The changes of the fair value of investments for which
the Fund has used Level 3 inputs to determine the fair value are as follows:
The table below provides additional
information about the Level 3 Fair Value Measurements as of June 30, 2021:
4. ADVISORY FEES, DIRECTOR FEES AND OTHER AGREEMENTS
For its services under the Investment Advisory
Agreement, the Fund pays the Adviser a monthly management fee computed at the annual rate of 1.25% of the average monthly Managed
Assets “Managed Assets” means the total assets of the Fund, including assets attributable to leverage, minus liabilities
(other than debt representing leverage and any preferred stock that may be outstanding). In addition to the monthly advisory fee,
the Fund pays all other costs and expenses of its operations, including, but not limited to, compensation of its directors (other
than those affiliated with the Adviser), custodial expenses, transfer agency and dividend disbursing expenses, legal fees, expenses
of independent auditors, expenses of repurchasing shares, expenses of any leverage, expenses of preparing, printing and distributing
prospectuses, shareholder reports, notices, proxy statements and reports to governmental agencies, and taxes, if any. In addition,
the Adviser has agreed to waive or reimburse expenses of the Fund (other than brokerage fees and commissions; loan servicing fees;
borrowing costs such as (i) interest and (ii) dividends on securities sold short; taxes; indirect expenses incurred by the underlying
funds in which the Fund may invest; the cost of leverage; and extraordinary expenses) to the extent necessary to limit the Fund’s
total annual operating expenses at 1.95% of the average daily Managed Assets for that period through October 28, 2021. The Adviser
may recover from the Fund expenses reimbursed for three years after the date of the payment or waiver if the Fund’s operating
expenses, including the recovered expenses, falls below the expense cap. For the period ended June 30, 2021, the Adviser waived
$58,893 of expenses and recouped $154,049 of previously reimbursed expenses. These amounts represent expenses waived due to the
expense cap. In future periods, the Adviser may recoup fees as follows:
Effective November 2, 2020, ALPS Fund Services,
Inc. ("ALPS") began providing the Fund with fund administration and fund accounting services. As compensation for its
services to the Fund, ALPS receives an annual fee based on the Fund’s average daily net assets, subject to certain minimums.
Prior to November 2, 2020, U.S. Bancorp Fund Services, LLC, d/b/a U.S. Bank Global Fund Services provided fund administration,
fund accounting, and custodial services to the Fund.
State Street Bank & Trust, Co. and Millennium Trust Company
serve as the Fund's custodians.
DST Systems, Inc. (“DST”),
the parent company of ALPS, serves as the Transfer Agent to the Fund. Under the Transfer Agency Agreement, DST is responsible for
maintaining all shareholder records of the Fund. DST is a wholly-owned subsidiary of SS&C Technologies Holdings, Inc. (“SS&C”),
a publicly traded company listed on the NASDAQ Global Select Market.
The Fund pays no salaries or compensation
to its officers or to any interested Director employed by the Adviser, and the Fund has no employees. For their services, the Directors
of the Fund who are not employed by the Adviser, receive an annual retainer in the amount of $16,500, and an additional $1,500
for attending each quarterly meeting of the Board. In addition, the lead Independent Director receives $250 annually, the Chair
of the Audit Committee receives $500 annually and the Chair of the Nominating and Corporate Governance Committee receives $250
annually. The Directors employed by the Adviser are also reimbursed for all reasonable out-of-pocket expenses relating to attendance
at meetings of the Board.
The Chief Compliance Officer (“CCO”)
of the Fund is an employee of the Adviser. The Fund reimburses the Adviser for certain compliance costs related to the Fund, including
a portion of the CCO's compensation.
5. FEDERAL INCOME TAXES
It is the Fund’s policy to meet the
requirements of the IRC applicable to regulated investment companies, and to distribute all of its taxable net income to its shareholders.
In addition, the Fund intends to pay distributions as required to avoid imposition of excise tax. Therefore, no federal income
tax provision is required.
The tax character of the distributions
paid by the Fund during the fiscal years ended June 30, 2021 and June 30, 2020, was as follows:
The Fund has elected to defer to the year
ending June 30, 2022, capital losses recognized during the year ended June 30, 2021, in the amount of $138,200.
Capital loss carryovers used during the period ended June 30,
2021, were $3,116,437.
The difference between book and tax basis
unrealized appreciation/(depreciation) for the Fund is primarily attributable to wash sales and preferred securities.
As of June 30, 2021, for federal income
tax purposes, capital loss carryforwards of $13,253,165 were available to offset future realized capital gains, to the extent provided
by the Internal Revenue Code, with no expiration date.
The Fund recognizes the tax benefits of
uncertain tax positions only where the position is “more likely than not” to be sustained assuming examination by tax
authorities. Management has analyzed the Fund’s tax positions, and has concluded that no liability for unrecognized tax benefits
should be recorded related to uncertain tax positions taken on U.S. tax returns and state tax returns filed since inception of
the Fund. No income tax returns are currently under examination. All tax years since commencement of operations remain subject
to examination by the tax authorities in the United States. The Fund is not aware of any tax positions for which it is reasonably
possible that the total amounts of unrecognized tax benefits will change materially in the next 12 months.
6. PRIME BROKERAGE AGREEMENT
On November 11, 2020, the Fund entered
into a prime brokerage agreement for margin financing with Pershing LLC (“Credit Agreement”). The Credit Agreement
permits the Fund to borrow funds that are collateralized by assets held in a special custody account held at State Street Bank
pursuant to a Special Custody and Pledge Agreement. Borrowings under this arrangement bears interest at the overnight bank funding
rate plus 75 basis points for an overnight time.
For the year ended June 30, 2021, the Fund’s
average borrowings and interest rate under the Credit Agreement were $2,632,877 and 0.81%, respectively. At June 30, 2021, borrowings
outstanding was $11,500,000 at an interest rate of 0.83%.
7. INVESTMENT TRANSACTIONS
Investment transactions for the year ended
June 30, 2021, excluding short-term investments, were as follows:
8. REDEEMABLE PREFERRED STOCK
At June 30, 2021, the Fund had issued and
outstanding 1,656,000 shares of Series A Preferred Stock, listed under trading symbol RMPL on the NYSE, with a par value of $0.0001
per share and a liquidation preference of $25.00 per share plus accrued and unpaid dividends (whether or not declared). The Fund
issued 1,440,000 and 216,000 shares of Series A Preferred Stock on October 25, 2017 and October 30, 2017, respectively. The Series
A Preferred Stock is entitled to a dividend at a rate of 5.875% per year based on the $25.00 liquidation preference before the
common stock is entitled to receive any dividends. The Series A Preferred Stock is redeemable at $25.00 per share plus accrued
and unpaid dividends (whether or not declared) exclusively at the Fund’s option commencing on October 31, 2020. Issuance
costs related to Series A Preferred Stock of $1,558,000 are deferred and amortized over the period the Series A Preferred Stock
is outstanding.
9. INDEMNIFICATIONS
Under the Fund’s organizational documents,
its officers and Directors are indemnified against certain liabilities arising out of the performance of their duties to the Fund.
Additionally, in the normal course of business, the Fund enters into contracts with service providers that may contain general
indemnification clauses. The Fund’s maximum exposure under those arrangements is unknown, as this would involve future claims
that may be made against the Fund that have not yet occurred.
10. REPURCHASE OFFERS
Shares repurchased through quarterly tender offers during the
period from July 1, 2019 through June 30, 2021 were as follows:
For information regarding the repurchase
offer with a repurchase offer date of June 1, 2021, see Note 13.
11. STOCK BUY BACK PROGRAM
In accordance with Section 23(c) of the
1940 Act, the Fund may from time to time repurchase shares of the Fund in the open market at the option of the Board of Directors
and upon such terms as the Directors shall determine. For the period ended June 30, 2021, the Fund repurchased 155,950 (3.42% of
the shares outstanding at June 30, 2021) of its shares for a total cost of $2,654,385 at an average discount of 9.25% of NAV. The
stock buy back program ended on July 12, 2021.
13. SUBSEQUENT EVENTS
On June 7, 2021, the Fund issued a repurchase
offer. On July 8, 2021, 227,380 shares were repurchased based on a NAV per share of $20.11 at July 7, 2021.
On July 20, 2021, the Board declared a
Series A preferred stock dividend in the amount of $0.36719 per share, payable on August 16, 2021 to preferred shareholders of
record on August 2, 2021 with an ex date of July 30, 2021.
The Fund has performed an evaluation of
subsequent events through the date the financial statements were issued and has determined that no additional items require recognition
or disclosure.
Opinion on the Financial Statements
We have audited the accompanying statement
of assets and liabilities of RiverNorth Specialty Finance Corporation (the Fund), including the summary schedule of investments,
as of June 30, 2021, the related statements of operations and cash flows for the year then ended, the statements of changes in
net assets for each of the years in the two-year period then ended, and the related notes (collectively, the financial statements)
and the financial highlights for each of the years in the four-year period then ended and the period from September 22, 2016 (commencement
of operations) through June 30, 2017. In our opinion, the financial statements and financial highlights present fairly, in all
material respects, the financial position of the Fund as of June 30, 2021, the results of its operations and its cash flows for
the year then ended, the changes in its net assets for each of the years in the two year period then ended, and the financial highlights
for each of the years in the four year period then ended and the period from September 22, 2016 through June 30, 2017, in conformity
with U.S. generally accepted accounting principles.
Basis for Opinion
These financial statements and financial
highlights are the responsibility of the Fund’s management. Our responsibility is to express an opinion on these financial
statements and financial highlights based on our audits. We are a public accounting firm registered with the Public Company Accounting
Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Fund in accordance with the U.S.
federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with
the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether
the financial statements and financial highlights are free of material misstatement, whether due to error or fraud. Our audits
included performing procedures to assess the risks of material misstatement of the financial statements and financial highlights,
whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a
test basis, evidence regarding the amounts and disclosures in the financial statements and financial highlights. Such procedures
also included confirmation of securities owned as of June 30, 2021, by correspondence with custodians and brokers and other appropriate
audit procedures. Our audits also included evaluating the accounting principles used and significant estimates made by management,
as well as evaluating the overall presentation of the financial statements and financial highlights. We believe that our audits
provide a reasonable basis for our opinion.
KPMG LLP
We have served as the auditor of the Fund since 2015.
Chicago, Illinois
August 29, 2021
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Dividend Reinvestment Plan
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The Fund has a dividend reinvestment plan
commonly referred to as an “opt-out” plan. Unless the registered owner (“Shareholder”) of shares of common
stock (“Shares”) elects to receive cash by contacting DST Systems, Inc. (the “Plan Administrator”), all
dividends declared on Shares will be automatically reinvested in additional Shares by the Plan Administrator for Shareholders in
the Fund’s Plan. Such reinvested amounts are included in the Fund’s Managed Assets and, therefore, the fees paid under
the Management Fee and will be higher than if such amounts had not been reinvested. Shareholders who elect not to participate in
the Plan will receive all dividends and other distributions in cash paid by check mailed directly to the Shareholder of record
(or, if the Shares are held in street or other nominee name, then to such nominee) by the Plan Administrator as dividend disbursing
agent. Participation in the Plan is completely voluntary and may be terminated or resumed at any time without penalty by notice
if received and processed by the Plan Administrator prior to the dividend record date; otherwise such termination or resumption
will be effective with respect to any subsequently declared dividend or other distribution. Such notice will be effective with
respect to a particular dividend or other distribution (together, a “Dividend”). Some brokers may automatically elect
to receive cash on behalf of Shareholders and may re-invest that cash in additional Shares.
The Plan Administrator will open an account
for each Shareholder under the Plan in the same name in which such Shareholder’s Shares are registered. Whenever the Fund
declares a Distribution payable in cash, non-participants in the Plan will receive cash and participants in the Plan will receive
the equivalent in Shares. The Shares will be acquired by the Plan Administrator for the participants’ accounts, depending
upon the circumstances described below, either (i) through receipt of additional unissued but authorized Shares from the Fund (“Newly
Issued Common Shares”) or (ii) by purchase of outstanding Shares on the open market (“Open-Market Purchases”)
on the NYSE or elsewhere. If, on the payment date for any dividend, the closing market price plus estimated brokerage commissions
per share is equal to or greater than the NAV per share, the Plan Administrator will invest the dividend amount in newly issued
shares. The number of newly issued shares to be credited to each participant’s account will be determined by dividing the
dollar amount of the dividend by the Fund’s NAV per share on the payment date. If, on the payment date for any dividend,
the NAV per share is greater than the closing market value plus estimated brokerage commissions (i.e., the Fund’s shares
are trading at a discount), the Plan Administrator will invest the dividend amount in shares acquired in open-market purchases.
In the event of a market discount on the
payment date for any dividend, the Plan Administrator will have until the last business day before the next date on which the shares
trade on an “ex-dividend” basis or 30 days after the payment date for such dividend, whichever is sooner, to invest
the dividend amount in shares acquired in open-market purchases. If, before the Plan Administrator has completed its open-market
purchases, the market price per share exceeds the NAV per share, the average per share purchase price paid by the Plan Administrator
may exceed the NAV of the shares, resulting in the acquisition of fewer shares than if the dividend had been paid in newly issued
shares on the dividend payment date. Because of the foregoing difficulty with respect to open-market purchases, the Plan provides
that if the Plan Administrator is unable to invest the full dividend amount in open-market purchases during the purchase period
or if the market discount shifts to a market premium during the purchase period, the Plan Administrator may cease making open-market purchases and may invest the uninvested portion of the dividend amount in newly issued shares at the NAV per share at the
close of business on the last purchase date.
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Dividend Reinvestment Plan
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The Plan Administrator maintains all Shareholders’
accounts in the Plan and furnishes written confirmation of all transactions in the accounts, including information needed by Shareholders
for tax records. Shares in the account of each Plan participant will be held by the Plan Administrator on behalf of the Plan participant,
and each Shareholder proxy will include those Shares purchased or received pursuant to the Plan. The Plan Administrator will forward
all proxy solicitation materials to participants and vote proxies for Shares held under the Plan in accordance with the instructions
of the participants.
Beneficial owners of Shares who hold their
Shares in the name of a broker or nominee should contact the broker or nominee to determine whether and how they may participate
in the Plan. In the case of Shareholders such as banks, brokers or nominees which hold shares for others who are the beneficial
owners, the Plan Administrator will administer the Plan on the basis of the number of Shares certified from time to time by the
record Shareholder’s name and held for the account of beneficial owners who participate in the Plan.
There will be no brokerage charges with
respect to Shares issued directly by the Fund. The automatic reinvestment of Dividends will not relieve participants of any federal,
state or local income tax that may be payable (or required to be withheld) on such Dividends. Shareholders who receive distributions
in the form of Shares generally are subject to the same U.S. federal, state and local tax consequences as Shareholders who elect
to receive their distributions in cash and, for this purpose, Shareholders receiving distributions in the form of Shares will generally
be treated as receiving distributions equal to the fair market value of the Shares received through the plan; however, since their
cash distributions will be reinvested, those Shareholders will not receive cash with which to pay any applicable taxes on reinvested
distributions. Participants that request a sale of Shares through the Plan Administrator are subject to brokerage commissions.
The Fund reserves the right to amend or
terminate the Plan. There is no direct service charge to participants with regard to purchases in the Plan; however, the Fund reserves
the right to amend the Plan to include a service charge payable by the participants. All correspondence or questions concerning
the Plan should be directed to the Plan Administrator at (844) 569-4750.
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Summary of Updated Information Regarding the Fund
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June 30, 2021 (Unaudited)
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The following information in this annual
report is a summary of certain information about the Fund and changes since the Fund’s most recent annual report dated June
30, 2020 (the “prior disclosure date”). This information may not reflect all of the changes that have occurred since
you purchased the Fund.
Fund Change –
Since the prior disclosure date, the Fund has changed from a non-diversified to a diversified fund. Further details can be found
in the Fund’s preliminary Prospectus and Statement of Additional Information, each dated June 8, 2021.
Investment Objective
There have been no changes in the Fund’s
investment objectives since the prior disclosure date that have not been approved by shareholders.
The investment objective of the Fund is to seek a high level
of current income.
Principal Investment Strategies and Policies
Under normal market conditions, the Fund
seeks to achieve its investment objectives by investing, directly or indirectly, in credit instruments, including a portfolio of
securities of specialty finance and other financial companies that RiverNorth Capital Management, LLC (the “Adviser”)
believes offer attractive opportunities for income. These companies may include, but are not limited to, banks, thrifts, finance
companies, lending platforms, business development companies (“BDCs”), real estate investment trusts (“REITs”),
special purpose acquisition companies (“SPACs”), private investment funds (private funds that are exempt from registration
under Sections 3(c)(1) and 3(c)(7) of the Investment Company Act of 1940, as amended (the “1940 Act”)), brokerage and
advisory firms, insurance companies and financial holding companies. Together, these types of companies are referred to as “financial
institutions.” The Fund’s investments in hedge funds and private equity funds that are exempt from registration under
Sections 3(c)(1) and 3(c)(7) of the 1940 Act will be limited to no more than 15% of the Fund’s assets. The Fund may also
invest in common equity, preferred equity, convertible securities and warrants of these institutions. “Managed Assets”
means the total assets of the Fund, including assets attributable to leverage, minus liabilities (other than debt representing
leverage and any preferred stock that may be outstanding).
The Fund may invest in income-producing
securities of any maturity and credit quality, including below investment grade, and equity securities, including exchange-traded
funds and registered closed-end funds. Below investment grade securities are commonly referred to as “junk” or “high
yield” securities and are considered speculative with respect to the issuer’s capacity to pay interest and repay principal.
Such income-producing securities in which the Fund may invest may include, without limitation, corporate debt securities, U.S.
government debt securities, short-term debt securities, asset backed securities, exchange-traded notes, loans, including secured
and unsecured senior loans, Alternative Credit (as defined below), collateralized loan obligations (“CLOs”) and other
structured finance securities, and cash and cash equivalents.
The Fund’s alternative credit investments
may be made through a combination of: (i) investing in loans to small and mid-sized companies (“SMEs”); (ii) investing
in notes or other pass-through obligations issued by an alternative credit platform (or an affiliate) representing the right to
receive the principal and interest payments on an Alternative Credit investment (or fractional portions thereof) originated through
the platform (“Pass-Through Notes”); (iii) purchasing asset-backed securities representing ownership in a pool of Alternative
Credit; (iv) investing in private investment funds that purchase Alternative Credit, (v) acquiring an equity interest in an alternative
credit platform (or an affiliate); and (vi) providing loans, credit lines or other extensions of credit to an alternative credit
platform (or an affiliate) (the foregoing listed investments are collectively referred to herein as the “Alternative Credit
Instruments”). Subject to the limitations in the Fund’s prospectus and SAI, the Fund may invest without limit in any
of the foregoing types of Alternative Credit Instruments and the Fund’s investments in private investment funds will be limited
to no more than 10% of the Fund’s Managed Assets. The Alternative Credit in which the Fund typically invests are newly issued
and/or current as to interest and principal payments at the time of investment. As a fundamental policy (which cannot be changed
without the approval of the holders of a majority of the outstanding voting securities of the Fund), the Fund does not invest in
Alternative Credit that are of subprime quality at the time of investment. The Fund considers an SME loan to be of “subprime
quality” if the likelihood of repayment on such loan is determined by the Adviser based on its due diligence and the credit
underwriting policies of the originating platform to be similar to that of consumer loans that are of subprime quality. The Fund
does not currently have any intention invest in Alternative Credit originated from lending platforms based outside the United States
or made to non-U.S. borrowers. However, the Fund may in the future invest in such Alternative Credit and will provide updated disclosures
prior to making such investments. Unless the context suggests otherwise, all references to loans generally in this disclosure refer
to Alternative Credit.
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Alternative Credit Instruments are generally
not rated by the nationally recognized statistical rating organizations (“NRSROs”). Such unrated instruments, however,
are considered to be comparable in quality to securities falling into any of the ratings categories used by such NRSROs to classify
“junk” bonds. Accordingly, the Fund’s unrated Alternative Credit Instrument investments constitute highly risky
and speculative investments similar to investments in “junk” bonds, notwithstanding that the Fund is not permitted
to invest in loans that are of subprime quality at the time of investment. The Alternative Credit Instruments in which the Fund
may invest may have varying degrees of credit risk. There can be no assurance that payments due on underlying Alternative Credit
investments will be made. At any given time, the Fund’s portfolio may be substantially illiquid and subject to increased
credit and default risk. If a borrower is unable to make its payments on a loan, the Fund may be greatly limited in its ability
to recover any outstanding principal and interest under such loan. The Shares therefore should be purchased only by investors who
could afford the loss of the entire amount of their investment.
Percentage limitations described within
this report regarding the Fund’s investment strategies and policies 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 investments.
Specialty Finance Companies.
Specialty finance companies and other financial
companies invest in a wide range of securities and financial instruments, including but not limited to private debt and equity,
secured and unsecured debt, trust preferred securities, subordinated debt, and preferred and common equity as well as other equity-linked
securities. These various securities offer distinct risk/reward features which may be more or less attractive during different
points in the market cycle. Under normal market conditions, the Adviser will invest the Fund’s Managed Assets in specialty
finance companies with exposure to some or all of these kinds of securities.
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Summary of Updated Information Regarding the Fund
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Specialty finance companies provide capital
or financing to businesses within specified market segments. These companies are often distinguished by their market specializations
which allow them to focus on the specific financial needs of their clients. Specialty finance companies often engage in asset-based
and other forms of non-traditional financing activities. While they generally compete against traditional financial institutions
with broad product lines and, often, greater financial resources, specialty finance companies seek competitive advantage by focusing
their attention on market niches, which may provide them with deeper knowledge of their target market and its needs. Specialty
finance companies include mortgage specialists to certain consumers, equipment leasing specialists to certain industries and equity
or debt-capital providers to certain small businesses. Specialty finance companies often utilize tax-efficient or other non-traditional
structures, such as BDCs and REITs.
Alternative Credit.
General. Alternative
credit is often referred to as “peer-to-peer” lending, which term originally reflected the initial focus of the industry
on individual investors and consumer loan borrowers. In addition, the alternative credit platforms may retain on their balance
sheets a portion of the loan portfolios they originate. In alternative credit, loans are originated through online platforms that
provide a marketplace that matches small- and mid-sized companies and other borrowers seeking loans with investors willing to provide
the funding for such loans. Since its inception, the industry has grown to include substantial involvement of institutional investors.
These borrowers may seek such loans for a variety of different purposes, ranging, for example, from loans to fund elective medical
procedures to loans for franchise financing. The procedures through which borrowers obtain loans can vary between platforms, and
between the types of loans (e.g., consumer versus SME). The Fund intends to hold its Alternative Credit investments until maturity.
The Alternative Credit in which the Fund
typically invests are newly issued and/or current as to interest and principal payments at the time of investment. A small number
of alternative credit platforms originate a substantial portion of their Alternative Credit investments in the United States. The
Adviser intends to continue to build relationships and enter into agreements with additional platforms. However, if there are not
sufficient qualified loan requests through any platform, the Fund may be unable to deploy its capital in a timely or efficient
manner. In such event, the Fund may be forced to invest in cash, cash equivalents, or other assets that fall within its investment
policies that are generally expected to offer lower returns than the Fund’s target returns from investments in Alternative
Credit. The Fund enters into purchase agreements with platforms, which outline, among other things, the terms of the loan purchase,
loan servicing, the rights of the Fund to assign the loans and the remedies available to the parties. Although the form of these
agreements is similar to those typically available to all investors, institutional investors such as the Fund (unlike individual
retail investors) have an opportunity to negotiate some of the terms of the agreement. In particular, the Fund has greater negotiating
power related to termination provisions and custody of the Fund’s account(s) relative to other investors due to the restrictions
placed on the Fund by the 1940 Act, of which the platforms are aware. Pursuant to such agreements, the platform or a third-party
servicer will typically service the loans, collecting payments and distributing them to the Fund, less any servicing fees, and
the servicing entity, unless directed by the Fund, typically will make all decisions regarding acceleration or enforcement of the
loans following any default by a borrower. The Fund seeks to have a backup servicer in case any platform or third-party servicer
ceases or fails to perform the servicing functions, which the Fund expects will mitigate some of the risks associated with a reliance
on platforms or third-party servicers for servicing of the Alternative Credit.
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In the United States, a platform may be
subject to extensive regulation, oversight and examination at both the federal and state level, and across multiple jurisdictions
if it operates its business nationwide. Accordingly, platforms are generally subject to various securities, lending, licensing
and consumer protection laws. In addition, courts have recently considered the regulatory environment applicable to alternative
credit platforms and purchasers of Alternative Credit. In light of recent decisions, if upheld and widely applied, certain alternative
credit platforms could be required to restructure their operations and certain loans previously made by them through funding banks
may not be enforceable, whether in whole or in part, by investors holding such loans or such loans would be subject to diminished
returns and/or the platform subject to fines and penalties. As a result, large amounts of Alternative Credit purchased by the Fund
(directly or indirectly) could become unenforceable or subject to diminished returns, thereby causing losses for Shareholders.
Alternative Credit and Pass-Through
Notes. As noted above, the underlying Alternative Credit origination
processes employed by each platform may vary significantly. The principal amount of each loan is advanced to the borrower by a
bank (the “funding bank”). The operator of the platform may purchase the loan from the funding bank at par using the
funds of multiple lenders and then issues to each such lender at par a Pass-Through Note of the operator (or an affiliate of the
operator) representing the right to receive the lender’s proportionate share of all principal and interest payments received
by the operator from the borrower on the loan funded by such lender (net of the platform servicing fees). As an alternative, certain
operators (including most SME lenders) do not engage funding banks but instead extend their loans directly to the borrowers.
The platform operator typically will service
the loans it originates and will maintain a separate segregated deposit account into which it will deposit all payments received
from the obligors on the loans. Upon identification of the proceeds received with respect to a loan and deduction of applicable
fees, the platform operator forwards the amounts owed to the lenders or the holders of any related Pass-Through Notes, as applicable.
A platform operator is not obligated to
make any payments due on Alternative Credit or Pass- Through Notes (except to the extent that the operator actually receives payments
from the borrower on the related loan). Accordingly, lenders and investors assume all of the credit risk on the loans they fund
through a Pass-Through Note purchased from a platform operator and are not entitled to recover any deficiency of principal or interest
from the platform operator if the underlying borrower defaults on its payments due with respect to a loan. In addition, a platform
operator is generally not required to repurchase Alternative Credit from a lender or purchaser except under very narrow circumstances,
such as in cases of verifiable identity fraud by the borrower. As loan servicer, the platform operator or an affiliated entity
typically has the ability to refer any delinquent Alternative Credit to a collection agency (which may impose additional fees and
costs that are often as high, or higher in some cases, as 35% of any recovered amounts). The Fund itself will not directly enter
into any arrangements or contracts with the collection agencies (and, accordingly, the Fund does not currently anticipate it would
have, under current law and existing interpretations, substantial risk of liability for the actions of such collection agencies).
At the same time, the relatively low principal amounts of Alternative Credit often make it impracticable for the platform operator
to commence legal proceedings against defaulting borrowers. Alternative Credit may be secured (generally in the case of SME loans
and real estate-related loans) or unsecured. For example, real estate Alternative Credit may be secured by a deed of trust, mortgage,
security agreement or legal title to real estate. There can be no assurance that any collateral pledged to secure Alternative Credit
can be liquidated quickly or at all or will generate proceeds sufficient to offset any defaults on such loan.
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Generally, the Alternative Credit in which
the Fund invests will fully amortize and will not be interest-only. However, in some sectors (e.g., real estate-related loans),
the loans may be interest-only with the principal to be paid at the end of the term. An active secondary market for the Alternative
Credit does not currently exist and an active market for the Alternative Credit may not develop in the future. Borrowers of Alternative
Credit electronically execute each of the loan documents prepared in connection with the applicable loan, binding the borrower
to the terms of the loan, which include the provision that the loan may be transferred to another party.
Asset-Backed Securities. The
Fund also may invest in Alternative Credit, through special purpose vehicles (“SPVs”) established solely for the purpose
of holding assets (e.g., commercial loans) and issuing securities (“asset-backed securities”) secured only by such
underlying assets (which practice is known as securitization). The Fund may invest, for example, in an SPV that holds a pool of
loans originated by a particular platform. The SPV may enter into a service agreement with the operator or a related entity to
ensure continued collection of payments, pursuit of delinquent borrowers and general interaction with borrowers in much the same
manner as if the securitization had not occurred.
The SPV may issue multiple classes of asset-backed
securities with different levels of seniority. The more senior classes will be entitled to receive payment before the subordinate
classes if the cash flow generated by the underlying assets is not sufficient to allow the SPV to make payments on all of the classes
of the asset-backed securities. Accordingly, the senior classes of asset-backed securities receive higher credit ratings (if rated)
whereas the subordinated classes have higher interest rates. In general, the Fund may invest in both rated senior classes of asset-backed
securities as well as unrated subordinated (residual) classes of asset-backed securities. The subordinated classes of asset-backed
securities in which the Fund may invest are typically considered to be an illiquid and highly speculative investment, as losses
on the underlying assets are first absorbed by the subordinated classes.
The value of asset-backed securities, like
that of traditional fixed-income securities, typically increases when interest rates fall and decreases when interest rates rise.
However, asset-backed securities differ from traditional fixed-income securities because they generally will be subject to prepayment
based upon prepayments received by the SPV on the loan pool. The price paid by the Fund for such securities, the yield the Fund
expects to receive from such securities and the weighted average life of such securities are based on a number of factors, including
the anticipated rate of prepayment of the underlying assets.
Private Investment Funds. The
Fund may invest up to 10% of its Managed Assets in private investment funds that invest in Alternative Credit. Under one such fund
structure, the platform operator may form (i) an investment fund that offers partnership interests or similar securities to investors
on a private placement basis, and (ii) a subsidiary that acts as the investment fund’s general partner and investment manager.
The investment fund then applies its investors’ funds to purchase Alternative Credit originated on the platform (or portions
thereof) from the operator. As an investor in an investment fund, the Fund would hold an indirect interest in a pool of Alternative
Credit and would receive distributions on its interest in accordance with the fund’s governing documents. This structure
is intended to create diversification and to reduce operator credit risk for the investors in the investment fund by enabling them
to invest indirectly in Alternative Credit through the private investment fund rather than directly from the operator of the platform.
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Other Investments in Alternative Credit
Instruments. The Fund may invest in the equity securities and/or debt
obligations of platform operators (or their affiliates), which may provide these platforms and their related entities with the
financing needed to support their lending business. An equity interest in a platform or related entity represents ownership in
such company, providing voting rights and entitling the Fund, as a shareholder, to a share in the company’s success through
dividends and/or capital appreciation. A debt investment made by the Fund could take the form of a loan, convertible note, credit
line or other extension of credit made by the Fund to a platform operator. The Fund would be entitled to receive interest payments
on its investment and repayment of the principal at a set maturity date or otherwise in accordance with the governing documents.
The Fund also may wholly-own or otherwise
control certain pooled investment vehicles which hold Alternative Credit and/or other Alternative Credit Instruments, which pooled
investment vehicle may be formed and managed by the Adviser (a “Subsidiary”). Each Subsidiary may invest in Alternative
Credit and other instruments that the Fund may hold directly. As of the date of this report, the Fund did not own any Subsidiaries.
Business Development Companies.
BDCs are a type of closed-end fund regulated
under the 1940 Act, whose shares are typically listed for trading on a U.S. securities exchange. BDCs typically invest in and lend
to small and medium-sized private and certain public companies that may not have access to public equity markets for capital raising.
Oftentimes, financing a BDC includes an equity-like investment such as warrants or conversion rights, creating an opportunity for
the BDC to participate in capital appreciation in addition to the interest income earned from its debt investments. The interest
earned by a BDC flows through to investors in the form of a dividend, normally without being taxed at the BDC entity level. BDCs
invest in such diverse industries as healthcare, chemical and manufacturing, technology and service companies. BDCs are unique
in that at least 70% of their investments must be made in private and certain public U.S. businesses, and BDCs are required to
make available significant managerial assistance to their portfolio companies. Unlike corporations, BDCs are not taxed on income
distributed to their shareholders provided they comply with the applicable requirements of the Internal Revenue Code of 1986, as
amended (the “Internal Revenue Code”). The securities of BDCs, which are required to distribute substantially all of
their income on an annual basis to investors in order to not be subject to entity level taxation, often offer a yield advantage
over securities of other issuers, such as corporations, that are taxed on income at the entity level and are able to retain all
or a portion of their income rather than distributing it to investors. The Fund invests primarily in BDC shares which are trading
in the secondary market on a U.S. securities exchange but may, in certain circumstances, invest in an initial public offering of
BDC shares or invest in certain debt instruments issued by BDCs. The Fund is not limited with respect to the specific types of
BDCs in which it invests. The Fund will indirectly bear its proportionate share of any management and other expenses, and of any
performance based or incentive fees, charged by the BDCs in which it invests, in addition to the expenses paid by the Fund.
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Closed-End Funds.
Closed-end funds are investment companies
that typically issue a fixed number of shares that trade on a securities exchange or over-the-counter. The risks of investment
in closed-end funds typically reflect the risk of the types of securities in which the funds invest. Investments in closed-end
funds are subject to the additional risk that shares of the fund may trade at a premium or discount to their NAV per share. Closed-end
funds come in many varieties and can have different investment objectives, strategies and investment portfolios. They also can
be subject to different risks, volatility and fees and expenses. Although closed-end funds are generally listed and traded on an
exchange, the degree of liquidity, or ability to be bought and sold, will vary significantly from one closed-end fund to another
based on various factors including, but not limited to, demand in the marketplace. The Fund may also invest in shares of closed-end
funds that are not listed on an exchange. Such non-listed closed-end funds are subject to certain restrictions on redemptions
and no secondary market exists. As a result, such investments should be considered illiquid. When the Fund invests in shares of
a closed-end fund, shareholders of the Fund bear their proportionate share of the closed-end fund’s fees and expenses, as
well as their share of the Fund’s fees and expenses.
REITs and Other Mortgage-Related Securities.
REITs are financial vehicles that pool
investors’ capital to invest primarily in income-producing real estate or real estate-related loans or interests. REIT shares
are typically listed for trading in the secondary market on a U.S. securities exchange. REITs can generally be classified as “Mortgage
REITs,” “Equity REITs” and “Hybrid REITs.” Mortgage REITs, which invest the majority of their assets
in real estate mortgages, derive their income primarily from interest payments. The Fund focuses its Mortgage REIT investments
in companies that invest primarily in U.S. Agency, prime-rated and commercial mortgage securities. U.S. Agency securities include
securities issued by the Government National Mortgage Association, the Federal National Mortgage Association and the Federal Home
Loan Mortgage Corporation. Equity REITs, which invest the majority of their assets directly in real property, derive their income
primarily from rents, royalties and lease payments. Equity REITs can also realize capital gains by selling properties that have
appreciated in value. Some REITs which are classified as Equity REITs provide specialized financing solutions to their clients
in the form of sale-lease back transactions and triple net lease financing. Hybrid REITs combine the characteristics of both Equity
REITs and Mortgage REITs.
Debt securities issued by REITs are, for
the most part, general and unsecured obligations and are subject generally to risks associated with REITs. Distributions received
by the Fund from REITs may consist of dividends, capital gains and/or return of capital. REITs are not taxed on income distributed
to their shareholders provided they comply with the applicable requirements of the Internal Revenue Code. Similar to BDCs, the
securities of REITs, which are required to distribute substantially all of their income to investors in order to not be subject
to entity level taxation, often offer a yield advantage over securities of other issuers, such as corporations, that are taxed
on income at the entity level and are able to retain all or a portion of their income rather than distributing it to investors.
Many of these distributions, however, will not generally qualify for favorable treatment as qualified dividend income. To the extent,
however, the Fund designates dividends it pays to its shareholders as “section 199A dividends” such shareholder may
be eligible for a 20% deduction with respect to such dividends. The amount of section 199A dividends that the Fund may pay and
report to its shareholders is limited to the excess of the ordinary REIT dividends, other than capital gain dividends and portions
of REIT dividends designated as qualified dividend income, that the Fund receives from REITs for a taxable year over the Fund’s
expenses allocable to such dividends.
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The Fund invests primarily in REIT shares
which are trading in the secondary market on a U.S. securities exchange but may, in certain circumstances, invest in an initial
public offering of REIT shares or invest in certain debt instruments issued by REITs. The Fund is not limited with respect to the
specific types of REITs in which it invests. The Fund will indirectly bear its proportionate share of any management and other
operating expenses charged by the REITs in which it invests, in addition to the expenses paid by the Fund.
Other mortgage-related securities in which
the Fund may invest include debt instruments which provide periodic payments consisting of interest and/or principal that are derived
from or related to payments of interest and/or principal on underlying mortgages. Additional payments on mortgage-related securities
may be made out of unscheduled prepayments of principal resulting from the sale of the underlying property or from refinancing
or foreclosure, net of fees or costs that may be incurred.
The Fund may invest in commercial mortgage-related
securities issued by corporations. These are securities that represent an interest in, or are secured by, mortgage loans secured
by commercial property, such as industrial and warehouse properties, office buildings, retail space and shopping malls, multifamily
properties and cooperative apartments, hotels and motels, nursing homes, hospitals and senior living centers. They may pay fixed
or adjustable rates of interest. The commercial mortgage loans that underlie commercial mortgage-related securities have certain
distinct risk characteristics. Commercial mortgage loans generally lack standardized terms, which may complicate their structure.
Commercial properties themselves tend to be unique and difficult to value. Commercial mortgage loans tend to have shorter maturities
than residential mortgage loans and may not be fully amortizing, meaning that they may have a significant principal balance, or
“balloon” payment, due on maturity. In addition, commercial properties, particularly industrial and warehouse properties,
are subject to environmental risks and the burdens and costs of compliance with environmental laws and regulations.
The Fund also may invest in mortgage pass-through
securities, collateralized mortgage obligations (“CMOs”), mortgage dollar rolls, CMO residuals (other than residual
interests in real estate mortgage investment conduits), stripped mortgage-backed securities and other securities that directly
or indirectly represent a participation in, or are secured by and payable from, mortgage loans on real property.
In addition, the Fund may invest in other
types of asset-backed securities that are offered in the marketplace. Other asset-backed securities may be collateralized by the
fees earned by service providers. The value of asset-backed securities may be substantially dependent on the servicing of the underlying
asset pools and are therefore subject to risks associated with the negligence of, or defalcation by, their servicers. In certain
circumstances, the mishandling of related documentation may also affect the rights of the security holders in and to the underlying
collateral. The insolvency of entities that generate receivables or that utilize the underlying assets may result in added costs
and delays in addition to losses associated with a decline in the value of the underlying assets.
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Special Purpose Acquisition Companies (SPACs).
SPACs are collective investment structures
that pool funds in order to seek potential acquisition opportunities. Unless and until an acquisition is completed, a SPAC generally
invests its assets (less an amount to cover expenses) in U.S. government securities, money market fund securities and cash. SPACs
and similar entities may be blank check companies with no operating history or ongoing business other than to seek a potential
acquisition. Accordingly, the value of their securities is particularly dependent on the ability of the entity’s management
to identify and complete a profitable acquisition. Certain SPACs may seek acquisitions only in limited industries or regions, which
may increase the volatility of their prices. If an acquisition that meets the requirements for the SPAC is not completed within
a predetermined period of time, the invested funds are returned to the entity’s shareholders. Investments in SPACs may be
illiquid and/or be subject to restrictions on resale. To the extent the SPAC is invested in cash or similar securities, this may
impact a Fund’s ability to meet its investment objective.
Private Investment Funds.
Private Investment Funds may require large
minimum investments and impose stringent investor qualification criteria that are intended to limit their direct investors mainly
to institutions such as endowments and pension funds. By investing in private investment funds, the Fund can offer shareholders
access to certain asset managers that may not be otherwise available to them. The Fund seeks to leverage the relationships of the
Adviser to gain access to private investment funds on terms consistent with those offered to similarly-sized institutional investors.
Furthermore, the Fund believes that investments in private investment funds offer opportunities for moderate income and growth
as well as lower correlation to equity markets but will also be less liquid.
Collateralized Loan Obligations.
CLOs are securitization vehicles that pool
a diverse portfolio of primarily below investment grade U.S. senior secured loans. Such pools of underlying assets are often referred
to as a CLO’s “collateral.” While the vast majority of the portfolio of most CLOs consists of senior secured
loans, many CLOs enable the CLO collateral manager to invest up to 10% of the portfolio in assets that are not first lien senior
secured loans, including second lien loans, unsecured loans, senior secured bonds and senior unsecured bonds.
CLOs are generally required to hold a portfolio
of assets that is highly diversified by underlying borrower and industry, and is subject to a variety of asset concentration limitations.
Most CLOs are revolving structures that generally allow for reinvestment over a specific period of time (typically 3 to 5 years).
In cash flow CLOs, the terms and covenants of the structure are, with certain exceptions, based primarily on the cash flow generated
by, and the par value (as opposed to the market price) of, the collateral. These covenants include collateral coverage tests, interest
coverage tests and collateral quality tests.
CLOs fund the purchase of a portfolio of
primarily senior secured loans via the issuance of CLO equity and debt in the form of multiple, primarily floating-rate debt, tranches.
The CLO debt tranches typically are rated “AAA” (or its equivalent) at the most senior level down to “BB”
or “B” (or its equivalent), which is below investment grade, at the most junior level by Moody’s Investor Service,
Inc., or “Moody’s,” Standard & Poor’s Rating Group, or “S&P,” and/or Fitch, Inc., or
“Fitch.” The CLO equity tranche is unrated and typically represents approximately 8% to 11% of a CLO’s capital
structure. A CLO’s equity tranche represents the first loss position in the CLO.
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Since a CLO’s indenture requires
that the maturity dates of a CLO’s assets (typically 5 to 8 years from the date of issuance of a senior secured loan) be
shorter than the maturity date of the CLO’s liabilities (typically 11 to 12 years from the date of issuance), CLOs generally
do not face refinancing risk on the CLO debt.
Other Financial Companies.
The principal industry groups of financial
companies include banks, savings institutions, brokerage firms, investment management companies, insurance companies, holding companies
of the foregoing and companies that provide related services to such companies. Banks and savings institutions provide services
to customers such as demand, savings and time deposit accounts and a variety of lending and related services. Brokerage firms provide
services to customers in connection with the purchase and sale of securities. Investment management companies provide investment
advisory and related services to retail customers, high net-worth individuals and institutions. Insurance companies provide a wide
range of commercial, life, health, disability, personal property and casualty insurance products and services to businesses, governmental
units, associations and individuals.
Equity Securities.
Equity securities may include common stocks
that either are required to and/or customarily distribute a large percentage of their current earnings as dividends. Common stock
represents an equity ownership interest in a company, providing voting rights and entitling the holder to a share of the company’s
success through dividends and/or capital appreciation. In the event of liquidation, common stockholders have rights to a company’s
remaining assets after bond holders, other debt holders and preferred stockholders have been paid in full. Typically, common stockholders
are entitled to one vote per share to elect the company’s board of directors (although the number of votes is not always
directly proportional to the number of shares owned). Common stockholders also receive voting rights regarding other company matters
such as mergers and certain important company policies such as issuing securities to management. Common stocks fluctuate in price
in response to many factors, including historical and prospective earnings of the issuer, the value of its assets, general economic
conditions, interest rates, investor perceptions and market liquidity.
Investment Grade Debt Securities.
Investment grade bonds of varying maturities
issued by governments, corporations and other business entities are fixed or variable rate debt obligations, including bills, notes,
debentures, money market instruments and similar instruments and securities. Bonds generally are used by corporations as well as
by governments and other issuers to borrow money from investors. The issuer pays the investor a fixed or variable rate of interest
and normally must repay the amount borrowed on or before maturity. Certain bonds are “perpetual” in that they have
no maturity date.
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Non-Investment Grade Debt Securities.
Fixed income securities of below-investment
grade quality are commonly referred to as “high-yield” or “junk” bonds. Generally, such lower quality debt
securities offer a higher current yield than is offered by higher quality debt securities, but also (i) will likely have some quality
and protective characteristics that, in the judgment of the rating agencies, are outweighed by large uncertainties or major risk
exposures to adverse conditions and (ii) are predominantly speculative with respect to the issuer’s capacity to pay interest
and repay principal in accordance with the terms of the obligation. Below-investment grade debt securities are rated below “Baa”
by Moody’s Investors Services, Inc., below “BBB” by Standard & Poor’s Ratings Group, a division of
The McGraw Hill Companies, Inc., comparably rated by another nationally recognized statistical rating organization or, if unrated,
determined to be of comparable quality by the Advisor.
Mortgage-Back Securities.
Mortgage-backed securities represent direct
or indirect participations in, or are secured by and payable from, mortgage loans secured by real property and include single-
and multi-class pass-through securities and collateralized mortgage obligations. U.S. government mortgage-backed securities include
mortgage-backed securities issued or guaranteed as to the payment of principal and interest (but not as to market value) by the
Government National Mortgage Association (also known as Ginnie Mae), the Federal National Mortgage Association (also known as Fannie
Mae), the Federal Home Loan Mortgage Corporation (also known as Freddie Mac) or other government-sponsored enterprises. Other
mortgage-backed securities are issued by private issuers. Private issuers are generally originators of and investors in mortgage
loans, including savings associations, mortgage bankers, commercial banks, investment bankers and special purpose entities. Payments
of principal and interest (but not the market value) of such private mortgage-backed securities may be supported by pools of mortgage
loans or other mortgage-backed securities that are guaranteed, directly or indirectly, by the U.S. government or one of its agencies
or instrumentalities, or they may be issued without any government guarantee of the underlying mortgage assets but with some form
of non-government credit enhancement. Non-governmental mortgage-backed securities may offer higher yields than those issued by
government entities, but may also be subject to greater price changes than governmental issues.
Some mortgage-backed securities, such as
collateralized mortgage obligations, make payments of both principal and interest at a variety of intervals; others make semi-annual
interest payments at a predetermined rate and repay principal at maturity (like a typical bond). Stripped mortgage-backed securities
are created when the interest and principal components of a mortgage-backed security are separated and sold as individual securities.
In the case of a stripped mortgage-backed security, the holder of the principal-only, or “PO,” security receives the
principal payments made by the underlying mortgage, while the holder of the interest-only, or “IO,” security receives
interest payments from the same underlying mortgage.
Mortgage-backed securities are based on
different types of mortgages including those on commercial real estate or residential properties. These securities often have stated
maturities of up to thirty years when they are issued, depending upon the length of the mortgages underlying the securities. In
practice, however, unscheduled or early payments of principal and interest on the underlying mortgages may make the securities’
effective maturity shorter than this, and the prevailing interest rates may be higher or lower than the current yield of the Fund’s
portfolio at the time the Fund receives the prepayments for reinvestment.
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Residential mortgage-backed securities
represent direct or indirect participations in, or are secured by and payable from, pools of assets which include all types of
residential mortgage products.
Asset-Backed Securities.
Asset-backed securities represent direct
or indirect participations in, or are secured by and payable from, pools of assets such as, among other things, motor vehicle installment
sales contracts, installment loan contracts, leases of various types of real and personal property, and receivables from revolving
credit (credit card) agreements or a combination of the foregoing. These assets are securitized through the use of trusts and special
purpose corporations. Credit enhancements, such as various forms of cash collateral accounts or letters of credit, may support
payments of principal and interest on asset-backed securities. Although these securities may be supported by letters of credit
or other credit enhancements, payment of interest and principal ultimately depends upon individuals paying the underlying loans
or accounts, which payment may be adversely affected by general downturns in the economy. Asset-backed securities are subject to
the same risk of prepayment described above with respect to mortgage-backed securities. The risk that recovery on repossessed collateral
might be unavailable or inadequate to support payments, however, is greater for asset-backed securities than for mortgage-backed
securities.
Other Securities.
New financial products continue to be developed
and the Fund may invest in any products that may be developed to the extent consistent with its investment objectives and the regulatory
and federal tax requirements applicable to investment companies.
Use of Leverage
As of the date of the Fund’s prospectus,
the Fund utilized, and intends to continue to utilize, leverage for investment and other purposes, such as for financing the repurchase
of its Shares or to otherwise provide the Fund with liquidity. Under the 1940 Act, the Fund may utilize leverage through the issuance
of preferred stock in an amount up to 50% of its total assets and/or through borrowings and/or the issuance of notes or debt securities
(collectively, “Borrowings”) in an aggregate amount of up to 33-1/3% of its total assets. The Fund anticipates that
its leverage will vary from time to time, based upon changes in market conditions and variations in the value of the portfolio’s
holdings; however, the Fund’s leverage will not exceed the limitations set forth under the 1940 Act.
On November 11, 2020, the Fund entered
into a prime brokerage agreement for margin financing with Pershing LLC as lender (the “Credit Agreement”). The Credit
Agreement permits the Fund to borrow funds that are collateralized by assets held in a special custody account held at State Street
Bank pursuant to a Special Custody and Pledge Agreement. Borrowings under this arrangement bears interest at the overnight bank
funding rate plus 75 basis points for an overnight time. As of June 30, 2021, the principal amount of borrowings under the Credit
Agreement was $11,500,000, representing approximately 7.97% of the Fund’s Managed Assets.
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As of June 30, 2021, the Fund had outstanding
1,656,000 shares of Series A Preferred Stock. For the fiscal year ended June 30, 2021, the average liquidation preference since
the issuance of such Series A Preferred Stock was approximately $25.00. The Series A Preferred Stock ranks senior in right of payment
to the Shares. As of June 30, 2021, the Fund’s leverage from Borrowings and its issuance of Series A Preferred Stock was
approximately 36.67% of its Managed Assets.
There is no assurance that the Fund will
increase the amount of its leverage or that, if additional leverage is utilized, it will be successful in enhancing the level of
the Fund’s current distributions. It is also possible that the Fund will be unable to obtain additional leverage. If the
Fund is unable to increase its leverage after the issuance of additional Shares pursuant to the Fund’s prospectus, there
could be an adverse impact on the return to Shareholders.
Under the 1940 Act, the Fund generally
is not permitted to incur Borrowings unless immediately after the Borrowing the value of the Fund’s total assets less liabilities
other than the principal amount represented by Borrowings is at least 300% of such principal amount. Also, under the 1940 Act and
as noted above, the Fund is not permitted to issue preferred stock unless immediately after such issuance the value of the Fund’s
asset coverage is at least 200% of the liquidation value of the outstanding preferred stock (i.e., such liquidation value may not
exceed 50% of the Fund’s asset coverage). Furthermore, the Fund is not permitted to declare any cash dividend or other distribution
on its Shares, or repurchase its Shares, unless, at the time of such declaration or repurchase, the Borrowings have an asset coverage
of at least 300% and the preferred stock has an asset coverage of at least 200% after deducting the amount of such dividend, distribution
or purchase price (as the case may be). Any prohibitions on dividends and other distributions on the Shares could impair the Fund’s
ability to qualify as a regulated investment company under the Internal Revenue Code. The Fund intends, to the extent possible,
to prepay all or a portion of the principal amount of any outstanding Borrowing or purchase or redeem any outstanding shares of
preferred stock to the extent necessary in order to maintain the required asset coverage. Holders of shares of preferred stock,
including Series A Preferred Stock (“preferred shareholders”), voting separately, are entitled to elect two of the
Fund’s directors. The remaining directors of the Fund are elected by Shareholders and preferred shareholders voting together
as a single class. In the event the Fund would fail to pay dividends on its preferred stock for two years, the preferred shareholders
would be entitled to elect a majority of the directors of the Fund.
In addition to the requirements under the
1940 Act, the Fund is subject to various requirements and restrictions under its Series A Preferred Stock. The requirements and
restrictions with respect to the Fund’s preferred stock, including the Series A Preferred Stock, may be more stringent than
those imposed by the 1940 Act, which may include certain restrictions imposed by guidelines of one or more rating agencies which
issue ratings for the Fund’s preferred stock; however, it is not anticipated that they will impede the Adviser from managing
the Fund’s portfolio and repurchase policy in accordance with the Fund’s investment objective and policies. Nonetheless,
in order to adhere to such requirements and restrictions, the Fund may be required to take certain actions, such as reducing its
Borrowings and/or redeeming shares of its preferred stock, including Series A Preferred Stock, with the proceeds from portfolio
transactions at what might be an in opportune time in the market. Such actions could incur transaction costs as well as reduce
the net earnings or returns to Shareholders over time. In addition to other considerations, to the extent that the Fund believes
that these requirements and restrictions would impede its ability to meet its investment objective or its ability to qualify as
a regulated investment company, the Fund will not incur additional Borrowings or issue additional preferred stock.
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In general, Borrowings may be at a fixed
or floating rate and are typically based upon short-term rates. The Borrowings in which the Fund may incur from time to time may
be secured by mortgaging, pledging or otherwise subjecting as security the assets 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 example of an investment covenant is one that would require the Fund to limit its investment in a particular asset class. As
noted above, the Fund may need to liquidate its investments when it may not be advantageous to do so in order to satisfy such obligations
or to meet any asset coverage and segregation requirements (pursuant to the 1940 Act or otherwise). As the Fund’s portfolio
will be substantially illiquid, any such disposition or liquidation could result in substantial losses to the Fund. The terms of
the Fund’s Borrowings may also contain provisions which limit certain activities of the Fund, including the payment of dividends
to Shareholders in certain circumstances, and 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. In addition, certain types of Borrowings may involve the rehypothecation of the Fund’s securities.
Furthermore, 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 issued by the Fund. Any Borrowing will likely be ranked senior
or equal to all other Borrowings of the Fund and the rights of lenders to the Fund to receive interest on and repayment of principal
of any Borrowings will likely be senior to those of the Shareholders. Further, 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.
The Fund also may 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.
Due to the Fund’s issuance of Series
A Term Preferred Stock, for tax purposes, the Fund is required to allocate net capital gain and other taxable income, if any, between
the Shares and shares of the Series A Term Preferred Stock in proportion to total dividends paid to each class for the year in
which the net capital gain or other taxable income was realized.
So long as the rate of return, net of applicable
Fund expenses, on the Fund’s portfolio investments purchased with Borrowings or the proceeds from the issuance of preferred
stock, including Series A Term Preferred Stock, exceeds the then-current interest or payment rate and other costs on such Borrowings
or preferred stock, the Fund will generate more return or income than will be needed to pay such interest or dividend payments
and other costs. In this event, the excess will be available to pay higher dividends to Shareholders.
If the net rate of return on the Fund’s investments purchased with Borrowings or the proceeds from the issuance of preferred
stock, including Series A Term Preferred Stock, does not exceed the costs of such Borrowings or preferred stock, the return to
Shareholders will be less than if leverage had not been used. In such case, the Adviser, in its best judgment, nevertheless may
determine to maintain the Fund’s leveraged position if it expects that the benefits to the 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 Shareholders. In addition, the cost associated with any issuance and use of leverage is borne by the Shareholders and results
in a reduction of the NAV of the Shares. Such costs may include legal fees, audit fees, structuring fees, commitment fees and a
usage (borrowing) fee. 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 Shares. There can be no assurance that a leveraging strategy will be successful during
any period in which it is employed. When leverage is employed, the NAV and the yield to Shareholders will be more volatile. Leverage
creates a greater risk of loss, as well as potential for more gain, for the Shares that if leverage is not used. In addition, the
Adviser is paid more if the Fund uses leverage, which creates a conflict of interest for the Adviser.
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Effects of Leverage
Assuming the utilization of leverage through
a combination of borrowings and the issuance of preferred stock by the Fund in the aggregate amount of approximately 36.67% of
the Fund’s Managed Assets, at a combined interest or payment rate of 4.77% payable on such leverage, the return generated
by the Fund’s portfolio (net of estimated non-leverage expenses) must exceed 1.75% in order to cover such interest or payment
rates and other expenses specifically related to leverage. These numbers are merely estimates used for illustration. Actual interest
or payment rates on the leverage utilized by the Fund 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 Share total return, assuming investment portfolio
total returns (comprised of income and changes in the value of securities held in the Fund’s portfolio net of expenses) 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.
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Assumed Portfolio Return
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|
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-10.00
|
%
|
|
|
-5.00
|
%
|
|
|
0.00
|
%
|
|
|
5.00
|
%
|
|
|
10.00
|
%
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Common Share Total Return
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|
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-18.55
|
%
|
|
|
-10.66
|
%
|
|
|
-2.76
|
%
|
|
|
5.13
|
%
|
|
|
13.03
|
%
|
Share total return is composed of two elements:
the dividends on Shares paid by the Fund (the amount of which is largely determined by the Fund’s net investment income after
paying interest or other payments 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.
For example, to assume a total return of 0%, the Fund must assume that the interest it receives on its investments is entirely
offset by losses in the value of those investments. Figures appearing in the table are hypothetical. Actual returns may be greater
or less than those appearing in the table.
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Risk Factors
Investing in the Fund involves certain
risks relating to its structure and investment objective. You should carefully consider these risk factors, together with all of
the other information included in this report, before deciding whether to make an investment in the Fund. An investment in the
Fund may not be appropriate for all investors, and an investment in the Common Shares of the Fund should not be considered a complete
investment program.
The risks set forth below are not the only
risks of the Fund, and the Fund may face other risks that have not yet been identified, which are not currently deemed material
or which are not yet predictable. If any of the following risks occur, the Fund’s financial condition and results of operations
could be materially adversely affected. In such case, the Fund’s NAV and the trading price of its securities could decline,
and you may lose all or part of your investment.
Various risk factors included below have
been updated since the prior disclosure date to reflect certain updates. The removal of Non-Diversification Risk under the Risk
Factors section is a material change since the prior disclosure date.
Investment Strategy Risks:
Asset-Backed Securities Risks. Asset-backed
securities often involve risks that are different from or more acute than risks associated with other types of debt instruments.
For instance, asset-backed securities may be particularly sensitive to changes in prevailing interest rates. In addition, the underlying
assets are subject to prepayments that shorten the securities’ weighted average maturity and may lower their return. Asset-backed
securities are also subject to risks associated with their structure and the nature of the assets underlying the security and the
servicing of those assets. Payment of interest and repayment of principal on asset-backed securities is largely dependent upon
the cash flows generated by the assets backing the securities and, in certain cases, supported by letters of credit, surety bonds
or other credit enhancements. The values of asset-backed securities may be substantially dependent on the servicing of the underlying
asset pools, and are therefore subject to risks associated with the negligence by, or defalcation of, their servicers. Furthermore,
debtors may be entitled to the protection of a number of state and federal consumer credit laws with respect to the assets underlying
these securities, which may give the debtor the right to avoid or reduce payment. In addition, due to their often complicated structures,
various asset-backed securities may be difficult to value and may constitute illiquid investments. If many borrowers on the underlying
Alternative Credit default, losses could exceed the credit enhancement level and result in losses to investors in asset-backed
securities.
An investment in subordinated (residual)
classes of asset-backed securities is typically considered to be an illiquid and highly speculative investment, as losses on the
underlying assets are first absorbed by the subordinated classes. The risks associated with an investment in such subordinated
classes of asset-backed securities include credit risk, regulatory risk pertaining to the Fund’s ability to collect on such
securities, platform performance risk and liquidity risk.
CLO Risk. The
Fund’s investments in CLOs may be riskier than a direct investment in the debt or other securities of the underlying companies.
When investing in CLOs, the Fund may invest in any level of a CLO’s subordination chain, including subordinated (lower-rated)
tranches and residual interests (the lowest tranche). CLOs are typically highly levered and therefore, the junior debt and equity
tranches that the Fund may invest in are subject to a higher risk of total loss and deferral or nonpayment of interest than the
more senior tranches to which they are subordinated. In addition, the Fund will generally have the right to receive payments only
from the CLOs, and will generally not have direct rights against the underlying borrowers or entities that sponsored the CLOs.
Furthermore, the investments the Fund makes in CLOs are at times thinly traded or have only a limited trading market. As a result,
investments in such CLOs may be characterized as illiquid securities.
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Closed-End Investment Companies Risk.
The Fund invests in closed-end investment companies, including shares
of closed-end funds that are trading at a discount to NAV or at a premium to NAV. There can be no assurance that the market discount
on shares of any closed-end fund purchased by the Fund will ever decrease.
In fact, it is possible that this market
discount may increase and the Fund may suffer realized or unrealized capital losses due to further decline in the market price
of the securities of such closed-end funds, thereby adversely affecting the NAV of the Fund’s Common Shares. Similarly,
there can be no assurance that any shares of a closed-end fund purchased by the Fund at a premium will continue to trade at a premium
or that the premium will not decrease subsequent to a purchase of such shares by the Fund.
BDCs are a type of closed-end investment
company that generally invest in less mature U.S. private companies or thinly traded U.S. public companies which involve greater
risk than well-established publicly-traded companies. While BDCs are expected to generate income in the form of dividends, certain
BDCs during certain periods of time may not generate such income. The Fund will indirectly bear its proportionate share of any
management fees and other operating expenses incurred by closed-end funds and BDCs in which it invests, and of any performance-based
or incentive fees payable by the BDCs in which it invests, in addition to the expenses paid by the Fund.
Corporate Debt Risks. Corporate
debt securities are long and short-term debt obligations issued by companies (such as publicly issued and privately placed bonds,
notes and commercial paper). The Adviser considers corporate debt securities to be of investment grade quality if they are rated
BBB or higher by S&P Global Ratings Services (“S&P”) or Baa or higher by Moody’s Investor Services, Inc.
(“Moody’s”), or if unrated, determined by the Adviser to be of comparable quality. Investment grade debt securities
generally have adequate to strong protection of principal and interest payments. In the lower end of this category, adverse economic
conditions or changing circumstances are more likely to lead to a weakened capacity to pay interest and repay principal than in
higher rated categories. The Fund may invest in both secured and unsecured corporate bonds. An unsecured bond may have a lower
recovery value than a secured bond in the event of a default by its issuer.
Credit and Interest Rate Analysis Risk.
The Adviser is reliant in part on the borrower credit information provided to it or assigned by the platforms when selecting instruments
for investment. To the extent a credit rating is assigned to each borrower by a platform, such rating may not accurately reflect
the borrower’s actual creditworthiness. A platform may be unable, or may not seek, to verify all of the borrower information
obtained by it, which it may use to determine such borrower’s credit rating. Borrower information on which platforms and
lenders may rely may be outdated. In addition, certain information that the Adviser would otherwise seek may not be available,
such as financial statements and other financial information. Furthermore, the Adviser may be unable to perform any independent
follow-up verification with respect to a borrower to the extent the borrower’s name, address and other contact information
is required to remain confidential. There is risk that a borrower may have supplied false or inaccurate information.
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Although the Adviser conducts diligence
on the credit scoring methodologies used by platforms from which the Fund purchases instruments, the Fund typically will not have
access to all of the data that platforms utilize to assign credit scores to particular loans purchased directly or indirectly by
the Fund, and will not confirm the truthfulness of such information or otherwise evaluate the basis for the platform’s credit
score of those loans. In addition, the platforms’ credit decisions and scoring models are based on algorithms that could
potentially contain programming or other errors or prove to be ineffective or otherwise flawed. This could adversely affect loan
pricing data and approval processes and could cause loans to be mispriced or misclassified, which could ultimately have a negative
impact on the Fund’s performance.
The interest rates on loans established
by the platforms may have not been appropriately set. A failure to set appropriate rates on the loans may adversely impact the
ability of the Fund to receive returns on its instruments that are commensurate with the risks associated with directly or indirectly
owning such instruments. In addition, certain other information used by the platforms and the Adviser in making loan and investment
decisions may be deficient and/or incorrect, which increases the risk of loss on the loan.
Default Risk. The
ability of the Fund to generate income through its investment in loans is dependent upon payments being made by the borrower underlying
such instruments. If a borrower is unable to make its payments on a loan, the Fund may be greatly limited in its ability to recover
any outstanding principal and interest under such loan.
Fixed Income Securities Risk. The
Fund may invest in fixed income securities. Fixed income securities generally represent the obligation of an issuer to repay to
the investor (or lender) the amount borrowed plus interest over a specified time period. Fixed income securities increase or decrease
in value based on changes in interest rates. If rates increase, the value of the fund’s fixed income securities generally
declines. On the other hand, if rates fall, the value of the fixed income securities generally increases. The issuer of a fixed
income security may not be able to make interest and principal payments when due. This risk is increased in the case of issuers
of high yield securities, also known as “junk bonds.” Securities of certain U.S. Government sponsored entities are
neither issued nor guaranteed by the U.S. Government. Fixed income risks include components of the following additional risks:
Credit Risk. The issuer of a fixed income
security may not be able to make interest and principal payments when due. Generally, the lower the credit rating of a security,
the greater the risk that the issuer will default on its obligation, which could result in a loss to the Fund. The Fund may invest
in securities that are rated in the lowest investment grade category. Issuers of these securities are more vulnerable to changes
in economic conditions than issuers of higher grade securities. As a result of the credit profile of the borrowers and the interest
rates on the Fund’s investment in loans, the delinquency and default experience on the these instruments may be significantly
higher than those experienced by financial products arising from traditional sources of lending. Shareholders are urged to consider
the highly risky nature of the credit quality of the Fund’s investment in loans when analyzing an investment in the Shares.
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High Yield Securities/Junk Bond Risk.
The Fund may invest in high yield securities, also known as “junk
bonds.” High yield securities are not considered to be investment grade. High yield securities may provide greater income
and opportunity for gain, but entail greater risk of loss of principal. High yield securities are predominantly speculative with
respect to the issuer’s capacity to pay interest and repay principal in accordance with the terms of the obligation. The
market for high yield securities is generally less active than the market for higher quality securities. This may limit the ability
of the Fund to sell high yield securities at the price at which it is being valued for purposes of calculating net asset value.
Government Risk. The
U.S. Government’s guarantee of ultimate payment of principal and timely payment of interest on certain U. S. Government securities
owned by the Fund does not imply that the Fund’s shares are guaranteed or that the price of the Fund’s shares will
not fluctuate. In addition, securities issued by Freddie Mac, Fannie Mae and Federal Home Loan Banks are not obligations of, or
insured by, the U.S. Government. If a U.S. Government agency or instrumentality in which the Fund invests defaults and the U.S.
Government does not stand behind the obligation, the Fund’s share price could fall. All U.S. Government obligations are subject
to interest rate risk.
Interest Rate Risk. The
Fund’s share price and total return will vary in response to changes in interest rates. If rates increase, the value of the
Fund’s investments generally will decline, as will the value of a shareholder’s investment in the Fund. Securities
with longer maturities tend to produce higher yields, but are more sensitive to changes in interest rates and are subject to greater
fluctuations in value. The risks associated with increasing interest rates are heightened given that interest rates are near historic
lows, but are expected to increase in the future with unpredictable effects on the markets and the Fund’s investments. In
addition, this rise in interest rates may negatively impact the Fund’s future income relating to leverage, as the Fund will
be required to earn more income on its investments to recoup any increased costs of leverage.
LIBOR Risk. The
Fund’s investments, interest payment obligations and financing terms may be based on floating rates, such as the London Interbank
Offered Rate (“LIBOR”). In July of 2017, the head of the UK Financial Conduct Authority ("FCA") announced
a desire to phase out the use of LIBOR by the end of 2021. The FCA and ICE Benchmark Administrator have since announced that most
LIBOR settings will no longer be published after December 31, 2021 and a majority of U.S. dollar LIBOR settings will cease publication
after June 30, 2023. The U.S. Federal Reserve, based on the recommendations of the New York Federal Reserve's Alternative Reference
Rate Committee (comprised of major derivative market participants and their regulators), has begun publishing Secured Overnight
Financial Rate Data ("SOFR") that is intended to replace U.S. dollar LIBOR. Proposals for alternative reference rates
for other currencies have also been announced or have already begun publication. Markets are slowly developing in response to these
new reference rates. Uncertainty related to the liquidity impact of the change in rates, and how to appropriately adjust these
rates at the time of transition, poses risks for the Fund. The expected discontinuation of LIBOR could have a significant impact
on the financial markets in general and may also present heightened risk to market participants, including public companies, investment
advisers, investment companies, and broker-dealers. The risks associated with this discontinuation and transition will be exacerbated
if the work necessary to effect an orderly transition to an alternative reference rate is not completed in a timely manner. Accordingly,
it is difficult to predict the full impact of the transition away from LIBOR on the Fund or the Fund’s investments until
new reference rates and fallbacks for both legacy and new instruments and contracts are commercially accepted and market practices
become settled. The inclusion of LIBOR Risk under the Risk Factors section is a material change since the prior disclosure date.
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Sovereign Obligation Risk. Investment
in sovereign debt obligations involves special risks not present in corporate debt obligations. The issuer of the sovereign debt
or the governmental authorities that control the repayment of the debt may be unable or unwilling to repay principal or interest
when due, and the Fund may have limited recourse in the event of a default. During periods of economic uncertainty, the market
prices of sovereign debt may be more volatile than prices of U.S. debt obligations. In the past, certain emerging markets have
encountered difficulties in servicing their debt obligations, withheld payments of principal and interest, and declared moratoria
on the payment of principal and interest on their sovereign debts.
Fraud Risk. The
Fund is subject to the risk of fraudulent activity associated with the various parties involved in the Fund’s lending, including
the platforms, banks, borrowers and third parties handling borrower and investor information. A platform’s resources, technologies
and fraud prevention tools may be insufficient to accurately detect and prevent fraud. High profile fraudulent activity or significant
increases in fraudulent activity could lead to regulatory intervention, negatively impact operating results, brand and reputation
and lead the defrauded platform to take steps to reduce fraud risk, which could increase costs.
Funding Bank Risk. Multiple
banks may originate loans for lending platforms. If such a bank were to suspend, limit or cease its operations or a platform’s
relationship with a bank were to otherwise terminate, such platform would need to implement a substantially similar arrangement
with another funding bank, obtain additional state licenses or curtail its operations. The Fund is dependent on the continued success
of the platforms that originate the Fund’s investment in loans. If such platforms were unable or impaired in their ability
to operate their lending business, the Adviser may be required to seek alternative sources of investments (e.g., loans originated
by other platforms), which could adversely affect the Fund’s performance and/or prevent the Fund from pursuing its investment
objective and strategies.
Geographic Concentration Risk. The
Fund is not subject to any geographic restrictions when investing in loans and therefore could be concentrated in a particular
state or region. A geographic concentration of the Fund’s investment in loans may expose the Fund to an increased risk of
loss due to risks associated with certain regions. In the event that a significant portion of the pool of the Fund’s investment
in loans is comprised of loans owed by borrowers resident or operating in certain states, economic conditions, localized weather
events, environmental disasters, natural disasters or other factors affecting these states in particular could adversely impact
the delinquency and default experience of the loans and could impact Fund performance. Further, the concentration of the loans
in one or more states would have a disproportionate effect on the Fund if governmental authorities in any of those states took
action against the platforms lending in such states.
Information Technology Risk. Because the
Fund relies on electronic systems maintained by the custodian and the platforms to maintain records and evidence ownership of
such loans and to service and administer loans (as applicable) it is susceptible to risks associated with such electronic systems.
These risks include, among others: power loss, computer systems failures and Internet, telecommunications or data network failures;
operator negligence or improper operation by, or supervision of, employees; physical and electronic loss of data or security breaches,
misappropriation and similar events; computer viruses;
cyber attacks, intentional acts of vandalism and similar events; and hurricanes, fires, floods and other natural disasters. The
Adviser is also reliant on information technology to facilitate the loan acquisition process. Any failure of such technology could
have a material adverse effect on the ability of the Adviser to acquire loans and therefore may impact the performance of the
Fund. Any delays in receiving the data provided by such technology could also impact, among other things, the valuation of the
portfolio of loans.
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Investments
in Platforms Risk. The platforms in which the Fund may invest may
have a higher risk profile and be more volatile than companies engaged in lines of business with a longer, established history
and such investments should be viewed as longer term investments. The Fund may invest in listed or unlisted equity securities
of platforms or make loans directly to the platforms. Investments in unlisted equity securities, by their nature, generally involve
a higher degree of valuation and performance uncertainties and liquidity risks than investments in listed equity securities. The
success of a platform is dependent upon payments being made by the borrowers of loans originated by the platform. Any increase
in default rates on a platform’s loans could adversely affect the platform’s profitability and, therefore, the Fund’s
investments in the platform.
Illiquidity
Risk. Alternative Credit investments generally have a maturity between
six months to five years. Investors acquiring Alternative Credit investments and other Alternative Credit Instruments directly
through platforms and hoping to recoup their entire principal must generally hold their loans through maturity. Alternative Credit
investments and other Alternative Credit Instruments may not be registered under the Securities Act, and are not listed on any
securities exchange. Accordingly, those Alternative Credit Instruments may not be transferred unless they are first registered
under the Securities Act and all applicable state or foreign securities laws or the transfer qualifies for exemption from such
registration. A reliable secondary market has yet to develop, nor may one ever develop, for Alternative Credit investments and
such other Alternative Credit Instruments and, as such, these investments should be considered illiquid. Until an active secondary
market develops, the Fund intends to primarily hold its Alternative Credit investments until maturity. The Fund may not be able
to sell any of its Alternative Credit Instruments even under circumstances when the Adviser believes it would be in the best interests
of the Fund to sell such investments. In such circumstances, the overall returns to the Fund from its Alternative Credit Instruments
may be adversely affected. Moreover, certain Alternative Credit Instruments are subject to certain additional significant restrictions
on transferability. Although the Fund may attempt to increase its liquidity by borrowing from a bank or other institution, its
assets may not readily be accepted as collateral for such borrowing.
The Fund may
also invest without limitation in securities that, at the time of investment, are illiquid, as determined by using the SEC’s
standard applicable to registered investment companies (i.e., securities that cannot be disposed of by the Fund within seven days
in the ordinary course of business at approximately the amount at which the Fund has valued the securities). The Fund may also
invest in restricted securities. Investments in restricted securities could have the effect of increasing the amount of the Fund’s
assets invested in illiquid securities if qualified institutional buyers are unwilling to purchase these securities.
Illiquid and
restricted securities may be difficult to dispose of at a fair price at the times when the Fund believes it is desirable to do
so. The market price of illiquid and restricted securities generally is more volatile than that of more liquid securities, which
may adversely affect the price that the Fund pays for or recovers upon the sale of such securities. Illiquid and restricted securities
may also be more difficult to value, especially in challenging markets.
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Limited
Operating History of Platforms Risk. Many of the platforms, and alternative
credit in general, are in the early stages of development and have a limited operating history. As a result, there is a lack of
significant historical data regarding the performance of Alternative Credit and the long term outlook of the industry is uncertain.
In addition, because Alternative Credit investments are originated using a lending method on a platform that has a limited operating
history, borrowers may not view or treat their obligations on such loans as having the same significance as loans from traditional
lending sources, such as bank loans.
Market Discount.
Common stock of closed-end funds frequently trades at a discount
from its net asset value. This risk may be greater for investors selling their shares in a relatively short period of time after
completion of the initial offering. The Fund’s Common Shares may trade at a price that is less than the initial offering
price. This risk would also apply to the Fund’s investments in closed-end funds.
Alternative
Credit and Pass-Through Notes Risk. Alternative Credit Instruments
are generally not rated and constitute a highly risky and speculative investment, similar to an investment in “junk”
bonds. There can be no assurance that payments due on underlying Alternative Credit investments will be made. The Shares therefore
should be purchased only by investors who could afford the loss of the entire amount of their investment.
A substantial
portion of the Alternative Credit in which the Fund may invest will not be secured by any collateral, will not be guaranteed or
insured by a third party and will not be backed by any governmental authority. Accordingly, the platforms and any third-party
collection agencies will be limited in their ability to collect on defaulted Alternative Credit. With respect to Alternative Credit
secured by collateral, there can be no assurance that the liquidation of any such collateral would satisfy a borrower’s
obligation in the event of a default under its Alternative Credit.
Furthermore,
Alternative Credit may not contain any cross-default or similar provisions. To the extent an Alternative Credit investment does
not contain a cross-default provision, the loan will not be placed automatically in default upon that borrower’s default
on any of the borrower’s other debt obligations, unless there are relevant independent grounds for a default on the loan.
In addition, the Alternative Credit investment will not be referred to a third-party collection agency for collection because
of a borrower’s default on debt obligations other than the Alternative Credit investment. If a borrower first defaults on
debt obligations other than the Alternative Credit investment, the creditors to such other debt obligations may seize the borrower’s
assets or pursue other legal action against the borrower, which may adversely impact the ability to recoup any principal and interest
payments on the Alternative Credit investment if the borrower subsequently defaults on the loan. In addition, an operator of a
platform is generally not required to repurchase Alternative Credit investments from a lender except under very narrow circumstances,
such as in cases of verifiable identity fraud by the borrower.
Borrowers may
seek protection under federal bankruptcy law or similar laws. If a borrower files for bankruptcy (or becomes the subject of an
involuntary petition), a stay will go into effect that will automatically put any pending collection actions on hold and prevent
further collection action absent bankruptcy court approval. Whether any payment will ultimately be made or received on an Alternative
Credit investment after bankruptcy status is declared depends on the borrower’s particular financial situation and the determination
of the court.
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As Pass-Through
Notes generally are pass-through obligations of the operators of the lending platforms, and are not direct obligations of the
borrowers under the underlying Alternative Credit investment originated by such platforms, holders of certain Pass-Through Notes
are exposed to the credit risk of the operator. An operator that becomes subject to bankruptcy proceedings may be unable to make
full and timely payments on its Pass-Through Notes even if the borrowers of the underlying Alternative Credit investment timely
make all payments due from them. There may be a delay between the time the Fund commits to purchase a Pass-Through Note and the
issuance of such note and, during such delay, the funds committed to such an investment will not be available for investment in
other Alternative Credit Instruments. Because the funds committed to an investment in Pass-Through Notes do not earn interest
until the issuance of the note, the delay in issuance will have the effect of reducing the effective rate of return on the investment.
Mortgage-Backed
Securities Risks. Mortgage-backed securities represent participation
interests in pools of residential mortgage loans purchased from individual lenders by a federal agency or originated and issued
by private lenders. The Fund invests in mortgage-backed securities and is subject to the following risks.
Credit and
Market Risks of Mortgage-Backed Securities. The mortgage loans or
the guarantees underlying mortgage-backed securities may default or otherwise fail leading to non-payment of interest and principal.
Collateralized
Mortgage Obligations. There are certain risks associated specifically
with CMOs. CMOs are debt obligations collateralized by mortgage loans or mortgage pass-through securities, which utilize estimates
of future economic conditions. These estimates may vary from actual future results, particularly during periods of extreme market
volatility. CMOs issued by private entities are not guaranteed by any government agency; if the collateral securing the CMO, as
well as any third party credit support or guarantees, is insufficient to make payment, the holder could sustain a loss.
Pandemic
Risk. Beginning in the first quarter of 2020, financial markets in
the United States and around the world experienced extreme and in many cases unprecedented volatility and severe losses due to
the global pandemic caused by COVID-19, a novel coronavirus. The pandemic has resulted in a wide range of social and economic
disruptions, including closed borders, voluntary or compelled quarantines of large populations, stressed healthcare systems, reduced
or prohibited domestic or international travel, supply chain disruptions, and so-called “stay-at-home” orders throughout
much of the United States and many other countries. The fall-out from these disruptions has included the rapid closure of businesses
deemed “non-essential” by federal, state, or local governments and rapidly increasing unemployment, as well as greatly
reduced liquidity for certain instruments at times. Some sectors of the economy and individual issuers have experienced particularly
large losses. Such disruptions may continue for an extended period of time or reoccur in the future to a similar or greater extent.
In response, the U.S. government and the Federal Reserve have taken extraordinary actions to support the domestic economy and
financial markets, resulting in very low interest rates and in some cases negative yields. Although vaccines for COVID-19 are
becoming more widely available, it is unknown how long circumstances related to the pandemic will persist, whether they will reoccur
in the future, whether efforts to support the economy and financial markets will be successful, and what additional implications
may follow from the pandemic. The impact of these events and other epidemics or pandemics in the future could adversely affect
Fund performance.
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Platform
Concentration Risk. The Fund may invest 25% or more of its Managed
Assets in Alternative Credit originated from one or a limited number of platform(s). A concentration in select platforms may subject
the Fund to increased dependency and risks associated with those platforms than it would otherwise be subject to if it were more
broadly diversified across a greater number of platforms. The Fund’s concentration in certain platforms may expose it to
increased risk of default and loss on the Alternative Credit in which it invests through such platforms if such platforms have,
among other characteristics, lower borrower credit criteria or other minimum eligibility requirements, or have deficient procedures
for conducting credit and interest rate analyses as part of their loan origination processes, relative to other platforms. In
addition, the fewer platforms through which the Fund invests, the greater the risks associated with those platforms changing their
arrangements will become.
Preferred
Stock Risk. Preferred stock is subject to many of the risks associated
with debt securities, including interest rate risk. In addition, preferred stocks may not pay dividends, an issuer may suspend
payment of dividends on U.S. preferred stock at any time, and in certain situations an issuer may call or redeem its preferred
stock or convert it to common stock. Declining common stock values may also cause the value of the Fund’s investments in
preferred stock to decline.
Prepayment
Risk. Borrowers may decide to prepay all or a portion of the remaining
principal amount due under a borrower loan at any time without penalty (unless the underlying loan agreements provide for prepayment
penalties as may be the case in certain non-consumer Alternative Credit). In the event of a prepayment of the entire remaining
unpaid principal amount of a loan, the Fund will receive such prepayment amount, but further interest will not accrue on the loan
after the principal has been paid in full. If the borrower prepays a portion of the remaining unpaid principal balance, interest
will cease to accrue on such prepaid portion, and the Fund will not receive all of the interest payments that the Adviser may
have originally expected to receive on the loan.
Private
Investment Funds Risk. The Fund, as a direct and indirect holder
of securities issued by private investment funds, will bear a pro rata share of the vehicles’ expenses, including management
and performance fees. The performance fees charged by certain private investment funds may create an incentive for its manager
to make investments that are riskier and/or more speculative than those it might have made in the absence of a performance fee.
Furthermore, private investment fund are subject to specific risks, depending on the nature of the vehicle, and also may employ
leverage such that their returns are more than one times that of their benchmark which could amplify losses suffered by the Fund
when compared to unleveraged investments. Shareholders of the private investment fund are not entitled to the protections of the
1940 Act.
Real Estate
Investment Risk. The Fund invests in Real Estate Companies, such
as REITs, which expose investors to the risks of owning real estate directly, as well as to risks that relate specifically to
the way in which Real Estate Companies are organized and operated. Real estate is highly sensitive to general and local economic
conditions and developments and is characterized by intense competition and periodic overbuilding. Many Real Estate Companies,
including REITs, utilize leverage (and some may be highly leveraged), which increases investment risk and the risk normally associated
with debt financing, and could potentially increase the Fund’s losses. Rising interest rates could result in higher costs
of capital for Real Estate Companies, which could negatively affect a Real Estate Company’s ability to meet its payment
obligations or its financing activity and could decrease the market prices for REITs and for properties held by such REITs. In
addition, to the extent a Real Estate Company has its own expenses, the Fund (and indirectly, its shareholders) will bear its
proportionate share of such expenses. Real Estate Companies may be subject to concentration risk, interest rate risk, leverage
risk, illiquidity risk and regulatory risks associated with applicable domestic and foreign laws.
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Regulatory
and Other Risks Associated with Platforms and Alternative Credit. The
platforms through which Alternative Credit are originated are subject to various statutes, rules and regulations issued by federal,
state and local government authorities. A failure to comply with the applicable laws, rules and regulations may, among other things,
subject the platform or its related entities to certain registration requirements with government authorities and result in the
payment of any penalties and fines; result in the revocation of their licenses; cause the loan contracts originated by the platform
to be voided or otherwise impair the enforcement of such loans; and subject them to potential civil and criminal liability, class
action lawsuits and/or administrative or regulatory enforcement actions. Any of the foregoing could have a material adverse effect
on a platform’s financial condition, results of operations or ability to perform its obligations with respect to its lending
business or could otherwise result in modifications in the platform’s methods of doing business which could impair the platform’s
ability to originate or service Alternative Credit or collect on Alternative Credit.
Alternative
Credit industry participants, including platforms, may be subject in certain cases to increased risk of litigation alleging violations
of federal and state laws and regulations and consumer law torts, including unfair or deceptive practices. Moreover, Alternative
Credit generally are written using standardized documentation. Thus, many borrowers may be similarly situated in so far as the
provisions of their respective contractual obligations are concerned. Accordingly, allegations of violations of the provisions
of applicable federal or state consumer protection laws could potentially result in a large class of claimants asserting claims
against the platforms and other related entities. However, some borrower agreements contain arbitration provisions that would
possibly limit or preclude class action litigation with respect to claims of borrowers.As noted above, each of the platforms through
which the Fund may invest may adhere to a novel or different business model, resulting in uncertainty as to the regulatory environment
applicable to a particular platform and the Fund.
If the platforms’
ability to be the assignee and beneficiary of a funding bank’s ability to export the interest rates, and related terms and
conditions, permitted under the laws of the state where the bank is located to borrowers in other states was determined to violate
applicable lending laws, this could subject the platforms to the interest rate restrictions, and related terms and conditions,
of the lending or usury laws of each of the states in which it operates. The result would be a complex patchwork of regulatory
restrictions that could materially and negatively impact the platforms’ operations and ability to operate, in which case
they may be forced to terminate or significantly alter their business and activities, resulting in a reduction in the volume of
loans available for investment for lenders such as the Fund.
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In addition,
numerous statutory provisions, including federal bankruptcy laws and related state laws, may interfere with or affect the ability
of a creditor to enforce an Alternative Credit investment. It is possible that a period of adverse economic conditions resulting
in high defaults and delinquencies on Alternative Credit will increase the potential bankruptcy risk to platforms and its related
entities. The regulatory environment applicable to platforms and their related entities may be subject to periodic changes. Any
such changes could have an adverse effect on the platforms’ and related entities’ costs and ability to operate. The
platforms would likely seek to pass through any increase in costs to lenders such as the Fund. Further, changes in the regulatory
application or judicial interpretation of the laws and regulations applicable to financial institutions generally and alternative
credit in particular also could impact the manner in which the alternative credit industry conducts its business. The regulatory
environment in which financial institutions operate has become increasingly complex and robust, and supervisory efforts to apply
relevant laws, regulations and policies have become more intense.
Risk of
Adverse Market and Economic Conditions. Alternative Credit default
rates, and Alternative Credit generally, may be significantly affected by economic downturns or general economic conditions beyond
the control of any borrowers. In particular, default rates on Alternative Credit may increase due to factors such as prevailing
interest rates, the rate of unemployment, the level of consumer confidence, residential real estate values, the value of the U.S.
dollar, energy prices, changes in consumer spending, the number of personal bankruptcies, disruptions in the credit markets and
other factors. A significant downturn in the economy could cause default rates on Alternative Credit to increase. A substantial
increase in default rates, whether due to market and economic conditions or otherwise, could adversely impact the viability of
the overall alternative credit industry.
Risks of
Concentration in the Financials Sector. A fund concentrated in a
single industry or group of industries is likely to present more risks than a fund that is broadly diversified over several industries
or groups of industries. Compared to the broad market, an individual sector may be more strongly affected by changes in the economic
climate, broad market shifts, moves in a particular dominant stock or regulatory changes. Thus, the Fund’s concentration
in securities of companies within industries in the financial sector may make it more susceptible to adverse economic or regulatory
occurrences affecting this sector, such as changes in interest rates, loan concentration and competition.
Risk of
Inadequate Guarantees and/or Collateral of Alternative Credit. To
the extent that the obligations under an Alternative Credit investment are guaranteed by a third-party, there can be no assurance
that the guarantor will perform its payment obligations should the underlying borrower to the loan default on its payments. Similarly,
to the extent an Alternative Credit investment is secured, there can be no assurance as to the amount of any funds that may be
realized from recovering and liquidating any collateral or the timing of such recovery and liquidation and hence there is no assurance
that sufficient funds (or, possibly, any funds) will be available to offset any payment defaults that occur under the Alternative
Credit investment. In addition, if it becomes necessary to recover and liquidate any collateral with respect to a secured Alternative
Credit investment, it may be difficult to sell such collateral and there will likely be associated costs that would reduce the
amount of funds otherwise available to offset the payments due under the loan. If a borrower of a secured Alternative Credit investment
enters bankruptcy, an automatic stay of all proceedings against such borrower’s property will be granted. This stay will
prevent any recovery and liquidation of the collateral securing such loan, unless relief from the stay can be obtained from the
bankruptcy court. There is no guarantee that any such relief will be obtained. Significant legal fees and costs may be incurred
in attempting to obtain relief from a bankruptcy stay from the bankruptcy court and, even if such relief is ultimately granted,
it may take several months or more to obtain.
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Risk of
Regulation as an Investment Company or an Investment Adviser. If
platforms or any related entities are required to register as investment companies under the 1940 Act or as investment advisers
under the Investment Advisers Act of 1940, their ability to conduct business may be materially adversely affected, which may result
in such entities being unable to perform their obligations with respect to their Alternative Credit investments, including applicable
indemnity, guaranty, repurchasing and servicing obligations, and any contracts entered into by a platform or related entity while
in violation of the registration requirements may be voidable.
Risks Associated
with Recent Events in the Alternative Credit Industry. The alternative
credit industry is heavily dependent on investors for liquidity and at times during the recent past, there has been some decreasing
interest from institutional investors in purchasing Alternative Credit (due both to yield and performance considerations as well
as reactions to platform and industry events described below), causing some platforms to increase rates. In addition, there is
concern that a weakening credit cycle could stress servicing of Alternative Credit and result in significant losses.
In early 2016,
concerns were raised pertaining to certain loan identification practices and other compliance related issues of LendingClub. Those
resulted in top management changes at LendingClub and class action lawsuits being filed against LendingClub after its stock precipitously
dropped, and as a result, increased volatility in the industry and caused some institutional investors to retrench from purchasing
Alternative Credit Instruments, either from LendingClub specifically or in general with respect to any Alternative Credit Instruments.
LendingClub entered into a settlement with the SEC in September 2018 related to these events. While the industry has stabilized
after these events, the occurrence of any additional negative business practices involving an alternative credit platform, or
the inability for alternative credit platforms to assure investors and other market participants of its ability to conduct business
practices acceptable to borrowers and investors, may significantly and adversely impact the platforms and/or the alternative credit
industry as a whole and, therefore, the Fund’s investments in Alternative Credit Instruments.
There has been
increased regulatory scrutiny of the Alternative Credit industry, including in white papers issued by the U.S. Department of the
Treasury and the OCC and in state investigations into Alternative Credit platforms. In addition, an increasing number of lawsuits
have been filed in various states alleging that Alternative Credit platforms are the true lenders and not the funding banks. It
is possible that litigation or regulatory actions may challenge funding banks’ status as a loan’s true lender, and
if successful, platform operators or loan purchasers may become subject to state licensing and other consumer protection laws
and requirements. If the platform operators or subsequent assignees of the loans were found to be the true lender of the loans,
the loans could be void or voidable or subject to rescission or reduction of principal or interest paid or to be paid in whole
or in part or subject to damages or penalties.
Servicer
Risk. The Fund expects that all of its direct and indirect investments
in loans originated by alternative credit platforms will be serviced by a platform or a third-party servicer. However, the Fund’s
investments could be adversely impacted if a platform that services the Fund’s investments becomes unable or unwilling to
fulfill its obligations to do so. In the event that the servicer is unable to service the loans, there can be no guarantee that
a backup servicer will be able to assume responsibility for servicing the loans in a timely or cost-effective manner; any resulting
disruption or delay could jeopardize payments due to the Fund in respect of its investments or increase the costs associated with
the Fund’s investments. If the servicer becomes subject to a bankruptcy or similar proceeding, there is some risk that the
Fund’s investments could be re-characterized as secured loans from the Fund to the platform, which could result in uncertainty,
costs and delays from having the Fund’s investment deemed part of the bankruptcy estate of the platform, rather than an
asset owned outright by the Fund. To the extent the servicer becomes subject to a bankruptcy or similar proceeding, there is a
risk that substantial losses will be incurred by the Fund.
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Small and
Mid-Capitalization Investing Risk. The Fund may gain exposure to
the securities of small capitalization companies, mid-capitalization companies and recently organized companies. For example,
the Fund may invest in securities of alternative credit platforms or may gain exposure to other small capitalization, mid-capitalization
and recently organized companies through investments in the borrowings of such companies facilitated through an alternative credit
platform. Historically, such investments, and particularly investments in smaller capitalization companies, have been more volatile
in price than those of larger capitalized, more established companies.
SME Loans
Risk. The businesses of SME loan borrowers may not have steady earnings
growth, may be operated by less experienced individuals, may have limited resources and may be more vulnerable to adverse general
market or economic developments, among other concerns, which may adversely affect the ability of such borrowers to make principal
and interest payments on the SME loans. Certain SMEs may be unable to effectively access public equity or debt markets. The average
interest rate charged to, or required of, such obligors generally is higher than that charged by commercial banks and other institutions
providing traditional sources of credit or that set by the debt market. These traditional sources of credit typically impose more
stringent credit requirements than the loans provided by certain platforms through which the Fund may make its investments.
Specialty
Finance and Other Financial Companies Risk. The profitability of
specialty finance and other financial companies is largely dependent upon the availability and cost of capital funds, and may
fluctuate significantly in response to changes in interest rates, as well as changes in general economic conditions. Any impediments
to a specialty finance or other financial company’s access to capital markets, such as those caused by general economic
conditions or a negative perception in the capital markets of the company’s financial condition or prospects, could adversely
affect such company’s business. From time to time, severe competition may also affect the profitability of specialty finance
and other financial companies.
Specialty finance
and other financial companies are subject to rapid business changes, significant competition, value fluctuations due to the concentration
of loans in particular industries significantly affected by economic conditions (such as real estate or energy) and volatile performance
based upon the availability and cost of capital and prevailing interest rates. In addition, credit and other losses resulting
from the financial difficulties of borrowers or other third parties potentially may have an adverse effect on companies in these
industries. Credit losses or mergers, acquisitions, or bankruptcies of financial firms could make it difficult for specialty finance
and other financial companies to obtain financing on favorable terms or at all, which would seriously affect the profitability
of such firms. Furthermore, accounting rule changes, including with respect to the standards regarding the valuation of assets,
consolidation in the financial industry and additional volatility in the stock market have the potential to significantly impact
specialty finance companies as well.
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Specialty finance
and other financial companies in general are subject to extensive governmental regulation, which may change frequently. Regulatory
changes could cause business disruptions or result in significant loss of revenue to companies in which the Fund invests, and
there can be no assurance as to the actual impact that these laws and their regulations will have on the financial markets and
the Fund’s investments in specialty finance and other financial companies. Specialty finance and other financial companies
in a given country may be subject to greater governmental regulation than many other industries, and changes in governmental policies
and the need for regulatory approval may have a material effect on the services offered by companies in the financial services
industry. Governmental regulation may limit both the financial commitments banks can make, including the amounts and types of
loans, and the interest rates and fees they can charge. In addition, governmental regulation in certain foreign countries may
impose interest rate controls, credit controls and price controls.
Under current
regulations of the SEC, the Fund may not invest more than 5% of its total assets in the securities of any company that derives
more than 15% of its gross revenues from securities brokerage, underwriting or investment management activities. In addition,
the Fund may not acquire more than 5% of the outstanding equity securities, or more than 10% of the outstanding principal amount
of debt securities, of any such company. This may limit the Fund’s ability to invest in certain specialty finance and other
financial companies.
Banks may invest
and operate in an especially highly regulated environment and are subject to extensive supervision by numerous federal and state
regulatory agencies including, but not limited to, the Federal Reserve Board, the Federal Deposit Insurance Corporation and state
banking authorities. Changes in regulations and governmental policies and accounting principles could adversely affect the business
and operations of banks in which the Fund invests.
Savings institutions
frequently have a large proportion of their assets in the form of loans and securities secured by residential real estate. As
a result, the financial condition and results of operations of such savings institutions would likely be affected by the conditions
in the residential real estate markets in the areas in which these savings institutions do business.
Leasing companies
can be negatively impacted by changes in tax laws which affect the types of transactions in which such companies engage.
The performance
of the Fund’s investments in insurance companies will be subject to risk from several additional factors. The earnings of
insurance companies will be affected by, in addition to general economic conditions, pricing (including severe pricing competition
from time to time), claims activity and marketing competition. Insurance companies are subject to extensive governmental regulation,
including the imposition of maximum rate levels, which may not be adequate for some lines of business. Proposed or potential anti-trust
or tax law changes also may affect adversely insurance companies’ policy sales, tax obligations and profitability.
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SPAC Risks.
SPACs are collective investment structures that pool funds in order
to seek potential acquisition opportunities. Unless and until an acquisition is completed, a SPAC generally invests its assets
(less an amount to cover expenses) in U.S. government securities, money market fund securities and cash. SPACs and similar entities
may be blank check companies with no operating history or ongoing business other than to seek a potential acquisition. Accordingly,
the value of their securities is particularly dependent on the ability of the entity’s management to identify and complete
a profitable acquisition. Certain SPACs may seek acquisitions only in limited industries or regions, which may increase the volatility
of their prices. If an acquisition that meets the requirements for the SPAC is not completed within a predetermined period of
time, the invested funds are returned to the entity’s shareholders. Investments in SPACs may be illiquid and/or be subject
to restrictions on resale. To the extent the SPAC is invested in cash or similar securities, this may impact a Fund’s ability
to meet its investment objective.
Student
Loans Risk. In general, the repayment ability of borrowers of student
loans, as well as the rate of prepayments on student loans, may be influenced by a variety of economic, social, competitive and
other factors, including changes in interest rates, the availability of alternative financings, regulatory changes affecting the
student loan market and the general economy. For instance, certain student loans may be made to individuals who generally have
higher debt burdens than other individual borrowers (such as students of post-secondary programs). The effect of the foregoing
factors is impossible to predict.
Valuation
Risk. Many of the Fund’s investments may be difficult to value.
Where market quotations are not readily available or deemed unreliable, the Fund will value such investments in accordance with
fair value procedures adopted by the Board of Directors. Valuation of illiquid investments may require more research than for
more liquid investments. In addition, elements of judgment may play a greater role in valuation in such cases than for investments
with a more active secondary market because there is less reliable objective data available. An instrument that is fair valued
may be valued at a price higher or lower than the value determined by other funds using their own fair valuation procedures. Prices
obtained by the Fund upon the sale of such investments may not equal the value at which the Fund carried the investment on its
books, which would adversely affect the NAV of the Fund.
Tax Risk.
The treatment of Alternative Credit and other Alternative Credit
Instruments for tax purposes is uncertain. In addition, changes in tax laws or regulations, or interpretations thereof, in the
future could adversely affect the Fund, including its ability to qualify as a regulated investment company, or the participants
in the alternative credit industry. Investors should consult their tax advisors as to the potential tax treatment of Shareholders.
The Fund intends
to elect to be treated as a regulated investment company for federal income tax purposes. In order to qualify for such treatment,
the Fund will need to meet certain organization, income, diversification and distribution tests. The Fund has adopted policies
and guidelines that are designed to enable the Fund to meet these tests, which will be tested for compliance on a regular basis
for the purposes of being treated as a regulated investment company for federal income tax purposes. However, some issues related
to qualification as a regulated investment company are open to interpretation. For example, the Fund intends to primarily invest
in whole loans originated by alternative credit platforms. The Fund has taken the position that the issuer of such loans will
be the identified borrowers in the loan documentation. The IRS, however, could disagree and successfully
assert that the alternative credit platforms should be viewed as the issuer of the loans. If the IRS prevailed, the Fund would
need to determine whether treating the alternative credit platforms as the issuer would cause the Fund to fail the regulated investment
company diversification tests. If, for any taxable year, the Fund did not qualify as a regulated investment company for U.S. federal
income tax purposes, it would be treated as a U.S. corporation subject to U.S. federal income tax at the Fund level, and possibly
state and local income tax, and distributions to shareholders would not be deductible by the Fund in computing its taxable income.
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Structural and Market-Related Risks:
Anti-Takeover
Provisions. Maryland law and the Fund’s Charter and Bylaws
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, including the adoption of a staggered Board of Directors and the supermajority voting requirements. These
provisions could deprive the shareholders of opportunities to sell their Common Shares at a premium over the then current market
price of the Common Shares or at NAV.
Controlling
Shareholder Risk. The Shares may be held by a Shareholder, such as
a RiverNorth Fund, or a group of Shareholders that may own a significant percentage of the Fund for an indefinite period of time.
As long as a RiverNorth Fund holds a substantial amount of the Fund’s Shares, it may be able to exercise a controlling influence
in matters submitted to a vote of Shareholders. The ability to exercise a controlling influence over the Fund may result in conflicts
of interest because, among other things, the Adviser is the investment adviser of the Fund and each of the RiverNorth Funds.
Cybersecurity
Risk. A cybersecurity breach may disrupt the business operations of the Fund or its service providers. A breach may allow an unauthorized
party to gain access to Fund assets, customer data, or proprietary information, or cause the Fund and/or its service providers
to suffer data corruption or lose operational functionality.
Distribution
Policy Risks. The Fund currently intends to make distributions to common shareholders on a monthly basis in an amount equal to
10% annually of the Fund’s NAV per Common Share. These fixed distributions are not related to the amount of the Fund’s
net investment income or net realized capital gains. If, for any monthly distribution, net investment income and net realized
capital gains were less than the amount of the distribution, the difference would be distributed from the Fund’s assets.
The Fund’s distribution rate is not a prediction of what the Fund’s actual total returns will be over any specific
future period.
A portion or
all of any distribution of the Fund may consist of a return of capital. A return of capital represents the return of a shareholder’s
original investment in the Common Shares and should not be confused with a dividend from profits and earnings. Such distributions
are generally not treated as taxable income for the investor. Instead, shareholders will experience a reduction in the basis of
their Common Shares, which may increase the taxable capital gain, or reduce capital loss, realized upon the sale of such Common
Shares. Upon a sale of their Common Shares, shareholders generally will recognize capital gain or loss measured by the difference
between the sale proceeds received by the shareholder and the shareholder’s federal income tax basis in the Common Shares
sold, as adjusted to reflect return of capital. It is possible that a return of capital could cause a shareholder to pay a tax
on capital gains with respect to Common Shares that are sold for an amount less than the price originally paid for them. Shareholders
are advised to consult with their own tax advisers with respect to the tax consequences of their investment in the Fund. The Fund’s
distribution policy may result in the Fund making a significant distribution in December of each year in order to maintain the
Fund’s status as a regulated investment company. Depending upon the income of the Fund, such a year-end distribution may
be taxed as ordinary income to investors.
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Inflation/Deflation
Risk. Inflation risk is the risk that the value of assets or income
from investments will be worth less in the future as inflation decreases the value of money. As inflation increases, the real
value of Shares and distributions can decline. Deflation risk is the risk that prices throughout the economy decline over time
– the opposite of inflation. Deflation may have an adverse effect on the creditworthiness of issuers and may make issuer
defaults more likely, which may result in a decline in the value of the Fund’s portfolio.
Leverage
Risks. Leverage is a speculative technique that exposes the Fund
to greater risk and increased costs than if it were not implemented. Increases and decreases in the value of the Fund’s
portfolio will be magnified when the Fund uses leverage. As a result, leverage may cause greater changes in the Fund’s net
asset value. The leverage costs may be greater than the Fund’s return on the underlying investments made from the proceeds
of leverage. The Fund’s leveraging strategy may not be successful.
Liquidity
Risks. Although the Shares are listed on the NYSE, there might be
no or limited trading volume in the Fund’s Shares. Moreover, there can be no assurance that the Fund will continue to meet
the listing eligibility requirements of a national securities exchange. Accordingly, investors may be unable to sell all or part
of their Shares in a particular timeframe. Shares in the Fund are therefore suitable only for investors that can bear the risks
associated with the limited liquidity of Shares and should be viewed as a long-term investment. In addition, although the Fund
conducts quarterly repurchase offers of its Shares, there is no guarantee that all tendered Shares will be accepted for repurchase
or that Shareholders will be able to sell all of the Shares they desire in a quarterly repurchase offer. In certain instances,
repurchase offers may be suspended or postponed.
Unlike open-end
funds (commonly known as mutual funds) which generally permit redemptions on a daily basis, Shares will not be redeemable at an
investor’s option (other than pursuant to the Fund’s repurchase policy, as defined below). The NAV of the Shares may
be volatile. As the Shares are not traded, investors may not be able to dispose of their investment in the Fund no matter how
poorly the Fund performs. The Fund is designed for long-term investors and not as a trading vehicle. Moreover, the Shares will
not be eligible for “short sale” transactions or other directional hedging products.
Management
Risk and Reliance on Key Personnel. The Adviser 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. The Adviser’s judgments about the attractiveness, value and potential appreciation of an alternative
credit platform or individual security in which the Fund invests may prove to be incorrect. In addition, the implementation of
the Fund’s investment strategies depends upon the continued contributions of certain key employees of the Adviser, some
of whom have unique talents and experience and would be difficult to replace.
Potential
Conflicts of Interest. The Adviser manages and/or advises other investment
funds or accounts with the same or similar investment objectives and strategies as the Fund, and as a result, may face conflicts
of interest regarding the implementation of the Fund’s strategy and allocation between funds and accounts. This may limit
the Fund’s ability to take full advantage of the investment opportunity or affect the market price of the investment. The
Adviser may also have incentives to favor one account over another due to different fees paid to such accounts. While the Adviser
has adopted policies and procedures that address these potential conflicts of interest, there is no guarantee that the policies
will be successful in mitigating the conflicts of interest that arise. In addition, the Fund’s use of leverage will increase
the amount of fees paid to the Adviser, creating a financial incentive for the Adviser to leverage the Fund.
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Summary
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Regulation
as Lender Risk. The loan industry is highly regulated and loans made
through lending platforms are subject to extensive and complex rules and regulations issued by various federal, state and local
government authorities. One or more regulatory authorities may assert that the Fund, when acting as a lender under the platforms,
is required to comply with certain laws or regulations which govern the consumer or commercial (as applicable) loan industry.
If the Fund were required to comply with additional laws or regulations, it would likely result in increased costs for the Fund
and may have an adverse effect on its results or operations or its ability to invest in Alternative Credit and certain Alternative
Credit Instruments. In addition, although in most cases the Fund is not currently required to hold a license in connection with
the acquisition and ownership of Alternative Credit, certain states require (and other states could in the future take a similar
position) that lenders under alternative credit platforms or holders of Alternative Credit investments be licensed. Such a licensing
requirement could subject the Fund to a greater level of regulatory oversight by state governments as well as result in additional
costs for the Fund. If required but unable to obtain such licenses, the Fund may be forced to cease investing in loans issued
to borrowers in the states in which licensing may be required. To the extent required or determined to be necessary or advisable,
the Fund intends to obtain such licenses in order to pursue its investment strategy.
Repurchase
Policy Risks. Repurchases of Shares will reduce the amount of outstanding
Shares and, thus, the Fund’s net assets. To the extent that additional Shares are not sold, a reduction in the Fund’s
net assets may increase the Fund’s expense ratio (subject to the Adviser’s reimbursement of expenses) and limit the
investment opportunities of the Fund.
If a repurchase
offer is oversubscribed by Shareholders, the Fund will repurchase only a pro rata portion of the Shares tendered by each Shareholder.
In addition, because of the potential for such proration, Shareholders may tender more Shares than they may wish to have repurchased
in order to ensure the repurchase of a specific number of their Shares, increasing the likelihood that other Shareholders may
be unable to liquidate all or a given percentage of their investment in the Fund. To the extent Shareholders have the ability
to sell their Shares to the Fund pursuant to a repurchase offer, the price at which a Shareholder may sell Shares, which will
be the NAV per Share most recently determined as of the last day of the offer, may be lower than the price that such Shareholder
paid for its Shares.
The Fund may
find it necessary to hold a portion of its net assets in cash or other liquid assets, sell a portion of its portfolio investments
or borrow money in order to finance any repurchases of its Shares. The Fund may accumulate cash by holding back (i.e., not reinvesting
or distributing to Shareholders) payments received in connection with the Fund’s investments, which could potentially limit
the ability of the Fund to generate income. The Fund also may be required to sell its more liquid, higher quality portfolio investments
to purchase Shares that are tendered, which may increase risks for remaining Shareholders and increase Fund expenses. Although
most, if not all, of the Fund’s investments are expected to be illiquid and the secondary market for such investments is
likely to be limited, the Fund believes it would be able to find willing purchasers of its investments if such sales were ever
necessary to supplement such cash generated by payments received in connection with the Fund’s investments. However, the
Fund may be required to sell such investments during times and at prices when it otherwise would not, which may cause the Fund
to lose money. The Fund may also borrow money in order to meet its repurchase obligations. There can be no assurance that the
Fund will be able to obtain financing for its repurchase offers. If the Fund borrows to finance repurchases, interest on any such
borrowings will negatively affect Shareholders who do not tender their Shares in a repurchase offer by increasing the Fund’s
expenses (subject to the Adviser’s reimbursement of expenses) and reducing any net investment income. The purchase of Shares
by the Fund in a repurchase offer may limit the Fund’s ability to participate in new investment opportunities.
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In the event
a Shareholder chooses to participate in a repurchase offer, the Shareholder will be required to provide the Fund with notice of
intent to participate prior to knowing what the repurchase price will be on the repurchase date. Although the Shareholder may
have the ability to withdraw a repurchase request prior to the repurchase date, to the extent the Shareholder seeks to sell Shares
to the Fund as part of a repurchase offer, the Shareholder will be required to do so without knowledge of what the repurchase
price of the Shares will be on the repurchase date. It is possible that general economic and market conditions could cause a decline
in the NAV per Share prior to the repurchase date.
Risks Associated
with Additional Offerings. There are risks associated with offerings
of additional common or preferred shares of the Fund. The voting power of current shareholders will be diluted to the extent that
current shareholders do not purchase shares in any future offerings of shares or do not purchase sufficient shares to maintain
their percentage interest. In addition, the sale of shares in an offering may have an adverse effect on prices in the secondary
market for the Fund’s shares by increasing the number of shares available, which may put downward pressure on the market
price of the Fund’s Shares. These sales also might make it more difficult for the Fund to sell additional equity securities
in the future at a time and price the Fund deems appropriate.
Secondary
Market for the Common Shares. The issuance of shares of the Fund
through the Fund’s dividend reinvestment plan (“Plan“) may have an adverse effect on the secondary market for
the Fund’s shares. The increase in the number of outstanding shares resulting from the issuances pursuant to the Plan and
the discount to the market price at which such shares may be issued, may put downward pressure on the market price for the shares.
When the shares are trading at a premium, the Fund may also issue shares that may be sold through private transactions effected
on the NYSE or through broker-dealers. The increase in the number of outstanding shares resulting from these offerings may put
downward pressure on the market price for such shares.
Other Investment-Related Risks:
Equity Securities
Risks. Equity securities are subject to general movements in the
stock market, and a significant drop in the stock market may depress the price of securities to which the Fund may have exposure.
Equity securities typically have greater price volatility than fixed-income securities. The market price of equity securities
owned by the Fund may go down, sometimes rapidly or unpredictably. Equity securities may decline in value due to factors affecting
equity securities markets generally, particular industries represented by those markets, or factors directly related to a specific
company, such as decisions made by its management.
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Summary of Updated Information Regarding
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Exchange-Traded
Note Risks. The Fund may invest in ETNs, which are notes representing
unsecured debt of the issuer. ETNs are typically linked to the performance of an index plus a specified rate of interest that
could be earned on cash collateral. The value of an ETN may be influenced by time to maturity, level of supply and demand for
the ETN, volatility and lack of liquidity in underlying markets, changes in the applicable interest rates, changes in the issuer’s
credit rating and economic, legal, political or geographic events that affect the referenced index. ETNs typically mature 30 years
from the date of issue. There may be restrictions on the Fund’s right to liquidate its investment in an ETN prior to maturity
(for example, the Fund may only be able to offer its ETN for repurchase by the issuer on a weekly basis), and there may be limited
availability of a secondary market.
Investment
Company Risks. The Fund will incur higher and additional expenses
when it invests in other investment companies such as ETFs. There is also the risk that the Fund may suffer losses due to the
investment practices or operations of such other investment companies. To the extent that the Fund invests in one or more investment
companies that concentrate in a particular industry, the Fund would be vulnerable to factors affecting that industry and the performance
of such investment companies, and that of the Fund, may be more volatile than investment companies that do not concentrate in
a particular industry. The investment companies in which the Fund invests are not subject to the Fund’s investment policies
and restrictions.
The ETFs (and
other index funds) in which the Fund may invest may not be able to replicate exactly the performance of the indices they track
due to transactions costs and other expenses of the ETFs. ETFs may not be able to match or outperform their benchmarks. The Fund
may be restricted by provisions of the 1940 Act that generally limit the amount the Fund and its affiliates can invest in any
one investment company to 3% of such company’s outstanding voting stock. However, pursuant to exemptive orders issued by
the SEC to various ETF fund sponsors, the Fund is permitted to invest in certain ETFs in excess of the limits set forth in the
1940 Act subject to the terms and conditions set forth in such exemptive orders.
Portfolio Manager Information
There have
been no changes in the Fund’s portfolio managers or background since the prior disclosure date.
Fund Organizational Structure
Since the prior
disclosure date, there have been no changes in the Fund’s charter or by-laws that would delay or prevent a change of control
of the Fund that have not been approved by shareholders.
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