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First
Trust
Exchange-Traded
Fund VIII |
Prospectus
First Trust
Flexible Municipal High Income ETF
(formerly, First Trust Municipal CEF Income Opportunity ETF)
(formerly, First Trust Municipal CEF Income Opportunity ETF)
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Ticker
Symbol: |
MFLX |
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Exchange: |
Nasdaq |
The First Trust Flexible
Municipal High Income ETF (the “Fund”) lists and
principally trades its shares on The Nasdaq Stock Market LLC (“Nasdaq” or the “Exchange”). Market prices may
differ to some degree from the net asset value of the shares. Unlike mutual
funds, the Fund issues and redeems shares at net asset value, only in large
blocks of shares called "Creation
Units."
The
Fund is a series of First Trust Exchange-Traded Fund VIII (the “Trust”) and is an
actively-managed exchange-traded fund organized as a separate series of a
registered management investment company.
Except
when aggregated in Creation Units, the shares are not redeemable securities of
the Fund.
The
Securities and Exchange Commission has not approved or disapproved of these
securities or passed upon
the adequacy or accuracy of this prospectus. Any representation to the contrary
is a criminal offense.
NOT
FDIC INSURED MAY LOSE VALUE NO BANK GUARANTEE
January 3,
2023
Summary
Information
(fees paid directly from your investment)
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Maximum
Sales Charge (Load) Imposed on Purchases (as a percentage of offering
price) |
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(expenses that you pay each year as a percentage of the value of your investment)
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Management
Fees(1) |
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Distribution
and Service (12b-1) Fees |
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Other
Expenses |
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Acquired
Fund Fees and Expenses |
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Total Annual
Fund Operating Expenses(2) |
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(1)
(2)
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1
Year |
3
Years |
5
Years |
10
Years |
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$ |
$ |
$ |
$ |
3
4
5
6
7
8
Calendar Year Total Returns as of 12/31 (1)
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9
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1
Year |
5
Years |
Since
Inception |
Inception
Date |
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Return Before
Taxes |
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Return After
Taxes on Distributions |
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Return After
Taxes on Distributions and Sale of Fund Shares |
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Bloomberg
Municipal Long Bond (22+) Index (reflects no
deduction
for fees, expenses or taxes) |
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Blended
Benchmark(1) (reflects no
deduction for fees, expenses or
taxes) |
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Bloomberg
Municipal Bond Index (reflects no deduction for fees,
expenses or
taxes) |
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(1)
Management
Investment
Advisor
First
Trust Advisors L.P. (“First
Trust”
or the “Advisor”)
Portfolio
Managers
The following
persons serve as portfolio managers of the Fund.
•
Johnathan N. Wilhelm,
Senior Vice President and Senior Portfolio Manager of First Trust
•
Ken Fincher, Senior
Vice President and Portfolio Manager of First Trust
•
Tom Byron, Senior Vice President and
Senior Portfolio Manager of First Trust
The portfolio
managers are primarily and jointly responsible for the day-to-day management of
the Fund. Ken Fincher has served as part of the portfolio
management team of the Fund since 2016 and Johnathan Wilhelm and Tom Byron have
each served as part of the portfolio management team of the Fund since
2022.
Purchase
and Sale of Fund Shares
The
Fund issues and redeems shares on a continuous basis, at net asset value, only
in large blocks of shares called “Creation Units.” Individual
shares of the Fund may only be purchased and sold on the secondary market
through a broker-dealer. Since shares of the Fund trade on securities exchanges
in the secondary market at their market price rather than their net asset value,
the Fund’s shares may trade at a price greater than (premium) or less than
(discount) the Fund’s net asset value. An investor may incur costs attributable
to the difference between the highest price a buyer is willing to pay to
purchase shares of the Fund (bid) and the lowest price a seller is willing to
accept for shares of the Fund (ask) when buying or selling shares in the
secondary market (the “bid-ask
spread”). Recent
information, including the Fund’s net asset value, market price, premiums and
discounts, bid-ask spreads and the median bid-ask spread for the Fund’s most
recent fiscal year, is available online at
https://www.ftportfolios.com/Retail/etf/home.aspx.
Tax
Information
The Fund intends to
make interest income distributions, some or all of which will be exempt from
regular federal income tax. All or a portion of these
distributions, however, may be subject to the federal alternative minimum tax on
individuals and state and local taxes, and may have other tax consequences
(e.g., they may affect the amount of your
social security benefits that are taxed). For tax years beginning after December
31, 2022, exempt-interest dividends may affect the corporate alternative minimum
tax for certain corporations. The Fund may make other distributions that are
subject to federal income tax.
10
Payments
to Broker-Dealers and Other Financial Intermediaries
If you purchase
shares of the Fund through a broker-dealer, registered investment adviser, bank
or other financial intermediary (collectively, “intermediaries”), First Trust and
First Trust Portfolios L.P., the Fund’s distributor, may pay the intermediary
for the sale of Fund shares and related services. These payments may create a
conflict of interest by influencing the broker-dealer or other intermediary and
your salesperson to recommend the Fund over another investment. Ask your
salesperson or visit your financial intermediary’s website for more
information.
11
Additional
Information on the Fund's Investment Objectives and Strategies
The
Fund is a series of First Trust Exchange-Traded Fund VIII and is regulated as an
“investment company” under the 1940 Act. The Fund is
actively managed and does not seek to track the performance of an index. The
Fund’s investment objective is fundamental and may not be changed without
approval by the holders of a majority of the outstanding voting securities of
the Fund. Unless an investment policy is identified as being fundamental, all
investment policies included in this prospectus and the Fund's Statement of
Additional Information (“SAI”) are non-fundamental
and may be changed by the Board of Trustees of the Trust (the “Board”) without shareholder
approval. If there is a material change to the Fund’s principal investment
strategies, you should consider whether the Fund remains an appropriate
investment for you. There is no guarantee that the Fund will achieve its
investment objective.
The
Fund has adopted a fundamental investment policy pursuant to Rule 35d-1 under
the 1940 Act (the "Name
Policy"), whereby the Fund,
under normal market conditions, will invest at least 80% of its net assets (plus
any investment borrowings) in municipal debt securities that pay interest that
is exempt from regular federal income taxes. The Name Policy may not be changed
by the Board without shareholder approval.
Fund
Investments
Principal
Investments
Municipal
Securities
Municipal
securities are debt securities that pay interest that is exempt from regular
federal income taxes. Municipal debt securities are
generally issued by or on behalf of states, territories or possessions of the
United States and the District of Columbia and their political subdivisions,
agencies, authorities and other instrumentalities. The types of municipal
securities in which the Fund may invest include municipal lease obligations (and
certificates of participation in such obligations), municipal general obligation
bonds, municipal revenue bonds, municipal notes, municipal cash equivalents,
private activity bonds (including without limitation industrial development
bonds), and pre-refunded and escrowed to maturity bonds. Additional information
on certain of the types of municipal securities in which the Fund may invest is
listed below.
•
Municipal
Lease Obligations. The Fund may
purchase municipal lease obligations, primarily through certificates of
participation. Certificates of participation in municipal leases are undivided
interests in a lease, installment purchase contract or conditional sale contract
entered into by a state or local governmental unit to acquire equipment or
facilities.
•
Private
Activity Bonds. A private activity
bond is a type of revenue bond that is issued by or on behalf of a state or
local government for the purpose of financing the project of a private user.
Revenue bonds are usually payable only out of a specific revenue source rather
than from general revenues. Revenue bonds ordinarily are not backed by the
faith, credit or general taxing power of the issuing governmental entity. The
principal and interest on revenue bonds for private facilities are typically
paid out of rents or other specified payments made to the issuing governmental
entity by a private company which uses or operates the facilities. Industrial
revenue bonds are an example of these types of obligations. Industrial revenue
bonds are issued by governmental entities to provide financing aid to community
facilities such as hospitals, hotels, business or residential complexes,
convention halls and sport complexes.
•
Pre-Refunded
and Escrowed-to-Maturity Bonds. There are two types
of refunded bonds: pre-refunded bonds and escrowed-to-maturity (“ETM”) bonds. Refunded
bonds may have originally been issued as general obligation or revenue bonds,
but become refunded when they are secured by an escrow fund, usually consisting
entirely of direct U.S. government obligations and/or U.S. government agency
obligations sufficient for paying the bondholders. The escrow fund for a
pre-refunded municipal bond may be structured so that the refunded bonds are to
be called at the first possible date or a subsequent call date established in
the original bond debenture. This type of structure usually is used for those
refundings that either reduce the issuer’s interest payment expenses or change
the debt maturity schedule. ETM municipal bonds in escrow funds have maturity
schedules that match the regular debt-service requirements on the bonds as
originally stated in the bond indentures.
The Fund may invest
in municipal securities of any duration and any maturity. The Fund may invest up
to 100% of its net assets in municipal securities that
pay interest that generates income subject to federal and state alternative
minimum tax on individuals. For tax years
beginning after December 31, 2022, interest on the bonds may affect the
corporate alternative
12
minimum tax for
certain corporations.
Furthermore, the Fund may invest up to 20% of its net assets in taxable
Municipal Securities and other securities that are not Municipal
Securities.
High
Yield Debt Securities
Municipal
securities that are rated below investment grade (or securities that are unrated
and determined by the Advisor to be of comparable
quality) are commonly referred to as “high yield” or “junk” bonds. High yield
bonds typically offer higher yields than investment grade bonds with similar
maturities but involve greater risks, including the possibility of default or
bankruptcy, and increased market price volatility.
Investment
Companies
The
Fund may invest in securities issued by closed-end funds. Closed-end funds are
managed registered investment companies which invest in
various types of securities. Closed-end funds trade on a securities exchange and
their shares may, at times, trade at a premium or discount to their net asset
value. As a shareholder in a pooled investment vehicle, the Fund will bear its
ratable share of that vehicle’s expenses and would remain subject to payment of
the underlying fund’s advisory and administrative fees with respect to assets so
invested. Shareholders would therefore be subject to duplicative expenses to the
extent the Fund invests in other pooled investment vehicles. In addition, the
Fund will incur brokerage costs when purchasing and selling shares of closed-end
funds. Securities of other pooled investment vehicles may be leveraged, in which
case the value and/or yield of such securities will tend to be more volatile
than securities of unleveraged vehicles.
The
Fund's ability to invest in other investment companies is limited by the 1940
Act and the related rules and interpretations. However, the Fund may
rely on certain exemptions from the general statutory limitations to invest in
other investment companies beyond those limitations, in accordance with Section
12 of the 1940 act and the rules thereunder.
Custodial
Receipt Trusts
Custodial
receipts are financial instruments that are underwritten by securities dealers
or banks and evidence ownership of future interest
payments, principal payments or both on certain municipal securities. The
underwriter of these certificates or receipts typically purchases municipal
securities and deposits them in an irrevocable trust or custodial account with a
custodian bank, which then issues receipts or certificates that evidence
ownership of the periodic unmatured coupon payments and the final principal
payment on the obligation. The principal and interest payments on them municipal
securities underlying custodial receipts may be allocated in a number of ways.
For example, payments may be allocated such that certain custodial receipts may
have variable or floating interest rates and others may be stripped securities
which pay only the principal or interest due on the underlying municipal
securities. The Fund may invest in custodial receipts which have inverse
floating interest rates.
Tender
Option Bonds
In a
TOB transaction, one or more highly-rated municipal bonds are deposited into a
special purpose trust that issues two types of securities:
floating rate securities (or “floaters”) and inverse
floating rate securities. The Fund may acquire the inverse floating rate
securities or “inverse
floaters” from a TOB trust.
The interest rates on inverse floaters issued by a TOB trust vary inversely to
the interest rates paid on the floaters. Holders of the floaters have the right
to tender their securities to the TOB trust at par plus accrued interest. As a
result, holders of the inverse floaters are exposed to all of the gains or
losses on the underlying municipal bonds, despite the fact that their net cash
investment is significantly less than the value of the bonds. This multiplies
the positive or negative impact of the underlying bonds’ price movements on the
value of the inverse floaters, thereby creating effective leverage. Because
changes in short-term interest rates inversely affect the rate of interest
received on an inverse floater, and because inverse floaters essentially
represent a leveraged investment, the value of an inverse floater is generally
more volatile than that of a conventional fixed-rate bond having similar credit
quality, redemption provisions and maturity.
Non-Principal
Investments
Cash
Equivalents and Short-Term Investments
Normally,
the Fund invests substantially all of its assets to meet its investment
objectives. The Fund may invest the remainder of its assets in
securities with maturities of less than one year or cash equivalents or it may
hold cash. Short-term investments and cash equivalents include the following:
(1) fixed rate and floating rate U.S. government securities, including bills,
notes and bonds differing as to maturity and rates of interest, which are either
issued or guaranteed by the U.S. Treasury or by U.S. government agencies or
instrumentalities; (2) certificates of deposit issued against funds deposited in
a bank or savings and
13
loan association;
(3) bankers’ acceptances, which are short-term credit instruments used to
finance commercial transactions; (4) repurchase agreements; (5) bank
time deposits, which are monies kept on deposit with banks or savings and loan
associations for a stated period of time at a fixed rate of interest; and (6)
commercial paper, which is short-term unsecured promissory notes. A repurchase
agreement is a transaction where a party purchases securities and simultaneously
commits to resell them at an agreed-upon date at a price reflecting a market
rate of interest unrelated to the coupon rate or maturity of the securities. The
percentage of the Fund invested in short-term investments, cash equivalents or
cash varies and depends on several factors, including market conditions. For
temporary defensive purposes and during periods of high cash inflows or
outflows, the Fund may depart from its principal investment strategies and
invest part or all of its assets in these securities, or it may hold cash.
During such periods, the Fund may not be able to achieve its investment
objectives. The Fund may adopt a defensive strategy when its portfolio managers
believe securities in which the Fund normally invests have elevated risks due to
political or economic factors and in other extraordinary circumstances. For more
information on eligible short-term investments, see the SAI.
Derivative
Investments
Although
investing in derivative instruments other than TOB and custodial receipt trusts
is not a part of the Fund’s principal investment
strategies, the Fund may invest in derivatives instruments such as
exchange-listed options on U.S. Treasury securities, exchange-listed options on
U.S. Treasury futures contracts, exchange-listed U.S. Treasury futures contracts
and exchange-traded and over-the-counter interest rate swaps. The use of these
derivative transactions may allow the Fund to obtain net long or short exposures
to selected interest rates. These derivatives may also be used to hedge risks,
including interest rate risks and credit risks, associated with the Fund’s
portfolio investments. The Fund’s investments in derivative instruments will be
consistent with the Fund’s investment objectives and the 1940 Act and will not
be used to seek to achieve a multiple or inverse multiple of an
index.
To the extent the
Fund enters into derivatives transactions, it will do so pursuant to Rule 18f-4
under the 1940 Act. Rule 18f-4 requires the Fund to implement
certain policies and procedures designed to manage its derivatives risks,
dependent upon the Fund’s level of exposure to derivative
instruments.
Illiquid
Investments
The
Fund may invest up to 15% of its net assets in securities and other instruments
that are, at the time of investment, illiquid (determined using the
Securities and Exchange Commission’s standard applicable to 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). For this purpose, illiquid investments may include, but are not
limited to, certain restricted securities (securities the disposition of which
is restricted under the federal securities laws), certain securities that may
only be sold pursuant to Rule 144A under the Securities Act, and certain
repurchase agreements, among others.
Disclosure
of Portfolio Holdings
A
description of the policies and procedures with respect to the disclosure of the
Fund's portfolio securities is included in the Fund's SAI, which is
available on the Fund's website at www.ftportfolios.com.
Risks
of Investing in the Fund
Risk
is inherent in all investing. Investing in the Fund involves risk, including the
risk that you may lose all or part of your investment. There can
be no assurance that the Fund will meet its stated objectives. Before you
invest, you should consider the following disclosure pertaining to the Principal
Risks set forth above as well as additional Non-Principal Risks set forth below
in this prospectus. The order of the below risk factors does not indicate the
significance of any particular risk factor.
Principal
Risks
ALTERNATIVE
MINIMUM TAX RISK.
Although the interest received from municipal securities is generally exempt
from federal income tax, the Fund may invest in municipal securities subject to
the federal alternative minimum tax on individuals. Therefore, all or a portion
of the Fund’s otherwise exempt interest, may be taxable to shareholders subject
to (or result in an increased liability under) the federal alternative minimum
tax on individuals. For tax years beginning after December 31, 2022,
exempt-interest dividends may affect the corporate alternative minimum tax for
certain corporations.
AUTHORIZED
PARTICIPANT CONCENTRATION RISK. Only an authorized
participant may engage in creation or redemption transactions directly with the
Fund. A limited number of institutions act as authorized participants for the
Fund. However, participants are not obligated to make a market in the Fund’s
shares or submit purchase and redemption orders for creation
14
units. To the extent
that these institutions exit the business, reduce their role or are unable to
proceed with creation and/or redemption orders and no other
authorized participant steps forward to create or redeem, the Fund’s shares may
trade at a premium or discount to the Fund’s net asset value and possibly face
delisting and the bid/ask spread on the Fund’s shares may widen.
CALL
RISK.
Some debt securities may be redeemed at the option of the issuer, or “called,”
before their stated maturity date. In general, an issuer will call its debt
securities if they can be refinanced by issuing new debt securities which bear a
lower interest rate. The Fund is subject to the possibility that during periods
of falling interest rates an issuer will call its high yielding debt securities.
The Fund would then be forced to invest the unanticipated proceeds at lower
interest rates, likely resulting in a decline in the fund’s income. Such
redemptions and subsequent reinvestments would also increase the Fund’s
portfolio turnover. If a called debt security was purchased by the Fund at a
premium, the value of the premium may be lost in the event of a
redemption.
CASH
TRANSACTIONS RISK. The Fund will, under
most circumstances, effect a significant portion of its creations and
redemptions for cash rather than in-kind. As a result, an investment in the Fund
may be less tax-efficient than an investment in an ETF that effects its
creations and redemptions only in-kind. ETFs are able to make in-kind
redemptions and avoid being taxed on gains on the distributed portfolio
securities at the fund level. A Fund that effects redemptions for cash may be
required to sell portfolio securities in order to obtain the cash needed to
distribute redemption proceeds. Any recognized gain on these sales by the Fund
will generally cause the Fund to recognize a gain it might not otherwise have
recognized, or to recognize such gain sooner than would otherwise be required if
it were to distribute portfolio securities only in-kind. The Fund intends to
distribute these gains to shareholders to avoid being taxed on this gain at the
fund level and otherwise comply with the special tax rules that apply to it.
This strategy may cause shareholders to be subject to tax on gains they would
not otherwise be subject to, or at an earlier date than if they had made an
investment in a different ETF. Moreover, cash transactions may have to be
carried out over several days if the securities market is relatively illiquid
and may involve considerable brokerage fees and taxes. These brokerage fees and
taxes, which will be higher than if the Fund sold and redeemed its shares
entirely in-kind, will be passed on to those purchasing and redeeming Creation
Units in the form of creation and redemption transaction fees. In addition,
these factors may result in wider spreads between the bid and the offered prices
of the Fund’s shares than for ETFs that distribute portfolio securities
in-kind.
CLOSED-END
FUNDS RISK. The Fund may invest
in shares of closed-end funds. Shares of closed-end funds trade on exchanges at
market prices rather than net asset value and cannot be redeemed on demand.
Accordingly, closed-end fund shares may trade at a price greater than net asset
value (premium) or less than net asset value (discount). There can be no
assurance that a discount on shares of closed-end funds purchased by the Fund
will not decrease or that when the Fund seeks to sell shares of a closed-end
fund it can receive the net asset value for those shares. As a shareholder in a
closed-end fund, the Fund bears its ratable share of the fund’s expenses,
subjecting Fund shareholders to additional expenses. Additionally, closed-end
funds may utilize leverage. As a result, the Fund may be exposed indirectly to
leverage through an investment in such securities. An investment in the shares
of closed-end funds that utilize leverage may expose the Fund to higher
volatility in the market value of such securities and the possibility that the
Fund’s long-term return on such securities will be diminished. Closed-end funds
may also issue senior securities (including preferred stock and debt
obligations) for the purpose of leveraging the closed-end fund’s assets in an
attempt to enhance the closed-end fund’s return. The organizational documents of
certain closed-end funds may include provisions that could inhibit the ability
of other entities or persons to acquire control of the closed-end fund or to
change the composition of its board of directors, which could limit the ability
of shareholders to sell their shares at a premium over the prevailing market
prices by discouraging a third party from seeking to obtain control of the
closed-end fund.
COUNTERPARTY
RISK. If the Fund enters
into an investment or transaction that depends on the performance of another
party, the Fund becomes subject to the credit risk of that counterparty. The
Fund's ability to profit from these types of investments and transactions
depends on the willingness and ability of the Fund’s counterparty to perform its
obligations. If a counterparty fails to meet its contractual obligations, the
Fund may be unable to terminate or realize any gain on the investment or
transaction, resulting in a loss to the Fund. The Fund may experience
significant delays in obtaining any recovery in an insolvency, bankruptcy, or
other reorganization proceeding involving a counterparty (including recovery of
any collateral posted by it) and may obtain only a limited recovery or may
obtain no recovery in such circumstances. If the Fund holds collateral posted by
its counterparty, it may be delayed or prevented from realizing on the
collateral in the event of a bankruptcy or insolvency proceeding relating to the
counterparty. Under applicable law or contractual provisions, including if the
Fund enters into an investment or transaction with a financial institution and
such financial institution (or an affiliate of the financial institution)
experiences financial difficulties, then the Fund may in certain situations be
prevented or delayed from exercising its rights to terminate the investment or
transaction, or to realize on any collateral and may result in the suspension of
payment
15
and delivery
obligations of the parties under such investment or transactions or in another
institution being substituted for that financial institution without
the consent of the Fund. Further, the Fund may be subject to “bail-in” risk
under applicable law whereby, if required by the financial institution's
authority, the financial institution's liabilities could be written down,
eliminated or converted into equity or an alternative instrument of ownership. A
bail-in of a financial institution may result in a reduction in value of some or
all of securities and, if the Fund holds such securities or has entered into a
transaction with such a financial security when a bail-in occurs, the Fund may
also be similarly impacted.
CREDIT
RATING AGENCY RISK.
Credit ratings are determined by credit rating agencies such as S&P Global
Ratings, Moody’s Investors Services, Inc. and Fitch Inc., and are only the
opinions of such entities. Ratings assigned by a rating agency are not absolute
standards of credit quality and do not evaluate market risk or the liquidity of
securities. Any shortcomings or inefficiencies in credit rating agencies’
processes for determining credit ratings may adversely affect the credit ratings
of securities held by the Fund and, as a result, may adversely affect those
securities’ perceived or actual credit risk.
CREDIT
RISK. An
issuer or other obligated party of a debt security held by the Fund may be
unable or unwilling to make dividend, interest and/or principal payments when
due. In addition, the value of a debt security may decline because of concerns
about the issuer’s ability or unwillingness to make such payments. Debt
securities are subject to varying degrees of credit risk which are often
reflected in credit ratings. The credit rating of a debt security may be lowered
if the issuer or other obligated party suffers adverse changes to its financial
condition. These adverse changes may lead to greater volatility in the price of
the debt security and affect the security’s liquidity. High yield and comparable
unrated debt securities, while generally offering higher yields than investment
grade debt with similar maturities, involve greater risks, including the
possibility of dividend or interest deferral, default or bankruptcy, and are
regarded as predominantly speculative with respect to the issuer’s capacity to
pay dividends or interest and repay principal. To the extent that the Fund holds
debt securities that are secured or guaranteed by financial institutions,
changes in credit quality of such financial institutions could cause values of
the debt security to deviate.
CREDIT
SPREAD RISK. Credit spread risk
is the risk that credit spreads (i.e., the difference in
yield between debt securities that have differences in credit quality or other
factors) may increase, which may reduce the market values of the Fund’s debt
securities. While the Fund may employ strategies to mitigate credit spread risk,
these strategies may not be successful. Credit spreads often increase more for
lower rated and unrated securities than for investment grade securities. In
addition, when credit spreads increase, reductions in market value will
generally be greater for debt securities with longer maturities.
CUSTODIAL
RECEIPTS TRUST RISK. Custodial receipts
are financial instruments sold through private placements that represent the
right to receive future principal and interest payments on underlying municipal
obligations. As such, a custodial receipt represents ownership of a security
owned by a trust and not ownership of the security itself. Nonetheless, a
custodial receipt is subject to the same risks as those applicable to the
underlying security. The interest rate on custodial receipts is generally
expected to be lower than the coupon rate on the underlying security and is
generally set at a level comparable to municipal securities of similar quality
having a maturity equal to the rate adjustment period rather than the maturity
date of the underlying obligation. Custodial receipt trusts may also issue
inverse floater securities. If the Fund was to hold inverse floaters issued by
custodial receipt trusts, the Fund would be subject to the risks of inverse
floaters described herein. In particular, because the instruments may be
leveraged, their market values may be more volatile than other types of debt
securities. Also, as custodial receipts are privately placed, they may be less
liquid than securities trading on an exchange.
CYBER
SECURITY RISK. The Fund is
susceptible to operational risks through breaches in cyber security. A breach in
cyber security refers to both intentional and unintentional events that may
cause the Fund to lose proprietary information, suffer data corruption or lose
operational capacity. Such events could cause the Fund to incur regulatory
penalties, reputational damage, additional compliance costs associated with
corrective measures and/or financial loss. These risks typically are not covered
by insurance. In general, cyber incidents can result from deliberate attacks or
unintentional events. Cyber incidents include, but are not limited to, gaining
unauthorized access to digital systems (e.g., through “hacking”
or malicious software coding) for purposes of misappropriating assets or
sensitive information, corrupting data or causing operational disruption. Cyber
attacks may also be carried out in a manner that does not require gaining
unauthorized access, such as causing denial-of-service attacks on websites
(i.e., efforts to make
network services unavailable to intended users). Cyber security failures by or
breaches of the systems of the Advisor, distributor and other service providers
(including, but not limited to, sub-advisors, index providers, fund accountants,
custodians, transfer agents and administrators), market makers, authorized
participants or the issuers of securities in which the Fund invests, have the
ability to cause disruptions and impact business operations, potentially
resulting in: financial losses; interference with the Fund’s ability to
calculate its net asset value; disclosure of confidential trading information;
impediments to trading; submission of erroneous trades or erroneous creation or
redemption orders; the inability of the Fund or its service providers to
transact business; violations of applicable privacy and other laws; regulatory
fines penalties, reputational damage, reimbursement or other compensation costs;
or additional
16
compliance
costs. Substantial costs may be incurred by the Fund in order to resolve or
prevent cyber incidents in the future. While the Fund has
established business continuity plans in the event of, and risk management
systems to prevent, such cyber attacks, there are inherent limitations in such
plans and systems, including the possibility that certain risks have not been
identified and that prevention and remediation efforts will not be successful.
Furthermore, the Fund cannot control the cyber security plans and systems put in
place by service providers to the Fund, issuers in which the Fund invests,
market makers or authorized participants. However, there is no guarantee that
such efforts will succeed, and the Fund and its shareholders could be negatively
impacted as a result.
DEBT
SECURITIES RISK. Investments in debt
securities subject the holder to the credit risk of the issuer. Credit risk
refers to the possibility that the issuer or other obligor of a security will
not be able or willing to make payments of interest and principal when due.
Generally, the value of debt securities will change inversely with changes in
interest rates. To the extent that interest rates rise, certain underlying
obligations may be paid off substantially slower than originally anticipated and
the value of those securities may fall sharply. During periods of falling
interest rates, the income received by the Fund may decline. If the principal on
a debt security is prepaid before expected, the prepayments of principal may
have to be reinvested in obligations paying interest at lower rates. Debt
securities generally do not trade on a centralized securities exchange making
them generally less liquid and more difficult to value than common stock. The
values of debt securities may also increase or decrease as a result of market
fluctuations, actual or perceived inability or unwillingness of issuers,
guarantors or liquidity providers to make scheduled principal or interest
payments or illiquidity in debt securities markets generally.
DISTRESSED
SECURITIES RISK. The Fund may invest
in distressed debt securities. Distressed securities are speculative and involve
substantial risks in addition to the risks of investing in high-yield debt
securities that are not in default. In some instances, the Fund will not receive
interest payments from the distressed securities it holds and may incur
additional expenses to protect its investment. These securities may present a
substantial risk of default and there is a substantial risk that the principal
will not be repaid. An underlying fund may incur additional expenses to the
extent it is required to seek recovery upon a default in the payment of
principal or of interest on its portfolio holdings. In any reorganization or
liquidation proceeding relating to a portfolio company, the Fund may lose its
entire investment or may be required to accept cash or securities with a value
less than its original investment. Distressed securities and any securities
received in exchange for such securities may be subject to restrictions on
resale.
EXTENSION
RISK.
Extension risk is the risk that, when interest rates rise, certain obligations
will be paid off by the issuer (or other obligated party) more slowly than
anticipated, causing the value of these debt securities to fall. Rising interest
rates tend to extend the duration of debt securities, making them more sensitive
to changes in interest rates. The value of longer-term debt securities generally
changes more in response to changes in interest rates than shorter-term debt
securities. As a result, in a period of rising interest rates, securities may
exhibit additional volatility and may lose value. Extension risk is particularly
prevalent for a callable debt security where an increase in interest rates could
result in the issuer of that security choosing not to redeem the debt security
as anticipated on the security’s call date. Such a decision by the issuer could
have the effect of lengthening the debt security’s expected maturity, making it
more vulnerable to interest rate risk and reducing its market
value.
HIGH
YIELD SECURITIES RISK. The Fund’s
investment in high yield securities, or “junk” bonds, may entail increased
credit risks and the risk that the value of the Fund’s assets will decline, and
may decline precipitously, with increases in interest rates. In recent years
there have been wide fluctuations in interest rates and therefore in the value
of debt securities generally. High yield securities are, under most
circumstances, subject to greater market fluctuations and risk of loss of income
and principal than are investments in lower-yielding, higher-rated debt
securities. As interest rates rise, the value of high yield securities may
decline precipitously. Increased rates may also indicate a slowdown in the
economy which may adversely affect the credit of issuers of high yield
securities resulting in a higher incidence of defaults among such issuers. A
slowdown in the economy, or a development adversely affecting an issuer’s
creditworthiness, may result in the issuer being unable to maintain earnings or
sell assets at the rate and at the prices, respectively, that are required to
produce sufficient cash flow to meet its interest and principal requirements.
The Fund’s portfolio managers cannot predict future economic policies or their
consequences or, therefore, the course or extent of any similar market
fluctuations in the future. In addition, high yield securities are generally
less liquid than investment grade securities.
INCOME
RISK.
The Fund’s income may decline when interest rates fall. This decline can occur
because the Fund may subsequently invest in lower-yielding securities as debt
securities in its portfolio mature, are near maturity or are called, or the Fund
otherwise needs to purchase additional debt securities. In addition, the Fund’s
income could decline when the Fund experiences defaults on the debt securities
it holds.
17
INDUSTRIAL
DEVELOPMENT BOND RISK. To the extent that
investments in the industrial development sector represent a significant portion
of the Fund’s portfolio, the Fund will be sensitive to changes in, and its
performance may depend to a greater extent on, the overall condition of the
industrial development sector. These bonds are normally secured only by the
revenues from the project and are not general obligations of the issuer or
otherwise secured by state or local government tax receipts. Consequently, the
credit quality of these securities is dependent upon the ability of the private
business utilizing the facilities financed by the bonds and any guarantor to
meet its financial obligations. Payment of interest on and repayment of
principal on such bonds are the responsibility of the private business and any
guarantor. These bonds are subject to a wide variety of risks, many of which
relate to the nature of the specific project maintaining the tax-exempt nature
of the securities. Generally, the value and credit quality of these bonds are
sensitive to the risks related to an economic slowdown.
INFLATION
RISK.
Inflation risk is the risk that the value of assets or income from investments
will be less in the future as inflation decreases the value of money. As
inflation increases, the present value of the Fund’s assets and distributions
may decline. This risk is more prevalent with respect to debt securities held by
the Fund. Inflation creates uncertainty over the future real value (after
inflation) of an investment. Inflation rates may change frequently and
drastically as a result of various factors, including unexpected shifts in the
domestic or global economy, and the Fund’s investments may not keep pace with
inflation, which may result in losses to Fund investors.
INTEREST
RATE RISK. The value of debt
securities held by the Fund will fluctuate in value with changes in interest
rates. In general, debt securities will increase in value when interest rates
fall and decrease in value when interest rates rise. The Fund may be subject to
a greater risk of rising interest rates than would normally be the case due to
the current period of historically low rates and the effect of potential
government fiscal policy initiatives and resulting market reaction to those
initiatives. Interest rate risk is generally lower for shorter term investments
and higher for longer term investments. Duration is a common measure of interest
rate risk. Duration measures a debt security’s expected life on a present value
basis, taking into account the debt security’s yield, interest payments and
final maturity. Duration is a reasonably accurate measure of a debt security’s
price sensitivity to changes in interest rates. The longer the duration of a
debt security, the greater the debt security’s price sensitivity is to changes
in interest rates. Rising interest rates also may lengthen the duration of debt
securities with call features, since exercise of the call becomes less likely as
interest rates rise, which in turn will make the securities more sensitive to
changes in interest rates and result in even steeper price declines in the event
of further interest rate increases. An increase in interest rates could also
cause principal payments on a debt security to be repaid at a slower rate than
expected. This risk is particularly prevalent for a callable debt security where
an increase in interest rates could cause the issuer of that security to not
redeem the security as anticipated on the call date, effectively lengthening the
security’s expected maturity, in turn making that security more vulnerable to
interest rate risk and reducing its market value. When interest rates fall, the
Fund may be required to reinvest the proceeds from the sale, redemption or early
prepayment of a debt security at a lower interest rate.
INVERSE
FLOATERS RISK. The Fund may invest
in inverse floaters. The use of inverse floaters by the Fund creates effective
leverage. Due to the leveraged nature of these investments, the value of an
inverse floater will typically be more volatile and involve greater risk than
the fixed rate municipal bonds underlying the inverse floaters. An investment in
certain inverse floaters will involve the risk that the Fund could lose more
than its original principal investment. Distributions on inverse floaters bear
an inverse relationship to short-term municipal bond interest rates. Thus,
distributions paid to the Fund on its inverse floaters will be reduced or even
eliminated as short-term municipal bond interest rates rise and will increase
when short-term municipal bond interest rates fall. Inverse floaters generally
will underperform the market for fixed rate municipal bonds in a rising interest
rate environment. In addition, the transactions which give rise to the creation
of an inverse floater may be terminated without the Fund’s consent upon the
occurrence of certain events, such as the bankruptcy or other default by the
issuer. In that case, the inverse floaters will be redeemed from the sale of the
underlying municipal securities and could result in a loss of principal for the
Fund.
MANAGEMENT
RISK.
The Fund is subject to management risk because it is an actively managed
portfolio. In managing the Fund’s investment portfolio, the portfolio managers
will apply investment techniques and risk analyses that may not produce the
desired result. There can be no guarantee that the Fund will meet its investment
objective(s), meet relevant benchmarks or perform as well as other funds with
similar objectives.
MARKET
MAKER RISK. The Fund faces
numerous market trading risks, including the potential lack of an active market
for Fund shares due to a limited number of market markers. Decisions by market
makers or authorized participants to reduce their role or step away from these
activities in times of market stress could inhibit the effectiveness of the
arbitrage process in maintaining the relationship between the underlying values
of the Fund’s portfolio securities and the Fund’s market price. The Fund may
rely on a small number of third-party market makers to provide a market for the
purchase and sale of shares.
18
Any
trading halt or other problem relating to the trading activity of these market
makers could result in a dramatic change in the spread between
the Fund’s net asset value and the price at which the Fund’s shares are trading
on the Exchange, which could result in a decrease in value of the Fund’s shares.
This reduced effectiveness could result in Fund shares trading at a discount to
net asset value and also in greater than normal intraday bid-ask spreads for
Fund shares.
MARKET
RISK. Market risk is the
risk that a particular security, or shares of the Fund in general, may fall in
value. Securities are subject to market fluctuations caused by such factors as
economic, political, regulatory or market developments, changes in interest
rates and perceived trends in securities prices. Shares of the Fund could
decline in value or underperform other investments due to short-term market
movements or any longer periods during more prolonged market downturns. In
addition, local, regional or global events such as war, acts of terrorism,
spread of infectious diseases or other public health issues, recessions, or
other events could have a significant negative impact on the Fund and its
investments. For example, the coronavirus disease 2019 (COVID-19) global
pandemic and the ensuing policies enacted by governments and central banks have caused and may continue to cause
significant volatility and uncertainty in global financial markets, negatively
impacting global growth prospects. While the
U.S. has resumed “reasonably” normal
business activity, many countries continue to impose lockdown measures.
Additionally, there is no guarantee that vaccines will be effective against
emerging variants of the disease. Additionally, in February 2022, Russia invaded
Ukraine which has caused and could continue to cause significant market
disruptions and volatility within the markets in Russia, Europe, and the United
States. The hostilities and sanctions resulting from those hostilities could
have a significant impact on certain Fund investments as well as Fund
performance. These events also adversely affect the prices and liquidity of the
Fund’s portfolio securities or other instruments and could result in disruptions
in the trading markets. Any of such circumstances could have a materially
negative impact on the value of the Fund’s shares and result in increased market
volatility. During any such events, the Fund’s shares may trade at increased
premiums or discounts to their net asset value and the bid/ask spread on the
Fund’s shares may widen.
MUNICIPAL
LEASE PARTICIPATIONS RISK. The Fund may
purchase participations in municipal leases. These investments are undivided
interests in a lease, installment purchase contract or conditional sales
contract entered into by a government entity to acquire equipment or facilities.
Participation interests in municipal leases pose special risks because many
leases and contracts contain “non-appropriation” clauses that provide that the
governmental entity issuing the obligations has no obligation to make future
payments under the lease or contract unless money is appropriated for this
purpose by the appropriate legislative body. Although these kinds of obligations
are secured by the leased equipment or facilities, it might be difficult and
time consuming to dispose of the equipment or facilities in the event of
non-appropriation, and the Fund might not recover the full principal amount of
the obligation.
MUNICIPAL
SECURITIES MARKET LIQUIDITY RISK. From time to time,
inventories of municipal securities held by brokers and dealers may decrease,
lessening their ability to make a market in these securities Any reduction in
market making capacity has the potential to decrease the Fund’s ability to buy
or sell municipal securities and increase price volatility and trading costs,
particularly during periods of economic or market stress. In addition, federal
banking regulations may cause certain dealers to reduce their inventories of
municipal securities, which may further decrease the Fund’s ability to buy or
sell municipal securities. As a result, the Fund may be forced to accept a lower
price to sell a municipal security, to sell other securities to raise cash, or
to give up an investment opportunity, any of which could have a negative effect
on performance. The market for unrated municipal securities may be less liquid
than the market for rated municipal securities of comparable quality. Decreased
liquidity may negatively affect the Fund’s ability to mitigate risk and meet
redemptions. Also, less public information is typically available about unrated
municipal securities or their issuer which can affect the liquidity of the
market.
MUNICIPAL
SECURITIES RISK. The values of
municipal securities may be adversely affected by local political and economic
conditions and developments. Adverse conditions in an industry significant to a
local economy could have a correspondingly adverse effect on the financial
condition of local issuers. Other factors that could affect municipal securities
include a change in the local, state, or national economy, demographic factors,
ecological or environmental concerns, statutory limitations on the issuer’s
ability to increase taxes, and other developments generally affecting the
revenue of issuers (for example, legislation or court decisions reducing state
aid to local governments or mandating additional services). This risk would be
heightened to the extent that the Fund invests a substantial portion of its
assets in bonds issued pursuant to similar projects (such as those relating to
the education, health care, housing, transportation, or utilities industries),
in industrial development bonds, or in particular types of municipal securities
(such as general obligation bonds, private activity bonds or moral obligation
bonds) that are particularly exposed to specific types of adverse economic,
business or political events. Changes in a municipality’s financial health may
also make it difficult for the municipality to make interest and principal
payments when due. The values of municipal securities that depend on a specific
revenue source to fund their payment obligations may fluctuate as a result of
actual or anticipated changes in the cash flows generated by the revenue source
or changes in the priority of the municipal securities to receive the cash flows
generated by the revenue source. Under some circumstances, municipal securities
might
19
not
pay interest unless the state legislature or municipality authorizes money for
that purpose. Municipal securities may be more susceptible to
downgrades or defaults during recessions or similar periods of economic stress.
In addition, since some municipal obligations may be secured or guaranteed by
banks and other institutions, the risk to the Fund could increase if the banking
or financial sector suffers an economic downturn and/or if the credit ratings of
the institutions issuing the guarantee are downgraded or at risk of being
downgraded by a national rating organization. Such a downward revision or risk
of being downgraded may have an adverse effect on the market prices of the bonds
and thus the value of the Fund’s investments. In addition to being downgraded,
an insolvent municipality may file for bankruptcy. The reorganization of a
municipality’s debts may significantly affect the rights of creditors and the
value of the securities issued by the municipality and the value of the Fund’s
investments. In addition, income from municipal securities held by the Fund
could be declared taxable because of, among other things, unfavorable changes in
tax laws, adverse interpretations by the Internal Revenue Service or state tax
authorities, or noncompliant conduct of an issuer or other obligated party. Loss
of tax-exempt status may cause interest received and distributed to shareholders
by the Fund to be taxable and may result in a significant decline in the values
of such municipal securities. Due to the COVID-19 pandemic, the risks of the
municipal securities market have been magnified. The costs associated with
combating the pandemic and the negative impact on tax revenues has adversely
affected the financial condition of many states and political subdivisions.
These risks may also adversely affect several sectors of the municipal bond
market, such as airports, toll roads, hospitals and colleges, among many others.
The full impact of the COVID-19 pandemic on state and political subdivisions’
ability to make payments on debt obligations is impossible to predict, but could
negatively impact the value of bonds, the ability of state and political
subdivisions to make payments when due and the performance of the
Fund.
MUNICIPAL
SECURITIES VALUATION RISK. The municipal
securities in which the Fund invests are typically valued by a pricing service
utilizing a range of market-based inputs and assumptions, including readily
available market quotations obtained from broker-dealers making markets in such
securities, cash flows and transactions for comparable instruments. There is no
assurance that the Fund will be able to sell a portfolio security at the price
established by the pricing service, which could result in a loss to the Fund.
Pricing services generally price municipal securities assuming orderly
transactions of an institutional “round lot” size, but some trades may occur in
smaller, “odd lot” sizes, often at lower prices than institutional round lot
trades. Different pricing services may incorporate different assumptions and
inputs into their valuation methodologies, potentially resulting in different
values for the same securities. As a result, if the Fund were to change pricing
services, or if the Fund’s pricing service were to change its valuation
methodology, there could be a material impact, either positive or negative, on
the Fund’s net asset value.
OPERATIONAL
RISK.
The Fund is subject to risks arising from various operational factors,
including, but not limited to, human error, processing and communication errors,
errors of the Fund’s service providers, counterparties or other third-parties,
failed or inadequate processes and technology or systems failures. The Fund
relies on third-parties for a range of services, including custody. Any delay or
failure relating to engaging or maintaining such service providers may affect
the Fund’s ability to meet its investment objective. Although the Fund and the
Fund’s investment advisor seek to reduce these operational risks through
controls and procedures, there is no way to completely protect against such
risks.
PORTFOLIO
TURNOVER RISK. The Fund
has an investment strategy that may frequently involve buying and selling
portfolio securities. High portfolio turnover may result in the Fund paying
higher levels of transaction costs, including brokerage commissions, dealer
mark-ups and other costs and may generate greater tax liabilities for
shareholders. Portfolio turnover risk may cause the Fund’s performance to be
less than expected.
PREMIUM/DISCOUNT
RISK. The market price
of the Fund’s shares will generally fluctuate in accordance with changes in the
Fund’s net asset value as well as the relative supply of and demand for shares
on the Exchange. First Trust cannot predict whether shares will trade below, at
or above their net asset value because the shares trade on the Exchange at
market prices and not at net asset value. Price differences may be due, in large
part, to the fact that supply and demand forces at work in the secondary trading
market for shares will be closely related, but not identical, to the same forces
influencing the prices of the holdings of the Fund trading individually or in
the aggregate at any point in time. However, given that shares can only be
purchased and redeemed in Creation Units, and only to and from broker-dealers
and large institutional investors that have entered into participation
agreements (unlike shares of closed-end funds, which frequently trade at
appreciable discounts from, and sometimes at premiums to, their net asset
value), First Trust believes that large discounts or premiums to the net asset
value of shares should not be sustained absent disruptions to the creation and
redemption mechanism, extreme market volatility or potential lack of authorized
participants. During stressed market conditions, the market for the Fund’s
shares may become less liquid in response to deteriorating liquidity in the
market for the Fund’s underlying portfolio holdings, which could in turn lead to
differences between the market price of the Fund’s shares and their net asset
value and the bid/ask spread on the Fund’s shares may widen.
20
PREPAYMENT
RISK.
Prepayment risk is the risk that the issuer of a debt security will repay
principal (in part or in whole) prior to the scheduled maturity date. Debt
securities allowing prepayment may offer less potential for gains during a
period of declining interest rates, as the Fund may be required to reinvest the
proceeds of any prepayment at lower interest rates, reducing its income. If the
Fund purchased the debt securities at a premium, prepayments on the securities
could cause the Fund to lose a portion of its principal investment. These
factors may cause the value of an investment in the Fund to change. The impact
of prepayments on the price of a debt security may be difficult to predict and
may increase the security’s volatility.
PRE-REFUNDED
BONDS RISK. The Fund may invest
in closed-end funds and/or ETFs that hold pre-refunded bonds. Pre-refunded bonds
are bonds that have been refunded to a call date prior to the final maturity of
principal, or, in the case of pre-refunded bonds commonly referred to as
“escrowed-to-maturity bonds,” to the final maturity of principal, and remain
outstanding in the municipal market. The payment of principal and interest of
the pre-refunded bonds held by the Fund is funded from securities held in a
designated escrow account where such securities are obligations of and carry the
full faith and credit of the U.S. Department of the Treasury. The securities
held in the escrow fund pledged to pay the principal and interest of the
pre-refunded bond do not guarantee the price of the bond. Investment in
pre-refunded municipal bonds held by the Fund may subject the Fund to interest
rate risk, market risk and credit risk. In addition, while a secondary market
exists for pre-refunded municipal bonds, if the Fund sells pre-refunded
municipal bonds prior to maturity, the price received may be more or less than
the original cost, depending on market conditions at the time of
sale.
PRIVATE
ACTIVITY BONDS RISK.
Municipalities and other public authorities issue private activity bonds to
finance development of industrial facilities for use by a private enterprise.
The private enterprise is responsible for the payment of principal and interest
on the bond and the issuer ordinarily does not pledge its full faith, credit and
taxing power for repayment. The private enterprise can have a substantially
different credit profile than the issuer. The private activity bonds in which
the Fund or an underlying fund may invest may be negatively impacted by
conditions affecting either the general credit of the private enterprise or the
project itself. Defaults may occur in the event project revenues fall short of
projections due to a number of factors such as competitive pricing, construction
delays or lack of demand for the project. In addition, private activity bonds
typically have a longer term and are adversely affected by a rise in interest
rates. The Fund's or an underlying fund’s private activity bond holdings may
also pay interest subject to the alternative minimum tax or individuals. For tax
years beginning after December 31, 2022, interest on the bonds may affect the
corporate alternative minimum tax for certain corporations .
SIGNIFICANT
EXPOSURE RISK. To the extent that
the Fund invests a significant percentage of its assets in a single asset class
or the securities of issuers within the same country, state, region, industry or
sector, an adverse economic, business or political development that affected a
particular asset class, region or industry may affect the value of the Fund’s
investments more than if the Fund were more broadly diversified. A significant
exposure makes the Fund more susceptible to any single occurrence and may
subject the Fund to greater volatility and market risk than a fund that is more
broadly diversified.
TRADING
ISSUES RISK. Trading in Fund
shares on the Exchange may be halted due to market conditions or for reasons
that, in the view of the Exchange, make trading in shares inadvisable. In
addition, trading in Fund shares on the Exchange is subject to trading halts
caused by extraordinary market volatility pursuant to the Exchange’s “circuit
breaker” rules. There can be no assurance that the requirements of the Exchange
necessary to maintain the listing of the Fund will continue to be met or will
remain unchanged. The Fund may have difficulty maintaining its listing on the
Exchange in the event the Fund’s assets are small, the Fund does not have enough
shareholders, or if the Fund is unable to proceed with creation and/or
redemption orders.
VALUATION
RISK. The sale price the Fund could receive for a
security may differ from the Fund’s valuation of the security, particularly for
securities that trade in low volume or volatile markets or that are valued using
a fair value methodology. Unlike publicly traded securities that trade on
national securities exchanges, there is no central place or exchange
for trading most debt securities. Debt securities generally trade on
an
“over-the-counter”
market. Due to the lack of centralized information and trading, and variations
in lot sizes of certain debt securities, the valuation of debt securities may
carry more uncertainty and risk than that of publicly traded securities. Debt
securities are commonly valued by third-party pricing services that utilize a
range of market-based inputs and assumptions, including readily available market
quotations obtained from broker-dealers making markets in such securities, cash
flows and transactions for comparable instruments. However, because the available information is
less reliable and more subjective, elements of judgment may play a greater role
in valuation of debt securities than for other types of securities. Different
pricing services may incorporate different assumptions and inputs into their
valuation methodologies, potentially resulting in different values for the same
securities. As a result, if the Fund were to change pricing services, or if a
pricing service were to change its valuation methodology, there could be a
material impact, either positive or negative, on the Fund’s net asset value.
Additionally, pricing services generally price debt securities assuming orderly
transactions of an institutional “round lot” size, but some trades may occur in
smaller, “odd lot” sizes, often at lower
prices
21
than institutional
round lot trades. There is no assurance that the Fund will be able to sell a
portfolio security at the price established by the pricing service,
which could result in a loss to the Fund. In addition, the value of the debt
securities in the Fund’s portfolio may change on days or during time periods
when shareholders will not be able to purchase or sell the Fund’s shares.
Authorized Participants who purchase or redeem Fund shares on days when the Fund
is holding fair-valued securities may receive fewer or more shares, or lower or
higher redemption proceeds, than they would have received had the Fund not
fair-valued securities or used a different valuation methodology. Net asset value calculation may also
be impacted by operational risks arising from factors such as failures in
systems and technology.
Non-Principal
Risks
BORROWING
AND LEVERAGE RISK. If the Fund borrows
money, it must pay interest and other fees, which may reduce the Fund’s returns.
Any such borrowings are intended to be temporary. However, under certain market
conditions, including periods of decreased liquidity, such borrowings might be
outstanding for longer periods of time. As prescribed by the 1940 Act, the Fund
will be required to maintain specified asset coverage of at least 300% with
respect to any bank borrowing immediately following such borrowing and at all
times thereafter. The Fund may be required to dispose of assets on unfavorable
terms if market fluctuations or other factors reduce the Fund’s asset coverage
to less than the prescribed amount.
DEPENDENCE
ON KEY PERSONNEL RISK. The Advisor is dependent upon the
experience and expertise of the Fund’s portfolio manager in providing advisory
services with respect to the Fund’s investments. If the Advisor were to lose the
services of a portfolio manager, its ability to service the Fund could be
adversely affected. There can be no assurance that a suitable replacement could
be found for the portfolio manager in the event of his death, resignation,
retirement or inability to act on behalf of the Advisor.
DERIVATIVES
RISK.
The use of derivative instruments involves risks different from, or possibly
greater than, the risks associated with investing directly in securities and
other traditional investments. These risks include: (i) the risk that the
counterparty to a derivative transaction may not fulfill its contractual
obligations; (ii) risk of mispricing or improper valuation; and (iii) the risk
that changes in the value of the derivative may not correlate perfectly with the
underlying asset. Derivative prices are highly volatile and may fluctuate
substantially during a short period of time. Such prices are influenced by
numerous factors that affect the markets, including, but not limited to:
changing supply and demand relationships; government programs and policies;
national and international political and economic events, changes in interest
rates, inflation and deflation and changes in supply and demand relationships.
Trading derivative instruments involves risks different from, or possibly
greater than, the risks associated with investing directly in securities.
Derivative contracts ordinarily have leverage inherent in their terms. The low
margin deposits normally required in trading derivatives, including futures
contracts, permit a high degree of leverage. Accordingly, a relatively small
price movement may result in an immediate and substantial loss. The use of
leverage may also cause the Fund to liquidate portfolio positions when it would
not be advantageous to do so in order to satisfy its obligations or to meet
collateral segregation requirements. The use of leveraged derivatives can
magnify potential for gain or loss and, therefore, amplify the effects of market
volatility on share price.
FAILURE
TO QUALIFY AS A REGULATED INVESTMENT COMPANY RISK. If, in any year, the
Fund fails to qualify as a regulated investment company under the applicable tax
laws, that Fund would be taxed as an ordinary corporation. In such
circumstances, the Fund could be required to recognize unrealized gains, pay
substantial taxes and interest and make substantial distributions before
requalifying as a regulated investment company that is accorded special tax
treatment.
FUTURES
CONTRACTS RISK. The Fund may enter
into futures contracts. Futures contracts are typically exchange-traded
contracts that call for the future delivery of an asset by one party to another
at a certain price and date, or cash settlement of the terms of the contract.
The risk of a position in a futures contract may be very large compared to the
relatively low level of margin the Fund is required to deposit. In many cases, a
relatively small price movement in a futures contract may result in immediate
and substantial loss or gain to the investor relative to the size of a required
margin deposit. The ability to establish and close out positions in futures
contracts is be subject to the development and maintenance of a liquid secondary
market. There is no assurance that a liquid secondary market on an exchange will
exist for any particular futures contract at any particular time. If the Fund
uses futures contracts for hedging purposes, there is a risk of imperfect
correlation between movements in the prices of the derivatives and movements in
the securities or index underlying the derivatives or movements in the prices of
the Fund's investments that are the subject of such hedge. The prices of futures
contracts, for a number of reasons, may not correlate perfectly with movements
in the securities or index underlying them. For example, participants in the
futures markets are subject to margin deposit requirements less onerous than
margin requirements in the securities markets in general. As a result, futures
markets may attract more speculators than the securities markets. Increased
participation by speculators in those markets may cause temporary price
distortions. Due to the possibility of price distortion, even a correct forecast
of general market trends by the Fund’s portfolio managers still may not result
in a successful derivatives activity over a very
22
short
time period. The Commodity Futures Trading Commission and the various exchanges
have established limits referred to as “speculative
position limits” on the maximum net long or net short positions that any person
and certain affiliated entities may hold or control in a particular futures
contract. It is possible that, as a result of such limits, the Fund will be
precluded from taking positions in certain futures contracts it might have
otherwise taken to the disadvantage of shareholders.
ISSUER
SPECIFIC CHANGES RISK. Changes in the
financial condition of an issuer or counterparty, changes in specific economic
or political conditions that affect a particular type of security or issuer, and
changes in general economic or political conditions can affect a security’s or
instrument’s value. The value of securities of smaller, less well-known issuers
can be more volatile than that of larger issuers. Issuer specific events can
have a negative impact on the value of the Fund.
LEGISLATION/LITIGATION
RISK.
From time to time, various legislative initiatives are proposed in the United
States and abroad, which may have a negative impact on certain companies in
which an underlying fund invests. In addition, litigation regarding any of the
issuers of the securities owned by an underlying fund, or industries represented
by these issuers, may negatively impact the value of the Fund’s shares. Such
legislation or litigation may cause the Fund to lose value or may result in
higher portfolio turnover if the Advisor determines to sell such a
holding.
PUERTO
RICAN MUNICIPAL SECURITIES RISK. Puerto Rico
currently faces a severe fiscal, economic and liquidity crisis, the culmination
of many years of significant governmental deficits, a prolonged economic
recession (which commenced in 2006), high unemployment, population decline, and
high levels of debt and pension obligations. Further stressing Puerto Rico’s
liquidity are the vulnerability of revenue streams during times of major
economic downturns and large health care, education, pension and debt service
costs. Puerto Rico’s very high level of debt and unfunded pension liabilities
and the resulting required allocation of revenues to service debt and pension
obligations have contributed to significant budget deficits during the past
several years, which deficits Puerto Rico has financed, further increasing the
amount of its debt. These matters and Puerto Rico’s liquidity constraints, among
other factors, have adversely affected its credit ratings and its ability to
obtain financing at reasonable interest rates, if at all. Several rating
organizations have downgraded a number of securities issued in Puerto Rico to
below investment grade and/or placed them on “negative watch.” Any further
downgrades could place additional strain on the Puerto Rican economy. Certain
issuers of Puerto Rico municipal securities have failed to make payments on
obligations that have come due, and additional missed payments and defaults may
be likely to occur in the future. In addition, in September 2017, Puerto Rico
was severely impacted by two major hurricanes. The widespread destruction caused
by these hurricanes will continue to stress government finances and liquidity
and exacerbate Puerto Rico's financial crisis. On June 30, 2016, the Puerto Rico
Oversight, Management, and Economic Stability Act (“PROMESA”) was enacted.
PROMESA allows Puerto Rico to restructure its outstanding debt obligations and
establishes an oversight and management board (the “Oversight
Board”)
that is empowered to approve Puerto Rico’s fiscal plans and budgets. On May 3,
2017, the Oversight Board filed a petition on behalf of Puerto Rico in the U.S.
District Court in Puerto Rico seeking bankruptcy-like relief under PROMESA.
According to the petition, Puerto Rico and its instrumentalities cannot satisfy
from current revenues their collective $74 billion debt burden and $49 billion
pension burden and pay their operating expenses. The petition states that Puerto
Rico’s fiscal crisis has reached a breaking point due to a variety of factors,
including the elimination of certain federal funds, the exhaustion of public
pension funding and recent negative economic growth in Puerto Rico. The result
of Puerto Rico’s plan to adjust its debts in a case under PROMESA is uncertain.
In addition to the PROMESA case, any deterioration in Puerto Rico’s financial
condition, further legislation by the U.S. Congress and/or actions by the
Oversight Board may have a negative effect on the marketability, liquidity or
value of the securities issued by Puerto Rico, which could reduce the Fund’s
performance.
RESTRICTED
SECURITIES RISK.
Restricted securities are securities that cannot be offered for public resale
unless registered under the applicable securities laws or that have a
contractual restriction that prohibits or limits their resale. Restricted
securities include private placement securities that have not been registered
under the applicable securities laws, such as Rule 144A securities, and
securities of U.S. and non-U.S. issuers that are issued pursuant to Regulation
S. Private placements are generally subject to strict restrictions on resale.
Restricted securities may be illiquid as they generally are not listed on an
exchange and may have no active trading market. The Fund may be unable to sell a
restricted security on short notice or may be able to sell them only at a price
below current value. It may be more difficult to determine a market value for a
restricted security. Also, the Fund may get limited information about the issuer
of a restricted security, so it may be less able to predict a loss. In addition,
if Fund management receives material non-public information about the issuer,
the Fund may as a result be unable to sell the securities. Certain restricted
securities may involve a high degree of business and financial risk and may
result in substantial losses.
23
Fund
Organization
The
Fund is a series of the Trust, an investment company registered under the 1940
Act. The Fund is treated as a separate fund with its own
investment objectives and policies. The Trust is organized as a Massachusetts
business trust. The Board is responsible for the overall management and
direction of the Trust. The Board elects the Trust’s officers and approves all
significant agreements, including those with the Advisor, distributor, custodian
and fund administrative and accounting agent.
Management
of the Fund
First
Trust Advisors L.P., 120 East Liberty Drive, Wheaton, Illinois 60187, is the
investment advisor to the Fund. In this capacity, First Trust is
responsible for the selection and ongoing monitoring of the securities in the
Fund's portfolio and certain other services necessary for the management of the
portfolio.
First
Trust is a limited partnership with one limited partner, Grace Partners of
DuPage L.P., and one general partner, The Charger Corporation. Grace
Partners of DuPage L.P. is a limited partnership with one general partner, The
Charger Corporation, and a number of limited partners. The Charger Corporation
is an Illinois corporation controlled by James A. Bowen, the Chief Executive
Officer of First Trust. First Trust discharges its responsibilities subject to
the policies of the Fund.
First Trust serves
as advisor or sub-advisor for 9 mutual fund portfolios, 10
exchange-traded funds consisting of 199 series and 15 closed-end funds. It is
also the portfolio supervisor of certain unit investment trusts sponsored by
First Trust Portfolios L.P. (“FTP”), an affiliate of First Trust, 120
East Liberty Drive, Wheaton, Illinois 60187. FTP specializes in the
underwriting, trading and distribution of unit investment trusts and other
securities. FTP is the principal underwriter of the shares of the
Fund.
Johnathan Wilhelm, Ken Fincher and
Tom Byron are the Fund's portfolio managers and are jointly and primarily
responsible for the day-to-day management of the Fund’s investment
portfolio.
•
Johnathan N. Wilhelm
is a Senior Vice President and Senior Portfolio Manager of First Trust. Mr.
Wilhelm joined First Trust in September 2013 as Senior Portfolio Manager for the
First Trust's Municipal Securities Team and has over 32 years of credit research
and portfolio management experience in corporate and municipal securities. Prior
to joining First Trust, Mr. Wilhelm was a Portfolio Manager for Municipal Bonds
at Performance Trust Investment Advisors for two and one-half years and Senior
Vice President and Portfolio Manager at Nuveen Investments for 11 years. Mr.
Wilhelm has a B.S. in Business from Miami University of Ohio and his J.D. from
DePaul University College of Law.
•
Ken Fincher is a
Senior Vice President and Portfolio Manager at First Trust. Mr. Fincher joined
First Trust with over 20 years of experience in financial markets. His current
responsibilities include management of separately managed accounts that invest
primarily in closed-end funds. He has also helped develop new product structures
in the closed-end fund space. Mr. Fincher has been named Outstanding Individual
Contributor to the Closed-End Fund Sector in 2007, 2006, 2005 and 2004 by
financial analysts and his peers in the closed-end fund community and also
served on the Closed-End Fund committee of the Investment Company Institute. Mr.
Fincher received a B.A. in financial administration from Michigan State
University and an M.B.A. from Loyola University Graduate School of
Business.
•
Tom Byron is a Senior
Vice President and Senior Portfolio Manager at First Trust. He joined First
Trust in 2022 and has over 40 years of experience in municipal unit trust and
municipal bond portfolio management. Prior to joining First Trust, Mr. Byron was
a Director and Portfolio Manager at BMO Global Asset Management for over six
years. Mr. Byron also was an Executive Director and Senior Portfolio Manager at
Invesco for five years and Morgan Stanley for thirteen years. Mr. Byron has a BS
from Marquette University and an MBA from DePaul University.
For
additional information concerning First Trust, including a description of the
services provided to the Fund, see the Fund’s SAI. Additional
information about the portfolio managers' compensation, other accounts managed
by the portfolio managers and the portfolio managers' ownership of shares of the
Fund is provided in the SAI.
Management
Fee
Pursuant
to an investment management agreement between First Trust and the Trust, on
behalf of the Fund (the “Investment
Management Agreement”), First Trust
manages the investment of the Fund’s assets. First Trust is paid an annual
unitary management fee by the Fund equal to 0.75% of the Fund's average daily
net assets and is responsible for the Fund's expenses, including the cost of
transfer agency, custody, fund administration, legal, audit and other services,
but excluding fee payments
24
under
the Investment Management Agreement, interest, taxes, acquired fund fees and
expenses, if any, brokerage commissions and other expenses
connected with the execution of portfolio transactions, distribution and service
fees payable pursuant to a Rule 12b-1 plan, if any, and extraordinary
expenses.
Pursuant to a
contractual agreement, First Trust has agreed to waive management fees of 0.20%
of average daily net assets through April 14, 2023. The waiver
agreement may be terminated by action of the Board at any time upon 60 days’
written notice by the Trust, on behalf of the Fund, or by First Trust only after
April 14, 2023.
Effective November
1, 2022, as approved by the Trust’s Board of Trustees, the management fee paid
to First Trust will be reduced at certain levels of Fund net
assets (“breakpoints”). See the Fund's Statement of
Additional Information for more information on the breakpoints.
A discussion
regarding the Board’s approval of the continuation of the Investment Management
Agreement is available in the Fund's Annual Report to Shareholders
for the fiscal year ended August 31, 2022.
How
to Buy and Sell Shares
Most
investors buy and sell shares of the Fund in secondary market transactions
through brokers. Shares of the Fund are listed for trading on the
secondary market on one or more national securities exchanges. Shares can be
bought and sold throughout the trading day like other publicly traded shares.
There is no minimum investment when buying shares on the Exchange. Although
shares are generally purchased and sold in “round lots” of 100 shares, brokerage
firms typically permit investors to purchase or sell shares in smaller “odd
lots,” at no per-share price differential. When buying or selling shares through
a broker, investors should expect to pay brokerage commissions, investors may
receive less than the net asset value of the shares because shares are bought
and sold at market prices rather than at net asset value, and investors may pay
some or all of the bid-ask spread for each transaction (purchase or sale) of
Fund shares. Share prices are reported in dollars and cents per
share.
Under
normal circumstances, the Fund will pay out redemption proceeds to a redeeming
authorized participant within two days after the
authorized participant’s redemption request is received, in accordance with the
process set forth in the Fund’s SAI and in the agreement between the authorized
participant and the Fund’s distributor. However, the Fund reserves the right,
including under stressed market conditions, to take up to seven days after the
receipt of a redemption request to pay an authorized participant, all as
permitted by the 1940 Act. If the Fund has foreign investments in a country
where a local market holiday, or series of consecutive holidays, or the extended
delivery cycles for transferring foreign investments to redeeming authorized
participants prevents the Fund from delivering such foreign investments to an
authorized participant in response to a redemption request, the Fund may take up
to 15 days after the receipt of the redemption request to deliver such
investments to the authorized participant.
For purposes of the
1940 Act, the Fund is treated as a registered investment company, and the acquisition of shares by
other registered investment companies and companies relying on Section 3(c)(1)
or 3(c)(7) of the 1940 Act is subject to the restrictions of Section 12(d)(1) of
the 1940 Act and the related rules and interpretations.
Book
Entry
Shares
are held in book-entry form, which means that no share certificates are issued.
The Depository Trust Company (“DTC”) or its nominee is
the record owner of all outstanding shares of the Fund and is recognized as the
owner of all shares for all purposes.
Investors
owning shares are beneficial owners as shown on the records of DTC or its
participants. DTC serves as the securities depository for all
shares. Participants in DTC include securities brokers and dealers, banks, trust
companies, clearing corporations and other institutions that directly or
indirectly maintain a custodial relationship with DTC. As a beneficial owner of
shares, you are not entitled to receive physical delivery of share certificates
or to have shares registered in your name, and you are not considered a
registered owner of shares. Therefore, to exercise any right as an owner of
shares, you must rely upon the procedures of DTC and its participants. These
procedures are the same as those that apply to any other stocks that you hold in
book-entry or “street name” form.
25
Share
Trading Prices
The
trading price of shares of the Fund on the secondary market is based on market
price and may differ from the Fund’s daily net asset value and
can be affected by market forces of supply and demand, economic conditions and
other factors.
Frequent
Purchases and Redemptions of the Fund's Shares
The
Fund imposes no restrictions on the frequency of purchases and redemptions
(“market
timing”). In determining not
to approve a written, established policy, the Board evaluated the risks of
market timing activities by the Fund's shareholders. The Board considered that
the Fund's shares can only be purchased and redeemed directly from the Fund in
Creation Units by broker-dealers and large institutional investors that have
entered into participation agreements (i.e., authorized
participants (“APs”)) and that the vast
majority of trading in the Fund's shares occurs on the secondary market. Because
the secondary market trades do not involve the Fund directly, it is unlikely
those trades would cause many of the harmful effects of market timing, including
dilution, disruption of portfolio management, increases in the Fund's trading
costs and the realization of capital gains. With respect to trades directly with
the Fund, to the extent effected in‑kind (i.e., for securities),
those trades do not cause any of the harmful effects that may result from
frequent cash trades. To the extent that the Fund may effect the purchase or
redemption of Creation Units in exchange wholly or partially for cash, the Board
noted that such trades could result in dilution to the Fund and increased
transaction costs, which could negatively impact the Fund's ability to achieve
its investment objectives. However, the Board noted that direct trading by APs
is critical to ensuring that the shares trade at or close to net asset value. In
addition, the Fund imposes fixed and variable transaction fees on purchases and
redemptions of Creation Units to cover the custodial and other costs incurred by
the Fund in effecting trades. Finally, the Advisor monitors purchase and
redemption orders from APs for patterns of abusive trading and the Fund reserves
the right to not accept orders from APs that the Advisor has determined may be
disruptive to the management of the Fund.
Dividends,
Distributions and Taxes
Dividends
from net investment income, if any, are declared and paid at least monthly by
the Fund. The Fund distributes its net realized capital
gains, if any, to shareholders at least annually.
Distributions
in cash may be reinvested automatically in additional whole shares only if the
broker through whom you purchased shares makes such
option available. Such shares will generally be reinvested by the broker based
upon the market price of those shares and investors may be subject to customary
brokerage commissions charged by the broker.
Federal
Tax Matters
This
section summarizes some of the main U.S. federal income tax consequences of
owning shares of the Fund. This section is current as of the
date of this prospectus. Tax laws and interpretations change frequently, and
these summaries do not describe all of the tax consequences to all taxpayers.
For example, these summaries generally do not describe your situation if you are
a corporation, a non-U.S. person, a broker-dealer, or other investor with
special circumstances. In addition, this section does not describe your state,
local or non-U.S. tax consequences.
This federal income
tax summary is based in part on the advice of counsel to the Fund. The Internal
Revenue Service ("IRS") could disagree with any conclusions
set forth in this section. The following disclosure may not be sufficient for
you to use for the purpose of avoiding penalties under federal tax
law.
As with any
investment, you should seek advice based on your individual circumstances from
your own tax advisor.
Fund
Status
The Fund intends to
continue to qualify as a “regulated investment company” (a “RIC”) under the federal tax laws. If the
Fund qualifies as a RIC and distributes its income as required by the tax law,
the Fund generally will not pay federal income taxes.
Distributions
After the end of
each year, you will receive a tax statement that separates the distributions of
the Fund into three categories: exempt-interest dividends, ordinary
income distributions and capital gain dividends. Dividends that qualify as
“exempt-interest dividends” generally are excluded from your gross income for
federal income tax purposes. Some or all of the exempt-interest dividends,
however, may be taken into account in determining the alternative minimum tax on
individuals and may have other tax consequences (e.g., they may affect the
amount of your social security benefits that are taxed). For tax years beginning
after December 31, 2022, exempt-interest dividends may affect the corporate
alternative minimum tax for certain
26
corporations. Ordinary income distributions are
generally taxed at your ordinary tax rate, however, as further discussed below,
certain ordinary income distributions received from the Fund may be taxed at the
capital gains tax rates Generally, you will treat all capital gain dividends as
long-term capital gains regardless of how long you have owned your
shares.
To
determine your actual tax liability for your capital gain dividends, you must
calculate your total net capital gain or loss for the tax year after
considering all of your other taxable transactions, as described below. In
addition, the Fund may make distributions that represent a return of capital for
tax purposes and thus will generally not be taxable to you; however, such
distributions may reduce your tax basis in your shares, which could result in
you having to pay higher taxes in the future when shares are sold, even if you
sell the shares at a loss from your original investment. A "return of capital"
is a return, in whole or in part, of the funds that you previously invested in
the Fund. A return of capital distribution should not be considered part of the
Fund’s dividend yield or total return of an investment in Fund shares. The tax
status of your distributions from the Fund is not affected by whether you
reinvest your distributions in additional shares or receive them in cash. The
income from the Fund that you must take into account for federal income tax
purposes is not reduced by amounts used to pay a deferred sales fee, if any. The
tax laws may require you to treat distributions made to you in January as if you
had received them on December 31 of the previous year.
Income
from the Fund may also be subject to a 3.8% “Medicare tax.” This tax generally
applies to your net investment income if your adjusted
gross income exceeds certain threshold amounts, which are $250,000 in the case
of married couples filing joint returns and $200,000 in the case of single
individuals. Interest that is excluded from gross income and exempt-interest
dividends from the Fund are generally not included in your net investment income
for purposes of this tax.
Dividends
Received Deduction
A corporation that
owns shares generally will not be entitled to the dividends received deduction
with respect to many dividends received from the Fund because the
dividends received deduction is generally not available for distributions from
RICs. However, certain ordinary income dividends on
shares that are attributable to qualifying dividends received by the Fund from
certain corporations may be reported by the Fund as being eligible for the
dividends received deduction.
Capital Gains
and Losses and Certain Ordinary Income Dividends
If
you are an individual, the maximum marginal stated federal tax rate for net
capital gain is generally 20% (15% or 0% for taxpayers with
taxable incomes below certain thresholds).Some capital gains, including some
portion of your capital gain dividends may be taxed at a higher maximum stated
tax rate. Capital gains may also be subject to the Medicare tax described
above.
Net
capital gain equals net long-term capital gain minus net short-term capital loss
for the taxable year. Capital gain or loss is long-term if the
holding period for the asset is more than one year and is short-term if the
holding period for the asset is one year or less. You must exclude the date you
purchase your shares to determine your holding period. If you hold a share for
six months or less, any loss incurred by you related to the disposition of such
share will be disallowed to the extent of the exempt-interest dividends you
received, except in the case of a regular dividend paid by the Fund if the Fund
declares exempt-interest dividends on a daily basis in an amount equal to at
least 90 percent of its net tax-exempt interest and distributes such dividends
on a monthly or more frequent basis. To the extent, if any, it is not
disallowed, it will be recharacterized as long-term capital loss to the extent
of any capital gain dividend received. The tax rates for capital gains realized
from assets held for one year or less are generally the same as for ordinary
income. The Internal Revenue Code of 1986, as amended, treats certain capital
gains as ordinary income in special situations.
An
election may be available to you to defer recognition of the gain attributable
to a capital gain dividend if you make certain qualifying
investments within a limited time. You should talk to your tax advisor about the
availability of this deferral election and its requirements.
Ordinary income
dividends received by an individual shareholder from a regulated investment
company such as the Fund are generally taxed at the same rates
that apply to net capital gain (as discussed above), provided certain holding
period requirements are satisfied and provided the dividends are attributable to
qualifying dividends received by the Fund itself. The Fund will provide notice
to its shareholders of the amount of any distribution which may be taken into
account as a dividend which is eligible for the capital gains tax
rates.
Sale
of Shares
If
you sell or redeem your shares, you will generally recognize a taxable gain or
loss. To determine the amount of this gain or loss, you must
subtract your tax basis in your shares from the amount you receive in the
transaction. Your tax basis in your
27
shares is generally
equal to the cost of your shares, generally including brokerage fees, if any. In some
cases, however, you may have to adjust your tax basis after you purchase your
shares. Further, if you hold your shares for six months or less, any loss
incurred by you related to the disposition of such a share will be disallowed to
the extent of the exempt-interest dividends you received, except as otherwise
described in the prior paragraph. An election may be available to you to defer
recognition of capital gain if you make certain qualifying investments within a
limited time. You should talk to your tax advisor about the availability of this
deferral election and its requirements.
Taxes
on Purchase and Redemption of Creation Units
If you exchange
securities for Creation Units, you will generally recognize a gain or a loss.
The gain or loss will be equal to the difference between the market value
of the Creation Units at the time and your aggregate basis in the securities
surrendered and the cash component paid. If you exchange Creation Units for
securities, you will generally recognize a gain or loss equal to the difference
between your basis in the Creation Units and the aggregate market value of the
securities received and the cash redemption amount. The IRS, however, may assert
that a loss realized upon an exchange of securities for Creation Units or
Creation Units for securities cannot be deducted currently under the rules
governing “wash sales,” or on the basis that there has been no significant
change in economic position.
Treatment
of Expenses
Expenses
incurred and deducted by the Fund will generally not be treated as income
taxable to you. Because the Fund pays exempt-interest
dividends, which are treated as exempt interest for federal income tax purposes,
you will not be able to deduct some of your interest expense for debt (if any)
that you incur or continue to purchase or carry your shares.
Non-U.S. Tax
Credit
If the Fund invests
in non-U.S. securities, the tax statement that you receive may include an item
showing non-U.S. taxes the Fund paid to other countries. In this
case, dividends taxed to you will include your share of the taxes the Fund paid
to other countries. You may be able to deduct or receive a tax credit for your
share of these taxes.
Non-U.S.
Investors
If you are a
non-U.S. investor (i.e., an investor other than a U.S.
citizen or resident or a U.S. corporation, partnership, estate or trust), you
should be aware that, generally, subject to applicable tax treaties,
distributions from the Fund will be characterized as dividends for federal
income tax purposes (other than dividends which the Fund properly reports as
capital gain dividends) and, other than exempt-interest dividends, will be
subject to U.S. federal income taxes, including withholding taxes, subject to
certain exceptions described below. However, distributions received by a
non-U.S. investor from the Fund that are properly reported by the Fund as
capital gain dividends may not be subject to U.S. federal income taxes,
including withholding taxes, provided that the Fund makes certain elections and
certain other conditions are met. Distributions from the Fund that are properly
reported by the Fund as an interest-related dividend attributable to certain
interest income received by the Fund or as a short-term capital gain dividend
attributable to certain net short-term capital gain income received by the Fund
may not be subject to U.S. federal income taxes, including withholding taxes
when received by certain non-U.S. investors, provided that the Fund makes
certain elections and certain other conditions are met. For tax years after
December 31, 2022, amounts paid to or recognized by a non-U.S. affiliate that
are excluded from tax under the portfolio interest, capital gain dividends,
short-term capital gains or tax-exempt interest dividend exceptions or
applicable treaties, may be taken into consideration in determining whether a
corporation is an “applicable corporation” subject to a 15% minimum tax on
adjusted financial statement income.
Distributions
may be subject to a U.S. withholding tax of 30% in the case of distributions to
(i) certain non-U.S. financial institutions that
have not entered into an agreement with the U.S. Treasury to collect and
disclose certain information and are not resident in a jurisdiction that has
entered into such an agreement with the U.S. Treasury and (ii) certain other
non-U.S. entities that do not provide certain certifications and information
about the entity’s U.S. owners. This withholding tax is also currently scheduled
to apply to the gross proceeds from the disposition of securities that produce
U.S. source interest or dividends. However, proposed regulations may eliminate
the requirement to withhold on payments of gross proceeds from
dispositions.
Investments in
Certain Non-U.S. Corporations
If the Fund holds an
equity interest in any “passive foreign investment companies” (“PFICs”), which are generally certain
non-U.S. corporations that receive at least 75% of their annual gross income
from passive sources (such as interest, dividends, certain rents and royalties
or capital gains) or that hold at least 50% of their assets in investments
producing such passive income,
28
the Fund could be
subject to U.S. federal income tax and additional interest charges on gains and
certain distributions with respect to those equity interests,
even if all the income or gain is timely distributed to its shareholders. The
Fund will not be able to pass through to its shareholders any credit or
deduction for such taxes. The Fund may be able to make an election that could
ameliorate these adverse tax consequences. In this case, the Fund would
recognize as ordinary income any increase in the value of such PFIC shares, and
as ordinary loss any decrease in such value to the extent it did not exceed
prior increases included in income. Under this election, the Fund might be
required to recognize in a year income in excess of its distributions from PFICs
and its proceeds from dispositions of PFIC stock during that year, and such
income would nevertheless be subject to the distribution requirement and would
be taken into account for purposes of the 4% excise tax. Dividends paid by PFICs
are not treated as qualified dividend income.
Distribution
Plan
FTP
serves as the distributor of Creation Units for the Fund on an agency basis. FTP
does not maintain a secondary market in shares.
The
Board has adopted a Distribution and Service Plan pursuant to Rule 12b-1 under
the 1940 Act. In accordance with the Rule 12b-1 plan, the
Fund is authorized to pay an amount up to 0.25% of its average daily net assets
each year to reimburse FTP for amounts expended to finance activities primarily
intended to result in the sale of Creation Units or the provision of investor
services. FTP may also use this amount to compensate securities dealers or other
persons that are APs for providing distribution assistance, including
broker-dealer and shareholder support and educational and promotional
services.
The Fund does not
currently pay 12b-1 fees, and pursuant to a contractual arrangement, the Fund
will not pay 12b-1 fees any time before December 31, 2023.
However, in the event 12b-1 fees are charged in the future, because these fees
are paid out of the Fund's assets, over time these fees will increase the cost
of your investment and may cost you more than certain other types of sales
charges.
Net
Asset Value
The
Fund's net asset value is determined as of the close of trading (normally 4:00
p.m., Eastern Time) on each day the New York Stock Exchange
is open for trading. If the New York Stock Exchange closes early on a valuation
day, the Fund’s net asset value will be determined as of that time. Net asset
value per share is calculated for the Fund by taking the market price of the
Fund’s total assets, including interest or dividends accrued but not yet
collected, less all liabilities (including accrued expenses and dividends
declared but unpaid), and dividing such amount by the total number of shares
outstanding. The result, rounded to the nearest cent, is the net asset value per
share. All valuations are subject to review by the Board or its
delegate.
The Fund's
investments are valued daily at market value or, in the absence of market value
with respect to any portfolio securities, at fair value, in
accordance with valuation procedures approved by the Board and in accordance
with the 1940 Act and the rules thereunder. Rule 2a-5 under the 1940 Act
requires the fair valuation of all portfolio investments for which market
quotations are not readily available. Pursuant to Rule 2a-5 under the 1940 Act,
the Board has appointed the Advisor as its valuation designee for all portfolio
investments. Portfolio securities listed on any exchange other than Nasdaq and
the London Stock Exchange Alternative Investment Market (“AIM”) are valued at the last sale price
on the business day as of which such value is being determined. Securities
listed on Nasdaq or AIM are valued at the official closing price on the business
day as of which such value is being determined. Portfolio securities traded on
more than one securities exchange are valued at the last sale price or official
closing price, as applicable, on the business day as of which such value is
being determined at the close of the exchange representing the primary exchange
for such securities. Portfolio securities traded in the over-the-counter market,
but excluding securities trading on Nasdaq or AIM, are valued at the mean of
their most recent bid and asked price, if available, and otherwise at the last
trade price. Short-term investments that mature in less than 60 days when
purchased are fair valued at cost adjusted for amortization of premiums and
accretion of discount, provided the Advisor has determined that the use of
amortized cost is an appropriate reflection of fair value given market and
issuer-specific conditions existing at the time of the determination. Net asset
value may change on days when investors may not purchase or sell Fund
shares.
Certain securities
may not be able to be priced by pre-established pricing methods. Such securities
may be valued by the Advisor at fair value. The use of fair value
pricing by the Fund is governed by valuation procedures approved by the Board
and in accordance with the provisions of the 1940 Act and the rules thereunder.
These securities generally include, but are not limited to, certain restricted
securities (securities which may not be publicly sold without registration under
the Securities Act of 1933) for which a pricing service is unable to provide a
market price; securities whose trading has been formally suspended; a security
whose market or fair value price is not available from a pre-established pricing
source; a security with respect to which an
29
event has occurred
that is likely to materially affect the value of the security after the market
has closed but before the calculation of the Fund's net asset value or make
it difficult or impossible to obtain a reliable market quotation; and a security
whose price, as provided by the pricing service, does not, in the opinion of the
Advisor, reflect the security’s fair value. As a general principle, the current
fair value of a security would appear to be the amount which the owner might
reasonably expect to receive for the portfolio investment upon the measurement
date under current market conditions. When fair value prices are used, generally
they will differ from the current market quotations or official closing prices
on the applicable exchange. A variety of factors may be considered in
determining the fair value of such securities. See the Fund's SAI for
details.
Because
foreign securities exchanges may be open on different days than the days during
which an investor may purchase or sell shares of the
Fund, the value of the Fund's securities may change on days when investors are
not able to purchase or sell shares of the Fund. The value of securities
denominated in foreign currencies is converted into U.S. dollars at the exchange
rates in effect at the time of valuation.
Fund
Service Providers
The
Bank of New York Mellon, 240 Greenwich Street, New York, New York 10286, acts as
the administrator, custodian and fund accounting and
transfer agent for the Fund. Chapman and Cutler LLP, 320 S. Canal St., Chicago,
Illinois 60606, serves as legal counsel to the Fund. First Trust serves as the
fund reporting agent for the Fund.
Premium/Discount
Information
Information
showing the number of days the market price of the Fund's shares was greater (at
a premium) and less (at a discount) than the Fund's net
asset value for the most recently completed year, and the most recently
completed calendar quarters since that year (or life of the Fund, if shorter),
is available at https://www.ftportfolios.com/Retail/etf/home.aspx.
Total
Return Information
The table below
compares the total return of the Fund to a broad-based market index, a market
index and a blended benchmark. The information presented for the Fund is for the
period indicated. The total returns would have been lower if certain fees had
not been waived and expenses reimbursed by First Trust.
“Average
annual total returns” represent the average annual change in the value of an
investment over the period indicated. “Cumulative total
returns” represent the total change in value of an investment over the period
indicated. The return information shown under “Annual Total Return” in the
Fund’s summary prospectus represents the average annual total returns of the
Fund as of the calendar year end, while the information presented below is as of
the Fund’s fiscal year end. The net asset value per share of the Fund is the
value of one share of the Fund and is computed by dividing the value of all
assets of the Fund (including accrued interest and dividends), less liabilities
(including accrued expenses and dividends declared but unpaid), by the total
number of outstanding shares. The net asset value return is based on the net
asset value per share of the Fund and the market return is based on the market
price per share of the Fund. The price used to calculate market return
(“Market
Price”)
is determined by using the midpoint of the national best bid and offer price
(“NBBO”) as of the time that
the Fund’s net asset value is calculated. Under SEC rules, the NBBO consists of
the highest displayed buy and lowest sell prices among the various exchanges
trading the Fund at the time the Fund's net asset value is calculated. Prior to
January 1, 2019, the price used was the midpoint between the highest bid and the
lowest offer on the stock exchange on which shares of the Fund were listed for
trading as of the time that the Fund's net asset value was calculated. Since the
shares of the Fund typically do not trade in the secondary market until several
days after the Fund's inception, for the period from inception to the first day
of secondary market trading in shares of the Fund, the net asset value of the
Fund is used as a proxy for the secondary market trading price to calculate
market returns. Market and net asset value returns assume that all distributions
have been reinvested in the Fund at Market Price and net asset value,
respectively. An index is a statistical composite that tracks a specified
financial market or sector. Unlike the Fund, an index does not actually hold a
portfolio of securities and therefore does not incur the expenses incurred by
the Fund. These expenses negatively impact the performance of the Fund. Also,
market returns do not include brokerage commissions that may be payable on
secondary market transactions. If brokerage commissions were included, market
returns would be lower. The total returns reflect the reinvestment of dividends
on securities in the index. The returns shown in the table below do not reflect
the deduction of taxes that a shareholder would pay on Fund distributions or the
redemption or sale of shares of the Fund. The investment return and principal
value of shares of the Fund will vary with changes in market conditions. Shares
of the Fund may be worth more or less than their original cost when they are
redeemed or sold in the market. The Fund's past performance is no guarantee of
future results.
30
First
Trust Flexible Municipal High Income ETF (MFLX)
Total Returns as of August 31, 2022
Total Returns as of August 31, 2022
|
|
|
Average
Annual |
Cumulative | ||
|
|
1
Year |
5
Years |
Inception
(9/27/2016) |
5
Years |
Inception
(9/27/2016) |
|
Fund
Performance |
|
|
|
|
|
|
Net Asset
Value |
-18.91% |
0.87% |
0.60% |
4.44% |
3.60% |
|
Market
Price |
-19.16% |
0.78% |
0.54% |
3.96% |
3.22% |
|
Index
Performance |
|
|
|
|
|
|
Bloomberg
Municipal Long Bond (22+) Index |
-14.09% |
1.02% |
1.03% |
5.18% |
6.29% |
|
Blended
Benchmark(1) |
-9.35% |
2.41% |
2.30% |
12.64% |
14.45% |
|
Bloomberg
Municipal Bond Index |
-8.63% |
1.28% |
1.29% |
6.55% |
7.91% |
(1)
The Blended
Benchmark returns are a 50/50 split between the Bloomberg Municipal High Yield
Bond Index and the Bloomberg Municipal Bond Index.
31
Financial
Highlights
The financial
highlights table is intended to help you understand the Fund's financial
performance for the periods shown. Certain information reflects financial
results for a single share of the Fund. The total returns represent the rate
that an investor would have earned (or lost) on an investment in the Fund
(assuming reinvestment of all dividends and distributions). The information for
the periods indicated has been derived from financial statements audited by
Deloitte & Touche LLP, whose report, along with the Fund's financial
statements, is included in the Fund's Annual Report to Shareholders dated August
31, 2022 and is incorporated by reference in the Fund's SAI, which is available
upon request.
First
Trust Exchange-Traded Fund VIII
Financial
Highlights
For a share outstanding throughout each period
For a share outstanding throughout each period
First
Trust Flexible Municipal High Income ETF (MFLX)
|
|
Year
Ended August 31, | ||||
|
|
2022 |
2021 |
2020 |
2019 |
2018 |
|
Net
asset value, beginning of period |
$21.56 |
$19.21 |
$19.61 |
$17.94 |
$19.20 |
|
Income
from investment operations: |
|
|
|
|
|
|
Net
investment income (loss) |
0.67 |
0.70 |
0.68 |
0.62 |
0.64 |
|
Net
realized and unrealized gain (loss) |
(4.68) |
2.39 |
(0.48) |
1.65 |
(1.24) |
|
Total
from investment operations |
(4.01) |
3.09 |
0.20 |
2.27 |
(0.60) |
|
Distributions
paid to shareholders from: |
|
|
|
|
|
|
Net
investment income |
(0.72) |
(0.74) |
(0.60) |
(0.60) |
(0.64) |
|
Net
realized gain |
(0.03) |
(0.00)(d) |
— |
— |
— |
|
Return of
capital |
(0.01) |
— |
— |
— |
(0.02) |
|
Total
Distributions |
(0.76) |
(0.74) |
(0.60) |
(0.60) |
(0.66) |
|
Net
asset value, end of period |
$16.79 |
$21.56 |
$19.21 |
$19.61 |
$17.94 |
|
Total
Return (a) |
(18.91)% |
16.37% |
1.10% |
12.96% |
(3.09)% |
|
Ratios/supplemental
data: |
|
|
|
|
|
|
Net
assets, end of period (in 000’s) |
$14,272 |
$18,328 |
$8,646 |
$10,785 |
$13,454 |
|
Ratios
to average net assets: |
|
|
|
|
|
|
Ratio of
total expenses to average net assets (b) |
0.75% |
0.75% |
0.75% |
0.75% |
0.75% |
|
Ratio of
net expenses to average net assets |
0.69% |
— |
— |
— |
— |
|
Ratio of
net investment income (loss) to average net assets |
3.55% |
3.57% |
3.49% |
3.49% |
3.54% |
|
Portfolio
turnover rate (c) |
109%(e) |
17% |
7% |
20% |
11% |
(a)
Total return is
calculated assuming an initial investment made at the net asset value at the
beginning of the period, reinvestment of all distributions at net asset value
during the period, and redemption at net asset value on the last day of the
period. The returns presented do not reflect the deduction of taxes that a
shareholder would pay on Fund distributions or the redemption or sale of Fund
shares. Total return is calculated for the time period presented and is not
annualized for periods of less than a year. Total returns would have been lower
if certain fees had not been waived by the investment advisor.
(b)
The Fund
indirectly bears its proportionate share of fees and expenses incurred by the
underlying funds in which the Fund invests. This ratio does not include these
indirect fees and expenses.
(c)
Portfolio
turnover is calculated for the time period presented and is not annualized for
periods of less than a year and does not include securities received or
delivered from processing creations or redemptions and in-kind
transactions.
(d)
Amount is less
than $0.01.
(e)
The variation
in the portfolio turnover rate is due to the change in the Fund’s investment
strategy effective April 14, 2022 which resulted in a rebalance of the Fund’s
portfolio.
32
Other
Information
Continuous
Offering
The
Fund issues, on a continuous offering basis, its shares in one or more groups of
a fixed number of Fund shares (each such group of such
specified number of individual Fund shares, a “Creation
Unit Aggregation”). The method by
which Creation Unit Aggregations of Fund shares are created and traded may raise
certain issues under applicable securities laws. Because new Creation Unit
Aggregations of shares are issued and sold by the Fund on an ongoing basis, a
“distribution,” as such term is used in the Securities Act, may occur at any
point. Broker-dealers and other persons are cautioned that some activities on
their part may, depending on the circumstances, result in their being deemed
participants in a distribution in a manner which could render them statutory
underwriters and subject them to the prospectus delivery requirement and
liability provisions of the Securities Act.
For
example, a broker-dealer firm or its client may be deemed a statutory
underwriter if it takes Creation Unit Aggregations after placing an
order with FTP, breaks them down into constituent shares and sells such shares
directly to customers, or if it chooses to couple the creation of a supply of
new shares with an active selling effort involving solicitation of secondary
market demand for shares. A determination of whether one is an underwriter for
purposes of the Securities Act must take into account all the facts and
circumstances pertaining to the activities of the broker-dealer or its client in
the particular case, and the examples mentioned above should not be considered a
complete description of all the activities that could lead to a characterization
as an underwriter.
Broker-dealer
firms should also note that dealers who are not “underwriters” but are effecting
transactions in shares, whether or not participating
in the distribution of shares, are generally required to deliver a prospectus.
This is because the prospectus delivery exemption in Section 4(a)(3) of the
Securities Act is not available in respect of such transactions as a result of
Section 24(d) of the 1940 Act. As a result, broker-dealer firms should note that
dealers who are not underwriters but are participating in a distribution (as
contrasted with ordinary secondary market transactions) and thus dealing with
the shares that are part of an overallotment within the meaning of Section
4(a)(3)(C) of the Securities Act would be unable to take advantage of the
prospectus delivery exemption provided by Section 4(a)(3) of the Securities Act.
Firms that incur a prospectus delivery obligation with respect to shares are
reminded that, under the Securities Act Rule 153, a prospectus delivery
obligation under Section 5(b)(2) of the Securities Act owed to a broker-dealer
in connection with a sale on the Exchange is satisfied by the fact that the
prospectus is available from the Exchange upon request. The prospectus delivery
mechanism provided in Rule 153 is available with respect to transactions on a
national securities exchange, a trading facility or an alternative trading
system.
33
|
First
Trust
Exchange-Traded
Fund VIII |
First Trust Flexible Municipal High Income ETF
(formerly,
First Trust Municipal CEF Income Opportunity ETF)
For
More Information
For
more detailed information on the Fund, several additional sources of information
are available to you. The SAI, incorporated by
reference into this prospectus, contains detailed information on the Fund's
policies and operation. Additional information about the Fund's investments is
available in the annual and semi-annual reports to shareholders. In the Fund's
annual report, you will find a discussion of the market conditions and
investment strategies that significantly impacted the Fund's performance during
the last fiscal year. The Fund's most recent SAI, annual and semi-annual reports
and certain other information are available free of charge by calling the Fund
at (800) 621-1675, on the Fund's website at www.ftportfolios.com or through your
financial advisor. Shareholders may call the toll-free number above with any
inquiries.
You
may obtain this and other information regarding the Fund, including the SAI and
the Codes of Ethics adopted by First Trust, FTP
and the Trust, directly from the SEC. Information on the SEC’s website is free
of charge. Visit the SEC’s online EDGAR database at www.sec.gov. You may also
request information regarding the Fund by sending a request (along with a
duplication fee) to the SEC by sending an electronic request to
[email protected].
First Trust
Advisors L.P.
120 East Liberty Drive, Suite 400
Wheaton, Illinois 60187
(800) 621-1675
120 East Liberty Drive, Suite 400
Wheaton, Illinois 60187
(800) 621-1675
www.ftportfolios.com
SEC
File #: 333-210186
811-23147
811-23147