Co. LLC, Citigroup Global Markets Inc., Merrill Lynch, Pierce, Fenner
& Smith Incorporated and RBC Capital Markets, LLC from their own assets,
structuring fees in the amount of $1,038,046.86, $1,271,515.86, $1,023,312.75
and $134,950.00, respectively, for advice relating to the structure, design and
organization of the Fund, including, without limitation, views from an investor
market and distribution perspective on (i) diversification, proportion and
concentration approaches for the Fund's investments in light of current market
conditions, (ii) marketing issues with respect to the Fund's investment policies
and proposed investments, (iii) the proportion of the Fund's assets to invest in
the Fund's strategies and (iv) the overall marketing and positioning thesis for
the offering of the Common Shares. The structuring fees paid to Morgan Stanley &
Co. LLC, Citigroup Global Markets Inc., Merrill Lynch, Pierce, Fenner & Smith
Incorporated and RBC Capital Markets, LLC will not exceed 0.30%, 0.37%, 0.30%
and 0.04%, respectively, of the total public offering price of the Common
Shares. These fees are calculated based on the total public offering price of
the Common Shares sold by Morgan Stanley & Co. LLC, Citigroup Global Markets
Inc., Merrill Lynch, Pierce, Fenner & Smith Incorporated and RBC Capital
Markets, LLC in the offering, including Common Shares attributable to the
underwriters' over-allotment option (regardless of whether the over-allotment
option is exercised). These services provided by Morgan Stanley & Co. LLC,
51
Citigroup Global Markets Inc., Merrill Lynch, Pierce, Fenner & Smith
Incorporated and RBC Capital Markets, LLC to the Advisor and Sub-Advisor are
unrelated to the Advisor's and Sub-Advisor's respective functions of advising
the Fund as to its investments in securities or use of investment strategies and
investment techniques.
The Advisor and Sub-Advisor (and not the Fund) have agreed to pay Morgan
Stanley & Co. LLC from their own assets, a syndication fee in the amount of
$2,415,775.80 for advice relating to (i) securing syndicate participants in the
Fund's initial public offering, (ii) preparation of marketing and diligence
materials for underwriters, (iii) conveying information and market updates to
the underwriters, and (iv) coordinating syndicate orders in this offering. The
syndication fee paid to Morgan Stanley & Co. LLC will not exceed 0.70% of the
total public offering price of the Common Shares. These services provided by
Morgan Stanley & Co. LLC to the Advisor and Sub-Advisor are unrelated to their
respective functions of advising the Fund as to its investments in securities or
use of investment strategies and investment techniques.
As part of the Fund's payment of its offering expenses, the Fund has agreed
to pay expenses related to the reasonable fees and disbursements of counsel to
the underwriters in connection with the review by the Financial Industry
Regulatory Authority, Inc. ("FINRA") of the terms of the sale of the Common
Shares.
Total underwriting compensation determined in accordance with FINRA rules
is summarized as follows. The sales load the Fund will pay of $0.90 per Common
Share is equal to 4.5% of gross proceeds. The Advisor and Sub-Advisor (and not
the Fund) will pay structuring fees and, if applicable, syndication fees to
Morgan Stanley & Co. LLC, Citigroup Global Markets Inc., Merrill Lynch, Pierce,
Fenner & Smith Incorporated and RBC Capital Markets, LLC, as described above,
which will not exceed $5,883,601.27. Total compensation to the underwriters,
including expense reimbursements, will not exceed 6.21% of gross proceeds of the
offering.
52
CUSTODIAN, ADMINISTRATOR, FUND ACCOUNTANT AND TRANSFER AGENT
The custodian of the assets of the Fund is The Bank of New York Mellon, One
Wall Street, New York, New York 10286. The Fund's transfer, shareholder services
and dividend paying agent is BNY Mellon Investment Servicing (US) Inc., 301
Bellevue Parkway, Wilmington, Delaware 19809. Pursuant to an administration and
accounting services agreement, BNY Mellon Investment Servicing (US) Inc. also
provides certain administrative and accounting services to the Fund, including
maintaining the Fund's books of account, records of the Fund's securities
transactions, and certain other books and records; acting as liaison with the
Fund's independent registered public accounting firm by providing such
accountant with various audit-related information with respect to the Fund; and
providing other continuous accounting and administrative services. As
compensation for these services, the Fund has agreed to pay The Bank of New York
Mellon and BNY Mellon Investment Servicing (US) Inc. an annual fee, calculated
daily and payable on a monthly basis, of 0.095% of the Fund's first $200 million
of average net assets, subject to decrease with respect to additional Fund net
assets.
LEGAL OPINIONS
Certain legal matters in connection with the Common Shares will be passed
upon for the Fund by Chapman and Cutler LLP, Chicago, Illinois, and for the
Underwriters by Simpson Thacher & Bartlett LLP. Chapman and Cutler LLP and
Simpson Thacher & Bartlett LLP may rely as to certain matters of Massachusetts
law on the opinion of Bingham McCutchen LLP.
53
TABLE OF CONTENTS FOR THE
STATEMENT OF ADDITIONAL INFORMATION
PAGE
Use of Proceeds .......................................................... 1
Investment Objective ..................................................... 1
Investment Restrictions .................................................. 2
Investment Policies and Techniques ....................................... 4
Additional Information About the Fund's Investments and
Investment Risks....................................................... 6
Other Investment Policies and Techniques ................................. 15
Management of the Fund ................................................... 26
Investment Advisor ....................................................... 36
Sub-Advisor .............................................................. 38
Proxy Voting Policies and Procedures...................................... 41
Portfolio Transactions and Brokerage ..................................... 41
Description of Shares..................................................... 43
Certain Provisions in the Declaration of Trust and By-Laws................ 45
Repurchase of Fund Shares; Conversion to Open-End Fund ................... 49
Federal Income Tax Matters ............................................... 51
Performance Related and Comparative Information .......................... 60
Independent Registered Public Accounting Firm ............................ 62
Custodian, Administrator, Fund Accountant and Transfer Agent ............. 63
Additional Information ................................................... 63
Report of Independent Registered Public Accounting Firm................... 64
Statement of Assets and Liabilities....................................... 65
Appendix A--Ratings of Investments ....................................... A-1
Appendix B--Energy Income Partners, LLC Proxy Voting
Policies and Procedures................................................... B-1
54
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55
17,250,000 SHARES
FIRST TRUST ENERGY INFRASTRUCTURE FUND
COMMON SHARES
$20.00 PER SHARE
------------------
PROSPECTUS
September 27, 2011
------------------
MORGAN STANLEY
CITIGROUP
BOFA MERRILL LYNCH
OPPENHEIMER & CO.
RBC CAPITAL MARKETS
BAIRD
BB&T CAPITAL MARKETS
CHARDAN CAPITAL MARKETS, LLC
J.J.B. HILLIARD, W.L. LYONS, LLC
JANNEY MONTGOMERY SCOTT
LADENBURG THALMANN & CO. INC.
MAXIM GROUP LLC
WEDBUSH SECURITIES INC.
WUNDERLICH SECURITIES
Until October 22, 2011 (25 days after the date of this prospectus), all
dealers that buy, sell or trade the Common Shares, whether or not participating
in this offering, may be required to deliver a prospectus. This is in addition
to the dealers' obligation to deliver a prospectus when acting as Underwriters
and with respect to their unsold allotments or subscriptions.
FIRST TRUST ENERGY INFRASTRUCTURE FUND
STATEMENT OF ADDITIONAL INFORMATION
First Trust Energy Infrastructure Fund (the "Fund") is a newly organized,
non-diversified, closed-end management investment company.
This Statement of Additional Information relating to the common shares of
beneficial interest of the Fund (the "Common Shares") is not a prospectus, but
should be read in conjunction with the Fund's Prospectus dated September 27,
2011 (the "Prospectus"). This Statement of Additional Information does not
include all information that a prospective investor should consider before
purchasing Common Shares. Investors should obtain and read the Prospectus prior
to purchasing such Common Shares. A copy of the Fund's Prospectus may be
obtained without charge by calling (800) 988-5891. You also may obtain a copy of
the Prospectus on the Securities and Exchange Commission's ("SEC") website
(http://www.sec.gov). Capitalized terms used but not defined in this Statement
of Additional Information have the meanings ascribed to them in the Prospectus.
This Statement of Additional Information is dated September 27, 2011.
TABLE OF CONTENTS
Page
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USE OF PROCEEDS................................................................1
INVESTMENT OBJECTIVE...........................................................1
INVESTMENT RESTRICTIONS........................................................2
INVESTMENT POLICIES AND TECHNIQUES.............................................4
ADDITIONAL INFORMATION ABOUT THE FUND'S INVESTMENTS AND
INVESTMENT RISKS...............................................................6
OTHER INVESTMENT POLICIES AND TECHNIQUES......................................15
MANAGEMENT OF THE FUND........................................................26
INVESTMENT ADVISOR............................................................36
SUB-ADVISOR...................................................................38
PROXY VOTING POLICIES AND PROCEDURES..........................................41
PORTFOLIO TRANSACTIONS AND BROKERAGE..........................................41
DESCRIPTION OF SHARES.........................................................43
CERTAIN PROVISIONS IN THE DECLARATION OF TRUST AND BY-LAWS....................45
REPURCHASE OF FUND SHARES; CONVERSION TO OPEN-END FUND........................49
FEDERAL INCOME TAX MATTERS....................................................51
PERFORMANCE RELATED AND COMPARATIVE INFORMATION...............................60
INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM.................................62
CUSTODIAN, ADMINISTRATOR, FUND ACCOUNTANT AND TRANSFER AGENT..................63
ADDITIONAL INFORMATION........................................................63
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM.......................64
STATEMENT OF ASSETS AND LIABILITIES...........................................65
APPENDIX A -- RATINGS OF INVESTMENTS.........................................A-1
APPENDIX B -- ENERGY INCOME PARTNERS, LLC PROXY VOTING POLICIES
AND PROCEDURES.................................................B-1
-i-
USE OF PROCEEDS
The net proceeds of the offering of Common Shares of the Fund will be
approximately $328,785,000 ($376,780,272 if the Underwriters exercise the
overallotment option in full) after payment of the estimated organizational
expenses and offering costs. The Fund expects it will be able to invest
substantially all of the net proceeds of the offering in securities and other
instruments that meet the investment objective and policies within 45 to 60 days
after completion of the offering. Pending such investment, it is anticipated
that the net proceeds will be invested in cash or cash equivalents.
First Trust Advisors L.P. ("First Trust Advisors" or "Advisor") and Energy
Income Partners, LLC ("Energy Income Partners" or the "Sub-Advisor") have agreed
to pay (i) all organizational expenses; and (ii) all offering costs of the Fund
(other than sales load) that exceed 0.20% (or $0.04 per Common Share) of the
Fund's aggregate offering price.
INVESTMENT OBJECTIVE
The Fund's investment objective is to seek a high level of total return
with an emphasis on current distributions paid to shareholders. For purposes of
the Fund's investment objective, total return includes capital appreciation of,
and all distributions received from, securities in which the Fund invests
regardless of the tax character of the distributions. The Fund seeks to provide
its common shareholders with an efficient vehicle to invest in a portfolio of
cash generating securities of companies in the energy infrastructure sector.
The Fund's investment objective is considered fundamental and may not be
changed without shareholder approval. The remainder of the Fund's investment
policies, including its investment strategy, are considered non-fundamental and
may be changed by the Board of Trustees without shareholder approval, provided
that shareholders receive at least 60 days prior written notice of any change.
When used with respect to particular shares of the Fund, a "majority of the
outstanding" shares means (i) 67% or more of the shares present at a meeting, if
the holders of more than 50% of the shares are present or represented by proxy,
or (ii) more than 50% of the shares, whichever is less.
The Fund will seek to achieve this objective by investing primarily in
publicly-traded master limited partnerships and limited liability companies
taxed as partnerships ("MLPs"), MLP affiliates, Canadian income trusts and their
successor companies (collectively, "Canadian Income Equities"), pipeline
companies, utilities, and other companies that derive at least 50% of their
revenues from operating or providing services in support of infrastructure
assets such as pipelines, power transmission and petroleum and natural gas
storage in the petroleum, natural gas and power generation industries
(collectively, "Energy Infrastructure Companies").
The Common Shares may trade at a discount or premium to net asset value
("NAV"). An investment in the Fund may not be appropriate for all investors and
is not intended to be a complete investment program. No assurance can be given
that the Fund will achieve its investment objective or that the Fund will earn a
return on its assets, and you may lose some or all of your investment. For
further discussion of the Fund's portfolio composition and associated special
risk considerations, see "The Fund's Investments" and "Risks" in the Prospectus.
INVESTMENT RESTRICTIONS
FUNDAMENTAL INVESTMENT POLICIES
The Fund's investment objective and certain investment policies of the
Fund are described in the Prospectus. The Fund, as a fundamental policy, may
not:
1. Borrow money, except as permitted by the 1940 Act. For a
further discussion of the limitations imposed on borrowing by the 1940
Act, please see the section entitled "Leverage Program" in the Fund's
Prospectus.
2. Issue senior securities, as defined in the 1940 Act, other than
(i) preferred shares which immediately after issuance will have asset
coverage of at least 200%, (ii) indebtedness which immediately after
issuance will have asset coverage of at least 300%, or (iii) the
borrowings permitted by investment restriction (1) set forth above.
3. Purchase or sell real estate, but this shall not prevent the
Fund from investing in securities of companies that deal in real estate or
are engaged in the real estate business, including real estate investment
trusts, and securities secured by real estate or interests therein and the
Fund may hold and sell real estate or mortgages on real estate acquired
through default, liquidation, or other distributions of an interest in
real estate as a result of the Fund's ownership of such securities.
4. Act as underwriter of another issuer's securities, except to
the extent that the Fund may be deemed to be an underwriter within the
meaning of the Securities Act in connection with the purchase and sale of
portfolio securities.
5. Make loans of funds or other assets, other than by entering
into repurchase agreements, lending portfolio securities and through the
purchase of securities in accordance with its investment objective,
policies and limitations.
6. Purchase or sell physical commodities unless acquired as a
result of ownership of securities or other instruments (but this shall not
prevent the Fund from purchasing or selling options, futures contracts,
derivative instruments or from investing in securities or other
instruments backed by physical commodities).
7. Concentrate (invest 25% or more of total assets) the Fund's
investments in any particular industry, except that the Fund will
concentrate its assets in any of the group of industries constituting the
energy infrastructure sector.
Except as noted above, the foregoing fundamental investment policies,
together with the investment objective of the Fund, cannot be changed without
approval by holders of a majority of the outstanding voting securities of the
-2-
Fund, as defined in the 1940 Act, which includes Common Shares and Preferred
Shares, if any, voting together as a single class, and of the holders of the
outstanding Preferred Shares voting as a single class. Under the 1940 Act, a
"majority of the outstanding voting securities" means the vote of: (i) 67% or
more of the Fund's shares present at a meeting, if the holders of more than 50%
of the Fund's shares are present or represented by proxy, or (ii) more than 50%
of the Fund's shares, whichever is less.
NON-FUNDAMENTAL INVESTMENT POLICIES
The Fund has adopted the following non-fundamental policies:
o Under normal market conditions, the Fund invests at least 80% of
its Managed Assets (including assets obtained through leverage) in
securities of Energy Infrastructure Companies.
o The Fund will invest in equity securities such as common stocks,
preferred stocks, convertible securities, warrants, depository
receipts and other equity interests in Energy Infrastructure
Companies.
o The Fund may directly invest up to 25% (or such higher amount as
permitted by any applicable tax diversification rules) of its
Managed Assets in equity securities of MLPs. This limit does not
apply to securities issued by MLP affiliates, such as I-shares or
general partner interests or other entities that may own interests
of MLPs, unless such interests are attributed to the Fund's
investment limitation under federal tax law.
o The Fund may invest up to 15% of its Managed Assets in
unregistered or otherwise restricted securities of Energy
Infrastructure Companies. For purposes of this limitation,
"restricted securities" refers to securities that have not been
registered under the Securities Act of 1933, as amended (the
"Securities Act") or are held by control persons of the issuer and
securities that are subject to contractual restrictions on their
resale.
o The Fund will not invest more than 15% of its Managed Assets in
any single issuer.
o The Fund will not invest directly in commodities.
To generate additional income, the Fund may write (or sell) covered call
options on up to 30% of its Managed Assets.
Percentage limitations described in this Statement of Additional
Information are as of the time of investment by the Fund and may be exceeded on
a going-forward basis as a result of market value fluctuations of the Fund's
portfolio and other events.
-3-
INVESTMENT POLICIES AND TECHNIQUES
The following information supplements the discussion of the Fund's
investment objective, policies and techniques that are described in the Fund's
Prospectus.
PORTFOLIO COMPOSITION
Short-Term Investments; Temporary Defensive Position; Invest-Up Period.
During the period in which the net proceeds of the offering of Common Shares or
the proceeds of leverage are being invested, periods in which the proceeds from
the issuance of Preferred Shares, if any, commercial paper or notes and/or other
borrowings are being invested, during the periods in which the Fund invests
temporarily available cash or during periods in which the Sub-Advisor determines
that it is temporarily unable to follow the Fund's investment strategy or that
it is impractical to do so, the Fund may deviate from its investment strategy
and invest all or any portion of its Managed Assets in cash and cash
equivalents. A determination by Energy Income Partners that it is temporarily
unable to follow the Fund's investment strategy or that it is impracticable to
do so will generally occur only in situations in which a market disruption event
has occurred and where trading in the securities selected through application of
the Fund's investment strategy is extremely limited or absent. In such a case,
the Fund may not pursue or achieve its investment objective.
Cash and cash equivalents are defined to include, without limitation, the
following:
1. U.S. government securities, including bills, notes and bonds
differing as to maturity and rates of interest that are either issued or
guaranteed by the U.S. Treasury or by U.S. government agencies or
instrumentalities. U.S. government agency securities include securities
issued by: (i) the Federal Housing Administration, Farmers Home
Administration, Export-Import Bank of the United States, Small Business
Administration, and the Government National Mortgage Association, whose
securities are supported by the full faith and credit of the U.S.
government; (ii) the Federal Home Loan Banks, Federal Intermediate Credit
Banks, and the Tennessee Valley Authority, whose securities are supported
by the right of the agency to borrow from the U.S. Treasury; (iii) the
Federal National Mortgage Association and the Federal Home Loan Mortgage
Corporation; and (iv) the Student Loan Marketing Association, whose
securities are supported only by its credit. While the U.S. government
provides financial support to such U.S. government-sponsored agencies or
instrumentalities, no assurance can be given that it always will do so
since it is not so obligated by law. The U.S. government, its agencies and
instrumentalities do not guarantee the market value of their securities.
Consequently, the value of such securities may fluctuate.
2. Certificates of deposit issued against funds deposited in a
bank or a savings and loan association. Such certificates are for a
definite period of time, earn a specified rate of return, and are normally
negotiable. The issuer of a certificate of deposit agrees to pay the
amount deposited plus interest to the bearer of the certificate on the
date specified thereon. Under current Federal Deposit Insurance
-4-
Corporation ("FDIC") regulations, the maximum insurance payable as to any
one certificate of deposit is $250,000; therefore, certificates of deposit
purchased by the Fund may not be fully insured.
3. Repurchase agreements, which involve purchases of debt
securities. At the time the Fund purchases securities pursuant to a
repurchase agreement, it simultaneously agrees to resell and redeliver
such securities to the seller, who also simultaneously agrees to buy back
the securities at a fixed price and time. This assures a predetermined
yield for the Fund during its holding period, since the resale price is
always greater than the purchase price and typically reflects current
market interest rates. Such actions afford an opportunity for the Fund to
invest temporarily available cash. Pursuant to the Fund's policies and
procedures, the Fund may enter into repurchase agreements only with
respect to obligations of the U.S. government, its agencies or
instrumentalities; certificates of deposit; or bankers' acceptances in
which the Fund may invest. Repurchase agreements may be considered loans
to the seller, collateralized by the underlying securities. The risk to
the Fund is limited to the ability of the seller to pay the agreed-upon
sum on the repurchase date; in the event of default, the repurchase
agreement provides that the Fund is entitled to sell the underlying
collateral. If the seller defaults under a repurchase agreement when the
value of the underlying collateral is less than the repurchase price, the
Fund could incur a loss of both principal and interest. The Sub-Advisor
monitors the value of the collateral at the time the action is entered
into and at all times during the term of the repurchase agreement. The
Sub-Advisor does so in an effort to determine that the value of the
collateral always equals or exceeds the agreed-upon repurchase price to be
paid to the Fund. If the seller were to be subject to a federal bankruptcy
proceeding, the ability of the Fund to liquidate the collateral could be
delayed or impaired because of certain provisions of the bankruptcy laws.
4. Commercial paper, which consists of short-term unsecured
promissory notes, including variable rate master demand notes, issued by
corporations to finance their current operations. Master demand notes are
direct lending arrangements between the Fund and a corporation. There is
no secondary market for such notes. However, they are redeemable by the
Fund at any time. The Sub-Advisor will consider the financial condition of
the corporation (e.g., earning power, cash flow, and other liquidity
measures) and will continuously monitor the corporation's ability to meet
all its financial obligations, because the Fund's liquidity might be
impaired if the corporation were unable to pay principal and interest on
demand. Investments in commercial paper will be limited to commercial
paper rated in the highest categories by a nationally recognized
statistical rating organization ("NRSRO") and which mature within one year
of the date of purchase or carry a variable or floating rate of interest.
5. Bankers' acceptances, which are short-term credit instruments
used to finance commercial transactions. Generally, an acceptance is a
time draft drawn on a bank by an exporter or an importer to obtain a
stated amount of funds to pay for specific merchandise. The draft is then
"accepted" by a bank that, in effect, unconditionally guarantees to pay
the face value of the instrument on its maturity date. The acceptance may
then be held by the accepting bank as an asset or it may be sold in the
secondary market at the going rate of interest for a specific maturity.
-5-
6. The Fund may invest in bank time deposits, which are monies
kept on deposit with banks or savings and loan associations for a stated
period of time at a fixed rate of interest. There may be penalties for the
early withdrawal of such time deposits, in which case the yields of these
investments will be reduced.
7. The Fund may invest in shares of money market funds in
accordance with the provisions of the 1940 Act, the rules thereunder and
interpretations thereof.
ADDITIONAL INFORMATION ABOUT THE FUND'S INVESTMENTS AND INVESTMENT
RISKS
STRATEGIC TRANSACTIONS RISK
The Fund may, but is not required to, enter into various hedging and
strategic transactions to seek to reduce interest rate risks arising from the
use of leverage by the Fund, to facilitate portfolio management and mitigate
risks, including interest rate, currency and credit risks. Certain of these
hedging and strategic transactions involve derivative instruments. A derivative
is a financial instrument whose performance is derived at least in part from the
performance of an underlying index, security or asset. The values of certain
derivatives can be affected dramatically by even small market movements,
sometimes in ways that are difficult to predict. There are many different types
of derivatives, with many different uses. The Fund may purchase and sell
derivative instruments such as exchange-listed and over-the-counter put and call
options on currencies, securities, energy-related commodities, equity, fixed
income and interest rate indices, and other financial instruments, purchase and
sell financial futures contracts and options thereon, enter into various
interest rate transactions such as swaps, caps, floors, collars or credit
transactions and credit default swaps. The Fund also may purchase derivative
instruments that combine features of these instruments. Collectively, all of the
above are referred to as "Strategic Transactions." The Fund generally seeks to
use Strategic Transactions as a portfolio management or hedging technique to
seek to protect against possible adverse changes in the market value of
securities held in or to be purchased for the Fund's portfolio, protect the
value of the Fund's portfolio, facilitate the sale of certain securities for
investment purposes, manage the effective interest rate and currency exposure of
the Fund, including the effective yield paid on any leverage issued by the Fund,
or establish positions in the derivatives markets as a temporary substitute for
purchasing or selling particular securities. Market conditions will determine
whether and in what circumstances the Fund would employ any of the hedging and
strategic techniques described below. The Fund will incur brokerage and other
costs in connection with its hedging transactions.
Options on Securities and Securities Indices. Subject to the limitations
set forth herein, the Fund may purchase and write (sell) call and put options on
any securities and securities indices. These options may be listed on national
domestic securities exchanges or foreign securities exchanges or traded in the
over-the-counter market. The Fund may write covered put and call options and
purchase put and call options as a substitute for the purchase or sale of
securities or to protect against declines in the value of the portfolio
securities and against increases in the cost of securities to be acquired.
-6-
Writing Covered Options Risk. The Fund may write (or sell) covered call
options on up to 30% of its Managed Assets. A call option on securities written
by the Fund would obligate the Fund to sell specified securities to the holder
of the option at a specified price if the option is exercised at any time before
the expiration date. A put option on securities written by the Fund would
obligate the Fund to purchase specified securities from the option holder at a
specified price if the option is exercised at any time before the expiration
date. Options on securities indices are similar to options on securities, except
that the exercise of securities index options requires cash settlement payments
and does not involve the actual purchase or sale of securities. In addition,
securities index options are designed to reflect price fluctuations in a group
of securities or segment of the securities market rather than price fluctuations
in a single security. Writing covered call options may deprive the Fund of the
opportunity to fully profit from an increase in the market price of the
securities in its portfolio. Writing covered put options may deprive the Fund of
the opportunity to fully profit from a decrease in the market price of the
securities to be acquired for its portfolio. If an option written by the Fund
expires unexercised, the Fund realizes on the expiration date a capital gain
equal to the premium received by the Fund at the time the option was written. If
an option purchased by the Fund expires unexercised, the Fund realizes a capital
loss equal to the premium paid at the time the option expires. Prior to the
earlier of exercise or expiration, an exchange-traded option may be closed out
by an offsetting purchase or sale of an option of the same series (type,
underlying security, exercise price, and expiration). There can be no assurance,
however, that a closing purchase or sale transaction can be effected when the
Fund desires. The Fund may sell put or call options it has previously purchased,
which could result in a net gain or loss depending on whether the amount
realized on the sale is more or less than the premium and other transaction
costs paid on the put or call option purchased. See "Federal Income Tax
Matters."
All call and put options written by the Fund are covered. A written call
option or put option may be covered by (i) maintaining cash or liquid securities
in a segregated account with a value at least equal to the Fund's obligation
under the option, (ii) entering into an offsetting forward commitment and/or
(iii) purchasing an offsetting option or any other option which, by virtue of
its exercise price or otherwise, reduces the Fund's net exposure on its written
option position. A written call option on securities is typically covered by
maintaining the securities that are subject to the option in a segregated
account. The Fund may cover call options on a securities index by owning
securities whose price changes are expected to be similar to those of the
underlying index.
The Fund may terminate its obligations under an exchange traded call or
put option by purchasing an option identical to the one it has written.
Obligations under over-the-counter options may be terminated only by entering
into an offsetting transaction with the counterparty to such option. Such
purchases are referred to as "closing purchase transactions."
-7-
The Fund would normally purchase call options in anticipation of an
increase, or put options in anticipation of a decrease ("protective puts"), in
the market value of securities of the type in which it may invest. The Fund may
also sell call and put options to close out its purchased options.
The purchase of a call option would entitle the Fund, in return for the
premium paid, to purchase specified securities or currency at a specified price
during the option period. The Fund would ordinarily realize a gain on the
purchase of a call option if, during the option period, the value of such
securities or currency exceeded the sum of the exercise price, the premium paid
and transaction costs; otherwise the Fund would realize either no gain or a loss
on the purchase of the call option.
The purchase of a put option would entitle the Fund, in exchange for the
premium paid, to sell specified securities at a specified price during the
option period. The purchase of protective puts is designed to offset or hedge
against a decline in the market value of the Fund's portfolio securities. Put
options may also be purchased by the Fund for the purpose of affirmatively
benefiting from a decline in the price of securities which it does not own. The
Fund would ordinarily realize a gain if, during the option period, the value of
the underlying securities decreased below the exercise price sufficiently to
cover the premium and transaction costs; otherwise the Fund would realize either
no gain or a loss on the purchase of the put option. Gains and losses on the
purchase of put options may be offset by countervailing changes in the value of
the Fund's portfolio securities.
The Fund's options transactions will be subject to limitations established
by each of the exchanges, boards of trade or other trading facilities on which
such options are traded. These limitations govern the maximum number of options
in each class which may be written or purchased by a single investor or group of
investors acting in concert, regardless of whether the options are written or
purchased on the same or different exchanges, boards of trade or other trading
facilities or are held or written in one or more accounts or through one or more
brokers. Thus, the number of options which the Fund may write or purchase may be
affected by options written or purchased by other investment advisory clients of
the Sub-Advisor. An exchange, board of trade or other trading facility may order
the liquidation of positions found to be in excess of these limits, and it may
impose certain other sanctions.
Other Risks Associated with Options Transactions. There is no assurance
that a liquid secondary market on a domestic or foreign options exchange will
exist for any particular exchange-traded option or at any particular time. If
the Fund is unable to effect a closing purchase transaction with respect to
covered options it has written, the Fund will not be able to sell the underlying
securities or dispose of assets held in a segregated account until the options
expire or are exercised. Similarly, if the Fund is unable to effect a closing
sale transaction with respect to options it has purchased, it would have to
exercise the options in order to realize any profit and will incur transaction
costs upon the purchase or sale of underlying securities or currencies.
Reasons for the absence of a liquid secondary market on an exchange
include the following, among others: (i) there may be insufficient trading
interest in certain options; (ii) restrictions may be imposed by an exchange on
opening transactions or closing transactions or both; (iii) trading halts,
suspensions or other restrictions may be imposed with respect to particular
classes or series of options; (iv) unusual or unforeseen circumstances may
interrupt normal operations on an exchange; (v) the facilities of an exchange or
the Options Clearing Corporation may not at all times be adequate to handle
current trading volume; or (vi) one or more exchanges could, for economic or
-8-
other reasons, decide or be compelled at some future date to discontinue the
trading of options (or a particular class or series of options). If trading were
discontinued, the secondary market on that exchange (or in that class or series
of options) would cease to exist. However, outstanding options on that exchange
that had been issued by the Options Clearing Corporation as a result of trades
on that exchange would continue to be exercisable in accordance with their
terms.
The Fund's ability to terminate over-the-counter options is more limited
than with exchange-traded options and may involve the risk that broker-dealers
participating in such transactions will not fulfill their obligations. The
Sub-Advisor will determine the liquidity of each over-the-counter option in
accordance with guidelines adopted by the Board of Trustees.
The writing and purchase of options is a highly specialized activity which
involves investment techniques and risks different from those associated with
ordinary portfolio securities transactions. The successful use of options
depends in part on the Sub-Advisor's ability to predict future price
fluctuations and, for hedging transactions, the degree of correlation between
the options and securities or currency markets.
Futures Contracts and Options on Futures Contracts. The Fund may purchase
and sell futures contracts based on various securities (such as U.S. government
securities) and securities indices, and any other financial instruments and
indices and purchase and write call and put options on these futures contracts.
The Fund may also enter into closing purchase and sale transactions with respect
to any of these contracts and options. All futures contracts entered into by the
Fund are traded on U.S. or foreign exchanges or boards of trade that are
licensed, regulated or approved by the Commodity Futures Trading Commission
("CFTC").
Futures Contracts. A futures contract may generally be described as an
agreement between two parties to buy and sell particular financial instruments
or currencies for an agreed price during a designated month (or to deliver the
final cash settlement price, in the case of a contract relating to an index or
otherwise not calling for physical delivery at the end of trading in the
contract).
Positions taken in the futures markets are not normally held to maturity
but are instead liquidated through offsetting transactions which may result in a
profit or a loss. While futures contracts on securities will usually be
liquidated in this manner, the Fund may instead make, or take, delivery of the
underlying securities or currency whenever it appears economically advantageous
to do so. A clearing corporation associated with the exchange on which futures
contracts are traded guarantees that, if a given contract is still open, the
relevant sale or purchase will be performed on the settlement date.
The Fund may, for example, take a "short" position in the futures market
by selling futures contracts in an attempt to hedge against an anticipated
decline in market prices that would adversely affect the value of the Fund's
portfolio securities. Such futures contracts may include contracts for the
future delivery of securities held by the Fund or securities with
characteristics similar to those of the Fund's portfolio securities.
-9-
Hedging and Other Strategies. Hedging is an attempt to establish with more
certainty than would otherwise be possible the effective price or rate of return
on portfolio securities or securities that the Fund proposes to acquire or the
exchange rate of currencies in which the portfolio securities are quoted or
denominated. When securities prices are falling, the Fund can seek to offset a
decline in the value of its current portfolio securities through the sale of
futures contracts. When securities prices are rising, the Fund, through the
purchase of futures contracts, can attempt to secure better rates or prices than
might later be available in the market when it effects anticipated purchases.
If, in the opinion of the Sub-Advisor, there is a sufficient degree of
correlation between price trends for the Fund's portfolio securities and futures
contracts based on other financial instruments, securities indices or other
indices, the Fund may also enter into such futures contracts as part of its
hedging strategy. Although under some circumstances prices of securities in the
Fund's portfolio may be more or less volatile than prices of such futures
contracts, the Sub-Advisor will attempt to estimate the extent of this
volatility difference based on historical patterns and compensate for any
differential by having the Fund enter into a greater or lesser number of futures
contracts or by attempting to achieve only a partial hedge against price changes
affecting the Fund's portfolio securities.
When a short hedging position is successful, any depreciation in the value
of portfolio securities will be substantially offset by appreciation in the
value of the futures position. On the other hand, any unanticipated appreciation
in the value of the Fund's portfolio securities would be substantially offset by
a decline in the value of the futures position. On other occasions, the Fund may
take a "long" position by purchasing futures contracts.
Options on Futures Contracts. The purchase of put and call options on
futures contracts will give the Fund the right (but not the obligation) for a
specified price to sell or to purchase, respectively, the underlying futures
contract at any time during the option period. As the purchaser of an option on
a futures contract, the Fund obtains the benefit of the futures position if
prices move in a favorable direction but limits its risk of loss in the event of
an unfavorable price movement to the loss of the premium and transaction costs.
The writing of a call option on a futures contract generates a premium
which may partially offset a decline in the value of the Fund's assets. By
writing a call option, the Fund becomes obligated, in exchange for the premium
(upon exercise of the option) to sell a futures contract if the option is
exercised, which may have a value higher than the exercise price. Conversely,
the writing of a put option on a futures contract generates a premium which may
partially offset an increase in the price of securities that the Fund intends to
purchase. However, the Fund becomes obligated (upon exercise of the option) to
purchase a futures contract if the option is exercised, which may have a value
lower than the exercise price. The loss incurred by the Fund in writing options
on futures is potentially unlimited and may exceed the amount of the premium
received.
The holder or writer of an option on a futures contract may terminate its
position by selling or purchasing an offsetting option of the same series. There
-10-
is no guarantee that such closing transactions can be effected. The Fund's
ability to establish and close out positions on such options will be subject to
the development and maintenance of a liquid market.
Other Considerations. The Fund will engage in futures and related options
transactions either for bona fide hedging or for other purposes as permitted by
the CFTC. These purposes may include using futures and options on futures as a
substitute for the purchase or sale of securities to increase or reduce exposure
to particular markets. To the extent that the Fund is using futures and related
options for hedging purposes, futures contracts will be sold to protect against
a decline in the price of securities that the Fund owns or futures contracts
will be purchased to protect the Fund against an increase in the price of
securities it intends to purchase. The Fund will determine that the price
fluctuations in the futures contracts and options on futures used for hedging
purposes are substantially related to price fluctuations in securities held by
the Fund or securities or instruments which it expects to purchase. As evidence
of its hedging intent, the Fund expects that on occasions on which it takes a
long futures or option position (involving the purchase of futures contracts),
the Fund generally will have purchased, or will be in the process of purchasing,
equivalent amounts of related securities in the cash market at the time when the
futures or option position is closed out. However, in particular cases, when it
is economically advantageous for the Fund to do so, a long futures position may
be terminated or an option may expire without the corresponding purchase of
securities or other assets.
Transactions in futures contracts and options on futures involve brokerage
costs, require margin deposits and, in the case of contracts and options
obligating the Fund to purchase securities, require the Fund to establish a
segregated account consisting of cash or liquid securities in an amount equal to
the underlying value of such contracts and options.
While transactions in futures contracts and options on futures may reduce
certain risks, these transactions themselves entail certain other risks. For
example, unanticipated changes in interest rates or securities prices may result
in a poorer overall performance for the Fund than if it had not entered into any
futures contracts or options transactions.
Perfect correlation between the Fund's futures positions and portfolio
positions will be impossible to achieve. In the event of an imperfect
correlation between a futures position and a portfolio position which is
intended to be protected, the desired protection may not be obtained and the
Fund may be exposed to risk of loss.
Some futures contracts or options on futures may become illiquid under
adverse market conditions. In addition, during periods of market volatility, a
commodity exchange may suspend or limit trading in a futures contract or related
option, which may make the instrument temporarily illiquid and difficult to
price. Commodity exchanges also may establish daily limits on the amount that
the price of a futures contract or related option can vary from the previous
day's settlement price. Once the daily limit is reached, no trades may be made
that day at a price beyond the limit. This may prevent the Fund from closing out
positions and limiting its losses.
Currency Exchange Transactions. The Fund may enter into currency exchange
transactions to hedge the Fund's exposure to foreign currency exchange rate risk
to the extent the Fund invests in non-U.S. denominated securities of non-U.S.
issuers. The Fund's currency transactions will be limited to portfolio hedging
-11-
involving portfolio positions. Portfolio hedging is the use of a forward
contract with respect to a portfolio security position denominated or quoted in
a particular currency. A currency forward contract is an agreement to purchase
or sell a specified currency at a specified future date (or within a specified
time period) and at a price set (or determined pursuant to parameters set) at
the time of the contract. Forward contracts are usually entered into with banks,
foreign exchange dealers or broker-dealers, are not exchange-traded, and are
usually for less than one year, but may be renewed.
At the maturity of a forward contract to deliver a particular currency,
the Fund may either sell the portfolio security related to such contract and
make delivery of the currency, or it may retain the security and either acquire
the currency on the spot market or terminate its contractual obligation to
deliver the currency by purchasing an offsetting contract with the same currency
trader obligating the Fund to purchase on the same maturity date the same amount
of the currency.
It is impossible to forecast with absolute precision the market value of
portfolio securities at the expiration of a forward contract. Accordingly, it
may be necessary for the Fund to purchase additional currency on the spot market
(and bear the expense of such purchase) if a decision is made to sell the
security and make delivery of the currency and the market value of the security
is less than the amount of currency that the Fund is obligated to deliver.
Conversely, it may be necessary to sell on the spot market some of the currency
received upon the sale of the portfolio security if its market value exceeds the
amount of currency the Fund is obligated to deliver under the forward contract.
If the Fund retains the portfolio security and engages in an offsetting
transaction, the Fund will incur a gain or a loss to the extent that there has
been movement in forward contract prices. If the Fund engages in an offsetting
transaction, it may subsequently enter into a new forward contract to buy the
currency. Should forward prices decline during the period between the Fund's
entering into a forward contract for the sale of a currency and the date it
enters into an offsetting contract for the purchase of the currency, the Fund
will realize a gain to the extent the price of the currency it has agreed to
sell exceeds the price of the currency it has agreed to purchase. Should forward
prices increase, the Fund will suffer a loss to the extent the price of the
currency it has agreed to purchase exceeds the price of the currency it has
agreed to sell. A default on the contract would deprive the Fund of unrealized
profits or force the Fund to cover its commitments for purchase or sale of
currency, if any, at the current market price.
Hedging against a decline in the value of a currency does not eliminate
fluctuations in the prices of portfolio securities or prevent losses if the
prices of such securities decline. Such transactions also preclude the
opportunity for gain if the value of the hedged currency should rise. Moreover,
it may not be possible for the Fund to hedge against a devaluation that is so
generally anticipated that the Fund is not able to contract to sell the currency
at a price above the devaluation level it anticipates. The cost to the Fund of
engaging in currency exchange transactions varies with such factors as the
currency involved, the length of the contract period, and prevailing market
conditions. Since currency exchange transactions are usually conducted on a
principal basis, no fees or commissions are involved.
-12-
Equity Swaps and Interest Rate or Commodity Swaps, Collars, Caps and
Floors. In order to hedge the value of the Fund's portfolio against fluctuations
in the market value of equity securities, interest rates or commodity prices or
to enhance the Fund's income, the Fund may, but is not required to, enter into
equity swaps and various interest rate or commodity transactions such as
interest rate or commodity swaps and the purchase or sale of interest rate or
commodity caps and floors. To the extent that the Fund enters into these
transactions, the Fund expects to do so primarily to preserve a return or spread
on a particular investment or portion of its portfolio, to protect against any
increase in the price of securities the Fund anticipates purchasing at a later
date, to protect against increasing commodity prices or to manage the Fund's
interest rate exposure on any debt securities, including notes or preferred
shares issued by the Fund for leverage purposes. The Fund intends to use these
transactions primarily as a hedge. However, the Fund also may invest in equity
and interest rate or commodity swaps to enhance income or to increase the Fund's
yield, for example, during periods of steep interest rate yield curves (i.e.,
wide differences between short-term and long-term interest rates). The Fund is
not required to hedge its portfolio and may choose not to do so. The Fund cannot
guarantee that any hedging strategies it uses will work.
In an equity swap, the cash flows exchanged by the Fund and the
counterparty are based on the appreciation on some stock market index and an
interest rate (either a fixed rate or a floating rate). In an interest rate
swap, the Fund exchanges with another party their respective commitments to pay
or receive interest (for example, an exchange of fixed rate payments for
floating rate payments).
The Fund usually will enter into equity and interest rate or commodity
swaps on a net basis (i.e., the two payment streams are netted out with the Fund
receiving or paying, as the case may be, only the net amount of the two
payments). The net amount of the excess, if any, of the Fund's obligations over
its entitlements with respect to each swap contract will be accrued on a daily
basis, and an amount of cash or liquid instruments having an aggregate net asset
value at least equal to the accrued excess will be maintained in a segregated
account by the Fund's custodian. If the swap transaction is entered into on
other than a net basis, the full amount of the Fund's obligations will be
accrued on a daily basis, and the full amount of the Fund's obligations will be
maintained in a segregated account by the Fund's custodian.
The Fund also may engage in interest rate or commodity transactions in the
form of purchasing or selling interest rate or commodity caps or floors. The
Fund will not sell interest rate or commodity caps or floors that it does not
own. The purchase of an interest rate or commodity cap entitles the purchaser,
to the extent that a specified index exceeds a predetermined interest rate or
commodity price, to receive payments equal to the difference of the index and
the predetermined rate on a notional principal amount (i.e., the reference
amount with respect to which interest obligations are determined although no
actual exchange of principal occurs) from the party selling such interest rate
or commodity cap. The purchase of an interest rate or commodity floor entitles
the purchaser, to the extent that a specified index falls below a predetermined
interest rate or commodity price, to receive payments at the difference of the
index and the predetermined rate on a notional principal amount from the party
selling such interest rate or commodity floor.
-13-
Typically, the parties with which the Fund will enter into equity and
interest rate or commodity transactions will be broker-dealers and other
financial institutions. The Fund will not enter into any equity swap, interest
rate or commodity swap, cap or floor transaction unless the unsecured senior
debt or the claims-paying ability of the other party thereto is rated investment
grade quality by at least one NRSRO at the time of entering into such
transaction or whose creditworthiness is believed by the Sub-Advisor to be
equivalent to such rating. If there is a default by the other party to such a
transaction, the Fund will have contractual remedies pursuant to the agreements
related to the transaction. The swap market has grown substantially in recent
years with a large number of banks and investment banking firms acting both as
principals and as agents utilizing standardized swap documentation. As a result,
the swap market has become relatively liquid in comparison with other similar
instruments traded in the interbank market. Caps and floors, however, are less
liquid than swaps. Certain federal income tax requirements may limit the Fund's
ability to engage in interest rate swaps.
Credit Default Swap Agreements. The Fund may enter into credit default
swap agreements. The "buyer" in a credit default contract is obligated to pay
the "seller" a periodic stream of payments over the term of the contract
provided that no event of default on an underlying reference obligation has
occurred. If an event of default occurs, the seller must pay the buyer the "par
value" (full notional value) of the reference obligation in exchange for the
reference obligation. The Fund may be either the buyer or seller in the
transaction. If the Fund is a buyer and no event of default occurs, the Fund
loses its investment and recovers nothing. However, if an event of default
occurs, the buyer receives full notional value for a reference obligation that
may have little or no value. As a seller, the Fund receives a fixed rate of
income throughout the term of the contract, which typically is between six
months and three years, provided that there is no default event. If an event of
default occurs, the seller must pay the buyer the full notional value of the
reference obligation.
Credit default swaps involve greater risks than if the Fund had invested
in the reference obligation directly. In addition to general market risks,
credit default swaps are subject to illiquidity risk, counterparty risk and
credit risks. The Fund will enter into swap agreements only with counterparties
who are rated investment grade quality by at least one NRSRO at the time of
entering into such transaction or whose creditworthiness is believed by the
Sub-Advisor to be equivalent to such rating. A buyer also will lose its
investment and recover nothing should no event of default occur. If an event of
default were to occur, the value of the reference obligation received by the
seller, coupled with the periodic payments previously received, may be less than
the full notional value it pays to the buyer, resulting in a loss of value to
the Fund. When the Fund acts as a seller of a credit default swap agreement it
is exposed to the risks of leverage since if an event of default occurs the
seller must pay the buyer the full notional value of the reference obligation.
If the Fund enters into a credit default swap, the Fund may be required to
report the swap as a "reportable transaction" for tax shelter reporting purposes
on the Fund's federal income tax return. If the Internal Revenue Service (the
"IRS") were to determine that the credit default swap is a reportable
transaction and the Fund has not previously disclosed the transaction as a
reportable transaction, the Fund could be subject to penalties under the
Internal Revenue Code of 1986, as amended (the "Code").
-14-
The Fund may in the future employ new or additional investment strategies
and hedging instruments if those strategies and instruments are consistent with
the Fund's investment objective and are permissible under applicable regulations
governing the Fund.
OVER-THE-COUNTER MARKET RISK
The Fund may invest in over-the-counter securities. In contrast to the
securities exchanges, the over-the-counter market is not a centralized facility
that limits trading activity to securities of companies which initially satisfy
certain defined standards. Generally, the volume of trading in an unlisted or
over-the-counter security is less than the volume of trading in a listed
security. This means that the depth of market liquidity of some securities in
which the Fund invests may not be as great as that of other securities and, if
the Fund were to dispose of such a security, it might have to offer the
securities at a discount from recent prices, or sell the securities in small
lots over an extended period of time.
LEGISLATION RISK
At any time after the date of this Statement of Additional Information,
legislation may be enacted that could negatively affect the assets of the Fund
or the issuers of such assets. Changing approaches to regulation may have a
negative impact on entities in which the Fund invests. There can be no assurance
that future legislation, regulation or deregulation will not have a material
adverse effect on the Fund or will not impair the ability of the issuers of the
assets held in the Fund to achieve their business goals, and hence, for the Fund
to achieve its investment objective.
OTHER INVESTMENT POLICIES AND TECHNIQUES
DERIVATIVE STRATEGIES
General Description of Derivative Strategies. The Fund may use derivatives
or other transactions to generate income, to hedge the Fund's exposure to an
increase in the price of a security prior to its anticipated purchase or a
decrease in the price of a security prior to its anticipated sale, to seek to
reduce interest rate risks arising from the use of any Leverage (as defined
herein) by the Fund and to mitigate risks, including interest rate, currency and
credit risks. The specific derivative instruments to be used, or other
transactions to be entered into, for such investment or hedging purposes may
include exchange-listed and over-the-counter put and call options on currencies,
securities, fixed-income, currency and interest rate indices, and other
financial instruments, financial futures contracts and options thereon
(hereinafter referred to as "Futures" or "futures contracts"), interest rate and
currency transactions such as swaps, caps, floors or collars, credit
transactions, total rate of return swap transactions, credit default swaps,
structured notes, special purpose vehicles or other credit derivative
instruments.
Derivative instruments on securities may be used to hedge against price
movements in one or more particular securities positions that the Fund owns or
intends to acquire. Such instruments may also be used to "lock-in" recognized
but unrealized gains in the value of portfolio securities. Derivative
-15-
strategies, if successful, can reduce the risk of loss by wholly or partially
offsetting the negative effect of unfavorable price movements in the investments
being hedged. However, derivative strategies can also reduce the opportunity for
gain by offsetting the positive effect of favorable price movements in the
hedged investments. The use of derivative instruments is subject to applicable
regulations of the SEC, the several options and futures exchanges upon which
they are traded, the CFTC, various state regulatory authorities and, to the
extent applicable, foreign regulations and regulatory bodies. In addition, the
Fund's ability to use derivative instruments may be limited by tax
considerations.
General Limitations on Futures and Options Transactions. The Fund will
file a notice of eligibility for exclusion from the definition of the term
"commodity pool operator" with the CFTC and the National Futures Association,
which regulate trading in the futures markets. Pursuant to Section 4.5 of the
regulations under the Commodity Exchange Act (the "CEA"), the Fund is not
subject to regulation as a commodity pool under the CEA.
Various exchanges and regulatory authorities have undertaken reviews of
options and Futures trading in light of market volatility. Among the possible
actions that have been presented are proposals to adopt new or more stringent
daily price fluctuation limits for Futures and options transactions and
proposals to increase the margin requirements for various types of futures
transactions.
Asset Coverage for Futures and Options Positions. The Fund will comply
with the regulatory requirements of the SEC and the CFTC with respect to
coverage of options and Futures positions by registered investment companies
and, if the guidelines so require, will segregate cash, U.S. government
securities, high-grade liquid debt securities and/or other liquid assets
permitted by the SEC and CFTC on the Fund's records in the amount prescribed.
Securities segregated on the Fund's records cannot be sold while the Futures or
options position is outstanding, unless replaced with other permissible assets,
and will be marked-to-market daily.
Options. The Fund may purchase put and call options on stock or other
securities. A put option embodies the right of its purchaser to compel the
writer of the option to purchase from the option holder an underlying security
or its equivalent at a specified price at any time during the option period. In
contrast, a call option gives the purchaser the right to buy the underlying
security covered by the option or its equivalent from the writer of the option
at the stated exercise price.
As a holder of a put option, the Fund will have the right to sell the
securities underlying the option and as the holder of a call option, the Fund
will have the right to purchase the securities underlying the option, in each
case at their exercise price at any time prior to the option's expiration date.
The Fund may seek to terminate its option positions prior to their expiration by
entering into closing transactions. The ability of the Fund to enter into a
closing sale transaction depends on the existence of a liquid secondary market.
There can be no assurance that a closing purchase or sale transaction can be
effected when the Fund so desires.
Certain Considerations Regarding Options. The hours of trading for options
may not conform to the hours during which the underlying securities are traded.
To the extent that the options markets close before the markets for the
-16-
underlying securities, significant price and rate movements can take place in
the underlying markets that cannot be reflected in the options markets. The
purchase of options is a highly specialized activity which involves investment
techniques and risks different from those associated with ordinary portfolio
securities transactions. The purchase of options involves the risk that the
premium and transaction costs paid by the Fund in purchasing an option will be
lost as a result of unanticipated movements in prices of the securities on which
the option is based. Imperfect correlation between the options and securities
markets may detract from the effectiveness of attempted hedging. Options
transactions may result in significantly higher transaction costs and portfolio
turnover for the Fund.
Some, but not all, of the derivative instruments may be traded and listed
on an exchange. There is no assurance that a liquid secondary market on an
options exchange will exist for any particular option at any particular time,
and for some options no secondary market on an exchange or elsewhere may exist.
If the Fund is unable to effect a closing sale transaction with respect to
options on securities that it has purchased, it would have to exercise the
option in order to realize any profit and would incur transaction costs upon the
purchase and sale of the underlying securities.
Futures Contracts. The Fund may enter into securities-related futures
contracts, including security futures contracts as an anticipatory hedge. The
Fund's derivative investments may include sales of Futures as an offset against
the effect of expected declines in securities prices and purchases of Futures as
an offset against the effect of expected increases in securities prices. The
Fund will not enter into futures contracts which are prohibited under the CEA
and will, to the extent required by regulatory authorities, enter only into
futures contracts that are traded on exchanges and are standardized as to
maturity date and underlying financial instrument. A security futures contract
is a legally binding agreement between two parties to purchase or sell in the
future a specific quantity of shares of a security or of the component
securities of a narrow-based security index, at a certain price. A person who
buys a security futures contract enters into a contract to purchase an
underlying security and is said to be "long" the contract. A person who sells a
security futures contact enters into a contract to sell the underlying security
and is said to be "short" the contract. The price at which the contract trades
(the "contract price") is determined by relative buying and selling interest on
a regulated exchange.
Transaction costs are incurred when a futures contract is bought or sold
and margin deposits must be maintained. In order to enter into a security
futures contract, the Fund must deposit funds with its custodian in the name of
the futures commodities merchant equal to a specified percentage of the current
market value of the contract as a performance bond. Moreover, all security
futures contracts are marked-to-market at least daily, usually after the close
of trading. At that time, the account of each buyer and seller reflects the
amount of any gain or loss on the security futures contract based on the
contract price established at the end of the day for settlement purposes.
An open position, either a long or short position, is closed or liquidated
by entering into an offsetting transaction (i.e., an equal and opposite
transaction to the one that opened the position) prior to the contract
expiration. Traditionally, most futures contracts are liquidated prior to
-17-
expiration through an offsetting transaction and, thus, holders do not incur a
settlement obligation. If the offsetting purchase price is less than the
original sale price, a gain will be realized. Conversely, if the offsetting sale
price is more than the original purchase price, a gain will be realized; if it
is less, a loss will be realized. The transaction costs must also be included in
these calculations. There can be no assurance, however, that the Fund will be
able to enter into an offsetting transaction with respect to a particular
futures contract at a particular time. If the Fund is not able to enter into an
offsetting transaction, the Fund will continue to be required to maintain the
margin deposits on the futures contract and the Fund may not be able to realize
a gain in the value of its future position or prevent losses from mounting. This
inability to liquidate could occur, for example, if trading is halted due to
unusual trading activity in either the security futures contract or the
underlying security; if trading is halted due to recent news events involving
the issuer of the underlying security; if systems failures occur on an exchange
or at the firm carrying the position; or, if the position is on an illiquid
market. Even if the Fund can liquidate its position, it may be forced to do so
at a price that involves a large loss.
Under certain market conditions, it may also be difficult or impossible to
manage the risk from open security futures positions by entering into an
equivalent but opposite position in another contract month, on another market,
or in the underlying security. This inability to take positions to limit the
risk could occur, for example, if trading is halted across markets due to
unusual trading activity in the security futures contract or the underlying
security or due to recent news events involving the issuer of the underlying
security.
There can be no assurance that a liquid market will exist at a time when
the Fund seeks to close out a futures contract position. The Fund would continue
to be required to meet margin requirements until the position is closed,
possibly resulting in a decline in the Fund's NAV. In addition, many of the
contracts discussed above are relatively new instruments without a significant
trading history. As a result, there can be no assurance that an active secondary
market will develop or continue to exist.
Security futures contracts that are not liquidated prior to expiration
must be settled in accordance with the terms of the contract. Some security
futures contracts are settled by physical delivery of the underlying security.
At the expiration of a security futures contract that is settled through
physical delivery, a person who is long the contract must pay the final
settlement price set by the regulated exchange or the clearing organization and
take delivery of the underlying shares. Conversely, a person who is short the
contract must make delivery of the underlying shares in exchange for the final
settlement price. Settlement with physical delivery may involve additional
costs.
Other security futures contracts are settled through cash settlement. In
this case, the underlying security is not delivered. Instead, any positions in
such security futures contracts that are open at the end of the last trading day
are settled through a final cash payment based on a final settlement price
determined by the exchange or clearing organization. Once this payment is made,
neither party has any further obligations on the contract.
-18-
As noted above, margin is the amount of funds that must be deposited by
the Fund in order to initiate futures trading and to maintain the Fund's open
positions in futures contracts. A margin deposit is intended to ensure the
Fund's performance of the futures contract. The margin required for a particular
futures contract is set by the exchange on which the futures contract is traded
and may be significantly modified from time to time by the exchange during the
term of the futures contract.
If the price of an open futures contract changes (by increase in the case
of a sale or by decrease in the case of a purchase) so that the loss on the
futures contract reaches a point at which the margin on deposit does not satisfy
margin requirements, the broker will require an increase in the margin. However,
if the value of a position increases because of favorable price changes in the
futures contract so that the margin deposit exceeds the required margin, the
broker will pay the excess to the Fund. In computing daily NAV, the Fund will
mark-to-market the current value of its open futures contracts. The Fund expects
to earn interest income on its margin deposits.
Because of the low margin deposits required, futures contracts trading
involves an extremely high degree of leverage. As a result, a relatively small
price movement in a futures contract may result in an immediate and substantial
loss or gain to the investor. For example, if at the time of purchase 10% of the
value of the futures contract is deposited as margin, a subsequent 10% decrease
in the value of the futures contract would result in a total loss of the margin
deposit, before any deduction for the transaction costs, if the account were
then closed out. A 15% decrease would result in a loss equal to 150% of the
original margin deposit, before any deduction for the transaction costs, if the
futures contracts were closed out. Thus, a purchase or sale of a futures
contract may result in losses in excess of the amount initially invested in the
futures contract. However, the Fund would presumably have sustained comparable
losses if, instead of the futures contract, it had invested in the underlying
financial instrument and sold it after the decline.
In addition to the foregoing, imperfect correlation between the futures
contracts and the underlying securities may prevent the Fund from achieving the
intended hedge or expose the Fund to risk of loss. Under certain market
conditions, the prices of security futures contracts may not maintain their
customary or anticipated relationships to the prices of the underlying security
or index. These pricing disparities could occur, for example, when the market
for the security futures contract is illiquid, when the primary market for the
underlying security is closed, or when the reporting of transactions in the
underlying security has been delayed.
In addition, the value of a position in security futures contracts could
be affected if trading is halted in either the security futures contract or the
underlying security. In certain circumstances, regulated exchanges are required
by law to halt trading in security futures contracts. For example, trading on a
particular security futures contract must be halted if trading is halted on the
listed market for the underlying security as a result of pending news,
regulatory concerns, or market volatility. Similarly, trading of a security
futures contract on a narrow-based security index must be halted under
circumstances where trading is halted on securities accounting for at least 50%
of the market capitalization of the index. In addition, regulated exchanges are
required to halt trading in all security futures contracts for a specified
-19-
period of time when the Dow Jones Industrial Average ("DJIA") experiences
one-day declines of 10%, 20% and 30%. The regulated exchanges may also have
discretion under their rules to halt trading in other circumstances, such as
when the exchange determines that the halt would be advisable in maintaining a
fair and orderly market.
A trading halt, either by a regulated exchange that trades security
futures or an exchange trading the underlying security or instrument, could
prevent the Fund from liquidating a position in security futures contracts in a
timely manner, which could expose the Fund to a loss.
Each regulated exchange trading security futures contracts may also open
and close for trading at different times than other regulated exchanges trading
security futures contracts or markets trading the underlying security or
securities. Trading in security futures contracts prior to the opening or after
the close of the primary market for the underlying security may be less liquid
than trading during regular market hours.
Swap Agreements. The Fund may enter into swap agreements. A swap is a
financial instrument that typically involves the exchange of cash flows between
two parties on specified dates (settlement dates), where the cash flows are
based on agreed-upon prices, rates, indices, securities, other assets or market
indicators. The nominal amount on which the cash flows are calculated is called
the notional amount. Swaps are individually negotiated and structured to include
exposure to a variety of different types of investments or market factors, such
as interest rates, commodity prices, non-U.S. currency rates, mortgage
securities, corporate borrowing rates, security prices, indexes or inflation
rates.
Swap agreements may increase or decrease the overall volatility of the
investments of the Fund and its share price. The performance of swap agreements
may be affected by a change in the specific interest rate, currency, or other
factors that determine the amounts of payments due to and from the Fund. If a
swap agreement calls for payments by the Fund, the Fund must be prepared to make
such payments when due. In addition, if the counterparty's creditworthiness
declines, the value of a swap agreement would likely decline, potentially
resulting in losses.
Generally, swap agreements have fixed maturity dates that are agreed upon
by the parties to the swap. The agreement can be terminated before the maturity
date only under limited circumstances, such as default by one of the parties or
insolvency and can be transferred by a party only with the prior written consent
of the other party. The Fund may be able to eliminate its exposure under a swap
agreement either by assignment or other disposition, or by entering into an
offsetting swap agreement with the same party or a similarly creditworthy party.
If the counterparty is unable to meet its obligations under the contract,
declares bankruptcy, defaults or becomes insolvent, the Fund may not be able to
recover the money it expected to receive under the contract.
A swap agreement can be a form of leverage, which can magnify the Fund's
gains or losses. In order to reduce the risk associated with leveraging, the
Fund may cover its current obligations under swap agreements according to
guidelines established by the SEC. If the Fund enters into a swap agreement on a
net basis, it will be required to segregate assets on the Fund's records with a
daily value at least equal to the excess, if any, of the Fund's accrued
obligations under the swap agreement over the accrued amount the Fund is
-20-
entitled to receive under the agreement. If the Fund enters into a swap
agreement on other than a net basis, it will be required to segregate assets on
the Fund's records with a value equal to the full amount of the Fund's accrued
obligations under the agreement.
Equity Swaps. In a typical equity swap, one party agrees to pay another
party the appreciation on a security, security index or basket of securities in
exchange for the payment by the other party of an amount equal to any
depreciation in the market price of the underlying asset and certain periodic
payments. By entering into an equity index swap, the equity amount receiver can
gain exposure to securities making up the index of securities without actually
purchasing those securities. Equity index swaps involve not only the risk
associated with synthetic investment in the securities represented in the index,
but also the risk that the performance of such securities, including dividends,
will not be net negative or will not exceed the periodic amounts that the Fund
will be committed to pay under the swap.
WHEN-ISSUED AND DELAYED DELIVERY TRANSACTIONS
The Fund may buy and sell securities on a when-issued or delayed delivery
basis, making payment or taking delivery at a later date, normally within 15-45
days of the trade date. On such transactions, the payment obligation and the
interest rate are fixed at the time the buyer enters into the commitment.
Beginning on the date the Fund enters into a commitment to purchase securities
on a when-issued or delayed delivery basis, the Fund is required under rules of
the SEC to maintain in a separate account liquid assets, consisting of cash,
cash equivalents or liquid securities having a market value at all times of at
least equal to the amount of the commitment. Income generated by any such assets
which provide taxable income for U.S. federal income tax purposes is includable
in the taxable income of the Fund. The Fund may enter into contracts to purchase
securities on a forward basis (i.e., where settlement will occur more than 60
days from the date of the transaction) only to the extent that the Fund
specifically collateralizes such obligations with a security that is expected to
be called or mature within sixty days before or after the settlement date of the
forward transaction. The commitment to purchase securities on a when-issued,
delayed delivery or forward basis may involve an element of risk because at the
time of delivery the market value may be less than cost.
REPURCHASE AGREEMENTS
As temporary investments, the Fund may invest in repurchase agreements. A
repurchase agreement is a contractual agreement whereby the seller of securities
agrees to repurchase the same security at a specified price on a future date
agreed upon by the parties. The agreed-upon repurchase price determines the
yield during the Fund's holding period. Repurchase agreements are considered to
be loans collateralized by the underlying security that is the subject of the
repurchase contract. Income generated from transactions in repurchase agreements
will be taxable. The Fund will only enter into repurchase agreements with
registered securities dealers or domestic banks that, in the opinion of the
Sub-Advisor, present minimal credit risk. The risk to the Fund is limited to the
ability of the issuer to pay the agreed-upon repurchase price on the delivery
date; however, although the value of the underlying collateral at the time the
-21-
transaction is entered into always equals or exceeds the agreed-upon repurchase
price, if the value of the collateral declines there is a risk of loss of both
principal and interest. In the event of default, the collateral may be sold, but
the Fund may incur a loss if the value of the collateral declines, and may incur
disposition costs or experience delays in connection with liquidating the
collateral. In addition, if bankruptcy proceedings are commenced with respect to
the seller of the security, realization upon the collateral by the Fund may be
delayed or limited. The Sub-Advisor will monitor the value of the collateral at
the time the transaction is entered into and at all times subsequent during the
term of the repurchase agreement in an effort to determine that such value
always equals or exceeds the agreed-upon repurchase price. In the event the
value of the collateral declines below the repurchase price, the Fund will
demand additional collateral from the issuer to increase the value of the
collateral to at least that of the repurchase price, including interest.
LENDING OF PORTFOLIO SECURITIES
Although it is not the Fund's current intention, the Fund may lend its
portfolio securities to broker-dealers and banks. Any such loan must be
continuously secured by collateral in cash or cash equivalents maintained on a
current basis in an amount at least equal to the market value of the securities
loaned by the Fund. The Fund would continue to receive the equivalent of the
interest or dividends paid by the issuer on the securities loaned, and would
also receive an additional return that may be in the form of a fixed fee or a
percentage of the collateral. The Fund may pay reasonable fees for services in
arranging these loans. The Fund would have the right to call the loan and obtain
the securities loaned at any time on notice of not more than five business days.
The Fund would not have the right to vote the securities during the existence of
the loan but would call the loan to permit voting of the securities, if, in the
Sub-Advisor's judgment, a material event requiring a shareholder vote would
otherwise occur before the loan was repaid. In the event of bankruptcy or other
default of the borrower, the Fund could experience both delays in liquidating
the loan collateral or recovering the loaned securities and losses, including
(i) possible decline in the value of the collateral or in the value of the
securities loaned during the period while the Fund seeks to enforce its rights
thereto, (ii) possible subnormal levels of income and lack of access to income
during this period, and (iii) expenses of enforcing its rights.
PORTFOLIO TRADING AND TURNOVER RATE
Portfolio trading will be undertaken as determined by the Fund's
Sub-Advisor. There are no limits on the rate of portfolio turnover. A higher
portfolio turnover rate results in correspondingly greater brokerage commissions
and other transactional expenses that are borne by the Fund. High portfolio
turnover may also result in the Fund's recognition of gains that will be taxable
as ordinary income when distributed to the Fund's Common Shareholders. A high
portfolio turnover may also increase the Fund's current and accumulated earnings
and profits, resulting in a greater portion of the Fund's distributions being
treated as a dividend to the Fund's Common Shareholders. See "Tax Matters" in
the Fund's Prospectus and "Federal Income Tax Matters" in this Statement of
Additional Information.
LEVERAGE PROGRAM
The Fund currently intends to seek to enhance the level of its current
distributions through the use of financial leverage. The Fund may utilize
financial leverage through borrowings in an amount up to 33-1/3% of its Managed
Assets less all liabilities other than borrowings or may issue Preferred Shares
in an amount up to 50% of its Managed Assets (including the proceeds of
leverage) (collectively, "Leverage"). The Fund may borrow from banks and other
financial institutions. With respect to certain of its derivative positions, the
Fund intends to maintain an amount of cash or liquid securities in a segregated
account equal to the face value of those positions. The Fund may also offset
derivative positions against one another or against other assets to manage
effective market exposure resulting from derivatives in its portfolio. To the
extent that the Fund does not segregate liquid assets or otherwise cover its
obligations under such transactions, such transactions will be treated as senior
securities representing indebtedness ("borrowings") for purposes of the
requirement under the 1940 Act that the Fund may not enter into any such
transactions if the Fund's borrowings would thereby exceed 33 1/3% of its
Managed Assets. In addition, to the extent that any offsetting positions do not
behave in relation to one another as expected, the Fund may perform as if it
were leveraged. Any use of leverage by the Fund will be consistent with the
provisions of the 1940 Act.
Any Leverage would have complete priority upon distribution of assets over
Common Shares and may be secured by the assets of the Fund. The issuance of
Leverage would leverage the Common Shares. Although the timing and other terms
of the offering of Leverage (other than any derivative transactions) would be
determined by the Board of Trustees, the Fund expects to invest the proceeds
derived from any Leverage offering in securities consistent with the Fund's
investment objective and policies. If Preferred Shares are issued, they may pay
dividends based on fixed rates, floating or adjustable rates or auction rates.
So long as the Fund's portfolio is invested in securities that provide a higher
rate of return than the dividend rate or interest rate of the Leverage, after
taking expenses into consideration, the Leverage will cause Common Shareholders
to receive a higher rate of income than if the Fund were not leveraged.
Leverage creates risk for Common Shareholders, including the likelihood of
greater volatility of NAV and market price of the Common Shares, and the risk
that fluctuations in interest rates on borrowings and debt or in the dividend
rates on any Preferred Shares may affect the return to Common Shareholders or
will result in fluctuations in the dividends paid on the Common Shares. To the
extent total return exceeds the cost of Leverage, the Fund's return will be
greater than if Leverage had not been used. Conversely, if the total return
derived from securities purchased with proceeds received from the use of
Leverage is less than the cost of Leverage, the Fund's return will be less than
if Leverage had not been used, and therefore the amount available for
distribution to Common Shareholders as dividends and other distributions will be
reduced. In the latter case, the Sub-Advisor nevertheless may determine to
maintain the Fund's leveraged position if it expects that the benefits to the
Fund's Common Shareholders of maintaining the leveraged position will outweigh
the current reduced return. Under normal market conditions, the Advisor
anticipates that it will be able to invest the proceeds from Leverage at a
higher rate of return than the costs of Leverage, which would enhance returns to
Common Shareholders. The fees paid to the Advisor (and by the Advisor to the
-22-
Sub-Advisor) will be calculated on the basis of the Managed Assets, including
proceeds from borrowings for Leverage and the issuance of Preferred Shares.
During periods in which the Fund is utilizing Leverage, the investment advisory
fee payable to the Advisor (and by the Advisor to the Sub-Advisor) will be
higher than if the Fund did not utilize a leveraged capital structure. The use
of Leverage creates risks and involves special considerations.
The Declaration of Trust authorizes the Fund, without prior approval of
the Common Shareholders, to borrow money. In connection with this authorization,
the Fund may issue notes or other evidence of indebtedness (including bank
borrowings or commercial paper) and may secure any such borrowings by
mortgaging, pledging or otherwise subjecting as security the Fund's assets. In
connection with such borrowing, the Fund may be required to maintain minimum
average balances with the lender or to pay a commitment or other fee to maintain
a line of credit. Any such requirements will increase the cost of borrowing over
the borrowing instrument's stated interest rate. Under the requirements of the
1940 Act, the Fund, immediately after any such borrowings, must have an "asset
coverage" of at least 300% (33 1/3% of Managed Assets). With respect to such
borrowing, asset coverage means the ratio which the value of the total assets of
the Fund, less all liabilities and indebtedness not represented by senior
securities (as defined in the 1940 Act), bears to the aggregate amount of such
borrowing represented by senior securities issued by the Fund.
The rights of lenders to the Fund to receive interest on and repayment of
principal of any such borrowings will be senior to those of the Common
Shareholders, and the terms of any such borrowings may contain provisions which
limit certain activities of the Fund, including the payment of dividends to
Common Shareholders in certain circumstances. Furthermore, the 1940 Act grants,
in certain circumstances, to the lenders to the Fund, certain voting rights in
the event of default in the payment of interest on or repayment of principal. In
the event that such provisions would impair the Fund's status as a regulated
investment company under the Code, the Fund, subject to its ability to liquidate
its portfolio, intends to repay the borrowings as soon as practicable. Any
borrowing will likely be ranked senior or equal to all other existing and future
borrowings of the Fund.
Certain types of borrowings may result in the Fund being subject to
covenants in credit agreements relating to asset coverage and portfolio
composition requirements. The Fund may be subject to certain restrictions on
investments imposed by guidelines of one or more rating agencies, which may
issue ratings for any short-term corporate debt securities and/or any Preferred
Shares issued by the Fund. These guidelines may impose asset coverage or
portfolio composition requirements that are more stringent than those imposed by
the 1940 Act or the Fund's investment objective and policies.
Under the 1940 Act, the Fund is not permitted to issue Preferred Shares
unless immediately after such issuance the value of the Fund's Managed Assets is
at least 200% of the liquidation value of the outstanding Preferred Shares
(i.e., the liquidation value may not exceed 50% of the Fund's Managed Assets).
In addition, the Fund is not permitted to declare any cash dividend or other
distribution on its Common Shares unless, at the time of such declaration, the
value of the Fund's Managed Assets is at least 200% of such liquidation value.
If Preferred Shares are issued, the Fund intends, to the extent possible, to
-23-
purchase or redeem Preferred Shares from time to time to the extent necessary in
order to maintain coverage of any Preferred Shares of at least 200%. In
addition, as a condition to obtaining ratings on the Preferred Shares, the terms
of any Preferred Shares issued are expected to include more stringent asset
coverage maintenance provisions which will require the redemption of the
Preferred Shares in the event of non-compliance by the Fund and may also
prohibit dividends and other distributions on the Common Shares in such
circumstances. In order to meet redemption requirements, the Fund may have to
liquidate portfolio securities. Such liquidations and redemptions would cause
the Fund to incur related transaction costs and could result in capital losses
to the Fund. Prohibitions on dividends and other distributions on the Common
Shares could impair the Fund's ability to qualify as a regulated investment
company under the Code. If the Fund has Preferred Shares outstanding, two of the
Fund's trustees will be elected by the holders of Preferred Shares as a class.
The remaining trustees of the Fund will be elected by holders of Common Shares
and Preferred Shares voting together as a single class. In the event the Fund
failed to pay dividends on Preferred Shares for two consecutive years, holders
of Preferred Shares would be entitled to elect a majority of the trustees of the
Fund.
The Fund may also borrow money as a temporary measure for extraordinary or
emergency purposes, including the payment of dividends and the settlement of
securities transactions which otherwise might require untimely dispositions of
Fund securities.
With respect to a leverage borrowing program instituted by the Fund, the
credit agreements governing such a program (the "Credit Agreements") will likely
include usual and customary covenants for this type of transaction, including,
but not limited to, limits on the Fund's ability to: (i) issue Preferred Shares;
(ii) incur liens or pledge portfolio securities or investments; (iii) change its
Advisor, Sub-Advisor, investment objective or fundamental investment
restrictions without the approval of lenders; (iv) make changes in any of its
business objectives, purposes or operations that could result in a material
adverse effect; (v) make any changes in its capital structure; (vi) amend the
Fund documents in a manner which could adversely affect the rights, interests or
obligations of any of the lenders; (vii) engage in any business other than the
business currently engaged in; and (viii) create, incur, assume or permit to
exist certain specific types of debt. In addition, the Credit Agreements may
contain covenants relating to asset coverage and portfolio composition
requirements. Covenants contained in the Credit Agreements may place additional
restrictions on the Fund's ability to invest, which could impact Fund
performance.
Under the requirements of the 1940 Act, the Fund must have asset coverage
of at least 300% immediately after any borrowing, including borrowing under any
leverage borrowing program the Fund implements. For this purpose, asset coverage
means the ratio which the value of the total assets of the Fund, less
liabilities and indebtedness not represented by senior securities, bears to the
aggregate amount of borrowings represented by senior securities issued by the
Fund. The Credit Agreements would limit the Fund's ability to pay dividends or
make other distributions on the Fund's Common Shares unless the Fund complies
with the Credit Agreements' covenants. In addition, the Credit Agreements may
not permit the Fund to declare dividends or make other distributions or purchase
or redeem Common Shares or Preferred Shares at any time that any event of
default under the Credit Agreements has occurred and is continuing.
-24-
MANAGEMENT OF THE FUND
TRUSTEES AND OFFICERS
The general supervision of the duties performed for the Fund under the
Investment Management Agreement is the responsibility of the Board of Trustees.
There are five Trustees of the Fund, one of whom is an "interested person" (as
the term is defined in the 1940 Act) ("Interested Trustee") and four of whom are
Trustees who are not officers or employees of First Trust Advisors, which is the
investment advisor to the Fund, or any of its affiliates ("Independent
Trustees"). The Trustees set broad policies for the Fund, choose the Fund's
officers and hire the Fund's investment advisor and other service providers. The
Board of Trustees is divided into three classes: Class I, Class II and Class
III. In connection with the organization of the Fund, each Trustee has been
elected for one initial term, the length of which depends on the class, as more
fully described below. Subsequently, the Trustees in each class will be elected
to serve for a term expiring at the third succeeding annual shareholder meeting
subsequent to their election at an annual meeting, in each case until their
respective successors are duly elected and qualified, as described below. Each
Trustee, except for James A. Bowen, is an Independent Trustee. Mr. Bowen is an
Interested Trustee due to his position as Chief Executive Officer of First Trust
Advisors. The officers of the Fund manage the day-to-day operations and are
responsible to the Fund's Board of Trustees. The officers of the Fund serve
indefinite terms. The following is a list of the Trustees and officers of the
Fund and a statement of their present positions and principal occupations during
the past five years, the number of portfolios each Trustee oversees and the
other directorships they hold, if applicable.
NUMBER OF
PORTFOLIOS IN OTHER
TERM OF THE FIRST DIRECTORSHIPS
OFFICE(2) TRUST HELD BY
POSITION AND AND YEAR FIRST FUND COMPLEX TRUSTEE DURING
NAME, ADDRESS AND DATE OFFICES ELECTED OR PRINCIPAL OCCUPATIONS OVERSEEN BY THE PAST 5
OF BIRTH WITH FUND APPOINTED DURING THE PAST 5 YEARS TRUSTEE YEARS
Trustee who is an Interested
Person of the Fund
----------------------------
James A. Bowen(1) President, o Class III Chief Executive 84 Portfolios None
120 East Liberty Drive, Chairman of the (3)(4) Officer (December 2010
SUite 400 Board, Chief to Present), President
Wheaton, IL 60187 Executive (prior to and
D.O.B.: 09/55 Officer and o 2011 including December
Trustee 2005 to December
2010), First Trust
Advisors L.P. and
First Trust Portfolios
L.P.; Chairman of the
Board of Directors,
BondWave LLC (Software
Development
Company/Investment
Advisor) and
Stonebridge Advisors
LLC (Investment
Advisor)
- 26 -
NUMBER OF
PORTFOLIOS IN OTHER
TERM OF THE FIRST DIRECTORSHIPS
OFFICE(2) TRUST HELD BY
POSITION AND AND YEAR FIRST FUND COMPLEX TRUSTEE DURING
NAME, ADDRESS AND DATE OFFICES ELECTED OR PRINCIPAL OCCUPATIONS OVERSEEN BY THE PAST 5
OF BIRTH WITH FUND APPOINTED DURING THE PAST 5 YEARS TRUSTEE YEARS
Independent Trustees
---------------------------
Richard E. Erickson Trustee o Class II Physician; President, 84 Portfolios None
c/o First Trust Advisors (3)(4) Wheaton Orthopedics;
L.P. Co-owner and
120 East Liberty Drive, Co-Director (January
Suite 400 o 2011 1996 to May 2007),
Wheaton, IL 60187 Sports Med Center for
D.O.B.: 04/51 Fitness; Limited
Partner, Gundersen
Real Estate Limited
Partnership; Member,
Sportsmed LLC
Thomas R. Kadlec Trustee o Class II President (March 2010 84 Portfolios Director of
c/o First Trust Advisors (3)(4) to Present), Senior ADM Investor
L.P. Vice President and Services, Inc.
120 East Liberty Drive, o 2011 Chief Financial and ADM
Suite 400 Officer (May 2007 Investor
Wheaton, IL 60187 to March 2010), Services
D.O.B.: 11/57 Vice President International
and Chief Financial
Officer (1990 to
May 2007), ADM
Investor Services, Inc.
(Futures Commission
Merchant)
Robert F. Keith Trustee o Class I President (2003 to 84 Portfolios Director of
c/o First Trust Advisors (3)(4) Present), Hibs Trust Company
L.P. Enterprises (Financial of Illinois
120 East Liberty Drive, o 2011 and Management
Suite 400 Consulting)
Wheaton, IL 60187
D.O.B.: 11/56
Niel B. Nielson Trustee o Class III President (June 2002 84 Portfolios Director of
c/o First Trust Advisors (3)(4) to Present), Covenant Covenant
L.P. College Transport Inc.
120 East Liberty Drive, o 2011
Suite 400
Wheaton, IL 60187
D.O.B.: 03/54
Officers of the Fund
---------------------------
Mark R. Bradley Treasurer, Chief o Indefinite Chief Financial N/A N/A
120 East Liberty Drive Financial term Officer and Chief
Suite 400 Officer and Operating Officer
Wheaton, IL 60187 Chief Accounting (December 2010 to
D.O.B.: 11/57 Officer o 2011 Present), First Trust
Advisors L.P. and
First Trust Portfolios
L.P.; Chief Financial
Officer, BondWave LLC
(Software Development
Company/Investment
Advisor) and
Stonebridge Advisors
LLC (Investment
Advisor)
- 27 -
NUMBER OF
PORTFOLIOS IN OTHER
TERM OF THE FIRST DIRECTORSHIPS
OFFICE(2) TRUST HELD BY
POSITION AND AND YEAR FIRST FUND COMPLEX TRUSTEE DURING
NAME, ADDRESS AND DATE OFFICES ELECTED OR PRINCIPAL OCCUPATIONS OVERSEEN BY THE PAST 5
OF BIRTH WITH FUND APPOINTED DURING THE PAST 5 YEARS TRUSTEE YEARS
Erin E. Chapman Assistant o Indefinite Assistant General N/A N/A
120 East Liberty Drive Secretary term Counsel (October 2007
Suite 400 to Present), Associate
Wheaton, IL 60187 o 2011 Counsel (March 2006 to
D.O.B.: 08/76 October 2007), First
Trust Advisors L.P.;
Associate Attorney
(November 2003 to
March 2006) Doyle &
Bolotin, Ltd.
James M. Dykas Assistant o Indefinite Controller (January N/A N/A
120 East Liberty Drive Treasurer term 2011 to Present),
Suite 400 Senior Vice President
Wheaton, IL 60187 o 2011 (April 2007 to
D.O.B.: 01/66 Present), Vice
President (January
2005 to April 2007),
First Trust Advisors
L.P. and First Trust
Portfolios L.P.
Christopher R. Fallow Assistant Vice o Indefinite Assistant Vice N/A N/A
120 East Liberty Drive President term President (August 2006
Suite 400 to Present), Associate
Wheaton, IL 60187 o 2011 (January 2005 to
D.O.B.: 04/79 August 2006), First
Trust Advisors L.P.
and First Trust
Portfolios L.P.
Rosanne Gatta Assistant o Indefinite Board Liaison N/A N/A
120 East Liberty Drive Secretary Term Associate (July 2010
Suite 400 to Present), First
Wheaton, IL 60187 o March 2011 Trust Advisors L.P.
D.O.B.: 07/55 and First Trust
Portfolios L.P.,
Assistant Vice
President (February
2001 to July 2010),
PNC Global Investment
Servicing
W. Scott Jardine Secretary o Indefinite General Counsel, First N/A N/A
120 East Liberty Drive term Trust Advisors L.P.,
Suite 400 First Trust Portfolios
Wheaton, IL 60187 o 2011 L.P. and BondWave LLC
D.O.B.: 05/60 (Software Development
Company/Investment
Advisor); Secretary of
Stonebridge Advisors
LLC (Investment Advisor)
Daniel J. Lindquist Vice President o Indefinite Senior Vice President N/A N/A
120 East Liberty Drive term (September 2005 to
Suite 400 Present), Vice
Wheaton, IL 60187 o 2011 President (April 2004
D.O.B.: 02/70 to September 2005),
First Trust Advisors
L.P. and First Trust
Portfolios L.P.
- 28 -
NUMBER OF
PORTFOLIOS IN OTHER
TERM OF THE FIRST DIRECTORSHIPS
OFFICE(2) TRUST HELD BY
POSITION AND AND YEAR FIRST FUND COMPLEX TRUSTEE DURING
NAME, ADDRESS AND DATE OFFICES ELECTED OR PRINCIPAL OCCUPATIONS OVERSEEN BY THE PAST 5
OF BIRTH WITH FUND APPOINTED DURING THE PAST 5 YEARS TRUSTEE YEARS
Coleen D. Lynch Assistant Vice o Indefinite Assistant Vice N/A N/A
120 East Liberty Drive President term President (January
Suite 400 2008 to Present),
Wheaton, IL 60187 o 2011 First Trust Advisors
D.O.B.: 07/58 L.P. and First Trust
Portfolios L.P.; Vice
President (May 1998 to
January 2008), Van
Kampen Asset
Management and Morgan
Stanley Investment
Management
N/A
Kristi A. Maher Assistant o Indefinite Deputy General Counsel N/A
120 East Liberty Drive Secretary and term (May 2007 to Present),
Suite 400 Chief Compliance Assistant General
Wheaton, IL 60187 Officer o Assistant Counsel (March 2004 to
D.O.B.: 12/66 Secretary May 2007), First Trust
since 2011 Advisors L.P. and
First Trust Portfolios
o Chief L.P.
Compliance
Officer since
2011
--------------------
(1) Mr. Bowen is deemed an "interested person" of the Fund due to his position
as Chief Executive Officer of First Trust Advisors, the investment advisor
of the Fund.
(2) Officer positions with the Fund have an indefinite term.
(3) After a Trustee's initial term, each Trustee is expected to serve a
three-year term concurrent with the class of Trustees for which he serves:
- Class I Trustee serves an initial term until the 2014 succeeding
shareholder meeting subsequent to his election called for the purpose of
electing Trustees.
- Class II Trustees serve an initial term until the 2012 annual
shareholder meeting called for the purpose of electing Trustees.
- Class III Trustees serve an initial term until the 2013 succeeding
annual shareholder meeting called for the purpose of electing Trustees.
(4) Each Trustee has served in such capacity since the Fund's inception.
UNITARY BOARD LEADERSHIP STRUCTURE
Each Trustee serves as a trustee of all open-end and closed-end funds in
the First Trust Fund Complex (as defined below), which is known as a "unitary"
board leadership structure. Each Trustee currently serves as a trustee of the
Fund; First Trust Series Fund and First Defined Portfolio Fund, LLC, open-end
funds with two and eight portfolios, respectively, advised by First Trust
Advisors; First Trust High Income Long/Short Fund, First Trust Senior Floating
Rate Income Fund II, Macquarie/First Trust Global Infrastructure/Utilities
Dividend & Income Fund, Energy Income and Growth Fund, First Trust Enhanced
Equity Income Fund, First Trust/Aberdeen Global Opportunity Income Fund, First
Trust Mortgage Income Fund, First Trust Strategic High Income Fund, First Trust
Strategic High Income Fund II, First Trust Strategic High Income Fund III, First
Trust/Aberdeen Emerging Opportunity Fund, First Trust Specialty Finance and
Financial Opportunities Fund and First Trust Active Dividend Income Fund,
closed-end funds advised by First Trust Advisors; and First Trust
Exchange-Traded Fund, First Trust Exchange-Traded Fund II, First Trust
Exchange-Traded AlphaDEX(R) Fund and First Trust Exchange-Traded AlphaDEX(R)
-29-
Fund II, exchange-traded funds with 60 portfolios advised by First Trust
Advisors (each a "First Trust Fund" and collectively, the "First Trust Fund
Complex"). None of the Trustees who are not "interested persons" of the Fund,
nor any of their immediate family members, has ever been a director, officer or
employee of, or consultant to, First Trust Advisors, First Trust Portfolios L.P.
or their affiliates. In addition, Mr. Bowen and the other officers of the Fund
hold the same positions with the other funds in the First Trust Fund Complex as
they hold with the Fund (other than Christopher R. Fallow). Mr. Bowen serves as
both the Chief Executive Officer for each First Trust Fund and the Chairman of
each Board in the First Trust Fund Complex. Mr. Fallow serves as Assistant Vice
President of all the closed-end funds and First Trust Series Fund only.
The same five persons serve as Trustees on the Fund's Board of Trustees
and on the boards of all other First Trust Funds. The unitary board structure
was adopted for the First Trust Funds because of the efficiencies it achieves
with respect to the governance and oversight of the First Trust Funds. Each
First Trust Fund is subject to the rules and regulations of the 1940 Act (and
other applicable securities laws), which means that many of the First Trust
Funds face similar issues with respect to certain of their fundamental
activities, including risk management, portfolio liquidity, portfolio valuation
and financial reporting. In addition, all of the First Trust closed-end funds
are managed by the Advisor and employ common service providers for custody, fund
accounting, administration and transfer agency that provide substantially
similar services to these closed-end funds pursuant to substantially similar
contractual arrangements. Because of the similar and often overlapping issues
facing the First Trust Funds, including the Fund, the Board of the First Trust
Funds believes that maintaining a unitary board structure promotes efficiency
and consistency in the governance and oversight of all First Trust Funds and
reduces the costs, administrative burdens and possible conflicts that may result
from having multiple boards. In adopting a unitary board structure, the Trustees
seek to provide effective governance through establishing a board, the overall
composition of which, as a body, possesses the appropriate skills, diversity,
independence and experience to oversee the Fund's business.
Annually, the Board of Trustees will review its governance structure and
the committee structures, their performance and functions and any processes that
would enhance Board governance over the Fund's business. The Board of Trustees
has determined that its leadership structure, including the unitary board and
committee structure, is appropriate based on the characteristics of the funds it
serves and the characteristics of the First Trust Fund Complex as a whole.
In order to streamline communication between the Advisor and the
Independent Trustees and create certain efficiencies, the Board of Trustees has
a Lead Independent Trustee who is responsible for: (i) coordinating activities
of the Independent Trustees; (ii) working with the Advisor, Fund counsel and the
independent legal counsel to the Independent Trustees to determine the agenda
for Board meetings; (iii) serving as the principal contact for and facilitating
communication between the Independent Trustees and the Fund's service providers,
particularly the Advisor; and (iv) any other duties that the Independent
Trustees may delegate to the Lead Independent Trustee. The Lead Independent
Trustee is selected by the Independent Trustees and serves a two-year term or
until his successor is selected. Niel B. Nielson currently serves as the Lead
Independent Trustee.
-30-
The Board of Trustees has established four standing committees (as
described below) and has delegated certain of its responsibilities to those
committees. Since the Fund's organizational meeting, the Board of Trustees of
the First Trust Fund Complex and its committees have held 13 meetings during the
current fiscal year to oversee the First Trust Funds' activities, review
contractual arrangements with and performance of service providers, oversee
compliance with regulatory requirements, and review fund performance. The
Independent Trustees are represented by independent legal counsel at all Board
and committee meetings. Generally, the Board of Trustees acts by majority vote
of all the Trustees, including a majority vote of the Independent Trustees if
required by applicable law.
The three committee chairs and the Lead Independent Trustee rotate every
two years in serving as chair of the Audit Committee, the Nominating and
Governance Committee or the Valuation Committee, or as Lead Independent Trustee.
The Lead Independent Trustee also serves on the Executive Committee with the
Interested Trustee.
The four standing committees of the Board are: the Executive Committee
(and Pricing and Dividend Committee), the Nominating and Governance Committee,
the Valuation Committee and the Audit Committee. The Executive Committee, which
meets between Board meetings, is authorized to exercise all powers of and to act
in the place of the Board of Trustees to the extent permitted by the Fund's
Declaration of Trust and By-Laws. The members of the Executive Committee also
serve as a special committee of the Board of Trustees known as the Pricing and
Dividend Committee, which is authorized to exercise all of the powers and
authority of the Board of Trustees in respect of the issuance and sale, through
an underwritten public offering, of the Shares of the Fund and all other such
matters relating to such financing, including determining the price at which
such Shares are to be sold, approval of the final terms of the underwriting
agreement, and approval of the members of the underwriting syndicate. Such
Committee is also responsible for the declaration and setting of dividends. Mr.
Nielson and Mr. Bowen are members of the Executive Committee.
The Nominating and Governance Committee is responsible for appointing and
nominating non-interested persons to the Fund's Board of Trustees. Messrs.
Erickson, Kadlec, Keith and Nielson are members of the Nominating and Governance
Committee. If there is no vacancy on the Board of Trustees, the Board will not
actively seek recommendations from other parties, including shareholders. The
Committee will not consider new trustee candidates who are 72 years of age or
older or will turn 72 years old during the initial term. The Board of Trustees
has also adopted a mandatory retirement age of 72. When a vacancy on the Board
of Trustees of a First Trust Fund occurs and nominations are sought to fill such
vacancy, the Nominating and Governance Committee may seek nominations from those
sources it deems appropriate in its discretion, including shareholders of the
applicable First Trust Fund. To submit a recommendation for nomination as a
candidate for a position on the Board of Trustees, shareholders of the
applicable Fund shall mail such recommendation to W. Scott Jardine, Secretary,
at the Fund's address, 120 East Liberty Drive, Suite 400, Wheaton, Illinois
60187. Such recommendation shall include the following information: (i) evidence
of Fund ownership of the person or entity recommending the candidate (if a Fund
shareholder); (ii) a full description of the proposed candidate's background,
including their education, experience, current employment and date of birth;
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(iii) names and addresses of at least three professional references for the
candidate; (iv) information as to whether the candidate is an "interested
person" in relation to the Fund, as such term is defined in the 1940 Act, and
such other information that may be considered to impair the candidate's
independence; and (v) any other information that may be helpful to the Committee
in evaluating the candidate. If a recommendation is received with satisfactorily
completed information regarding a candidate during a time when a vacancy exists
on the Board or during such other time as the Nominating and Governance
Committee is accepting recommendations, the recommendation will be forwarded to
the Chair of the Nominating and Governance Committee and the counsel to the
Independent Trustees. Recommendations received at any other time will be kept on
file until such time as the Nominating and Governance Committee is accepting
recommendations, at which point they may be considered for nomination.
The Valuation Committee is responsible for the oversight of the pricing
procedures of the Fund. Messrs. Erickson, Kadlec, Keith and Nielson are members
of the Valuation Committee.
The Audit Committee is responsible for overseeing the Fund's accounting
and financial reporting process, the system of internal controls, audit process
and evaluating and appointing independent auditors (subject also to Board
approval). Messrs. Erickson, Kadlec, Keith and Nielson serve on the Audit
Committee.
RISK OVERSIGHT
As part of the general oversight of the Fund, the Board of Trustees is
involved in the risk oversight of the Fund. The Board of Trustees has adopted
and periodically reviews policies and procedures designed to address the Fund's
risks. Oversight of investment and compliance risk, including oversight of the
Sub-Advisor, is performed primarily at the Board level in conjunction with the
Advisor's investment oversight group and the Fund's Chief Compliance Officer
("CCO"). Oversight of other risks also occurs at the committee level. The
Advisor's investment oversight group reports to the Board of Trustees at
quarterly meetings regarding, among other things, Fund performance and the
various drivers of such performance as well as information related to the
Sub-Advisor and its operations and processes. The Board of Trustees reviews
reports on the Fund's and the service providers' compliance policies and
procedures at each quarterly Board meeting and receives an annual report from
the CCO regarding the operations of the Fund's and the service providers'
compliance programs. In addition, the Independent Trustees meet privately each
quarter with the CCO. The Audit Committee reviews with the Advisor the Fund's
major financial risk exposures and the steps the Advisor has taken to monitor
and control these exposures, including the Fund's risk assessment and risk
management policies and guidelines. The Audit Committee also, as appropriate,
reviews in a general manner the processes other Board committees have in place
with respect to risk assessment and risk management. The Nominating and
Governance Committee monitors all matters related to the corporate governance of
the Fund. The Valuation Committee monitors valuation risk and compliance with
the Fund's Valuation Procedures and oversees the pricing agents and actions by
the Advisor's Pricing Committee with respect to the valuation of portfolio
securities.
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BOARD DIVERSIFICATION AND TRUSTEE QUALIFICATIONS
As described above, the Nominating and Governance Committee of the Board
of Trustees oversees matters related to the nomination of Trustees. The
Nominating and Governance Committee seeks to establish an effective Board with
an appropriate range of skills and diversity, including, as appropriate,
differences in background, professional experience, education, vocations, and
other individual characteristics and traits in the aggregate. Each Trustee must
meet certain basic requirements, including relevant skills and experience, time
availability, and if qualifying as an Independent Trustee, independence from the
Advisor, Sub-Advisor, underwriters or other service providers, including any
affiliates of these entities.
Listed below for each current Trustee are the experiences, qualifications
and attributes that led to the conclusion, as of the date of this Statement of
Additional Information, that each Trustee should serve as a trustee.
Richard E. Erickson, M.D., is an orthopedic surgeon and President of
Wheaton Orthopedics. He also has been a co-owner and director of a fitness
center and a limited partner of two real estate companies. Dr. Erickson has
served as a Trustee of each First Trust Fund since its inception. Dr. Erickson
has also served as the Lead Independent Trustee (2008 - 2009), Chairman of the
Nominating and Governance Committee (2003 - 2007) and Chairman of the Valuation
Committee (June 2006 - 2007 and since 2010) of the First Trust Funds.
Thomas R. Kadlec is President of ADM Investor Services Inc. ("ADMIS"), a
futures commission merchant and wholly-owned subsidiary of the Archer Daniels
Midland Company ("ADM"). Mr. Kadlec has been employed by ADMIS and its
affiliates since 1990 in various accounting, financial, operations and risk
management capacities. Mr. Kadlec serves on the boards of several international
affiliates of ADMIS and is a member of ADM's Integrated Risk Committee, which is
tasked with the duty of implementing and communicating enterprise-wide risk
management. Mr. Kadlec has served as a Trustee of each First Trust closed-end
fund since its inception. Mr. Kadlec has also served on the Executive Committee
since the organization of the first First Trust closed-end fund in 2003 until he
was elected as the first Lead Independent Trustee in December 2005, serving as
such through 2007. He also served as Chairman of the Valuation Committee (2008 -
2009) and currently serves as Chairman of the Audit Committee (since 2010) of
the First Trust Funds.
Robert F. Keith is President of Hibs Enterprises, a financial and
management consulting firm. Mr. Keith has been with Hibs Enterprises since 2004.
Prior thereto, Mr. Keith spent 18 years with ServiceMaster and Aramark,
including three years as President and COO of ServiceMaster Consumer Services,
where he led the initial expansion of certain products overseas, five years as
President and COO of ServiceMaster Management Services and two years as
President of Aramark ServiceMaster Management Services. Mr. Keith is a certified
public accountant and also has held the positions of Treasurer and Chief
Financial Officer of ServiceMaster, at which time he oversaw the financial
aspects of ServiceMaster's expansion of its Management Services division into
Europe, the Middle East and Asia. Mr. Keith has served as a Trustee of the First
Trust Funds since June 2006. Mr. Keith has also served as the Chairman of the
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Audit Committee (2008 - 2009) of the First Trust Funds and currently serves as
Chairman of the Nominating and Governance Committee (since 2010) of the First
Trust Funds.
Niel B. Nielson, Ph.D., has served as the President of Covenant College
since 2002. Mr. Nielson formerly served as a partner and trader (of options and
futures contracts for hedging options) for Ritchie Capital Markets Group (1996 -
1997), where he held an administrative management position at this proprietary
derivatives trading company. He also held prior positions in new business
development for ServiceMaster Management Services Company, and in personnel and
human resources for NationsBank of North Carolina, N.A. and Chicago Research and
Trading Group, Ltd. ("CRT"). His international experience includes serving as a
director of CRT Europe, Inc. for two years, directing out of London all aspects
of business conducted by the U.K. and European subsidiary of CRT. Prior to that,
Mr. Nielson was a trader and manager at CRT in Chicago. Mr. Nielson has served
as a Trustee of each First Trust Fund since its inception. Mr. Nielson has also
served as the Chairman of the Audit Committee (2003 - 2006), Chairman of the
Nominating and Governance Committee (2008 - 2009) and currently serves as Lead
Independent Trustee (since 2010) of the First Trust Funds.
James A. Bowen is President and Chief Executive Officer of the First Trust
Funds and President of First Trust Advisors L.P. and First Trust Portfolios L.P.
Mr. Bowen is involved in the day-to-day management of the First Trust Funds and
serves on the Executive Committee. He has over 26 years of experience in the
investment company business in sales, sales management and executive management.
Mr. Bowen has served as a Trustee of each First Trust Fund since its
inception.
As described above, the Board of Trustees is divided into three classes
and, in connection with the organization of the Fund, Trustees were elected for
an initial term. The Class I Trustee will serve until the third succeeding
annual meeting subsequent to his initial election; Class II Trustees will serve
until the first annual meeting subsequent to their initial election; and Class
III Trustees will serve until the second succeeding annual meeting subsequent to
their initial election. At each annual meeting, the Trustees chosen to succeed
those whose terms are expiring shall be identified as being of the same class as
the Trustees whom they succeed and shall be elected for a term expiring at the
time of the third succeeding annual meeting subsequent to their election, in
each case until their respective successors are duly elected and qualified.
Holders of any Preferred Shares will be entitled to elect a majority of the
Fund's Trustees under certain circumstances. See "Description of
Shares--Preferred Shares--Voting Rights" in the Prospectus.
Each trust in the First Trust Fund Complex pays each Trustee who is not an
officer or employee of First Trust Advisors, any sub-advisor or any of their
affiliates ("Independent Trustees") an annual retainer of $10,000 per trust for
the first 14 trusts in the First Trust Fund Complex and an annual retainer of
$7,500 per trust for each subsequent trust added to the First Trust Fund
Complex. The annual retainer is allocated equally among each of the trusts. In
addition, for all the trusts in the First Trust Fund Complex, Mr. Nielson is
paid annual compensation of $10,000 to serve as the Lead Independent Trustee,
Mr. Kadlec is paid annual compensation of $5,000 to serve as the chairman of the
Audit Committee, Dr. Erickson is paid annual compensation of $2,500 to serve as
-34-
chairman of the Valuation Committee and Mr. Keith is paid annual compensation of
$2,500 to serve as the chairman of the Nominating and Governance Committee. Each
chairman and the Lead Independent Trustee will serve a two year term expiring
December 31, 2011 before rotating to serve as a chairman of another committee or
as Lead Independent Trustee. The annual compensation is allocated equally among
each of the trusts in the First Trust Fund Complex. Trustees are also reimbursed
by the investment companies in the First Trust Fund Complex for travel and
out-of-pocket expenses incurred in connection with all meetings.
The following table sets forth estimated compensation to be paid by the
Fund projected during the Fund's first full fiscal year to each of the Trustees
and estimated total compensation to be paid to each of the Trustees by the First
Trust Fund Complex for a full calendar year. The Fund has no retirement or
pension plans. The officers and the Trustee who are "interested persons" as
designated above serve without any compensation from the Fund.
ESTIMATED TOTAL
COMPENSATION
ESTIMATED AGGREGATE FROM FUND AND
NAME OF TRUSTEE COMPENSATION FROM FUND (1) FUND COMPLEX(2)
James A. Bowen $0 $0
Richard E. Erickson $9,375.00 $187,500.00
Thomas R. Kadlec $9,500.00 $190,000.00
Robert F. Keith $9,375.00 $187,500.00
Niel B. Nielson $10,000.00 $199,500.00
--------------------
(1) The compensation estimated to be paid by the Fund to the Trustees for
the first full fiscal year for services to the Fund.
(2) The total estimated compensation to be paid to Messrs. Erickson,
Kadlec, Keith and Nielson, Independent Trustees, from the Fund and
the First Trust Fund Complex for a full calendar year is based on
estimated compensation to be paid to these Trustees for a full
calendar year for services as Trustees to the Fund and the First
Defined Portfolio Fund, LLC, an open-end fund (with eight
portfolios), the First Trust Exchange-Traded Fund, First Trust
Exchange-Traded Fund II and First Trust Exchange-Traded AlphaDEX(R)
Fund, exchange-traded funds, plus estimated compensation to be paid
to these Trustees by the First Trust Senior Floating Rate Income Fund
II, the Macquarie/First Trust Global Infrastructure/Utilities
Dividend & Income Fund, the Energy Income and Growth Fund, the First
Trust Enhanced Equity Income Fund, the First Trust/Aberdeen Global
Opportunity Income Fund, the First Trust/FIDAC Mortgage Income Fund,
the First Trust Strategic High Income Fund, the First Trust Strategic
High Income Fund II, First Trust Strategic High Income Fund III, the
First Trust/Aberdeen Emerging Opportunity Fund, the First Trust
Specialty Finance and Financial Opportunities Fund, the First Trust
Active Dividend Income Fund and the First Trust High Income
Long/Short Fund.
The Fund has no employees. Its officers are compensated by First Trust
Advisors. The shareholders of the Fund will elect certain Trustees for a
three-year term at the next annual meeting of shareholders.
The following table sets forth the dollar range of equity securities
beneficially owned by the Trustees in the Fund and in other funds overseen by
the Trustees in the First Trust Fund Complex as of December 31, 2010. Because
the Fund recently commenced operations, the Trustees did not own any securities
of the Fund as of the Fund's inception or as of the date of this Statement of
Additional Information.
-35-
AGGREGATE DOLLAR RANGE OF
EQUITY SECURITIES IN
DOLLAR RANGE OF ALL REGISTERED INVESTMENT COMPANIES
EQUITY SECURITIES OVERSEEN BY TRUSTEE IN
TRUSTEE IN THE FUND FIRST TRUST FUND COMPLEX
James A. Bowen None $50,001 - $100,000
Richard E. Erickson None Over $100,000
Thomas R. Kadlec None Over $100,000
Robert F. Keith None Over $100,000
Niel B. Nielson None Over $100,000
As of September 27, 2011, the Trustees of the Fund who are not "interested
persons" of the Fund and immediate family members do not own beneficially or of
record any class of securities of an investment advisor or principal underwriter
of the Fund or any person directly or indirectly controlling, controlled by, or
under common control with an investment advisor or principal underwriter of the
Fund.
As of September 27, 2011, First Trust Portfolios L.P. owned both
beneficially and of record all of the Common Shares of the Fund. First Trust
Portfolios L.P. is located at 120 East Liberty Drive, Suite 400, Wheaton,
Illinois 60187.
INVESTMENT ADVISOR
First Trust Advisors L.P., 120 East Liberty Drive, Suite 400, Wheaton,
Illinois 60187, is the investment advisor to the Fund. First Trust Advisors
serves as investment advisor or portfolio supervisor to investment portfolios
with approximately $46 billion in assets which it managed or supervised as of
August 31, 2011. As investment advisor, First Trust Advisors provides the Fund
with professional investment supervision and selects the Fund's Sub-Advisor
(with the approval of the Board of Trustees) and permits any of its officers or
employees to serve without compensation as Trustees or officers of the Fund if
elected to such positions. First Trust Advisors supervises the activities of the
Fund's Sub-Advisor and provides the Fund with certain other services necessary
with the management of the portfolio.
First Trust Advisors is an Illinois limited partnership formed in 1991 and
an investment advisor registered with the SEC under the Investment Advisers Act
of 1940 (the "Advisers Act"). First Trust Advisors has one limited partner,
Grace Partners of DuPage L.P. ("Grace Partners"), and one general partner, The
Charger Corporation. Grace Partners is a limited partnership with one general
partner, The Charger Corporation, and a number of limited partners. Grace
Partners' and The Charger Corporation's primary business is investment advisory
and broker/dealer services through their ownership interests. The Charger
Corporation is an Illinois corporation controlled by the James A. Bowen, Chief
Executive Officer of the Advisor. First Trust Advisors is controlled by Grace
Partners and The Charger Corporation.
-36-
First Trust Advisors is advisor or sub-advisor to 20 mutual funds, four
exchange-traded funds consisting of 60 series and 14 closed-end funds (including
the Fund) and is the portfolio supervisor of certain unit investment trusts
sponsored by First Trust Portfolios L.P. First Trust Portfolios L.P. specializes
in the underwriting, trading and distribution of unit investment trusts and
other securities. First Trust Portfolios L.P., an Illinois limited partnership
formed in 1991, took over the First Trust product line and acts as sponsor for
successive series of The First Trust Combined Series, FT Series (formerly known
as The First Trust Special Situations Trust), The First Trust Insured Corporate
Trust, The First Trust of Insured Municipal Bonds and The First Trust GNMA. The
First Trust product line commenced with the first insured unit investment trust
in 1974, and to date, more than $150 billion in gross assets have been deposited
in First Trust Portfolios L.P. unit investment trusts.
First Trust Advisors acts as investment advisor to the Fund pursuant to an
Investment Management Agreement. The Investment Management Agreement continues
in effect from year-to-year after its initial two-year term so long as its
continuation is approved at least annually by the Trustees including a majority
of the Independent Trustees, or the vote of a majority of the outstanding voting
securities of the Fund. It may be terminated at any time without the payment of
any penalty upon 60 days' written notice by either party, or by a majority vote
of the outstanding voting securities of the Fund or by the Board of Trustees
(accompanied by appropriate notice), and will terminate automatically upon its
assignment. The Investment Management Agreement may also be terminated, at any
time, without payment of any penalty, by the Board or by vote of a majority of
the outstanding voting securities of the Fund, in the event that it shall have
been established by a court of competent jurisdiction that the Advisor, or any
officer or director of the Advisor, has taken any action which results in a
breach of the material covenants of the Advisor set forth in the Investment
Management Agreement. The Investment Management Agreement provides that First
Trust Advisors shall not be liable for any loss sustained by reason of the
purchase, sale or retention of any security, whether or not such purchase, sale
or retention shall have been based upon the investigation and research made by
any other individual, firm or corporation, if the recommendation shall have been
selected with due care and in good faith, except loss resulting from willful
misfeasance, bad faith or gross negligence on the part of the Advisor in
performance of its obligations and duties, or by reason of its reckless
disregard of its obligations and duties under the Investment Management
Agreement. As compensation for its services, the Fund pays First Trust Advisors
a fee as described in the Prospectus. See "Management of the Fund--Investment
Management Agreement" in the Fund's Prospectus.
In addition to the fee of First Trust Advisors, the Fund pays all other
costs and expenses of its operations, including: compensation of its Trustees
(other than the Trustee affiliated with First Trust Advisors); custodian,
transfer agent, administrative, accounting and dividend disbursing expenses;
legal fees; expenses of independent auditors; expenses of preparing, printing
and distributing shareholder reports, notices, proxy statements and reports to
governmental agencies; and taxes, if any. All fees and expenses are accrued
daily and deducted before payment of dividends to investors.
The Investment Management Agreement has been approved by the Board of
Trustees of the Fund, including a majority of the Independent Trustees, and the
sole shareholder of the Fund. Information regarding the Board of Trustees'
-37-
approval of the Investment Management and Sub-Advisory Agreements will be
available in the Fund's annual report for the fiscal period ending October 31,
2011.
CODE OF ETHICS
The Fund, the Advisor and the Sub-Advisor have each adopted codes of
ethics that comply with Rule 17j-1 under the 1940 Act. These codes permit
personnel subject to the applicable code to invest in securities, including
securities that may be purchased or held by the Fund. These codes can be
reviewed and copied at the SEC's Public Reference Room in Washington, D.C.
Information on the operation of the Public Reference Room may be obtained by
calling the SEC at (202) 551-8090. The codes of ethics are available on the
EDGAR Database on the SEC's website (http://www.sec.gov), and copies of these
codes may be obtained, after paying a duplicating fee, by electronic request at
the following e-mail address: publicinfo@sec.gov, or by writing the SEC's Public
Reference Section, 100 F Street, N.E., Washington, D.C. 20549-0102.
SUB-ADVISOR
Energy Income Partners serves as the Fund's Sub-Advisor. In this capacity,
Energy Income Partners is responsible for the selection and on-going monitoring
of the securities in the Fund's investment portfolio.
Energy Income Partners, located at 49 Riverside Avenue, Westport,
Connecticut 06880, is a registered investment Advisor and serves as investment
Advisor or portfolio supervisor to investment portfolios with approximately $917
million of assets as of August 31, 2011.
Energy Income Partners is a Delaware limited liability company and an SEC
Registered Investment Advisor, founded in October 2003 by James J. Murchie to
provide professional asset management services in the area of energy related
master limited partnerships and other high payout securities in the energy
sector. In addition to serving as Sub-Advisor to the Fund, Energy Income
Partners serves as the investment manager to three unregistered investment
companies and one private registered investment company for high net worth
individuals and institutions. Energy Income Partners mainly focuses on portfolio
companies that operate infrastructure assets such as pipelines, storage and
terminals that receive fee-based or regulated income from their customers.
Energy Income Partners currently has a staff of seven persons.
First Trust Capital Partners, LLC, an affiliate of the Advisor, owns,
through a wholly-owned subsidiary, a 20% ownership interest in each of the
Sub-Advisor and EIP Partners, LLC, a Delaware limited liability company and
affiliate of the Sub-Advisor. In addition, it is anticipated that an affiliate
of the Advisor will purchase preferred interests in the Sub-Advisor concurrently
with the closing of the offering contemplated by the Prospectus.
James J. Murchie is the Founder, Chief Executive Officer, co-portfolio
manager and a Principal of Energy Income Partners. After founding Energy Income
Partners in October 2003, Mr. Murchie and the Energy Income Partners investment
-38-
team joined Pequot Capital Management Inc. ("Pequot Capital") in December 2004.
In August 2006, Mr. Murchie and the Energy Income Partners investment team left
Pequot Capital and re-established Energy Income. Prior to founding Energy Income
Partners, Mr. Murchie was a Portfolio Manager at Lawhill Capital Partners, LLC
("Lawhill Capital"), a long/short equity hedge fund investing in commodities and
equities in the energy and basic industry sectors. Before Lawhill Capital, Mr.
Murchie was a Managing Director at Tiger Management, LLC, where his primary
responsibility was managing a portfolio of investments in commodities and
related equities. Mr. Murchie was also a Principal at Sanford C. Bernstein. He
began his career at British Petroleum, PLC. Mr. Murchie holds a BA from Rice
University and an MA from Harvard University.
Eva Pao is a Principal of Energy Income Partners and is co-portfolio
manager for all its funds. She has been with Energy Income Partners since
inception in 2003. From 2005 to mid-2006, Ms. Pao joined Pequot Capital
Management during Energy Income Partners' affiliation with Pequot. Prior to
Harvard Business School, Ms. Pao was a Manager at Enron Corp where she managed a
portfolio in Canadian oil and gas equities for Enron's internal hedge fund that
specialized in energy-related equities and managed a natural gas trading book.
Ms. Pao holds degrees from Rice University and Harvard Business School.
Linda Longville is the Research Director and a Principal of Energy Income
Partners. Ms. Longville has been with Energy Income Partners since its inception
in 2003, including the time the Energy Income Partners investment team spent at
Pequot Capital between December 2004 and July 2006. From April 2001 through
September 2003, she was a research analyst for Lawhill Capital. Prior to Lawhill
Capital, Ms. Longville held positions in finance and business development at
British Petroleum, PLC and Advanced Satellite Communications, Inc. She has a BAS
from Miami University (Ohio) and an MA from Case Western Reserve University.
Saul Ballesteros is the Head of Trading and a Principal of Energy Income
Partners. Mr. Ballesteros joined Energy Income Partners in 2006 after six years
as a proprietary trader at FPL Group and Mirant Corp. From 1994 through 1999, he
was with Enron's internal hedge fund in various positions of increased
responsibility, and, from 1991 through 1994, Mr. Ballesteros was a manager of
financial planning at IBM. Mr. Ballesteros holds a BS from Duke University and
an MBA from Northwestern University.
-------------------------------------------------------------------------------------------------
NUMBER OF OTHER ACCOUNTS MANAGED AND ASSETS BY ACCOUNT TYPE
AS OF DECEMBER 31, 2010
-------------------------------------------------------------------------------------------------
REGISTERED INVESTMENT
COMPANIES OTHER POOLED
(OTHER THAN THE FUND) INVESTMENT VEHICLES OTHER ACCOUNTS
--------------------- ------------------- --------------
_________________________________________________________________________________________________
Number: 2 Number: 3 Number: 200
Assets: $465 million Assets: $126 million Assets: $162 million
-------------------------------------------------------------------------------------------------
-39-
Actual or apparent conflicts of interest may arise when a portfolio
manager has day-to-day management responsibilities with respect to more than one
fund or other account. More specifically, portfolio managers who manage multiple
funds and /or other accounts may be presented with one or more of the potential
conflicts described below.
The management of multiple funds and/or other accounts may result in a
portfolio manager devoting unequal time and attention to the management of each
fund and/or other account. The Sub-Advisor seeks to manage such competing
interests for the time and attention of a portfolio manager by having the
portfolio manager focus on a particular investment discipline. Most other
accounts managed by a portfolio manager are managed using the same investment
models that are used in connection with the management of the Fund.
If a portfolio manager identifies a limited investment opportunity which
may be suitable for more than one fund or other account, a fund may not be able
to take full advantage of that opportunity due to an allocation of filled
purchase or sale orders across all eligible funds and other accounts. To deal
with these situations, the Sub-Advisor has adopted procedures for allocating
portfolio transactions across multiple accounts.
With respect to securities transactions for the Fund, the Sub-Advisor
determines which broker to use to execute each order, consistent with its duty
to seek best execution of the transaction. However, with respect to certain
other accounts (such as mutual funds for which the Sub-Advisor acts as
sub-advisor, other pooled investment vehicles that are not registered mutual
funds, and other accounts managed for organizations and individuals), the
Sub-Advisor may be limited by the client with respect to the selection of
brokers or may be instructed to direct trades through a particular broker. In
these cases, trades for a fund in a particular security may be placed separately
from, rather than aggregated with, such other accounts. Having separate
transactions with respect to a security may temporarily affect the market price
of the security or the execution of the transaction, or both, to the possible
detriment of such fund or other account(s) involved.
The Sub-Advisor, the Advisor and the Fund have adopted certain compliance
procedures which are designed to address these types of conflicts. However,
there is no guarantee that such procedures will detect each and every situation
in which a conflict arises.
The Sub-Advisor, subject to the Board of Trustees' and Advisor's
supervision, provides the Fund with discretionary investment services.
Specifically, the Sub-Advisor is responsible for managing the investments of the
Fund in accordance with the Fund's investment objective, policies and
restrictions as provided in the Prospectus and this Statement of Additional
Information, as may be subsequently changed by the Board of Trustees and
communicated to the Sub-Advisor in writing. The Sub-Advisor further agrees to
conform to all applicable laws and regulations of the SEC in all material
respects and to conduct its activities under the Sub-Advisory Agreement in all
material respects in accordance with applicable regulations of any governmental
authority pertaining to its investment advisory services. In the performance of
its duties, the Sub-Advisor will in all material respects satisfy any applicable
fiduciary duties it may have to the Fund, will monitor the Fund's investments,
and will comply with the provisions of the Fund's Declaration of Trust and
By-Laws, as amended from time to time, and the stated investment objective,
-40-
policies and restrictions of the Fund. The Sub-Advisor is responsible for
effecting all security transactions for the Fund's assets. The Sub-Advisory
Agreement provides that the Sub-Advisor shall not be liable for any loss
suffered by the Fund or the Advisor (including, without limitation, by reason of
the purchase, sale or retention of any security) in connection with the
performance of the Sub-Advisor's duties under the Sub-Advisory Agreement, except
for a loss resulting from willful misfeasance, bad faith or gross negligence on
the part of the Sub-Advisor in performance of its duties under such Sub-Advisory
Agreement, or by reason of its reckless disregard of its obligations and duties
under such Sub-Advisory Agreement.
Pursuant to the Sub-Advisory Agreement among the Advisor, the Sub-Advisor
and the Fund, the Advisor has agreed to pay for the services and facilities
provided by the Sub-Advisor through sub-advisory fees, as set forth in the
Fund's Prospectus. The Sub-Advisor receives a portfolio management fee equal to
0.50% of the Fund's Managed Assets. The Sub-Advisor's fee is paid by the Advisor
out of the Advisor's management fee.
The Sub-Advisory Agreement may be terminated without the payment of any
penalty by First Trust Advisors, the Fund's Board of Trustees, or a majority of
the outstanding voting securities of the Fund (as defined in the 1940 Act), upon
60 days' written notice to the Sub-Advisor.
All fees and expenses are accrued daily and deducted before payment of
dividends to investors. The Sub-Advisory Agreement has been approved by the
Board of Trustees, including a majority of the Independent Trustees of the Fund,
and the common shareholders of the Fund.
PROXY VOTING POLICIES AND PROCEDURES
The Fund has adopted a proxy voting policy that seeks to ensure that
proxies for securities held by the Fund are voted consistently and solely in the
best economic interests of the Fund.
The Board of Trustees is responsible for oversight of the Fund's proxy
voting process. The Board has delegated day-to-day proxy voting responsibility
to the Sub-Advisor. The Proxy Voting Guidelines of the Sub-Advisor are set forth
in Appendix B to this Statement of Additional Information.
Information regarding how the Fund voted proxies (if any) relating to
portfolio securities during the most recent 12-month period ended June 30 will
be available: (i) without charge, upon request, by calling (800) 621-1675; (ii)
on the Fund's website at http://www.ftportfolios.com; and (iii) by accessing the
SEC's website at http://www.sec.gov.
PORTFOLIO TRANSACTIONS AND BROKERAGE
Subject to the supervision of the Board of Trustees, the Sub-Advisor shall
have authority and discretion to select brokers and dealers to execute
transactions initiated by the Sub-Advisor and to select the market in which the
transactions will be executed. In placing orders for the sale and purchase of
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securities for the Fund, the Sub-Advisor's primary responsibility shall be to
seek the best execution of orders at the most favorable prices. However, this
responsibility shall not obligate the Sub-Advisor to solicit competitive bids
for each transaction or to seek the lowest available commission cost to the
Fund, so long as the Sub-Advisor reasonably believes that the broker or dealer
selected by it can be expected to obtain a "best execution" market price on the
particular transaction and determines in good faith that the commission cost is
reasonable in relation to the value of the brokerage and research services
(within the meaning of Section 28(e)(3) of the 1934 Act) provided by such broker
or dealer to the Sub-Advisor, viewed in terms of either that particular
transaction or of the overall responsibilities with respect to its clients,
including the Fund, as to which the Sub-Advisor exercises investment discretion,
notwithstanding that the Fund may not be the direct or exclusive beneficiary of
any such services or that another broker may be willing to charge the Fund a
lower commission on the particular transaction.
The Sub-Advisor's objective in selecting brokers and dealers and in
effecting portfolio transactions is to seek to obtain the best combination of
price and execution with respect to its clients' portfolio transactions. Steps
associated with seeking best execution include, but are not limited to, the
following: (i) determine each client's trading requirements; (ii) select
appropriate trading methods, venues, and agents to execute the trades under the
circumstances; (iii) evaluate market liquidity of each security and take
appropriate steps to avoid excessive market impact; (iv) maintain client
confidentiality and proprietary information inherent in the decision to trade;
and (v) review the results on a periodic basis.
In arranging for the purchase and sale of clients' portfolio securities,
the Sub-Advisor takes numerous factors into consideration. The best net price,
giving effect to brokerage commissions, spreads and other costs, is normally an
important factor in this decision, but a number of other judgmental factors are
considered as they are deemed relevant. The factors include, but are not limited
to: the execution capabilities required by the transactions; the ability and
willingness of the broker or dealer to facilitate the accounts' portfolio
transactions by participating therein for its own account; the importance to the
account of speed, efficiency and confidentiality; the broker or dealer's
apparent familiarity with sources from or to whom particular securities might be
purchased or sold; the reputation and perceived soundness of the broker or
dealer; the Sub-Advisor's knowledge of negotiated commission rates and spreads
currently available; the nature of the security being traded; the size and type
of the transaction; the nature and character of the markets for the security to
be purchased or sold; the desired timing of the trade; the activity existing and
expected in the market for the particular security; confidentiality; the
execution, clearance and settlement capabilities as well as the reputation and
perceived soundness of the broker-dealer selected and others which are
considered; the Sub-Advisor's knowledge of actual or apparent operational
problems of any broker-dealer; the broker-dealer's execution services rendered
on a continuing basis and in other transactions; the reasonableness of spreads
or commissions; as well as other matters relevant to the selection of a broker
or dealer for portfolio transactions for any account. The Sub-Advisor does not
adhere to any rigid formula in making the selection of the applicable broker or
dealer for portfolio transactions, but weighs a combination of the preceding
factors.
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When buying or selling securities in dealer markets, the Sub-Advisor
generally prefers to deal directly with market makers in the securities. The
Sub-Advisor will typically effect these trades on a "net" basis, and will not
pay the market maker any commission, commission equivalent or markup/markdown
other than the "spread." Usually, the market maker profits from the "spread,"
that is, the difference between the price paid (or received) by the Advisor and
the price received (or paid) by the market maker in trades with other
broker-dealers or other customers.
The Sub-Advisor may use Electronic Communications Networks ("ECN") or
Alternative Trading Systems ("ATS") to effect such over-the-counter trades for
equity securities when, in the Sub-Advisor's judgment, the use of an ECN or ATS
may result in equal or more favorable overall executions for the transactions.
Portfolio transactions for each client account will generally be completed
independently, except when the Sub-Advisor is in the position of buying or
selling the same security for a number of clients at approximately the same
time. Because of market fluctuations, the prices obtained on such transactions
within a single day may vary substantially. In order to avoid having clients
receive different prices for the same security on the same day, the Sub-Advisor
endeavors, when possible, to use an "averaging" procedure.
Under this procedure, purchases or sales of a particular security for
clients' accounts will at times be combined or "batched" with purchases or sales
for other advisory clients by the Sub-Advisor unless the client has expressly
directed otherwise. Such batched trades may be used to facilitate best
execution, including negotiating more favorable prices, obtaining more timely or
equitable execution or reducing overall commission charges. In such cases, the
price shown on confirmations of clients' purchases or sales will be the average
execution price on all of the purchases and sales that are aggregated for this
purpose.
The Sub-Advisor may also consider the following when deciding on
allocations: (i) cash flow changes (including available cash, redemptions,
exchanges, capital additions and capital withdrawals) may provide a basis to
deviate from a pre-established allocation as long as it does not result in an
unfair advantage to specific accounts or types of accounts over time; (ii)
accounts with specialized investment objectives or restrictions emphasizing
investment in a specific category of securities may be given priority over other
accounts in allocating such securities; and (iii) for bond trades, street
convention and good delivery often dictate the minimum size and par amounts and
may result in deviations from pro rata distribution.
DESCRIPTION OF SHARES
COMMON SHARES
The beneficial interest of the Fund may be divided from time to time into
shares of beneficial interest of such classes and of such designations and par
values (if any) and with such rights, preferences, privileges and restrictions
as shall be determined by the Trustees from time to time in their sole
discretion, without shareholder vote. The Fund's Declaration of Trust initially
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authorizes the issuance of an unlimited number of Common Shares. The Common
Shares being offered have a par value of $0.01 per share and, subject to the
rights of holders of Preferred Shares, if issued, have equal rights as to the
payment of dividends and the distribution of assets upon liquidation of the
Fund. The Common Shares being offered will, when issued, be fully paid and,
subject to matters discussed in "Certain Provisions in the Declaration of Trust
and By-Laws," non-assessable, and currently have no pre-emptive or conversion
rights (except as may otherwise be determined by the Trustees in their sole
discretion) or rights to cumulative voting in the election of Trustees.
The Common Shares have been approved for listing on the New York Stock
Exchange, subject to notice of issuance, under the symbol "FIF." The Fund
intends to hold annual meetings of shareholders so long as the Common Shares are
listed on a national securities exchange and such meetings are required as a
condition to such listing.
Shares of closed-end investment companies may frequently trade at prices
lower than NAV. NAV will be reduced immediately following this offering after
payment of the sales load and organization and offering expenses. Although the
value of the Fund's net assets is generally considered by market participants in
determining whether to purchase or sell shares, whether investors will realize
gains or losses upon the sale of Common Shares will depend entirely upon whether
the market price of the Common Shares at the time of sale is above or below the
original purchase price for the shares. Since the market price of the Fund's
Common Shares will be determined by factors beyond the control of the Fund, the
Fund cannot predict whether the Common Shares will trade at, below, or above NAV
or at, below or above the initial public offering price. Accordingly, the Common
Shares are designed primarily for long-term investors, and investors in the
Common Shares should not view the Fund as a vehicle for trading purposes. See
"Repurchase of Fund Shares; Conversion to Open-End Fund" below and "The Fund's
Investments" in the Fund's Prospectus.
PREFERRED SHARE AUTHORIZATION
Under the terms of the Declaration of Trust, the Board of Trustees has the
authority in its sole discretion, without prior approval of the Common
Shareholders, to authorize the issuance of Preferred Shares in one or more
classes or series with such rights and terms, including voting rights, dividend
rates, redemption provisions, liquidation preferences and conversion provisions,
as determined by the Board of Trustees.
BORROWINGS
The Declaration of Trust authorizes the Fund, without prior approval of
the Common Shareholders, to borrow money. In this connection, the Fund may issue
notes or other evidence of indebtedness (including bank borrowings or commercial
paper) ("Borrowings") and may secure any such Borrowings by mortgaging, pledging
or otherwise subjecting as security the Fund's assets. In connection with such
Borrowings, the Fund may be required to maintain average balances with the
lender or to pay a commitment or other fee to maintain a line of credit. Any
such requirements will increase the cost of borrowing over the borrowing
instrument's stated interest rate. The Fund may borrow from banks and other
financial institutions.
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Limitations on Borrowings. Under the requirements of the 1940 Act, the
Fund, immediately after any Borrowings, must have an "asset coverage" of at
least 300% (33 1/3% of Managed Assets after Borrowings). With respect to such
Borrowings, "asset coverage" means the ratio which the value of the total assets
of the Fund, less all liabilities and indebtedness not represented by senior
securities (as defined in the 1940 Act), bears to the aggregate amount of such
Borrowings represented by senior securities issued by the Fund. Certain types of
Borrowings may result in the Fund being subject to covenants in credit
agreements relating to asset coverage or portfolio composition or otherwise. In
addition, the Fund may be subject to certain restrictions imposed by the
guidelines of one or more NRSROs which may issue ratings for short-term
corporate debt securities and/or Preferred Shares issued by the Fund. Such
restrictions may be more stringent than those imposed by the 1940 Act.
Distribution Preference. The rights of lenders to the Fund to receive
interest on and repayment of principal of any such Borrowings will be senior to
those of the Common Shareholders, and the terms of any such Borrowings may
contain provisions which limit certain activities of the Fund, including the
payment of dividends to Common Shareholders in certain circumstances.
Voting Rights. The 1940 Act grants (in certain circumstances) to the
lenders to the Fund certain voting rights in the event the asset coverage falls
below specified levels. In the event that the Fund elects to be treated as a
regulated investment company under the Code and such provisions would impair the
Fund's status as a regulated investment company, the Fund, subject to its
ability to liquidate its portfolio, intends to repay the Borrowings as soon as
practicable. Any Borrowings will likely be ranked senior or equal to all other
existing and future borrowings of the Fund.
The discussion above describes the Fund's Board of Trustees' present
intention with respect to Borrowings. If authorized by the Board of Trustees,
the terms of any Borrowings may be the same as, or different from, the terms
described above, subject to applicable law and the Fund's Declaration of Trust.
CERTAIN PROVISIONS IN THE DECLARATION OF TRUST AND BY-LAWS
Under Massachusetts law, shareholders in certain circumstances could be
held personally liable for the obligations of the Fund. However, the Declaration
of Trust contains an express disclaimer of shareholder liability for debts or
obligations of the Fund and requires that notice of such limited liability be
given in each agreement, obligation or instrument entered into or executed by
the Fund or the Trustees. The Declaration of Trust further provides for
indemnification out of the assets and property of the Fund for all loss and
expense of any shareholder held personally liable for the obligations of the
Fund solely by reason of his or her being a shareholder. In addition, the Fund
will assume the defense of any claim against a shareholder for personal
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liability at the request of the shareholder. Thus, the risk of a shareholder
incurring financial loss on account of shareholder liability is limited to
circumstances in which the Fund would be unable to meet its obligations. The
Fund believes that the likelihood of such circumstances is remote.
The Declaration of Trust provides that the obligations of the Fund are not
binding upon the Trustees of the Fund individually, but only upon the assets and
property of the Fund. The Declaration of Trust further provides that a Trustee
acting in his or her capacity of Trustee is not personally liable to any person
other than the Fund or its shareholders for any act, omission, or obligation of
the Fund. A present or former Trustee, officer or employee of the Fund is not
liable to the Fund or its shareholders for any action or failure to act
(including without limitation the failure to compel in any way any former or
acting Trustee to redress any breach of trust) except for his or her own bad
faith, willful misfeasance, gross negligence or reckless disregard of his or her
duties involved in the conduct of the individual's office, and for nothing else
and is not liable for errors of judgment or mistakes of fact or law.
The Declaration of Trust requires the Fund to indemnify any persons who
are or who have been Trustees, officers or employees of the Fund for any
liability for actions or failure to act except to extent prohibited by
applicable federal law. In making any determination as to whether any person is
entitled to the advancement of expenses or indemnification, such person is
entitled to a rebuttable presumption that he or she did not engage in conduct
for which indemnification is not available.
The Declaration of Trust also clarifies that any Trustee who serves as
chair of the board or of a committee of the board, lead independent Trustee, or
audit committee financial expert, or in any other similar capacity will not be
subject to any greater standard of care or liability because of such position.
The Declaration of Trust requires a shareholder vote only on those matters
where the 1940 Act or the Fund's listing with an exchange require a shareholder
vote, but otherwise permits the Trustees to take actions without seeking the
consent of shareholders. For example, the Declaration of Trust gives the
Trustees broad authority to approve reorganizations between the Fund and another
entity, such as another closed-end fund, and the sale of all or substantially
all of its assets without shareholder approval if the 1940 Act would not require
such approval. The Declaration of Trust further provides that the Trustees may
amend the Declaration of Trust in any respect without shareholder approval. The
Declaration of Trust, however, prohibits amendments that impair the exemption
from personal liability granted in the Declaration of Trust to persons who are
or have been shareholders, Trustees, officers or employees of the Fund or that
limit the rights to indemnification or insurance provided in the Declaration of
Trust with respect to actions or omissions of persons entitled to
indemnification under the Declaration of Trust prior to the amendment.
The Declaration of Trust and By-Laws include provisions that could limit
the ability of other entities or persons to acquire control of the Fund or to
convert the Fund to open-end status. The number of trustees is currently five,
but by action of two-thirds of the Trustees, the Board may from time to time be
increased or decreased. The Board of Trustees is divided into three classes,
with the terms of one class expiring at each annual meeting of shareholders. If
the Fund issues Preferred Shares, the Fund may establish a separate class for
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the Trustees elected by the holders of the Preferred Shares. Vacancies on the
Board of Trustees may be filled by a majority action of the remaining Trustees
to the extent permitted by the 1940 Act. Such provisions may work to delay a
change in the majority of the Board of Trustees. The provisions of the
Declaration of Trust relating to the election and removal of Trustees may be
amended only by vote of two-thirds of the Trustees then in office.
Generally, the Declaration of Trust requires the affirmative vote or
consent by holders of at least two-thirds of the shares outstanding and entitled
to vote, except as described below, to authorize: (i) a conversion of the Fund
from a closed-end to an open-end investment company; (ii) a merger or
consolidation of the Fund with any corporation, association, trust or other
organization, including a series or class of such other organization (in the
limited circumstances where a vote by shareholders is otherwise required under
the Declaration of Trust); (iii) a sale, lease or exchange of all or
substantially all of the Fund's assets (in the limited circumstances where a
vote by shareholders is otherwise required under the Declaration of Trust); (iv)
in certain circumstances, a termination of the Fund; (v) removal of Trustees by
shareholders; or (vi) certain transactions in which a Principal Shareholder (as
defined below) is a party to the transactions. However, with respect to items
(i), (ii) and (iii) above, if the applicable transaction has been already
approved by the affirmative vote of two-thirds of the Trustees, then the
affirmative vote of the majority of the outstanding voting securities as defined
in the 1940 Act (a "Majority Shareholder Vote") is required. In addition, if
there are then Preferred Shares outstanding, with respect to (i) above,
two-thirds of the Preferred Shares voting as a separate class shall also be
required unless the action has already been approved by two-thirds of the
Trustees, in which case then a Majority Shareholder Vote is required. Such
affirmative vote or consent shall be in addition to the vote or consent of the
holders of the shares otherwise required by law or by the terms of any class or
series of preferred shares, whether now or hereafter authorized, or any
agreement between the Fund and any national securities exchange. Furthermore, in
the case of items (ii) or (iii) that constitute a plan of reorganization (as
such term is used in the 1940 Act) which adversely affects the Preferred Shares
within the meaning of Section 18(a)(2)(D) of the 1940 Act, except as may
otherwise be required by law, the approval of the action in question will also
require the affirmative vote of two-thirds of the Preferred Shares voting as a
separate class, provided that such separate class vote shall be by a Majority
Shareholder Vote if the action in question has previously been approved by the
affirmative vote of two-thirds of the Trustees.
As noted above, pursuant to the Declaration of Trust, the affirmative
approval of two-thirds of the shares outstanding and entitled to vote, subject
to certain exceptions, shall be required for the following transactions in which
a Principal Shareholder (as defined below) is a party: (i) the merger or
consolidation of the Fund or any subsidiary of the Fund with or into any
Principal Shareholder; (ii) the issuance of any securities of the Fund to any
Principal Shareholder for cash other than pursuant to a dividend reinvestment or
similar plan available to all shareholders; (iii) the sale, lease or exchange of
all or any substantial part of the assets of the Fund to any Principal
Shareholder (except assets having an aggregate fair market value of less than
$1,000,000, aggregating for the purpose of such computation all assets sold,
leased or exchanged in any series of similar transactions within a twelve-month
period); (iv) the sale, lease or exchange to the Fund or any subsidiary thereof,
in exchange for securities of the Fund, of any assets of any Principal
Shareholder (except assets having an aggregate fair market value of less than
$1,000,000, aggregating for the purposes of such computation all assets sold,
leased or exchanged in any series of similar transactions within a twelve-month
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period). However, shareholder approval for the foregoing transactions shall not
be applicable to (i) any transaction, including, without limitation, any rights
offering, made available on a pro rata basis to all shareholders of the Fund or
class thereof unless the trustees specifically make such transaction subject to
this voting provision, (ii) any transaction if two-thirds of the trustees shall
by resolution have approved a memorandum of understanding with such Principal
Shareholder with respect to and substantially consistent with such transaction
or (iii) any such transaction with any corporation of which a majority of the
outstanding shares of all classes of stock normally entitled to vote in
elections of directors is owned of record or beneficially by the Fund and its
subsidiaries. As described in the Declaration of Trust, a Principal Shareholder
shall mean any corporation, person or other entity which is the beneficial
owner, directly or indirectly, of more than 5% of the outstanding shares and
shall include any affiliate or associate (as such terms are defined in the
Declaration of Trust) of a Principal Shareholder. The above affirmative vote
shall be in addition to the vote of the shareholders otherwise required by law
or by the terms of any class or series of preferred shares, whether now or
hereafter authorized, or any agreement between the Fund and any national
securities exchange.
The provisions of the Declaration of Trust described above could have the
effect of depriving the Common Shareholders of opportunities to sell their
Common Shares at a premium over market value by discouraging a third party from
seeking to obtain control of the Fund in a tender offer or similar transaction.
The overall effect of these provisions is to render more difficult the
accomplishment of a merger or the assumption of control by a third party. They
provide, however, the advantage of potentially requiring persons seeking control
of the Fund to negotiate with its management regarding the price to be paid and
facilitating the continuity of the Fund's investment objective and policies. The
Board of Trustees of the Fund has considered the foregoing anti-takeover
provisions and concluded that they are in the best interests of the Fund and its
Shareholders.
The Declaration of Trust also provides that prior to bringing a derivative
action, a demand must first be made on the Trustees by three unrelated
shareholders that hold shares representing at least 5% of the voting power of
the Fund or affected class. The Declaration of Trust details various
information, certifications, undertakings and acknowledgements that must be
included in the demand. Following receipt of the demand, the Trustees have a
period of 90 days, which may be extended by an additional 60 days, to consider
the demand. If a majority of the Trustees who are considered independent for the
purposes of considering the demand determine that maintaining the suit would not
be in the best interests of the Fund, the Trustees are required to reject the
demand and the complaining shareholders may not proceed with the derivative
action unless the shareholders are able to sustain the burden of proof to a
court that the decision of the Trustees not to pursue the requested action was
not a good faith exercise of their business judgment on behalf of the Fund. If a
demand is rejected, the complaining shareholders will be responsible for the
costs and expenses (including attorneys' fees) incurred by the Fund in
connection with the consideration of the demand under a number of circumstances.
If a derivative action is brought in violation of the Declaration of Trust, the
shareholders bringing the action may be responsible for the Fund's costs,
including attorney's fees. The Declaration of Trust also includes a forum
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selection clause requiring that any shareholder litigation be brought in certain
courts in Illinois and further provides that any shareholder bringing an action
against the Fund waive the right to trial by jury to the fullest extent
permitted by law.
Reference should be made to the Declaration of Trust on file with the SEC
for the full text of these provisions.
REPURCHASE OF FUND SHARES; CONVERSION TO OPEN-END
FUND
The Fund is a closed-end investment company and as such its shareholders
will not have the right to cause the Fund to redeem their shares. Instead, the
Fund's Common Shares will trade in the open market at a price that will be a
function of several factors, including dividend levels (which are in turn
affected by expenses), NAV, dividend stability, relative demand for and supply
of such shares in the market, general market and economic conditions and other
factors. Because shares of a closed-end investment company may frequently trade
at prices lower than NAV, the Trustees, in consultation with the Fund's Advisor,
Sub-Advisor and any corporate finance services and consulting agent that the
Advisor may retain, from time to time may review possible actions to reduce any
such discount. Actions may include the repurchase of such shares in the open
market or in private transactions, the making of a tender offer for such shares,
or the conversion of the Fund to an open-end investment company. There can be no
assurance, however, that the Trustees will decide to take any of these actions,
or that share repurchases or tender offers, if undertaken, will reduce a market
discount. After any consideration of potential actions to seek to reduce any
significant market discount, the Trustees may, subject to their fiduciary
obligations and compliance with applicable state and federal laws, authorize the
commencement of a share-repurchase program or tender offer. The size and timing
of any such share repurchase program or tender offer will be determined by the
Trustees in light of the market discount of the Common Shares, trading volume of
the Common Shares, information presented to the Trustees regarding the potential
impact of any such share repurchase program or tender offer, and general market
and economic conditions, among other things. There can be no assurance that the
Fund will in fact effect repurchases of or tender offers for any of its Common
Shares. In addition, any service fees incurred in connection with any tender
offer made by the Fund will be borne by the Fund and will not reduce the stated
consideration to be paid to tendering shareholders. Before deciding whether to
take any action if the Fund's Common Shares trade below NAV, the Trustees would
consider all relevant factors, including the extent and duration of the
discount, the liquidity of the Fund's portfolio, the impact of any action that
might be taken on the Fund or its shareholders and market considerations. Based
on these considerations, even if the Fund's shares should trade at a discount,
the Trustees may determine that, in the interest of the Fund and its
shareholders, no action should be taken.
Subject to its investment limitations, the Fund may borrow to finance the
repurchase of shares or to make a tender offer. Interest on any borrowings to
finance share repurchase transactions or the accumulation of cash by the Fund in
anticipation of share repurchases or tenders will increase the Fund's expenses
and reduce the Fund's net income. Any share repurchase, tender offer or
borrowing that might be approved by the Trustees would have to comply with the
1934 Act and the 1940 Act and the rules and regulations thereunder.
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Although the decision to take action in response to a discount from NAV
will be made by the Trustees at the time they consider such issue, it is the
Trustees' present policy, which may be changed by the Trustees, not to authorize
repurchases of Common Shares or a tender offer for such shares if (i) such
transactions, if consummated, would (a) result in the delisting of the Common
Shares from the New York Stock Exchange, or (b) impair the Fund's status as a
registered closed-end investment company under the 1940 Act; (ii) the Fund would
not be able to liquidate portfolio securities in an orderly manner and
consistent with the Fund's investment objective and policies in order to
repurchase shares; or (iii) there is, in the Board of Trustees' judgment, any
(a) material legal action or proceeding instituted or threatened challenging
such transactions or otherwise materially adversely affecting the Fund, (b)
general suspension of or limitation on prices for trading securities on the New
York Stock Exchange, (c) declaration of a banking moratorium by federal or state
authorities or any suspension of payment by United States or state banks in
which the Fund invests, (d) material limitation affecting the Fund or the
issuers of its portfolio securities by federal or state authorities on the
extension of credit by lending institutions or on the exchange of non-U.S.
currency, (e) commencement of war, armed hostilities or other international or
national calamity directly or indirectly involving the United States or (f)
other event or condition which would have a material adverse effect (including
any adverse tax effect) on the Fund or its shareholders if shares were
repurchased. The Trustees may in the future modify these conditions in light of
experience with respect to the Fund.
Conversion to an open-end company would require the approval of the
holders of at least two-thirds of the Fund's shares outstanding and entitled to
vote; provided, however, that unless otherwise provided by law, if there are
Preferred Shares outstanding, the affirmative vote of two-thirds of the
Preferred Shares voting as a separate class shall be required; provided,
however, that such votes shall be by a Majority Shareholder Vote, if the action
in question was previously approved by the affirmative vote of two-thirds of the
Trustees. Such affirmative vote or consent shall be in addition to the vote or
consent of the holders of the shares otherwise required by law or by the terms
of any class or series of preferred shares, whether now or hereafter authorized,
or any agreement between the Fund and any national securities exchange. See the
Prospectus under "Closed-End Fund Structure" for a discussion of voting
requirements applicable to conversion of the Fund to an open-end company. If the
Fund converted to an open-end company, the Fund's Common Shares would no longer
be listed on the New York Stock Exchange. Any Preferred Shares would need to be
redeemed and any Borrowings may need to be repaid upon conversion to an open-end
investment company. Additionally, the 1940 Act imposes limitations on open-end
funds' investments in illiquid securities, which could restrict the Fund's
ability to invest in certain securities discussed in the Prospectus to the
extent discussed therein. Such limitations could adversely affect distributions
to Common Shareholders in the event of conversion to an open-end fund.
Shareholders of an open-end investment company may require the company to redeem
their shares on any business day (except in certain circumstances as authorized
by or under the 1940 Act) at their NAV, less such redemption charge or
contingent deferred sales charge, if any, as might be in effect at the time of
redemption. In order to avoid maintaining large cash positions or liquidating
favorable investments to meet redemptions, open-end companies typically engage
in a continuous offering of their shares. Open-end companies are thus subject to
periodic asset in-flows and out-flows that can complicate portfolio management.
-50-
The Trustees may at any time propose conversion of the Fund to an open-end
company depending upon their judgment as to the advisability of such action in
light of circumstances then prevailing.
The repurchase by the Fund of its shares at prices below NAV will result
in an increase in the NAV of those shares that remain outstanding. However,
there can be no assurance that share repurchases or tenders at or below NAV will
result in the Fund's shares trading at a price equal to their NAV. Nevertheless,
the fact that the Fund's shares may be the subject of repurchase or tender
offers from time to time may reduce any spread between market price and NAV that
might otherwise exist.
In addition, a purchase by the Fund of its Common Shares will decrease the
Fund's Managed Assets which would likely have the effect of increasing the
Fund's expense ratio.
FEDERAL INCOME TAX MATTERS
This section summarizes the material U.S. federal income tax consequences
of owning Common Shares of the Fund. This section is current and based upon
federal income tax laws in effect as of the date of this Statement of Additional
Information. Tax laws and interpretations change frequently, possibly with
retroactive effect, and these summaries do not describe all of the tax
consequences to all taxpayers. For example, these summaries generally do not
describe your situation if you are a non-U.S. person, financial institution,
insurance company, investor in a pass-through entity, person whose "functional
currency" is not the U.S. dollar, tax-exempt organization, broker/dealer, or
other investor with special circumstances. In addition, this section does not
describe your state, local or foreign tax consequences. Unless otherwise noted,
the following tax discussion assumes that you hold Common Shares as a capital
asset (generally, property held for investment).
This federal income tax summary is based in part on the advice of counsel
to the Fund. The IRS could disagree with any conclusions set forth in this
section. In addition, our counsel was not asked to review, and has not reached a
conclusion with respect to the federal income tax treatment of the assets to be
deposited in the Fund. This summary may not be sufficient for you to use for the
purpose of avoiding penalties under federal tax law.
As with any investment, you should seek advice based on your individual
circumstances from your own tax advisor.
The Fund intends to qualify annually and to elect to be treated as a
regulated investment company under the Code, and to comply with applicable
distribution requirements so that it will not pay federal income tax on income
and capital gains distributed to its Common Shareholders.
To qualify for the favorable U.S. federal income tax treatment generally
accorded to regulated investment companies, the Fund must, among other things,
(i) derive in each taxable year at least 90% of its gross income from dividends,
interest, payments with respect to securities loans and gains from the sale or
other disposition of stock, securities or foreign currencies, other income
derived with respect to its business of investing in such stock, securities or
currencies or net income derived from interests in certain publicly traded
partnerships; (ii) diversify its holdings so that, at the end of each quarter of
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the taxable year, (a) at least 50% of the value of the Fund's total assets is
represented by cash and cash items (including receivables), U.S. government
securities, the securities of other regulated investment companies and other
securities, with such other securities of any one issuer generally limited for
the purposes of this calculation to an amount not greater than 5% of the value
of the Fund's total assets and not greater than 10% of the outstanding voting
securities of such issuer and (b) not more than 25% of the value of its total
assets is invested in the securities (other than U.S. government securities or
the securities of other regulated investment companies) of any one issuer, the
securities (other than the securities of other regulated investment companies)
of two or more issuers which the Fund controls (i.e., owns 20% or more of the
total combined voting power of all classes of stock entitled to vote) and which
are engaged in the same, similar or related trades or businesses or the
securities of one or more certain publicly traded partnerships; and (iii)
distribute in each taxable year at least 90% of the sum of its investment
company taxable income (as that term is defined in the Code, but determined
without regard to the deduction for dividends paid) and its net tax-exempt
interest income for the taxable year. Recent legislation would allow certain
exceptions for failure to otherwise qualify if the failure is for reasonable
cause or is de minimus.
As a regulated investment company, the Fund generally will not be subject
to U.S. federal income tax on its investment company taxable income and net
capital gain (the excess of net long-term capital gain over net short-term
capital loss), if any, that it distributes to its Common Shareholders. The Fund
intends to distribute to its Common Shareholders, at least annually,
substantially all of its investment company taxable income and net capital gain.
If the Fund retains any net capital gain or investment company taxable income,
it will generally be subject to federal income tax at regular corporate rates on
the amount retained. In addition, amounts not distributed on a timely basis in
accordance with a calendar year distribution requirement are subject to a
nondeductible 4% excise tax unless, generally, the Fund distributes during each
calendar year an amount equal to the sum of (i) at least 98% of its ordinary
income (not taking into account any capital gains or losses) for the calendar
year, (ii) at least 98.2% of its capital gains in excess of its capital losses
(adjusted for certain ordinary losses) for the one-year period ending October 31
of the calendar year, and (iii) any ordinary income and capital gains for
previous years that were not distributed during those years and on which the
Fund did not pay federal income tax. To prevent application of the 4% excise
tax, the Fund intends to make its distributions in accordance with the calendar
year distribution requirement. A distribution will be treated as paid on
December 31 of the current calendar year if it is declared by the Fund in
October, November or December with a record date in such a month and paid by the
Fund during January of the following calendar year. These distributions will be
taxable to shareholders in the calendar year in which the distributions are
declared, rather than the calendar year in which the distributions are received.
Subject to reasonable cause and de minimus exceptions provided in recent
legislation, if the Fund fails to qualify as a regulated investment company or
fails to satisfy the 90% distribution requirement in any taxable year, the Fund
will be taxed as an ordinary corporation on its taxable income (even if such
income were distributed to its shareholders) and all distributions out of
earnings and profits will be taxed to Common Shareholders as dividend income,
which, in general and subject to limitations under the Code, under current law
will constitute qualified dividend income in the case of individual shareholders
in taxable years beginning on or before December 31, 2012, and would be eligible
for the corporate dividends received deduction. Before qualifying as a regulated
investment company again, the Fund could be required to recognize unrealized
gains, pay taxes and make distributions (which could be subject to interest
charges).
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DISTRIBUTIONS
Distributions paid out of the Fund's investment company taxable income
generally are taxable to a Common Shareholder as ordinary income to the extent
of the Fund's earnings and profits, whether paid in cash or reinvested in
additional Common Shares. However, if the Fund holds certain equity securities,
certain ordinary income distributions that are specifically reported by the Fund
may constitute qualified dividend income eligible for taxation at capital gains
tax rates. In particular, a portion of the ordinary income distributions
received by an individual shareholder from a regulated investment company such
as the Fund are generally taxed at the same rates that apply to net capital gain
(generally, a maximum rate of 15%), provided certain holding period and other
requirements are satisfied by both the regulated investment company and the
shareholder and provided the dividends are attributable to "qualified dividends"
received by the regulated investment company itself. For this purpose, qualified
dividends mean dividends received by the Fund from U.S. corporations and
qualifying foreign corporations, provided that the Fund satisfies certain
holding period and other requirements in respect of the stock of such
corporations. Dividends received by the Fund from real estate investment trusts
and foreign corporations are qualified dividends eligible for this lower tax
rate only in certain circumstances. These special rules relating to the taxation
of ordinary income distributions from regulated investment companies generally
apply to taxable years beginning before January 1, 2013.
Distributions of net capital gain, if any, properly reported as capital
gain dividends are taxable to a Common Shareholder as long-term capital gain,
regardless of how long the Common Shareholder has held Common Shares of the
Fund. A distribution of an amount in excess of the Fund's current and
accumulated earnings and profits will be treated by a Common Shareholder as a
return of capital which is applied against and reduces the Common Shareholder's
tax basis in his or her Common Shares. To the extent that the amount of any
distribution exceeds the Common Shareholder's basis in his or her shares, the
excess will be treated by the Common Shareholder as gain from a sale or exchange
of the Common Shares.
Under the Fund's dividend reinvestment plan (the "Plan"), if a Common
Shareholder owns Common Shares in his or her own name, the Common Shareholder
will have all dividends (including any capital gain dividends) automatically
reinvested in additional Common Shares unless the Common Shareholder opts out of
the Plan prior to the record date of the next dividend or distribution. See
"Dividend Reinvestment Plan" in the prospectus. If a Common Shareholder's
dividend distributions are automatically reinvested pursuant to the Plan and the
Plan Agent invests the distributions in Common Shares acquired on behalf of the
Common Shareholder in open-market purchases, for U.S. federal income tax
purposes, the Common Shareholder will be treated as having received a taxable
distribution in the amount of the cash dividend that the shareholder would have
received if the Common Shareholder had elected to receive cash. If a Common
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Shareholder's dividend distributions are automatically reinvested pursuant to
the Plan and the Plan Agent invests the distribution in newly issued Common
Shares of the Fund, the Common Shareholder will be treated as receiving a
taxable distribution equal to the fair market value of the Common Shares the
Common Shareholder receives. The Common Shareholder will have an adjusted basis
in additional Common Shares purchased through the Plan equal to the amount of
the taxable distribution. The additional Common Shares will have a new holding
period commencing on the day following the day on which the Common Shares are
credited to the Common Shareholder's account.
A Common Shareholder may elect not to have all dividends automatically
reinvested in additional Common Shares pursuant to the Plan. If a Common
Shareholder elects not to participate in the Plan, such Common Shareholder will
receive distributions in cash. For taxpayers subject to U.S. federal income tax,
all dividends will generally be taxable, as discussed above, regardless of
whether a Common Shareholder takes them in cash or they are reinvested pursuant
to the Plan in additional Common Shares of the Fund.
The Fund may elect to retain its net capital gain or a portion thereof for
investment and be taxed at corporate rates on the amount retained. In such case,
it may designate the retained amount as undistributed capital gains in a notice
to its Common Shareholders, who will be treated as if each received a
distribution of its pro rata share of such gain, with the result that each
Common Shareholder will (i) be required to report its pro rata share of such
gain on its tax return as long-term capital gain, (ii) receive a refundable tax
credit for its pro rata share of tax paid by the Fund on the gain and (iii)
increase the tax basis for its Common Shares by an amount equal to the deemed
distribution less the tax credit.
Common Shareholders will be notified annually as to the U.S. federal
income tax status of distributions, and Common Shareholders receiving
distributions in the form of additional Common Shares will receive a report as
to the value of those shares.
Under the "Health Care and Education Reconciliation Act of 2010," income
from the Fund may also be subject to a new 3.8% "Medicare tax" imposed for
taxable years beginning after 2012. This tax will generally apply to your net
investment income if your adjusted gross income exceeds certain threshold
amounts, which are $250,000 in the case of married couples filing joint returns
and $200,000 in the case of single individuals.
MULTIPLE CLASSES OF SHARES
The IRS has taken the position that if a regulated investment company has
two classes or more of shares, it must designate distributions made to each
class in any year as consisting of no more than such class's proportionate share
of particular types of income, including ordinary income and net capital gain. A
class's proportionate share of a particular type of income is determined
according to the percentage of total dividends paid by the regulated investment
company to such class. Consequently, if both Common Shares and Preferred Shares
are outstanding, the Fund intends to designate distributions made to the classes
of particular types of income in accordance with the classes' proportionate
shares of such income. Thus, the Fund will designate dividends constituting
capital gain dividends and other taxable dividends in a manner that allocates
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such income between the holders of Common Shares and Preferred Shares in
proportion to the total dividends paid to each class during the taxable year, or
otherwise as required by applicable law.
DIVIDENDS RECEIVED DEDUCTION
A corporation that owns Common Shares generally will not be entitled to
the dividends received deduction with respect to dividends received from the
Fund because the dividends received deduction is generally not available for
distributions from regulated investment companies. However, if the Fund holds
equity securities, certain ordinary income distributions on Common Shares that
are attributable to dividends received by the Fund from certain domestic
corporations may be reported by the Fund as being eligible for the dividends
received deduction. A corporation that owns Common Shares may be eligible to
take a dividends received deduction if such a reporting is made and certain
holding period requirements are met by both the Fund and such corporation.
SALE OR EXCHANGE OF COMMON SHARES OF THE FUND
Upon the sale or other disposition of Common Shares of the Fund a Common
Shareholder generally will realize a capital gain or loss in an amount equal to
the difference between the amount realized and the Common Shareholder's adjusted
tax basis in the shares sold. Such gain or loss will be long-term or short-term,
depending upon the Common Shareholder's holding period for the Common Shares.
Generally, a Common Shareholder's gain or loss will be a long-term gain or loss
if the Common Shares have been held for more than one year. For individual
taxpayers, long-term capital gains are currently eligible for reduced rates of
taxation.
Any loss realized on a sale or other disposition of Common Shares will be
disallowed to the extent that the Common Shares disposed of are replaced
(including through reinvestment of dividends) within a period of 61 days
beginning 30 days before and ending 30 days after disposition of the Common
Shares or to the extent that the Common Shareholder, during such period,
acquires or enters into an option or contract to acquire substantially identical
stock or securities. In this case, the basis of the Common Shares acquired will
be adjusted to reflect the disallowed loss. Any loss realized by a Common
Shareholder on a disposition of Common Shares of the Fund held by the Common
Shareholder for six months or less will be treated as a long-term capital loss
to the extent of any distributions of net capital gain received by the Common
Shareholder (or amounts designated as undistributed capital gains) with respect
to the Common Shares.
NATURE OF THE FUND'S INVESTMENTS
Certain of the Fund's investment practices may be subject to special and
complex federal income tax provisions that may, among other things, (i)
disallow, suspend or otherwise limit the allowance of certain losses or
deductions, (ii) convert lower taxed long-term capital gain and qualified
dividend income into higher taxed short-term capital gain or ordinary income,
(iii) convert an ordinary loss or a deduction into a capital loss (the
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deductibility of which is more limited), (iv) cause the Fund to recognize income
or gain without a corresponding receipt of cash, (v) adversely affect the time
as to when a purchase or sale of stock or securities is deemed to occur, (vi)
adversely alter the characterization of certain complex financial transactions
and (vii) produce income that will not qualify as good income under the
regulated investment company rules. The Fund will monitor its transactions, will
make the appropriate tax elections and take appropriate actions in order to
mitigate the effect of these rules and prevent disqualification of the Fund from
being taxed as a regulated investment company (including disposing of certain
investments to generate cash or borrowing cash to satisfy its distribution
requirements).
Certain Canadian Income Equities and master limited partnerships that are
not "qualified publicly traded partnerships" (as defined for U.S. federal income
tax purposes) generally pass through tax items such as income, gain or loss to
interest holders. In such cases, the Fund will be required to monitor the
individual underlying items of income that it receives from such entities to
determine how it will characterize such income for purposes of meeting the 90%
gross income requirement. In addition, in certain circumstances, the Fund will
be deemed to own the assets of such entities and would need to look to such
assets in determining the Fund's compliance with the asset diversification rules
applicable to regulated investment companies. Thus, the extent to which the Fund
may invest in securities issued by such entities may be limited by the Fund's
intention to qualify as a regulated investment company under the Code.
Prospective investors should be aware that if, contrary to the Fund's intention,
the Fund fails to limit its direct and indirect investments in such entities, or
if such investments are re-characterized for U.S. federal income tax purposes,
the Fund's status as a regulated investment company may be jeopardized.
Foreign Currency Transactions. Foreign exchange gains and losses realized
by the Fund in connection with certain transactions involving foreign
currency-denominated debt securities, certain options and futures contracts
relating to foreign currency, foreign currency forward contracts, foreign
currencies, or payables or receivables denominated in a foreign currency are
subject to Section 988 of the Code, which generally causes such gains and losses
to be treated as ordinary income and losses and may affect the amount, timing
and character of distributions to Common Shareholders. Under Treasury
regulations that may be promulgated in the future, any gains from such
transactions that are not directly related to the Fund's principal business of
investing in stock or securities (or its options contracts or futures contracts
with respect to stock or securities) may have to be limited in order to enable
the Fund to satisfy the 90% gross income requirement. If the net foreign
exchange loss for a year were to exceed the Fund's investment company taxable
income (computed without regard to such loss), the resulting ordinary loss for
such year would not be deductible by the Fund or its Common Shareholders in
future years.
Investments in Non-U.S. Securities. Investment income that may be received
by the Fund from sources within foreign countries may be subject to foreign
taxes withheld at the source. The United States has entered into tax treaties
with many foreign countries that entitle the Fund to a reduced rate of, or
exemption from, taxes on such income. If more than 50% of the value of the
Fund's total assets at the close of the taxable year consists of stock or
securities of foreign corporations, the Fund may elect to "pass through" to the
Fund's Common Shareholders the amount of foreign taxes paid by the Fund. If the
Fund so elects, each Common Shareholder would be required to include in gross
income, even though not actually received, his pro rata share of the foreign
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taxes paid by the Fund, but would be treated as having paid his pro rata share
of such foreign taxes and would therefore be allowed to either deduct such
amount in computing taxable income or use such amount (subject to various Code
limitations) as a foreign tax credit against federal income tax (but not both).
For purposes of the foreign tax credit limitation rules of the Code, each Common
Shareholder would treat as foreign source income his pro rata share of such
foreign taxes plus the portion of dividends received from the Fund representing
income derived from foreign sources. No deduction for foreign taxes could be
claimed by an individual Common Shareholder who does not itemize deductions. In
certain circumstances, a Common Shareholder that (i) has held Common Shares of
the Fund for less than a specified minimum period during which it is not
protected from risk of loss or (ii) is obligated to make payments related to the
dividends will not be allowed a foreign tax credit for foreign taxes deemed
imposed on dividends paid on such Common Shares. Additionally, the Fund must
also meet this holding period requirement with respect to its foreign stocks and
securities in order for "creditable" taxes to flow-through. Each Common
Shareholder should consult its own tax advisor regarding the potential
application of foreign tax credits.
Investment in Securities of Uncertain Tax Character. The Fund may invest
in preferred securities or other securities the U.S. federal income tax
treatment of which may not be clear or may be subject to recharacterization by
the IRS. To the extent the tax treatment of such securities or the income from
such securities differs from the tax treatment expected by the Fund, it could
affect the timing or character of income recognized by the Fund, requiring the
Fund to purchase or sell securities, or otherwise change its portfolio, in order
to comply with the tax rules applicable to regulated investment companies under
the Code.
Investments in Certain Foreign Corporations. If the Fund holds an equity
interest in any "passive foreign investment companies" ("PFICs"), which are
generally certain foreign corporations that receive at least 75% of their annual
gross income from passive sources (such as interest, dividends, certain rents
and royalties or capital gains) or that hold at least 50% of their assets in
investments producing such passive income, the Fund could be subject to U.S.
federal income tax and additional interest charges on gains and certain
distributions with respect to those equity interests, even if all the income or
gain is timely distributed to its Common Shareholders. The Fund will not be able
to pass through to its Common Shareholders any credit or deduction for such
taxes. The Fund may be able to make an election that could mitigate these
adverse tax consequences. In this case, the Fund would recognize as ordinary
income any increase in the value of such PFIC shares, and as ordinary loss any
decrease in such value to the extent it did not exceed prior increases included
in income. Under this election, the Fund might be required to recognize in a
year income in excess of its distributions from PFICs and its proceeds from
dispositions of PFIC stock during that year, and such income would nevertheless
be subject to the distribution requirement and would be taken into account for
purposes of the 4% excise tax (described above). Dividends paid by PFICs will
not be treated as qualified dividend income.
USE OF LEVERAGE
If the Fund utilizes leverage through borrowing or issuing Preferred
Shares, a failure by the Fund to meet the asset coverage requirements imposed by
the 1940 Act or by any rating organization that has rated such leverage, or
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additional restrictions that may be imposed by certain lenders on the payment of
dividends or distributions potentially could limit or suspend the Fund's ability
to make distributions on its Common Shares. Such a limitation or suspension
could prevent the Fund from distributing at least 90% of the sum of its
investment company taxable income and net tax-exempt interest as is required
under the Code and therefore might jeopardize the Fund's qualification for
taxation as a regulated investment company under the Code and/or might subject
the Fund to the 4% excise tax discussed above. Upon any failure to meet such
asset coverage requirements, the Fund may, in its sole discretion, purchase or
redeem Preferred Shares in order to maintain or restore the requisite asset
coverage and avoid the adverse consequences to the Fund and its Common
Shareholders of failing to satisfy the distribution requirement. There can be no
assurance, however, that any such action would achieve these objectives. The
Fund will endeavor to avoid restrictions on its ability to distribute dividends.
BACKUP WITHHOLDING
The Fund may be required to withhold U.S. federal income tax from all
taxable distributions and redemption proceeds payable to Common Shareholders who
fail to provide the Fund with their correct taxpayer identification number or
make required certifications, or if the Fund or such Common Shareholder has been
notified by the IRS that they are subject to backup withholding. The withholding
percentage is 28% until 2013, when the percentage will revert to 31% unless
amended by Congress. Corporate Common Shareholders and certain other Common
Shareholders specified in the Code generally are exempt from backup withholding.
This withholding is not an additional tax. Any amounts withheld may be allowed
as a refund or credited against the Common Shareholder's U.S. federal income tax
liability provided the required information is timely furnished to the IRS.
NON-U.S. SHAREHOLDERS
U.S. taxation of a Common Shareholder who, for U.S. federal income tax purposes,
is a nonresident alien individual, a foreign trust or estate, a foreign
corporation or foreign partnership ("non-U.S. shareholder") depends on whether
the income from the Fund is "effectively connected" with a U.S. trade or
business carried on by the Common Shareholder.
Income Not Effectively Connected. If the income from the Fund is not
"effectively connected" with a U.S. trade or business carried on by the non-U.S.
shareholder, distributions of investment company taxable income will generally
be subject to U.S. tax of 30% (or lower treaty rate), which tax is generally
withheld from such distributions, subject to certain exceptions described below.
Ordinary income distributions paid by the Fund that are "interest-related
dividends" or "short-term capital gain dividends" will generally be exempt from
such withholding for taxable years beginning before January 1, 2012, in each
case to the extent the Fund properly reports such dividends to its Common
Shareholders. For these purposes, interest-related dividends and short-term
capital gain dividends generally represent distributions of interest income or
short-term capital gains that would not have been subject to such withholding
tax at the source if received directly by a foreign Common Shareholder, and that
satisfy certain other requirements.
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Except as described below in regard to distributions after 2012,
distributions of capital gain dividends and any amounts retained by the Fund
which are designated as undistributed capital gains will not be subject to U.S.
tax at the rate of 30% (or lower treaty rate) unless the non-U.S. shareholder is
a nonresident alien individual and is physically present in the United States
for a period or periods aggregating 183 or more days during the taxable year of
the capital gain dividend and meets certain other requirements. However, this
30% tax (or lower rate under an applicable treaty) on capital gains of
nonresident alien individuals who are physically present in the United States
for 183 or more days only applies in exceptional cases because any individual
present in the United States for 183 or more days during the taxable year is
generally treated as a resident for U.S. income tax purposes; in that case, he
or she would be subject to U.S. income tax on his or her worldwide income at the
graduated rates applicable to U.S. citizens. In the case of a non-U.S.
shareholder who is a nonresident alien individual, the Fund may be required to
withhold U.S. income tax from distributions of net capital gain unless the
non-U.S. shareholder certifies his or her non-U.S. status under penalties of
perjury or otherwise establishes an exemption. Any gain a non-U.S. shareholder
realizes upon the sale or exchange of such shareholder's Common Shares of the
Fund in the United States will ordinarily be exempt from U.S. tax unless the
gain is U.S. source income and such shareholder is a nonresident alien
individual who is physically present in the United States for a period or
periods aggregating 183 or more days during the taxable year of the sale or
exchange and meets certain other requirements.
Income Effectively Connected. If the income from the Fund is "effectively
connected" with a U.S. trade or business carried on by a non-U.S. shareholder,
then distributions of investment company taxable income, capital gain dividends,
any amounts retained by the Fund which are designated as undistributed capital
gains and any gains realized upon the sale or exchange of Common Shares of the
Fund will be subject to U.S. income tax at the graduated rates applicable to
U.S. citizens, residents and domestic corporations. Non-U.S. corporate
shareholders may also be subject to the branch profits tax imposed by the Code.
The tax consequences to a non-U.S. shareholder entitled to claim the benefits of
an applicable tax treaty may differ from those described herein. Non-U.S.
shareholders are advised to consult their own tax advisors with respect to the
particular tax consequences to them of an investment in the Fund.
Distributions and Sales After 2013 and 2014, Respectively. In addition to
the rules described above concerning the potential imposition of withholding on
distributions to non-U.S. shareholders, distributions after December 31, 2013
and the gross proceeds from the sale of Common Shares paid after December 31,
2014 to non-U.S. shareholders that are "financial institutions" may be subject
to a withholding tax of 30% unless an agreement is in place between the
financial institution and the U.S. Treasury to collect and disclose information
about accounts, equity investments or debt interests in the financial
institution held by one or more U.S. persons. For these purposes, a "financial
institution" means any entity that (i) accepts deposits in the ordinary course
of a banking or similar business, (ii) holds financial assets for the account of
others as a substantial portion of its business, or (iii) is engaged (or holds
itself out as being engaged) primarily in the business of investing, reinvesting
or trading in securities, partnership interests, commodities or any interest
(including a futures or forward contract or option) in such securities,
partnership interests or commodities.
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Distributions to non-financial non-U.S. entities (other than publicly
traded foreign entities, entities wholly-owned by residents of U.S. possessions,
foreign governments, international organizations, or foreign central banks)
after December 31, 2013 and the gross proceeds from the sale of Common Shares
paid to such non-financial non-U.S. entities after December 31, 2014 may also be
subject to a withholding tax of 30% unless the entity certifies that it does not
have any substantial U.S. owners or provides the name, address and taxpayer
identification number of each substantial U.S. owner.
ALTERNATIVE MINIMUM TAX
As with any taxable investment, investors may be subject to the federal
alternative minimum tax on their income from the Fund, depending on their
individual circumstances.
LOSS TRANSACTIONS
Under Treasury regulations, if a stockholder recognizes a loss with
respect to shares of $2 million or more for an individual stockholder, or $10
million or more for a corporate stockholder, in any single taxable year (or a
greater amount over a combination of years), the stockholder must file with the
IRS a disclosure statement on Form 8886. Stockholders who own portfolio
securities directly are in many cases excepted from this reporting requirement
but, under current guidance, stockholders of regulated investment companies are
not excepted. A stockholder who fails to make the required disclosure to the IRS
may be subject to substantial penalties. The fact that a loss is reportable
under these Treasury regulations does not affect the legal determination of
whether or not the taxpayer's treatment of the loss is proper. Common
Shareholders should consult with their tax advisers to determine the
applicability of these Treasury regulations in light of their individual
circumstances.
PERFORMANCE RELATED AND COMPARATIVE INFORMATION
The Fund may quote certain performance-related information and may compare
certain aspects of its portfolio and structure to other substantially similar
closed-end funds or indices. In reports or other communications to shareholders
of the Fund or in advertising materials, the Fund may compare its performance
with that of (i) other investment companies listed in the rankings prepared by
Lipper, Morningstar Inc. or other independent services; publications such as
Barrons, Business Week, Forbes, Fortune, Institutional Investor, Kiplinger's
Personal Finance, Money, Morningstar Mutual Fund Values, The New York Times, The
Wall Street Journal and USA Today; or other industry or financial publications
or (ii) the Standard & Poor's Index of 500 Stocks, the DJIA, Nasdaq Composite
Index and other relevant indices and industry publications. The Fund may also
compare the historical volatility of its portfolio to the volatility of such
indices during the same time periods. (Volatility is a generally accepted
barometer of the market risk associated with a portfolio of securities and is
generally measured in comparison to the stock market as a whole -- the beta --
or in absolute terms -- the standard deviation.) Comparison of the Fund to an
alternative investment should be made with consideration of differences in
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features and expected performance. The Fund may obtain data from sources or
reporting services, such as Bloomberg Financial and Lipper, that the Fund
believes to be generally accurate.
The Fund may, from time to time, show the standard deviation of either the
Fund or the Fund's investment strategy and the standard deviation of the Fund's
benchmark index. Standard deviation is a statistical measure of the historical
volatility of a portfolio. Standard deviation is the measure of dispersion of
historical returns around the mean rate of return.
From time to time, the Fund may quote the Fund's total return, aggregate
total return or yield in advertisements or in reports and other communications
to shareholders. The Fund's performance will vary depending upon market
conditions, the composition of its portfolio and its operating expenses.
Consequently any given performance quotation should not be considered
representative of the Fund's performance in the future. In addition, because
performance will fluctuate, it may not provide a basis for comparing an
investment in the Fund with certain bank deposits or other investments that pay
a fixed yield for a stated period of time. Investments comparing the Fund's
performance with that of other investment companies should give consideration to
the quality and type of the respective investment companies' portfolio
securities.
The Fund's "average annual total return" is computed according to a
formula prescribed by the SEC. The formula can be expressed as follows:
Average Annual Total Return will be computed as follows:
ERV = P(1+T)/n/
Where: P = a hypothetical initial payment of $1,000
T = average annual total return
n = number of years
ERV = ending redeemable value of a hypothetical $1,000 payment made
at the beginning of the 1-, 5-, or 10-year periods at the end
of the 1-, 5-, or 10-year periods (or fractional portion).
The Fund may also quote after-tax total returns to show the impact of
assumed federal income taxes on an investment in the Fund. The Fund's total
return "after taxes on distributions" shows the effect of taxable distributions,
but not any taxable gain or loss, on an investment in shares of the Fund for a
specified period of time. The Fund's total return "after taxes on distributions
and sale of Fund shares' shows the effect of both taxable distributions and any
taxable gain or loss realized by the shareholder upon the sale of fund shares at
the end of a specified period. To determine these figures, all income,
short-term capital gain distributions, and long-term capital gains distributions
are assumed to have been taxed at the highest marginal individualized federal
tax rate then in effect. Those maximum tax rates are applied to distributions
prior to reinvestment and the after-tax portion is assumed to have been
reinvested in the Fund. State and local taxes are ignored.
Actual after-tax returns depend on a shareholder's tax situation and may
differ from those shown. After-tax returns reflect past tax effects and are not
predictive of future tax effects.
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Average Annual Total Return (After Taxes on Distributions) will be
computed as follows:
ATV/D/ = P(1+T)/n/
Where: P = a hypothetical initial investment of $1,000
T = average annual total return (after taxes on distributions)
n = number of years
ATV/D/ = ending value of a hypothetical $1,000 investment made at the
beginning of the period, at the end of the period (or
fractional portion thereof), after taxes on fund distributions
but not after taxes on redemptions.
Average Annual Total Return (After Taxes on Distributions and Sale of Fund
Shares) will be computed as follows:
ATV/DR/ = P(1+T)/n/
Where: P = a hypothetical initial investment of $1,000
T = average annual total return (after taxes on distributions
and redemption)
n = number of years
ATV/DR/ = ending value of a hypothetical $1,000 investment made at the
beginning periods, at the end of the periods (or fractional
portion thereof), after taxes on fund distributions and
redemptions.
Quotations of yield for the Fund will be based on all investment income
per share earned during a particular 30-day period (including dividends and
interest), less expenses accrued during the period ("net investment income") and
are computed by dividing net investment income by the maximum offering price per
share on the last day of the period, according to the following formula:
Yield = 2 [( a-b/cd +1)/6/ - 1]
Where: a = dividends and interest earned during the period
b = expenses accrued for the period (net of reimbursements)
c = the average daily number of shares outstanding during the
period that were entitled to receive dividends
d = the maximum offering price per share on the last day of
the period
Past performance is not indicative of future results. At the time Common
Shareholders sell their shares, they may be worth more or less than their
original investment.
INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Statement of Assets and Liabilities of the Fund as of August 19, 2011,
appearing in this Statement of Additional Information, has been audited by
Deloitte & Touche LLP, an independent registered public accounting firm, as
stated in their report appearing herein, and is included in reliance upon the
report of such firm given upon their authority as experts in accounting and
auditing. Deloitte & Touche LLP audits and reports on the Fund's annual
financial statements, and performs other professional accounting, auditing and
-62-
advisory services when engaged to do so by the Fund. The principal business
address of Deloitte & Touche LLP is 111 S. Wacker Drive, Chicago, Illinois
60606.
CUSTODIAN, ADMINISTRATOR, FUND ACCOUNTANT AND TRANSFER AGENT
The Bank of New York Mellon ("BNY Mellon") serves as custodian for the
Fund. As such, BNY Mellon has custody of all securities and cash of the Fund and
attends to the collection of principal and income and payment for and collection
of proceeds of securities bought and sold by the Fund. BNY Mellon Investment
Servicing (US) Inc. ("BNY Mellon Servicing") serves as administrator and
accountant for the Fund. As such, BNY Mellon Servicing provides certain
accounting and administrative services to the Fund pursuant to an Administration
and Accounting Services Agreement, including maintaining the Fund's books of
account, records of the Fund's securities transactions, and certain other books
and records; acting as liaison with the Fund's independent registered public
accounting firm by providing such accountant certain Fund accounting
information; and providing other continuous accounting and administrative
services. BNY Mellon Servicing is the transfer agent, registrar, dividend
disbursing agent and shareholder servicing agent for the Fund and provides
certain clerical, bookkeeping, shareholder servicing and administrative services
necessary for the operation of the Fund and maintenance of shareholder accounts.
ADDITIONAL INFORMATION
A Registration Statement on Form N-2, including amendments thereto,
relating to the shares of the Fund offered hereby, has been filed by the Fund
with the SEC. The Fund's Prospectus and this Statement of Additional Information
do not contain all of the information set forth in the Registration Statement,
including any exhibits and schedules thereto. For further information with
respect to the Fund and the shares offered hereby, reference is made to the
Fund's Registration Statement. Statements contained in the Fund's Prospectus and
this Statement of Additional Information as to the contents of any contract or
other document referred to are not necessarily complete and in each instance
reference is made to the copy of the contract or other document filed as an
exhibit to the Registration Statement, each statement being qualified in all
respects by such reference. Copies of the Registration Statement may be
inspected without charge at the SEC's principal office in Washington, D.C., and
copies of all or any part thereof may be obtained from the SEC upon the payment
of certain fees prescribed by the SEC.
-63-
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Trustees and Shareholder of First Trust Energy Infrastructure
Fund
We have audited the accompanying statement of assets and liabilities of First
Trust Energy Infrastructure Fund (the "Fund") as of August 19, 2011. This
statement of assets and liabilities is the responsibility of the Fund's
management. Our responsibility is to express an opinion on this statement of
assets and liabilities based on our audit.
We conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statement is free of material misstatement. The Fund is not required to have,
nor were we engaged to perform, an audit of its internal control over financial
reporting. Our audit included consideration of internal control over financial
reporting as a basis for designing audit procedures that are appropriate in the
circumstances, but not for the purpose of expressing an opinion on the
effectiveness of the Fund's internal control over financial reporting.
Accordingly, we express no such opinion. An audit also includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements, assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audit provides a reasonable basis for our
opinion.
In our opinion, the statement of assets and liabilities presents fairly, in all
material respects, the financial position of First Trust Energy Infrastructure
Fund as of August 19, 2011, in conformity with accounting principles generally
accepted in the United States of America.
/s/ Deloitte & Touche LLP
Chicago, Illinois
August 24, 2011
-64-
FIRST TRUST ENERGY INFRASTRUCTURE FUND
STATEMENT OF ASSETS AND LIABILITIES
AUGUST 19, 2011
ASSETS:
Cash $100,008
Deferred offering costs 209
------------------
100,217
LIABILITIES:
Accrued offering costs 209
------------------
Net Assets $100,008
------------------
NET ASSETS - Applicable to 5,236 shares $100,008
------------------
NET ASSET VALUE PER SHARE
(net assets divided by 5,236 shares) $19.100
==================
NOTES TO STATEMENT OF ASSETS AND LIABILITIES:
NOTE 1. ORGANIZATION
First Trust Energy Infrastructure Fund (the "Fund") is a newly organized,
non-diversified, closed-end management investment company registered under the
Investment Company Act of 1940, as amended. The Fund was organized on February
22, 2011, as a Massachusetts business trust pursuant to a Declaration of Trust
governed by the laws of the Commonwealth of Massachusetts. As a newly organized
entity, the Fund has no operating history. The Fund has had no operations
through August 19, 2011 other than those relating to organizational matters and
the sale and issuance of 5,236 common shares of beneficial interest to First
Trust Portfolios L.P.
The Fund's investment objective is to seek a high level of total return with an
emphasis on current distributions paid to shareholders. The Fund will seek to
achieve its objective by investing primarily in securities of companies engaged
in the energy infrastructure sector. These companies principally include
publicly-traded master limited partnerships and limited liability companies
taxed as partnerships ("MLPs"), MLP affiliates, Canadian income trusts and their
successor companies (collectively, "Canadian Income Equities"), pipeline
companies, utilities, and other companies that derive at least 50% of their
revenues from operating or providing services in support of infrastructure
assets such as pipelines, power transmission and petroleum and natural gas
storage in the petroleum, natural gas and power generation industries
(collectively, "Energy Infrastructure Companies"). Under normal market
conditions, the Fund will invest at least 80% of its Managed Assets (as defined
below) (including assets obtained through leverage) in securities of Energy
Infrastructure Companies. Managed Assets means the average daily gross asset
-65-
value of the Fund (which includes assets attributable to the Fund's Preferred
Shares, if any, and the principal amount of any borrowings), minus the sum of
the Fund's accrued and unpaid dividends on any outstanding Preferred Shares and
accrued liabilities (other than the principal amount of any borrowings incurred
or of commercial paper or notes issued by the Fund). For purposes of determining
Managed Assets, the liquidation preference of the Preferred Shares is not
treated as a liability.
NOTE 2. SIGNIFICANT ACCOUNTING POLICIES
First Trust Advisors L.P. (the "Advisor") has agreed to pay: (i) all
organizational expenses; and (ii) all offering cost of the Fund (other than
sales load) that exceed $0.04 per Common Share. Offering costs incurred by the
Fund through August 19, 2011 have been reported on the Statement of Assets and
Liabilities as deferred offering costs. These offering costs, as well as
offering costs incurred subsequent to August 19, 2011, up to $0.04 per Common
Share outstanding, will be charged to paid-in-capital.
The Fund's Statement of Assets and Liabilities is prepared in conformity with
accounting principles generally accepted in the United States of America which
require management to make estimates and assumptions that affect the reported
amounts and disclosures in the Statement of Assets and Liabilities. Actual
results could differ from those estimates.
The Fund intends to comply in its initial fiscal year and thereafter with
provisions of the Internal Revenue Code applicable to regulated investment
companies and as such, will not be subject to federal income taxes on otherwise
taxable income (including net realized capital gains) distributed to
shareholders.
NOTE 3. FEES AND OTHER TRANSACTIONS WITH AFFILIATED PARTIES
On March 21, 2011, the Fund's Board of Trustees approved an Investment
Management Agreement with the Advisor and a Sub-Advisory Agreement among the
Advisor, Energy Income Partners, LLC (the "Sub-Advisor") and the Fund. The Fund
has agreed to pay an annual management fee for the services and facilities
provided by the Advisor, payable on a monthly basis, equal to the annual rate of
1.00% of the Fund's average daily Managed Assets.
The Sub-Advisor will receive a portfolio management fee equal to 0.50% of the
Fund's average daily Managed Assets. The Sub-Advisor's fee is paid by the
Advisor out of the Advisor's management fee.
-66-
FIRST TRUST ENERGY INFRASTRUCTURE FUND
17,250,000 COMMON SHARES
STATEMENT OF ADDITIONAL INFORMATION
SEPTEMBER 27, 2011
APPENDIX A
RATINGS OF INVESTMENTS
STANDARD & POOR'S RATINGS GROUP -- A BRIEF DESCRIPTION OF CERTAIN STANDARD
& POOR'S RATINGS GROUP, A DIVISION OF THE MCGRAW-HILL COMPANIES ("STANDARD &
POOR'S" OR "S&P") RATING SYMBOLS AND THEIR MEANINGS (AS PUBLISHED BY S&P)
FOLLOWS:
A Standard & Poor's issue credit rating is a forward-looking opinion about
the creditworthiness of an obligor with respect to a specific financial
obligation, a specific class of financial obligations, or a specific financial
program (including ratings on medium-term note programs and commercial paper
programs). It takes into consideration the creditworthiness of guarantors,
insurers, or other forms of credit enhancement on the obligation and takes into
account the currency in which the obligation is denominated. The opinion
reflects Standard & Poor's view of the obligor's capacity and willingness to
meet its financial commitments as they become due, and may assess terms, such as
collateral security and subordination, which could affect ultimate payment in
the event of default.
Issue credit ratings can be either long term or short term. Short-term
ratings are generally assigned to those obligations considered short-term in the
relevant market. In the U.S., for example, that means obligations with an
original maturity of no more than 365 days--including commercial paper.
Short-term ratings are also used to indicate the creditworthiness of an obligor
with respect to put features on long-term obligations. The result is a dual
rating, in which the short-term rating addresses the put feature, in addition to
the usual long-term rating. Medium-term notes are assigned long-term ratings.
LONG-TERM ISSUE CREDIT RATINGS
Issue credit ratings are based, in varying degrees, on Standard & Poor's
analysis of the following considerations:
o Likelihood of payment--capacity and willingness of the obligor to
meet its financial commitment on an obligation in accordance with
the terms of the obligation;
o Nature of and provisions of the obligation; and
o Protection afforded by, and relative position of, the obligation in
the event of bankruptcy, reorganization, or other arrangement under
the laws of bankruptcy and other laws affecting creditors' rights.
Issue ratings are an assessment of default risk, but may incorporate an
assessment of relative seniority or ultimate recovery in the event of default.
Junior obligations are typically rated lower than senior obligations, to reflect
the lower priority in bankruptcy as noted above. (Such differentiation may apply
when an entity has both senior and subordinated obligations, secured and
unsecured obligations, or operating company and holding company obligations.)
A-1
AAA
An obligation rated 'AAA' has the highest rating assigned by Standard &
Poor's. The obligor's capacity to meet its financial commitment on the
obligation is extremely strong.
AA
An obligation rated 'AA' differs from the highest-rated obligations only
to a small degree. The obligor's capacity to meet its financial commitment on
the obligation is very strong.
A
An obligation rated 'A' is somewhat more susceptible to the adverse
effects of changes in circumstances and economic conditions than obligations in
higher-rated categories. However, the obligor's capacity to meet its financial
commitment on the obligation is still strong.
BBB
An obligation rated 'BBB' exhibits adequate protection parameters.
However, adverse economic conditions or changing circumstances are more likely
to lead to a weakened capacity of the obligor to meet its financial commitment
on the obligation.
BB, B, CCC, CC, and C
Obligations rated 'BB', 'B', 'CCC', 'CC', and 'C' are regarded as having
significant speculative characteristics. 'BB' indicates the least degree of
speculation and 'C' the highest. While such obligations will likely have some
quality and protective characteristics, these may be outweighed by large
uncertainties or major exposures to adverse conditions.
BB
An obligation rated 'BB' is less vulnerable to nonpayment than other
speculative issues. However, it faces major ongoing uncertainties or exposure to
adverse business, financial, or economic conditions, which could lead to the
obligor's inadequate capacity to meet its financial commitment on the
obligation.
B
An obligation rated 'B' is more vulnerable to nonpayment than obligations
rated 'BB', but the obligor currently has the capacity to meet its financial
commitment on the obligation. Adverse business, financial, or economic
conditions will likely impair the obligor's capacity or willingness to meet its
financial commitment on the obligation.
A-2
CCC
An obligation rated 'CCC' is currently vulnerable to nonpayment, and is
dependent upon favorable business, financial, and economic conditions for the
obligor to meet its financial commitment on the obligation. In the event of
adverse business, financial, or economic conditions, the obligor is not likely
to have the capacity to meet its financial commitment on the obligation.
CC
An obligation rated 'CC' is currently highly vulnerable to nonpayment.
C
A 'C' rating is assigned to obligations that are currently highly
vulnerable to nonpayment, obligations that have payment arrearages allowed by
the terms of the documents, or obligations of an issuer that is the subject of a
bankruptcy petition or similar action which have not experienced a payment
default. Among others, the 'C' rating may be assigned to subordinated debt,
preferred stock or other obligations on which cash payments have been suspended
in accordance with the instrument's terms or when preferred stock is the subject
of a distressed exchange offer, whereby some or all of the issue is either
repurchased for an amount of cash or replaced by other instruments having a
total value that is less than par.
D
An obligation rated 'D' is in payment default. The 'D' rating category is
used when payments on an obligation, including a regulatory capital instrument,
are not made on the date due even if the applicable grace period has not
expired, unless Standard & Poor's believes that such payments will be made
during such grace period. The 'D' rating also will be used upon the filing of a
bankruptcy petition or the taking of similar action if payments on an obligation
are jeopardized. An obligation's rating is lowered to 'D' upon completion of a
distressed exchange offer, whereby some or all of the issue is either
repurchased for an amount of cash or replaced by other instruments having a
total value that is less than par.
Plus (+) or minus (-)
The ratings from 'AA' to 'CCC' may be modified by the addition of a plus
(+) or minus (-) sign to show relative standing within the major rating
categories.
NR
This indicates that no rating has been requested, that there is
insufficient information on which to base a rating, or that Standard & Poor's
does not rate a particular obligation as a matter of policy.
A-3
SHORT-TERM ISSUE CREDIT RATINGS
A-1
A short-term obligation rated 'A-1' is rated in the highest category by
Standard & Poor's. The obligor's capacity to meet its financial commitment on
the obligation is strong. Within this category, certain obligations are
designated with a plus sign (+). This indicates that the obligor's capacity to
meet its financial commitment on these obligations is extremely strong.
A-2
A short-term obligation rated 'A-2' is somewhat more susceptible to the
adverse effects of changes in circumstances and economic conditions than
obligations in higher rating categories. However, the obligor's capacity to meet
its financial commitment on the obligation is satisfactory.
A-3
A short-term obligation rated 'A-3' exhibits adequate protection
parameters. However, adverse economic conditions or changing circumstances are
more likely to lead to a weakened capacity of the obligor to meet its financial
commitment on the obligation.
B
A short-term obligation rated 'B' is regarded as having significant
speculative characteristics. Ratings of 'B-1', 'B-2', and 'B-3' may be assigned
to indicate finer distinctions within the 'B' category. The obligor currently
has the capacity to meet its financial commitment on the obligation; however, it
faces major ongoing uncertainties which could lead to the obligor's inadequate
capacity to meet its financial commitment on the obligation.
B-1
A short-term obligation rated 'B-1' is regarded as having significant
speculative characteristics, but the obligor has a relatively stronger capacity
to meet its financial commitments over the short-term compared to other
speculative-grade obligors.
B-2
A short-term obligation rated 'B-2' is regarded as having significant
speculative characteristics, and the obligor has an average speculative-grade
capacity to meet its financial commitments over the short-term compared to other
speculative-grade obligors.
A-4
B-3
A short-term obligation rated 'B-3' is regarded as having significant
speculative characteristics, and the obligor has a relatively weaker capacity to
meet its financial commitments over the short-term compared to other
speculative-grade obligors.
C
A short-term obligation rated 'C' is currently vulnerable to nonpayment
and is dependent upon favorable business, financial, and economic conditions for
the obligor to meet its financial commitment on the obligation.
D
A short-term obligation rated 'D' is in payment default. The 'D' rating
category is used when payments on an obligation, including a regulatory capital
instrument, are not made on the date due even if the applicable grace period has
not expired, unless Standard & Poor's believes that such payments will be made
during such grace period. The 'D' rating also will be used upon the filing of a
bankruptcy petition or the taking of a similar action if payments on an
obligation are jeopardized.
SPUR (STANDARD & POOR'S UNDERLYING RATING)
This is a rating of a stand-alone capacity of an issue to pay debt service
on a credit-enhanced debt issue, without giving effect to the enhancement that
applies to it. These ratings are published only at the request of the debt
issuer/obligor with the designation SPUR to distinguish them from the
credit-enhanced rating that applies to the debt issue. Standard & Poor's
maintains surveillance of an issue with a published SPUR.
MUNICIPAL SHORT-TERM NOTE RATINGS DEFINITIONS
A Standard & Poor's U.S. municipal note rating reflects Standard & Poor's
opinion about the liquidity factors and market access risks unique to the notes.
Notes due in three years or less will likely receive a note rating. Notes with
an original maturity of more than three years will most likely receive a
long-term debt rating. In determining which type of rating, if any, to assign,
Standard & Poor's analysis will review the following considerations:
o Amortization schedule--the larger the final maturity relative to
other maturities, the more likely it will be treated as a note; and
o Source of payment--the more dependent the issue is on the market for
its refinancing, the more likely it will be treated as a note.
A-5
Note rating symbols are as follows:
SP-1
Strong capacity to pay principal and interest. An issue determined to
possess a very strong capacity to pay debt service is given a plus (+)
designation.
SP-2
Satisfactory capacity to pay principal and interest, with some
vulnerability to adverse financial and economic changes over the term of the
notes.
SP-3
Speculative capacity to pay principal and interest.
DUAL RATINGS
Standard and Poor's assigns "dual" ratings to all debt issues that have a
put option or demand feature as part of their structure. The first rating
addresses the likelihood of repayment of principal and interest as due, and the
second rating addresses only the demand feature. The long-term rating symbols
are used for bonds to denote the long-term maturity and the short-term rating
symbols for the put option (for example, 'AAA/A-1+'). With U.S. municipal
short-term demand debt, note rating symbols are used with the short-term issue
credit rating symbols (for example, 'SP-1+/A-1+').
ACTIVE QUALIFIERS (CURRENTLY APPLIED AND/OR OUTSTANDING)
i
This subscript is used for issues in which the credit factors, terms, or
both, that determine the likelihood of receipt of payment of interest are
different from the credit factors, terms or both that determine the likelihood
of receipt of principal on the obligation. The 'i' subscript indicates that the
rating addresses the interest portion of the obligation only. The 'i' subscript
will always be used in conjunction with the 'p' subscript, which addresses the
likelihood of receipt of principal. For example, a rated obligation could be
assigned ratings of 'AAAp NRi' indicating that the principal portion is rated
'AAA' and the interest portion of the obligation is not rated.
L
Ratings qualified with 'L' apply only to amounts invested up to federal
deposit insurance limits.
A-6
p
This subscript is used for issues in which the credit factors, the terms,
or both, that determine the likelihood of receipt of payment of principal are
different from the credit factors, terms or both that determine the likelihood
of receipt of interest on the obligation. The 'p' subscript indicates that the
rating addresses the principal portion of the obligation only. The 'p' subscript
will always be used in conjunction with the 'i' subscript, which addresses
likelihood of receipt of interest. For example, a rated obligation could be
assigned ratings of 'AAAp NRi' indicating that the principal portion is rated
'AAA' and the interest portion of the obligation is not rated.
pi
Ratings with a 'pi' subscript are based on an analysis of an issuer's
published financial information, as well as additional information in the public
domain. They do not, however, reflect in-depth meetings with an issuer's
management and therefore may be based on less comprehensive information than
ratings without a 'pi' subscript. Ratings with a 'pi' subscript are reviewed
annually based on a new year's financial statement, but may be reviewed on an
interim basis if a major event occurs that may affect the issuer's credit
quality.
preliminary
Preliminary ratings, with the 'prelim' qualifier, may be assigned to
obligors or obligations, including financial programs, in the circumstances
described below. Assignment of a final rating is conditional on the receipt by
Standard & Poor's of appropriate documentation. Standard & Poor's reserves the
right not to issue a final rating. Moreover, if a final rating is issued, it may
differ from the preliminary rating.
o Preliminary ratings may be assigned to obligations, most commonly
structured and project finance issues, pending receipt of final
documentation and legal opinions.
o Preliminary ratings are assigned to Rule 415 Shelf Registrations. As
specific issues, with defined terms, are offered from the master
registration, a final rating may be assigned to them in accordance with
Standard & Poor's policies.
o Preliminary ratings may be assigned to obligations that will likely be
issued upon the obligor's emergence from bankruptcy or similar
reorganization, based on late-stage reorganization plans, documentation
and discussions with the obligor. Preliminary ratings may also be assigned
to the obligors. These ratings consider the anticipated general credit
quality of the reorganized or postbankruptcy issuer as well as attributes
of the anticipated obligation(s).
o Preliminary ratings may be assigned to entities that are being formed or
that are in the process of being independently established when, in
Standard & Poor's opinion, documentation is close to final. Preliminary
ratings may also be assigned to these entities' obligations.
A-7
o Preliminary ratings may be assigned when a previously unrated entity is
undergoing a well-formulated restructuring, recapitalization, significant
financing or other transformative event, generally at the point that
investor or lender commitments are invited. The preliminary rating may be
assigned to the entity and to its proposed obligation(s). These
preliminary ratings consider the anticipated general credit quality of the
obligor, as well as attributes of the anticipated obligation(s) assuming
successful completion of the transformative event. Should the
transformative event not occur, Standard & Poor's would likely withdraw
these preliminary ratings.
o A preliminary recovery rating may be assigned to an obligation that has a
preliminary issue credit rating.
sf
The (sf) subscript is assigned to all issues and issuers to which a
regulation, such as the European Union Regulation on Credit Rating Agencies,
requires the assignment of an additional symbol which distinguishes a structured
finance instrument or obligor (as defined in the regulation) from any other
instrument or obligor. The addition of this subscript to a credit rating does
not change the definition of that rating or our opinion about the issue's or
issuer's creditworthiness.
t
This symbol indicates termination structures that are designed to honor
their contracts to full maturity or, should certain events occur, to terminate
and cash settle all of their contracts before their final maturity date.
unsolicited
Unsolicited ratings are those credit ratings assigned at the initiative of
Standard & Poor's and not at the request of the issuer or its agents.
INACTIVE QUALIFIERS (NO LONGER APPLIED OR
OUTSTANDING)
*
This symbol indicated continuance of the ratings is contingent upon
Standard & Poor's receipt of an executed copy of the escrow agreement or closing
documentation confirming investments and cash flows. Discontinued use in August
1998.
c
This qualifier was used to provide additional information to investors
that the bank may terminate its obligation to purchase tendered bonds if the
A-8
long-term credit rating of the issuer is below an investment-grade level and/or
the issuer's bonds are deemed taxable. Discontinued use in January 2001.
pr
The letters 'pr' indicate that the rating is provisional. A provisional
rating assumes the successful completion of the project financed by the debt
being rated and indicates that payment of debt service requirements is largely
or entirely dependent upon the successful, timely completion of the project.
This rating, however, while addressing credit quality subsequent to completion
of the project, makes no comment on the likelihood of or the risk of default
upon failure of such completion. The investor should exercise his own judgment
with respect to such likelihood and risk.
q
A 'q' subscript indicates that the rating is based solely upon
quantitative analysis of publicly available information. Discontinued use in
April 2001. r
The 'r' modifier was assigned to securities containing extraordinary
risks, particularly market risks, that are not covered in the credit rating. The
absence of an 'r' modifier should not be taken as an indication that an
obligation will not exhibit extraordinary non-credit related risks. Standard &
Poor's discontinued the use of the 'r' modifier for most obligations in June
2000 and for the balance of the obligations (mainly structured finance
transactions) in November 2002.
MOODY'S INVESTORS SERVICE, INC. -- A BRIEF DESCRIPTION OF CERTAIN MOODY'S
INVESTORS SERVICE, INC. ("MOODY'S") RATING SYMBOLS AND THEIR MEANINGS (AS
PUBLISHED BY MOODY'S) FOLLOWS:
LONG-TERM OBLIGATION RATINGS
Moody's long-term ratings are opinions of the relative credit risk of
financial obligations with an original maturity of one year or more. They
address the possibility that a financial obligation will not be honored as
promised. Such ratings use Moody's Global Scale and reflect both the likelihood
of default and any financial loss suffered in the event of default.
Aaa
Obligations rated Aaa are judged to be of the highest quality, with
minimal credit risk.
Aa
Obligations rated Aa are judged to be of high quality and are subject to
very low credit risk.
A-9
A
Obligations rated A are considered upper-medium grade and are subject to
low credit risk.
Baa
Obligations rated Baa are subject to moderate credit risk. They are
considered medium grade and as such may possess certain speculative
characteristics.
Ba
Obligations rated Ba are judged to have speculative elements and are
subject to substantial credit risk.
B
Obligations rated B are considered speculative and are subject to high
credit risk.
Caa
Obligations rated Caa are judged to be of poor standing and are subject to
very high credit risk.
Ca
Obligations rated Ca are highly speculative and are likely in, or very
near, default, with some prospect of recovery of principal and interest.
C
Obligations rated C are the lowest rated class and are typically in
default with little prospect for recovery of principal or interest.
Note: Moody's applies numerical modifiers 1, 2, and 3 in each generic rating
classification from Aa through Caa. The modifier 1 indicates that the obligation
ranks in the higher end of its generic rating category; the modifier 2 indicates
a mid-range ranking; and the modifier 3 indicates a ranking in the lower end of
that generic rating category.
MEDIUM-TERM NOTE PROGRAM RATINGS
Moody's assigns ratings to medium-term note (MTN) programs and to the
individual debt securities issued from them (referred to as drawdowns or notes).
These ratings may be expressed on Moody's general long-term or short-term rating
sale, depending upon the intended tenor of the notes to be issued under the
program.
A-10
MTN program ratings are intended to reflect the ratings likely to be
assigned to drawdowns issued from the program with the specific priority of
claim (e.g., senior or subordinated). However, the rating assigned to a drawdown
from a rated MTN program may differ from the program if the drawdown is exposed
to additional credit risks besides the issuer's default, such as links to the
defaults of other issuers, or has other structural features that warrant a
different rating. In some circumstances, no rating may be assigned to a
drawdown.
Market participants must determine whether any particular note is rated,
and if so, at what rating level. Moody's encourages market participants to
contact Moody's Ratings Desks or visit www.moody's.com directly if they have
questions regarding ratings for specific notes issued under a medium-term note
program. Unrated notes issued under an MTN program may be assigned an NR (not
rated) symbol.
SHORT-TERM OBLIGATION RATINGS
Moody's short-term ratings are opinions of the ability of issuers to honor
short-term financial obligations. Ratings may be assigned to issuers, short-term
programs or to individual short-term debt instruments. Such obligations
generally have an original maturity not exceeding thirteen months, unless
explicitly noted.
Moody's employs the following designations to indicate the relative
repayment ability of rated issuers:
P-1
Issuers (or supporting institutions) rated Prime-1 have a superior ability
to repay short-term debt obligations.
P-2
Issuers (or supporting institutions) rated Prime-2 have a strong ability
to repay short-term debt obligations.
P-3
Issuers (or supporting institutions) rated Prime-3 have an acceptable
ability to repay short-term obligations.
NP
Issuers (or supporting institutions) rated Not Prime do not fall within
any of the Prime rating categories.
Note: Canadian issuers rated P-1 or P-2 have their short-term ratings enhanced
by the senior-most long-term rating of the issuer, its guarantor or
support-provider.
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U.S. MUNICIPAL SHORT-TERM OBLIGATION RATINGS
There are three rating categories for short-term municipal obligations
that are considered investment grade. These ratings are designated as Municipal
Investment Grade (MIG) and are divided into three levels -- MIG 1 through MIG 3.
In addition, those short-term obligations that are of speculative quality are
designated SG, or speculative grade. MIG ratings expire at the maturity of the
obligation.
MIG 1
This designation denotes superior credit quality. Excellent protection is
afforded by established cash flows, highly reliable liquidity support, or
demonstrated broad-based access to the market for refinancing.
MIG 2
This designation denotes strong credit quality. Margins of protection are
ample, although not as large as in the preceding group.
MIG 3
This designation denotes acceptable credit quality. Liquidity and
cash-flow protection may be narrow, and market access for refinancing is likely
to be less well-established.
SG
This designation denotes speculative-grade credit quality. Debt
instruments in this category may lack sufficient margins of protection.
U.S. MUNICIPAL DEMAND OBLIGATION RATINGS
In the case of variable rate demand obligations (VRDOs), a two-component
rating is assigned; a long or short-term debt rating and a demand obligation
rating. The first element represents Moody's evaluation of the degree of risk
associated with scheduled principal and interest payments. The second element
represents Moody's evaluation of the degree of risk associated with the ability
to receive purchase price upon demand ("demand feature"), using a variation of
the MIG rating scale, the Variable Municipal Investment Grade or VMIG rating.
When either the long- or short-term aspect of a VRDO is not rated, that piece is
designated NR, e.g., Aaa/NR or NR/VMIG 1. VMIG rating expirations are a function
of each issue's specific structural or credit features.
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VMIG 1
This designation denotes superior credit quality. Excellent protection is
afforded by the superior short-term credit strength of the liquidity provider
and structural and legal protections that ensure the timely payment of purchase
price upon demand.
VMIG 2
This designation denotes strong credit quality. Good protection is
afforded by the strong short-term credit strength of the liquidity provider and
structural and legal protections that ensure the timely payment of purchase
price upon demand.
VMIG 3
This designation denotes acceptable credit quality. Adequate protection is
afforded by the satisfactory short-term credit strength of the liquidity
provider and structural and legal protections that ensure the timely payment of
purchase price upon demand.
SG
This designation denotes speculative-grade credit quality. Demand features
rated in this category may supported by a liquidity provider that does not have
an investment grade short-term rating or may lack the structural and/or legal
protections necessary to ensure the timely payment of purchase price upon
demand.
FITCH RATINGS -- A BRIEF DESCRIPTION OF CERTAIN FITCH RATINGS ("FITCH")
RATINGS SYMBOLS AND THEIR MEANINGS (AS PUBLISHED BY FITCH) FOLLOWS:
INTERNATIONAL ISSUER AND CREDIT RATING SCALES
The Primary Credit Rating Scales (those featuring the symbols 'AAA'-'D'
and 'F1'-'D') are used for debt and financial strength ratings.
LONG-TERM RATING SCALES--ISSUER CREDIT RATING SCALES
Rated entities in a number of sectors, including financial and
non-financial corporations, sovereigns and insurance companies, are generally
assigned Issuer Default Ratings (IDRs). IDRs opine on an entity's relative
vulnerability to default on financial obligations. The "threshold" default risk
addressed by the IDR is generally that of the financial obligations whose
non-payment would best reflect the uncured failure of that entity. As such, IDRs
also address relative vulnerability to bankruptcy, administrative receivership
or similar concepts, although the agency recognizes that issuers may also make
pre-emptive and therefore voluntary use of such mechanisms.
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In aggregate, IDRs provide an ordinal ranking of issuers based on the
agency's view of their relative vulnerability to default, rather than a
prediction of a specific percentage likelihood of default.
AAA
Highest credit quality. 'AAA' ratings denote the lowest expectation of
default risk. They are assigned only in cases of exceptionally strong capacity
for payment of financial commitments. This capacity is highly unlikely to be
adversely affected by foreseeable events.
AA
Very high credit quality. 'AA' ratings denote expectations of very low
default risk. They indicate very strong capacity for payment of financial
commitments. This capacity is not significantly vulnerable to foreseeable
events.
A
High credit quality. 'A' ratings denote expectations of low default risk.
The capacity for payment of financial commitments is considered strong. This
capacity may, nevertheless, be more vulnerable to adverse business or economic
conditions than is the case for higher ratings.
BBB
Good credit quality. 'BBB' ratings indicate that expectations of default
risk are currently low. The capacity for payment of financial commitments is
considered adequate but adverse business or economic conditions are more likely
to impair this capacity.
BB
Speculative. 'BB' ratings indicate an elevated vulnerability to default
risk, particularly in the event of adverse changes in business or economic
conditions over time; however, business or financial flexibility exists which
supports the servicing of financial commitments.
B
Highly speculative. 'B' ratings indicate that material default risk is
present, but a limited margin of safety remains. Financial commitments are
currently being met; however, capacity for continued payment is vulnerable to
deterioration in the business and economic environment.
CCC
Substantial credit risk. Default is a real possibility.
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CC
Very high levels of credit risk. Default of some kind appears probable.
C
Exceptionally high levels of credit risk. Default is imminent or
inevitable, or the issuer is in standstill. Conditions that are indicative of a
'C' category rating of an issuer include:
a. the issuer has entered into a grace or cure period following
non-payment of a material financial obligation;
b. the issuer has entered into a temporary negotiated waiver or
standstill agreement following a payment default on a material financial
obligation; or
c. Fitch Ratings otherwise believes a condition of 'RD' or 'D' to
be imminent or inevitable, including through the formal announcement of a
coercive debt exchange.
RD
Restricted default. 'RD' ratings indicate an issuer that in Fitch Ratings'
opinion has experienced an uncured payment default on a bond, loan or other
material financial obligation but which has not entered into bankruptcy filings,
administration, receivership, liquidation or other formal winding-up procedure,
and which has not otherwise ceased business. This would include:
a. the selective payment default on a specific class or currency
of debt;
b. the uncured expiry of any applicable grace period, cure period
or default forbearance period following a payment default on a bank loan,
capital markets security or other material financial obligation;
c. the extension of multiple waivers or forbearance periods upon a
payment default on one or more material financial obligations, either in
series or in parallel; or
d. execution of a coercive debt exchange on one or more material
financial obligations.
D
Default. 'D' ratings indicate an issuer that in Fitch Ratings' opinion has
entered into bankruptcy filings, administration, receivership, liquidation or
other formal winding-up procedure, or which has otherwise ceased business.
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Default ratings are not assigned prospectively to entities or their
obligations; within this context, non-payment on an instrument that contains a
deferral feature or grace period will generally not be considered a default
until after the expiration of the deferral or grace period, unless a default is
otherwise driven by bankruptcy or other similar circumstance, or by a coercive
debt exchange.
"Imminent" default typically refers to the occasion where a payment
default has been intimated by the issuer, and is all but inevitable. This may,
for example, be where an issuer has missed a scheduled payment, but (as is
typical) has a grace period during which it may cure the payment default.
Another alternative would be where an issuer has formally announced a coercive
debt exchange, but the date of the exchange still lies several days or weeks in
the immediate future.
In all cases, the assignment of a default rating reflects the agency's
opinion as to the most appropriate rating category consistent with the rest of
its universe of ratings, and may differ from the definition of default under the
terms of an issuer's financial obligations or local commercial practice.
Note: The modifiers "+" or "-" may be appended to a rating to denote relative
status within the major rating categories. Such suffixes are not added to the
'AAA' Long-Term IDR category, or to Long-Term IDR categories below 'B'.
Limitations of the Issuer Credit Rating
Scale:
Specific limitations relevant to the issuer credit rating scale include:
o The ratings do not predict a specific percentage of default
likelihood over any given time period.
o The ratings do not opine on the market value of any issuer's
securities or stock, or the likelihood that this value may change.
o The ratings do not opine on the liquidity of the issuer's securities
or stock.
o The ratings do not opine on the possible loss severity on an
obligation should an issuer default.
o The ratings do not opine on the suitability of an issuer as
counterparty to trade credit.
o The ratings do not opine on any quality related to an issuer's
business, operational or financial profile other than the agency's
opinion on its relative vulnerability to default.
Ratings assigned by Fitch Ratings articulate an opinion on discrete and
specific areas of risk. The above list is not exhaustive, and is provided for
the reader's convenience.
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SHORT-TERM RATINGS -- SHORT-TERM RATINGS ASSIGNED TO ISSUERS OR OBLIGATIONS IN
CORPORATE, PUBLIC AND STRUCTURED FINANCE
A short-term issuer or obligation rating is based in all cases on the
short-term vulnerability to default of the rated entity or security stream and
relates to the capacity to meet financial obligations in accordance with the
documentation governing the relevant obligation. Short-Term Ratings are assigned
to obligations whose initial maturity is viewed as "short term" based on market
convention. Typically, this means up to 13 months for corporate, sovereign, and
structured obligations, and up to 36 months for obligations in U.S. public
finance markets.
F1
Highest short-term credit quality. Indicates the strongest intrinsic
capacity for timely payment of financial commitments; may have an added "+" to
denote any exceptionally strong credit feature.
F2
Good short-term credit quality. Good intrinsic capacity for timely payment
of financial commitments.
F3
Fair short-term credit quality. The intrinsic capacity for timely payment
of financial commitments is adequate.
B
Speculative short-term credit quality. Minimal capacity for timely payment
of financial commitments, plus heightened vulnerability to near term adverse
changes in financial and economic conditions.
C
High short-term default risk. Default is a real possibility.
RD
Restricted default. Indicates an entity that has defaulted on one or more
of its financial commitments, although it continues to meet other financial
obligations. Applicable to entity ratings only.
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D
Default. Indicates a broad-based default event for an entity, or the
default of a short-term obligation.
Limitations of the Short-Term Ratings
Scale:
Specific limitations relevant to the Short-Term Ratings scale include:
o The ratings do not predict a specific percentage of default
likelihood over any given time period.
o The ratings do not opine on the market value of any issuer's
securities or stock, or the likelihood that this value may change.
o The ratings do not opine on the liquidity of the issuer's securities
or stock.
o The ratings do not opine on the possible loss severity on an
obligation should an obligation default.
o The ratings do not opine on any quality related to an issuer or
transaction's profile other than the agency's opinion on the
relative vulnerability to default of the rated issuer or obligation.
Ratings assigned by Fitch Ratings articulate an opinion on discrete and
specific areas of risk. The above list is not exhaustive, and is provided for
the reader's convenience.
ADDITIONAL INFORMATION
'Not Rated' or 'NR': A designation of 'Not Rated' or 'NR' is used to
denote securities not rated by Fitch where Fitch has rated some, but not all,
securities comprising an issuance capital structure.
'Withdrawn': The rating has been withdrawn and the issue or issuer is no
longer rated by Fitch. Indicated in rating databases with the symbol 'WD'.
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APPENDIX B
ENERGY INCOME PARTNERS, LLC
PROXY VOTING POLICIES AND PROCEDURES
If an adviser exercises voting authority with respect to client
securities, Advisers Act Rule 206(4)-6 requires the adviser to adopt and
implement written policies and procedures reasonably designed to ensure that
client securities are voted in the best interest of the client. This is
consistent with legal interpretations which hold that an adviser's fiduciary
duty includes handling the voting of proxies on securities held in client
accounts over which the adviser exercises investment or voting discretion, in a
manner consistent with the best interest of the client.
Absent unusual circumstances, EIP exercises voting authority with respect
to securities held in client accounts pursuant to provisions in its advisory
agreements. Accordingly, EIP has adopted these policies and procedures with the
aim of meeting the following requirements of Rule 206(4)-6:
o ensuring that proxies are voted in the best interest of clients;
o addressing material conflicts that may arise between EIP's interests
and those of its clients in the voting of proxies;
o disclosing to clients how they may obtain information on how EIP
voted proxies with respect to the client's securities; and
o describing to clients EIP's proxy voting policies and procedures
and, upon request, furnishing a copy of the policies and procedures
to the requesting client.
ENGAGEMENT OF INSTITUTIONAL SHAREHOLDER SERVICES INC.
Group
With the aim of ensuring that proxies are voted in the best interest of
EIP clients, EIP has engaged Institutional Shareholder Services Inc. ("ISS"),
formerly known as RiskMetrics Group, as its independent proxy voting service to
provide EIP with proxy voting recommendations, as well as to handle the
administrative mechanics of proxy voting. EIP has directed ISS to utilize its
Proxy Voting Guidelines in making recommendations to vote, as those guidelines
may be amended from time to time.
Conflicts of Interest in Proxy Voting
There may be instances where EIP's interests conflict, or appear to
conflict, with client interests in the voting of proxies. For example, EIP may
provide services to, or have an investor who is a senior member of, a company
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whose management is soliciting proxies. There may be a concern that EIP would
vote in favor of management because of its relationship with the company or a
senior officer. Or, for example, EIP (or its senior executive officers) may have
business or personal relationships with corporate directors or candidates for
directorship.
EIP addresses these conflicts or appearances of conflicts by ensuring that
proxies are voted in accordance with the recommendations made by ISS, an
independent third party proxy voting service. As previously noted, in most
cases, proxies will be voted in accordance with ISS's own pre-existing proxy
voting guidelines.
Disclosure on How Proxies Were Voted
EIP will disclose to clients in its Form ADV how clients can obtain
information on how their proxies were voted, by contacting EIP at its office in
Westport, CT. EIP will also disclose in the ADV a summary of these proxy voting
policies and procedures and that upon request, clients will be furnished a full
copy of these policies and procedures.
It is the responsibility of the CCO to ensure that any requests made by
clients for proxy voting information are responded to in a timely fashion and
that a record of requests and responses are maintained in EIP's books and
records.
Proxy Materials
EIP personnel will instruct custodians to forward to ISS all proxy
materials received on securities held in EIP client accounts.
Limitations
In certain circumstances, where EIP has determined that it is consistent
with the client's best interest, EIP will not take steps to ensure that proxies
are voted on securities in the client's account. The following are circumstances
where this may occur:
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* Limited Value: Proxies will not be required to be voted on
securities in a client's account if the value of the client's
economic interest in the securities is indeterminable or
insignificant (less than $1,000). Proxies will also not be required
to be voted for any securities that are no longer held by the
client's account.
* Securities Lending Program: When securities are out on loan, they
are transferred into the borrower's name and are voted by the
borrower, in its discretion. In most cases, EIP will not take steps
to see that loaned securities are voted. However, where EIP
determines that a proxy vote, or other shareholder action, is
materially important to the client's account, EIP will make a good
faith effort to recall the security for purposes of voting,
understanding that in certain cases, the attempt to recall the
security may not be effective in time for voting deadlines to be
met.
* Unjustifiable Costs: In certain circumstances, after doing a
cost-benefit analysis, EIP may choose not to vote where the cost of
voting a client's proxy would exceed any anticipated benefits to the
client of the proxy proposal.
OVERSIGHT OF POLICY
The CCO is responsible for overseeing these proxy voting policies and
procedures. In addition, the CCO will review these policies and procedures not
less than annually with a view to determining whether their implementation has
been effective and that they are operating as intended and in such a fashion as
to maintaining EIP's compliance with all applicable requirements.
RECORDKEEPING ON PROXIES
It is the responsibility of EIP's CCO to ensure that the following proxy
voting records are maintained:
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o a copy of EIP's proxy voting policies and procedures;
o a copy of all proxy statements received on securities in client
accounts (EIP may rely on ISS or the SEC's EDGAR system to satisfy
this requirement);
o a record of each vote cast on behalf of a client (EIP relies on ISS
to satisfy this requirement);
o a copy of any document prepared by EIP that was material to making a
voting decision or that memorializes the basis for that decision;
o a copy of each written client request for information on how proxies
were voted on the client's behalf or for a copy of EIP's proxy
voting policies and procedures; and
o a copy of any written response to any client request for information
on how proxies were voted on their behalf or furnishing a copy of
EIP's proxy voting policies and procedures.
The CCO will see that these books and records are made and maintained in
accordance with the requirements and time periods provided in Rule 204-2 of the
Advisers Act.
For any registered investment companies advised by EIP, votes made on its
behalf will be stored electronically or otherwise recorded so that they are
available for preparation of the Form N-PX, Annual Report of Proxy Voting Record
of Registered Management Investment Company.
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