UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM N-CSR
CERTIFIED SHAREHOLDER REPORT OF REGISTERED MANAGEMENT
INVESTMENT COMPANIES
Investment Company Act file number 811-21842
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First Trust Strategic High Income Fund II
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(Exact name of registrant as specified in charter)
120 East Liberty Drive, Suite 400
Wheaton, IL 60187
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(Address of principal executive offices) (Zip code)
W. Scott Jardine, Esq.
First Trust Portfolios L.P.
120 East Liberty Drive, Suite 400
Wheaton, IL 60187
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(Name and address of agent for service)
registrant's telephone number, including area code: 630-765-8000
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Date of fiscal year end: October 31
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Date of reporting period: October 31, 2013
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Form N-CSR is to be used by management investment companies to file reports with
the Commission not later than 10 days after the transmission to stockholders of
any report that is required to be transmitted to stockholders under Rule 30e-1
under the Investment Company Act of 1940 (17 CFR 270.30e-1). The Commission may
use the information provided on Form N-CSR in its regulatory, disclosure review,
inspection, and policymaking roles.
A registrant is required to disclose the information specified by Form N-CSR,
and the Commission will make this information public. A registrant is not
required to respond to the collection of information contained in Form N-CSR
unless the Form displays a currently valid Office of Management and Budget
("OMB") control number. Please direct comments concerning the accuracy of the
information collection burden estimate and any suggestions for reducing the
burden to Secretary, Securities and Exchange Commission, 100 F Street, NE,
Washington, DC 20549. The OMB has reviewed this collection of information under
the clearance requirements of 44 U.S.C. ss. 3507.
ITEM 1. REPORTS TO STOCKHOLDERS.
The Report to Shareholders is attached herewith.
FIRST TRUST
STRATEGIC
High Income
Fund II (FHY)
ANNUAL REPORT
FOR THE YEAR ENDED
OCTOBER 31, 2013
FIRST TRUST BROOKFIELD
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TABLE OF CONTENTS
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FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
ANNUAL REPORT
OCTOBER 31, 2013
Shareholder Letter............................................................ 1
At A Glance................................................................... 2
Portfolio Commentary.......................................................... 3
Portfolio of Investments...................................................... 6
Statement of Assets and Liabilities...........................................15
Statement of Operations.......................................................16
Statements of Changes in Net Assets...........................................17
Statement of Cash Flows.......................................................18
Financial Highlights..........................................................19
Notes to Financial Statements.................................................20
Report of Independent Registered Public Accounting Firm.......................27
Additional Information........................................................28
Board of Trustees and Officers................................................33
Privacy Policy................................................................35
CAUTION REGARDING FORWARD-LOOKING STATEMENTS
This report contains certain forward-looking statements within the meaning of
the Securities Act of 1933, as amended, and the Securities Exchange Act of 1934,
as amended. Forward-looking statements include statements regarding the goals,
beliefs, plans or current expectations of First Trust Advisors L.P. ("First
Trust" or the "Advisor") and/or Brookfield Investment Management Inc.
("Brookfield" or the "Sub-Advisor") and their respective representatives, taking
into account the information currently available to them. Forward-looking
statements include all statements that do not relate solely to current or
historical fact. For example, forward-looking statements include the use of
words such as "anticipate," "estimate," "intend," "expect," "believe," "plan,"
"may," "should," "would" or other words that convey uncertainty of future events
or outcomes.
Forward-looking statements involve known and unknown risks, uncertainties and
other factors that may cause the actual results, performance or achievements of
First Trust Strategic High Income Fund II (the "Fund") to be materially
different from any future results, performance or achievements expressed or
implied by the forward-looking statements. When evaluating the information
included in this report, you are cautioned not to place undue reliance on these
forward-looking statements, which reflect the judgment of the Advisor and/or
Sub-Advisor and their respective representatives only as of the date hereof. We
undertake no obligation to publicly revise or update these forward-looking
statements to reflect events and circumstances that arise after the date hereof.
PERFORMANCE AND RISK DISCLOSURE
There is no assurance that the Fund will achieve its investment objectives. The
Fund is subject to market risk, which is the possibility that the market values
of securities owned by the Fund will decline and that the value of the Fund
shares may therefore be less than what you paid for them. Accordingly, you can
lose money by investing in the Fund. See "Risk Considerations" in the Additional
Information section of this report for a discussion of certain other risks of
investing in the Fund.
Performance data quoted represents past performance, which is no guarantee of
future results, and current performance may be lower or higher than the figures
shown. For the most recent month-end performance figures, please visit
http://www.ftportfolios.com or speak with your financial advisor. Investment
returns, net asset value and common share price will fluctuate and Fund shares,
when sold, may be worth more or less than their original cost.
HOW TO READ THIS REPORT
This report contains information that may help you evaluate your investment. It
includes details about the Fund and presents data and analysis that provide
insight into the Fund's performance and investment approach.
By reading the portfolio commentary by the portfolio management team of the
Fund, you may obtain an understanding of how the market environment affected the
Fund's performance. The statistical information that follows may help you
understand the Fund's performance compared to that of relevant market
benchmarks.
It is important to keep in mind that the opinions expressed by personnel of
Brookfield are just that: informed opinions. They should not be considered to be
promises or advice. The opinions, like the statistics, cover the period through
the date on the cover of this report. The risks of investing in the Fund are
spelled out in the prospectus, the statement of additional information, this
report and other Fund regulatory filings.
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SHAREHOLDER LETTER
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FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
ANNUAL LETTER FROM THE CHAIRMAN AND CEO
OCTOBER 31, 2013
Dear Shareholders:
I am pleased to present you with the annual report for your investment in First
Trust Strategic High Income Fund II (the "Fund").
As a shareholder, twice a year you receive a detailed report about your
investment, including portfolio commentary from the Fund's management team, a
performance analysis, and a market and Fund outlook. Additionally, First Trust
Advisors L.P. ("First Trust") compiles the Fund's financial statements for you
to review. These reports are intended to keep you up-to-date on your investment,
and I encourage you to read this document and discuss it with your financial
advisor.
As you are probably aware, the twelve months covered by this report saw both
challenging economic and political issues in the U.S. However, the period was
still positive for the markets. In fact, the S&P 500 Index, as measured on a
total return basis, rose 27.18% during the twelve months ended October 31, 2013.
Of course, past performance can never be an indicator of future performance, but
First Trust believes that staying invested in quality products through up and
down markets and having a long-term horizon can help investors as they work
toward their financial goals.
First Trust continues to offer a variety of products that we believe could fit
many financial plans for investors seeking long-term investment success. Your
financial advisor can tell you about the other investments First Trust offers
that might fit your financial goals. We encourage you to discuss those goals
with your financial advisor regularly so that he or she can help keep you on
track and help you choose investments that match your goals.
First Trust will continue to make available up-to-date information about your
investments so you and your financial advisor are current on any First Trust
investments you own. We value our relationship with you, and thank you for the
opportunity to assist you in achieving your financial goals.
Sincerely,
/s/ James A. Bowen
James A. Bowen
Chairman of the Board of Trustees
Chief Executive Officer of First Trust Advisors L.P.
Page 1
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
"AT A GLANCE"
AS OF OCTOBER 31, 2013 (UNAUDITED)
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FUND STATISTICS
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Symbol on New York Stock Exchange FHY
Common Share Price $15.97
Common Share Net Asset Value ("NAV") $17.52
Premium (Discount) to NAV (8.85)%
Net Assets Applicable to Common Shares $148,238,237
Current Monthly Distribution per Common Share (1) $0.12
Current Annualized Distribution per Common Share $1.44
Current Distribution Rate on Closing Common Share Price (2) 9.02%
Current Distribution Rate on NAV (2) 8.22%
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COMMON SHARE PRICE & NAV (WEEKLY CLOSING PRICE)
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Common Share Price NAV
10/12 17.69 17.06
17.78 16.98
17.43 16.93
16.40 16.79
16.68 16.91
11/12 17.05 17.06
16.59 17.12
16.42 17.24
16.57 17.27
12/12 16.43 17.28
16.93 17.34
17.02 17.52
17.20 17.56
1/13 17.28 17.66
17.09 17.47
17.03 17.42
17.15 17.46
2/13 17.20 17.46
17.45 17.38
17.36 17.48
16.89 17.55
17.19 17.56
3/13 17.26 17.60
17.14 17.50
17.32 17.64
17.20 17.64
4/13 17.35 17.81
17.27 17.91
17.32 17.98
17.26 17.92
17.06 17.87
5/13 16.53 17.70
16.21 17.40
15.89 17.32
15.49 17.04
6/13 15.75 16.97
15.15 16.85
15.55 17.12
15.82 17.37
7/13 15.94 17.27
15.78 17.15
15.44 17.15
15.14 17.10
15.16 17.05
8/13 15.32 17.10
15.08 16.99
15.35 17.09
15.59 17.31
9/13 15.92 17.24
15.50 17.15
15.63 17.23
15.84 17.39
15.92 17.51
10/13 15.97 17.52
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PERFORMANCE
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Average Annual Total Return
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1 Year Ended 5 Years Ended Inception (3/28/2006)
10/31/2013 10/31/2013 to 10/31/2013
FUND PERFORMANCE (3)
NAV 12.19% 5.36% -2.74%
Market Value -1.38% 7.00% -4.50%
INDEX PERFORMANCE
Barclays Capital Ba U.S. High Yield Index 6.25% 16.65% 9.07%
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% OF TOTAL
ASSET CLASSIFICATION INVESTMENTS
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Corporate Bonds and Notes 75.3%
Foreign Corporate Bonds and Notes 11.9
Manufactured Housing Loans 5.2
Residential Mortgage-Backed Securities 3.4
Senior Floating-Rate Loan Interests 1.6
Commercial Mortgage-Backed Securities 1.3
Equity 0.8
Collateralized Mortgage Obligations 0.5
Collateralized Debt Obligations 0.0*
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Total 100.0%
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* Amount is less than 0.1%.
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% OF TOTAL
FIXED-INCOME
CREDIT QUALITY (4) INVESTMENTS
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AAA 0.6%
AA- 0.5
A 1.0
A- 1.0
BBB- 1.6
BB+ 5.8
BB 7.8
BB- 11.6
B+ 14.5
B 15.9
B- 19.7
CCC+ 12.4
CCC 2.1
CCC- 1.9
CC 1.2
C 1.2
D 0.8
NR 0.4
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Total 100.0%
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(1) Most recent distribution paid or declared through 10/31/2013. Subject to
change in the future.
(2) Distribution rates are calculated by annualizing the most recent
distribution paid or declared through the report date and then dividing by
Common Share price or NAV, as applicable, as of 10/31/2013. Subject to
change in the future.
(3) Total return is based on the combination of reinvested dividend, capital
gain and return of capital distributions, if any, at prices obtained by
the Dividend Reinvestment Plan and changes in NAV per share for NAV
returns and changes in Common Share price for market value returns. Total
returns do not reflect sales load and are not annualized for periods less
than one year. Past performance is not indicative of future results.
(4) The credit quality and ratings information presented above reflects the
ratings assigned by one or more nationally recognized statistical rating
organizations (NRSROs), including Standard & Poor's Ratings Group, a
division of the McGraw Hill Companies, Inc., Moody's Investors Service,
Inc., Fitch Ratings or a comparably rated NRSRO. For situations in which a
security is rated by more than one NRSRO and the ratings are not
equivalent, the highest ratings are used. Sub-investment grade ratings are
those rated BB+/Ba1 or lower. Investment grade ratings are those rated
BBB-/Baa3 or higher. The credit ratings shown related to the
creditworthiness of the issuers of the underlying securities in the Fund,
and not to the Fund or its shares. Credit ratings are subject to change.
Page 2
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PORTFOLIO COMMENTARY
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FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
ANNUAL REPORT
OCTOBER 31, 2013
SUB-ADVISOR
BROOKFIELD INVESTMENT MANAGEMENT INC.
Brookfield Investment Management Inc. ("Brookfield" or the "Sub-Advisor") serves
as the Fund's sub-advisor. Brookfield is a wholly-owned subsidiary of Brookfield
Asset Management, a global alternative asset manager with approximately $184
billion in assets under management as of September 30, 2013. Brookfield Asset
Management has over a 100-year history of owning and operating assets with a
focus on property, renewable power, infrastructure and private equity. The
company offers a range of public and private investment products and services,
which leverage its expertise and experience and provide it with a competitive
advantage in the markets where it operates. On behalf of its clients, Brookfield
Asset Management is also an active investor in the public securities markets,
where its experience extends over 30 years. Over this time, the company has
successfully developed several investment operations and built expertise in the
management of institutional portfolios, retail mutual funds, and structured
product investments.
Brookfield Asset Management's public market activities are conducted by
Brookfield Investment Management, a registered investment advisor. These
activities complement Brookfield Asset Management's core competencies and
include global listed real estate and infrastructure equities, corporate
high-yield investments, opportunistic credit strategies and a dedicated
insurance asset management division. Headquartered in New York, NY, Brookfield
Investment Management maintains offices and investment teams in Toronto,
Chicago, Boston and London and had over $10 billion of assets under management
as of September 30, 2013.
PORTFOLIO MANAGEMENT TEAM
DANA E. ERIKSON, CFA
MANAGING DIRECTOR
ANTHONY BREAKS, CFA
SENIOR DIRECTOR
COMMENTARY
FIRST TRUST STRATEGIC HIGH INCOME FUND II
The primary investment objective of the First Trust Strategic High Income Fund
II ("FHY" or the "Fund") is to seek a high level of current income. The Fund
seeks capital growth as a secondary objective. The Fund seeks to achieve its
investment objectives by investing in a diversified portfolio of
below-investment grade and investment grade debt securities and equity
securities that the Sub-Advisor believes offer attractive yield and/or capital
appreciation potential. There can be no assurance that the Fund will achieve its
investment objectives. The Fund may not be appropriate for all investors.
MARKET RECAP AND OUTLOOK
High Yield
Government Spending, Central Banks Drive Headlines.
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For much of the 12-month period beginning November of 2012, investors were
fixated on global macroeconomic news, and government spending in particular.
Following the re-election of President Obama, investors' focus shifted to the
so-called "fiscal cliff": automatic tax increases of such magnitude that many
economists warned of recession. A last-minute compromise delayed the tax
increases, but mandated deep government spending cuts under sequestration in
March 2013. While these were positive steps toward fiscal responsibility at the
federal level, they were surrounded by intense political rhetoric which affected
consumer confidence.
Tapering Alters Confidence.
---------------------------
Markets and interest rates were relatively stable into the second quarter, until
May 2013, when Federal Reserve Chairman Ben Bernanke suggested that the Fed's
stimulative bond buying program may begin tapering in the near future. Investors
panicked and markets reacted by heavily redeeming fixed-income mutual funds.
Interest rates rose sharply, and most spread products, such as high-yield,
exhibited wider spreads.
Calm returned in September when the Fed retreated and promised to continue
buying bonds, due to modest economic growth and the market's adverse reaction to
the suggestion of tapering. After the Fed's "no taper" news, investors grew more
confident about fixed-income securities, and money resumed flowing into
high-yield mutual funds after record redemptions in the second quarter.
Confidence in risk assets was further renewed due to improved economic news out
of China and relative quiet out of European peripheral countries.
Despite the positive tailwinds, October 2013 saw further uncertainty as the U.S.
Congress was gridlocked over a shutdown of the federal government, and faced a
serious debt limit increase in mid-October. This tempered the confidence felt
after the "no taper" announcement for a number of weeks. The U.S. government
eventually raised the debt ceiling and reopened the government, calming investor
concerns.
Page 3
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PORTFOLIO COMMENTARY - (CONTINUED)
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High Yield Outperforms in 2013.
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The high-yield market produced a positive return of 8.83%1 for the 12-month
period ended October 31, 2013. High-yield remains the fixed-income star in 2013,
significantly outperforming investment-grade corporates, Treasury bonds, and
emerging market bonds, which are all down over the same period.2
For the 12-month period, the market saw outperformance in technology, banking,
and basic industry, which were up 13.7%, 10.7%, and 9.8% respectively.3
Outperformers tended to be sectors with greater credit risk or greater
sensitivity to economic growth. Underperforming sectors included
telecommunications, consumer non-cyclicals, and energy, which were up 6.6%,
7.5%, and 7.7% respectively.4 Underperforming industries tended to exhibit
above-average credit quality and lower-than-average sensitivity to economic
growth.
Credit Conditions.
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Credit conditions remain very good, with the trailing twelve-month default rate
at 1.11%5. Defaults have been modest since 2010, and we believe defaults will
remain low for the foreseeable future. Investors have seen improvement in the
upgrade-to-downgrade ratio as measured by the bond rating agencies and we remain
positively disposed toward credit as we see continued positive trends in the new
issue market.
Most of the parameters we monitor remain positive, but indicate the market is in
the early stages of re-risking. Lower-rated new issue volume as a percent of
total issuance year-to-date grew to 18.7%6 by October 2013. Refinancing as a
percent of new issuance remains high, but is decreasing. Overall, refinancing
has represented 58%7 of all new issuance in 2013, up from a post-recession low
of 55% seen in 2011, but down from 60% in 20128. We believe that a greater
degree of re-risking is occurring in the leveraged loan market, repeating the
pattern seen in the last credit cycle.
OUTLOOK
While we continue to see generally responsible behavior on the part of
high-yield borrowers, we are beginning to see some signs of re-risking. However,
we believe we remain at the early stage of the re-risking phase of the credit
cycle. The September 2013 leveraged buyout of Dell may represent a bellwether
for future leveraged buyouts, and an increasing percent of new issues are going
to pay dividends to equity sponsors or come from lower-rated companies.
As in past periods, we remain primarily concerned about global political and
economic risks more than high-yield specific risks. While we saw a relief from
these concerns in the third quarter, in our opinion the risks remain potent.
While the U.S. debt limit was resolved by the end of October, the three primary
macro risks remain the same: the pace of economic expansion (China and Europe
being most concerning); the risk of a fiscal policy error as governments seek to
rein in ballooning budget deficits and manage out of control retirement and
healthcare costs (the U.S. and Europe are most concerning here); and the
ever-present question of tightening monetary policy by either the Federal
Reserve or another central bank. Many economists are seeing the beginnings of a
possible synchronized global expansion which may relieve concerns about growth,
but political risks remain very high across the world.
We have noted in the past that the high-yield market is trading at a premium to
par, which limits upside price potential.
The market remains lower than its first quarter peak, thereby regaining some
upside potential. Spreads have widened in the correction and yields have come
off all-time lows. This has restored some value to the market. However, spreads
remain tighter than they were at the end of last year. Consequently, we remain
positively disposed toward high-yield investments,but continue to caution that,
like all risk assets, they remain vulnerable to investor sentiment and that
investors would be prudent to keep future expected returns roughly in-line with
current yields.
Securitized Products
Mortgage-related securitized products performed well through the 2013 fiscal
year, largely due to improved conditions in the underlying housing market and
the associated loan collateral of MBS. We anticipate some volatility as the
market adjusts to higher interest rates and policy issues (such as the debt
ceiling) which continue to strain the market.
A key driver for the non-Agency Mortgage-Backed Securities ("MBS") market is the
value of the real estate collateral securing the loans that back the Fund's
bonds. We are encouraged by the sustained improvement in both residential and
commercial real estate markets. Over the first nine months of 2013, national
home prices have increased by 12.5% and many of the fundamental underpinnings
for housing, such as demand, inventory levels and delinquency rates, are also
showing
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1 BofA Merrill Lynch High Yield Master II Index.
2 J.P. Morgan, High-Yield Market Monitor, October 1, 2013, p. 2.
3 FactSet analysis for the twelve-month period ended October 31, 2013.
4 FactSet analysis for the twelve-month period ended October 31, 2013.
5 J.P. Morgan, Default Monitor, October 31, 2013, p. 2.
6 J.P. Morgan, Default Monitor, October 31, 2013, p. 13.
7 J.P. Morgan, Default Monitor, October 31, 2013, p. 14.
8 J.P. Morgan, Default Monitor, October 31, 2013, p. 14.
Page 4
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PORTFOLIO COMMENTARY (CONTINUED)
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marked progress. Credit provision by banks has been increasing and non-Agency
securitization has also continued to increase. Credit has remained extremely
tight for borrowers with weaker credit scores or higher loan-to-value ratios, so
any expansion to credit provision is notable.
Within commercial real estate, top tier properties in major markets have
improved significantly in the last 12 months and we believe a broader commercial
real estate market recovery has commenced. As the availability of commercial
mortgage credit has greatly improved, investors have begun to look at
opportunities beyond those major markets. Oversupply has not been an issue in
this real estate cycle, as new construction virtually halted during the
financial crisis in 2008 and 2009 and, with the exception of the multifamily
sector, remains extremely low by historical standards. The lack of new
construction should also further support values as demand for space returns and
the lead times required to deliver new space keeps supply in check.
Securitized products continue to be characterized by positive fundamentals,
particularly the stronger trends in inventory, price increases and lower
delinquency levels. Additionally, there has been increased new issuance in the
commercial MBS market as well as the non-Agency MBS market. In our view, the
secondary markets for seasoned securities continue to offer better opportunities
to the Fund, given these discount-priced securities benefit as the ability to
refinance a loan improves.
Our outlook for most structured products for the fourth quarter of 2013 is
supported by continued improvement in forecasts for collateral performance and
better yields available in the market. With the recent increased volatility in
rates and some redemption-fueled bond selling, we are seeing attractive
opportunities to build income while maintaining stability. Fundamentals are
encouraging and we therefore anticipate further gains for non-Agency MBS and
Collateralized MBS.
PERFORMANCE ANALYSIS
For the one year ended October 31, 2013, the Fund had a total return9 of 12.19%
based on net asset value ("NAV"). For the period, the Fund traded from a premium
to NAV of 3.69% to a discount of -8.85%, resulting in a total return9 of -1.38%,
based on market price.
The total return for the Fund's benchmark, the Barclays Capital Ba U.S. High
Yield Index, was 6.25% for the year ended October 31, 2013. While the benchmark
contains mostly corporate debt, it is important to note that the Fund maintained
exposure to structured finance and mortgage-related securities during the
period.
As of October 31, 2013, the Fund's leverage was approximately 27.34% of Managed
Assets which contributed positively to the Fund's performance during the period.
However, the Fund may utilize leverage in an amount up to 33.33% of Managed
Assets. Where our overall budget for risk warrants it and when the return
opportunities are compelling, we are likely to increase leverage in an attempt
to improve returns. In periods of stability, this may be an especially important
tool.
An important factor impacting the return of the Fund relative to its benchmark
was the Fund's use of financial leverage through the use of bank borrowings. The
Fund uses leverage because its managers believe that, over time, leverage
provides opportunities for additional income and total return for common
shareholders. However, the use of leverage also can expose common shareholders
to additional volatility. For example, as the prices of securities held by the
Fund decline, the negative impact of the valuation changes on common share net
asset value and common shareholder total return is magnified by the use of
leverage. Conversely, leverage may enhance common share returns during periods
when the prices of securities held by the Fund generally are rising.
Major contributors to performance this reporting period included the Fund's
holdings in the gaming, building materials, and energy exploration and
production, ("E&P") sectors. The Fund's gaming names benefitted from the
market's appreciation of stronger local markets gaming properties. Building
materials bonds rebounded in sympathy with stronger housing starts, and E&P
names were up on strong production growth. Individual bonds contributing to
performance included Venoco, an offshore E&P company experiencing favorable
drilling results, Pittsburgh Glass Works, a supplier of automotive glass
products benefitting from strong auto production in North America, and Freescale
Semiconductor enjoying rebounding sales and profits across most of its product
lines.
Detractors from performance included the Fund's holdings of mining bonds,
household and leisure products, and department stores. Mining bonds have been
weak as coal prices are depressed due to competition from low natural gas
prices. Small holdings in household products and department stores failed to
rally in a generally rising market created a small performance drag. Individual
bonds detracting from performance included Arch Coal which fell on weak coal
pricing, Centurylink, which fell when management signaled a willingness to keep
debt leverage higher than the market expected, and GMX Resources, an E&P company
whose bonds fell when the company ran into financial difficulties from low
natural gas prices.
These views represent the opinions of Brookfield and are not intended to predict
or depict the performance of any investment. These views are as of the close of
business on October 31, 2013 and subject to change based on subsequent
developments.
-----------------------
9 Total return is based on the combination of reinvested dividend, capital
gain and return of capital distributions, if any, at prices obtained by the
Dividend Reinvestment Plan and changes in NAV per share for NAV returns and
changes in Common Share price for market value returns and does not reflect
sales load. Past performance is not indicative of future results.
Page 5
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
PORTFOLIO OF INVESTMENTS
OCTOBER 31, 2013
PRINCIPAL STATED STATED
VALUE DESCRIPTION COUPON MATURITY VALUE
---------------- ---------------------------------------------- --------- ------------ ------------
CORPORATE BONDS AND NOTES - 100.0%
AUTOMOTIVE - 3.8%
$ 1,275,000 American Axle & Manufacturing, Inc. .......... 6.25% 03/15/21 $ 1,348,313
600,000 American Axle & Manufacturing, Inc. .......... 6.63% 10/15/22 636,000
1,750,000 Chrysler Group LLC/Chrysler Group
Co-Issuer, Inc. (a)........................ 8.25% 06/15/21 1,988,437
1,500,000 Ford Motor Co. (a)............................ 6.50% 08/01/18 1,743,470
------------
5,716,220
------------
BASIC INDUSTRY - 15.9%
1,500,000 AK Steel Corp. (a)............................ 7.63% 05/15/20 1,350,000
2,075,000 Alpha Natural Resources, Inc. ................ 6.25% 06/01/21 1,768,938
3,275,000 Arch Coal, Inc. (a)........................... 7.25% 06/15/21 2,521,750
1,750,000 Associated Materials LLC (a).................. 9.13% 11/01/17 1,874,687
500,000 Building Materials Corp. of America (b)....... 6.75% 05/01/21 545,000
1,160,000 Georgia-Pacific LLC (a)....................... 7.38% 12/01/25 1,479,443
415,000 Georgia-Pacific LLC (a)....................... 7.25% 06/01/28 512,345
1,875,000 Hexion US Finance Corp. (a)................... 9.00% 11/15/20 1,790,625
1,100,000 Huntsman International LLC (a)................ 8.63% 03/15/21 1,240,250
1,596,000 Ply Gem Industries, Inc. ..................... 8.25% 02/15/18 1,715,700
1,700,000 Polymer Group, Inc. (a)....................... 7.75% 02/01/19 1,823,250
1,000,000 Steel Dynamics, Inc. (a)...................... 7.63% 03/15/20 1,090,000
2,100,000 USG Corp. (a) (c)............................. 9.75% 01/15/18 2,478,000
1,750,000 Verso Paper Holdings LLC/Verso Paper, Inc. ... 11.75% 01/15/19 1,820,000
1,425,000 Xerium Technologies, Inc. (a)................. 8.88% 06/15/18 1,496,250
------------
23,506,238
------------
CAPITAL GOODS - 7.0%
1,750,000 Berry Plastics Corp. (a)...................... 9.50% 05/15/18 1,907,500
1,750,000 Coleman Cable, Inc. (a)....................... 9.00% 02/15/18 1,868,125
1,700,000 Crown Cork & Seal Co., Inc. (a)............... 7.38% 12/15/26 1,891,250
1,755,000 Mueller Water Products, Inc. (a).............. 7.38% 06/01/17 1,816,425
676,000 Tekni-Plex, Inc. (b).......................... 9.75% 06/01/19 767,260
650,000 Terex Corp. .................................. 6.50% 04/01/20 698,750
1,350,000 Terex Corp. .................................. 6.00% 05/15/21 1,417,500
------------
10,366,810
------------
CONSUMER CYCLICAL - 6.2%
1,000,000 Acco Brands Corp. ............................ 6.75% 04/30/20 1,010,000
1,750,000 Levi Strauss & Co. (a)........................ 7.63% 05/15/20 1,929,375
1,775,000 L Brands, Inc. (a)............................ 7.60% 07/15/37 1,814,937
1,500,000 Michaels Stores, Inc. ........................ 7.75% 11/01/18 1,625,625
550,000 PVH Corp. (a)................................. 7.38% 05/15/20 605,000
2,100,000 Reynolds Group Issuer, Inc. (a)............... 9.00% 04/15/19 2,257,500
------------
9,242,437
------------
CONSUMER NON-CYCLICAL - 2.7%
1,350,000 C&S Group Enterprises LLC (b) ................ 8.38% 05/01/17 1,447,875
1,000,000 Easton-Bell Sports, Inc. (a) ................. 9.75% 12/01/16 1,055,010
Page 6 See Notes to Financial Statements
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
PORTFOLIO OF INVESTMENTS (CONTINUED)
OCTOBER 31, 2013
PRINCIPAL STATED STATED
VALUE DESCRIPTION COUPON MATURITY VALUE
---------------- ---------------------------------------------- --------- ------------ ------------
CORPORATE BONDS AND NOTES (CONTINUED)
CONSUMER NON-CYCLICAL (CONTINUED)
$ 1,800,000 New Albertsons, Inc........................... 7.75% 06/15/26 $ 1,512,000
------------
4,014,885
------------
ENERGY - 16.4%
2,100,000 Atlas Pipeline Partners L.P./Atlas Pipeline
Finance Corp. (b).......................... 5.88% 08/01/23 2,073,750
1,750,000 Breitburn Energy Partners LP/Breitburn
Finance Corp. (a).......................... 8.63% 10/15/20 1,868,125
250,000 Breitburn Energy Partners LP/Breitburn
Finance Corp. ............................. 7.88% 04/15/22 253,750
425,000 Calfrac Holdings LP (a) (b)................... 7.50% 12/01/20 432,438
1,875,000 Crosstex Energy LP/Crosstex Energy
Finance Corp. (a).......................... 8.88% 02/15/18 1,999,219
2,060,000 EV Energy Partners LP/EV Energy
Finance Corp. (a).......................... 8.00% 04/15/19 2,070,300
816,163 GMX Resources, Inc. (a) (d) (e)............... 1.00% 12/01/17 730,466
1,700,000 Hilcorp Energy I LP/Hilcorp
Finance Co. (a) (b)........................ 8.00% 02/15/20 1,853,000
1,000,000 ION Geophysical Corp. (b)..................... 8.13% 05/15/18 940,000
1,750,000 Key Energy Services, Inc. (a)................. 6.75% 03/01/21 1,789,375
950,000 Linn Energy LLC/Linn Energy
Finance Corp. (a).......................... 8.63% 04/15/20 1,016,500
800,000 Linn Energy LLC/Linn Energy
Finance Corp. ............................. 7.75% 02/01/21 830,000
1,840,000 Niska Gas Storage US LLC/Niska Gas
Storage Canada ULC (a)..................... 8.88% 03/15/18 1,932,000
1,275,000 Pioneer Natural Resources Co. (a)............. 65% 03/15/17 1,478,213
1,300,000 RKI Exploration & Production LLC/RKI
Finance Corp. (b).......................... 8.50% 08/01/21 1,358,500
1,000,000 Tesoro Logistics, L.P./Tesoro Logistics
Finance Corp. ............................. 6.13% 10/15/21 1,040,000
2,100,000 Venoco, Inc. (a).............................. 8.88% 02/15/19 2,142,000
415,000 W&T Offshore, Inc. ........................... 8.50% 06/15/19 449,237
------------
24,256,873
------------
FINANCIAL SERVICES - 1.3%
1,750,000 Level 3 Communications, Inc. (a) ............. 8.88% 06/01/19 1,918,438
------------
HEALTHCARE - 7.1%
1,925,000 CHS/Community Health Systems, Inc. (a)........ 7.13% 07/15/20 2,028,469
1,375,000 DJO Finance LLC/DJO Finance Corp. ............ 9.88% 04/15/18 1,481,562
1,750,000 HCA, Inc. (a)................................. 8.00% 10/01/18 2,060,625
1,045,000 inVentiv Health, Inc. (b)..................... 11.00% 08/15/18 902,619
1,725,000 Jaguar Holdings Co./Merger (a) (b)............ 9.50% 12/01/19 1,944,937
1,925,000 Kindred Healthcare, Inc. (a).................. 8.25% 06/01/19 2,079,000
------------
10,497,212
------------
MEDIA - 8.9%
1,700,000 ARC Document Solutions, Inc. (a).............. 10.50% 12/15/16 1,804,125
1,850,000 Cablevision Systems Corp. (a)................. 8.63% 09/15/17 2,159,875
See Notes to Financial Statements Page 7
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
PORTFOLIO OF INVESTMENTS (CONTINUED)
OCTOBER 31, 2013
PRINCIPAL STATED STATED
VALUE DESCRIPTION COUPON MATURITY VALUE
---------------- ---------------------------------------------- --------- ------------ ------------
CORPORATE BONDS AND NOTES - (CONTINUED)
MEDIA (CONTINUED)
$ 1,700,000 CCO Holdings LLC/CCO Holdings
Capital Corp. (a).......................... 8.13% 04/30/20 $ 1,870,000
1,700,000 Clear Channel Communications, Inc. (a)........ 9.00% 03/01/21 1,721,250
1,850,000 Cumulus Media Holdings, Inc. (a).............. 7.75% 05/01/19 1,961,000
1,700,000 Lamar Media Corp. (a)......................... 7.88% 04/15/18 1,819,000
1,750,000 Mediacom LLC/Mediacom Capital Corp. (a)....... 9.13% 08/15/19 1,916,250
------------
13,251,500
------------
REAL ESTATE - 1.3%
1,750,000 Realogy Corp. (a) (b)......................... 7.88% 02/15/19 1,920,625
------------
SERVICES - 17.9%
1,650,000 AMC Entertainment, Inc. (a)................... 8.75% 06/01/19 1,784,063
1,750,000 Avis Budget Car Rental LLC/Avis Budget
Finance, Inc. (a).......................... 8.25% 01/15/19 1,916,250
2,000,000 Boyd Gaming Corp. (a)......................... 9.00% 07/01/20 2,165,000
2,550,000 Casella Waste Systems, Inc. (a)............... 7.75% 02/15/19 2,588,250
1,975,000 Cenveo Corp. (a).............................. 8.88% 02/01/18 1,999,687
1,950,000 Chester Downs & Marina LLC (a) (b)............ 9.25% 02/01/20 1,989,000
1,750,000 CityCenter Holdings LLC/CityCenter
Finance Corp. (a).......................... 7.63% 01/15/16 1,842,312
825,000 Iron Mountain, Inc. .......................... 5.75% 08/15/24 792,000
1,300,000 MGM Resorts International (a)................. 7.63% 01/15/17 1,485,250
1,786,979 MTR Gaming Group, Inc. (a).................... 11.50% 08/01/19 1,974,611
1,250,000 National Cinemedia LLC........................ 6.00% 04/15/22 1,306,250
1,725,000 Palace Entertainment Holdings LLC/Palace
Entertainment Holdings Corp. (a) (b)....... 8.88% 04/15/17 1,742,250
2,100,000 Pulte Group, Inc. (a)......................... 6.38% 05/15/33 1,921,500
875,000 United Rentals North America, Inc. (a)........ 10.25% 11/15/19 994,219
875,000 United Rentals North America, Inc. ........... 8.25% 02/01/21 995,313
900,000 United Rentals North America, Inc. ........... 7.63% 04/15/22 1,012,500
------------
26,508,455
------------
TECHNOLOGY & ELECTRONICS - 3.1%
2,400,000 First Data Corp. (a) (b)...................... 11.25% 01/15/21 2,649,000
1,775,000 Freescale Semiconductor, Inc. (a)............. 8.05% 02/01/20 1,921,438
------------
4,570,438
------------
TELECOMMUNICATIONS - 8.4%
2,000,000 Centurylink, Inc. (a)......................... 7.65% 03/15/42 1,865,000
2,000,000 Cincinnati Bell, Inc. (a)..................... 8.75% 03/15/18 2,130,000
650,000 Fairpoint Communications, Inc. (b)............ 8.75% 08/15/19 669,500
1,750,000 Frontier Communications (a)................... 7.13% 03/15/19 1,916,250
1,875,000 Metro PCS (a) (b)............................. 6.63% 04/01/23 1,968,750
1,700,000 PAETEC Holding Corp. (a)...................... 9.88% 12/01/18 1,912,500
Page 8 See Notes to Financial Statements
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
PORTFOLIO OF INVESTMENTS (CONTINUED)
OCTOBER 31, 2013
PRINCIPAL STATED STATED
VALUE DESCRIPTION COUPON MATURITY VALUE
---------------- ---------------------------------------------- --------- ------------ ------------
CORPORATE BONDS AND NOTES - (CONTINUED)
TELECOMMUNICATIONS (CONTINUED)
$ 1,925,000 Windstream Corp. ............................. 7.50% 06/01/22 $ 2,026,062
------------
12,488,062
------------
TOTAL CORPORATE BONDS AND NOTES............... 148,258,193
(Cost $140,913,246) ------------
PRINCIPAL
VALUE
(LOCAL STATED STATED VALUE
CURRENCY) DESCRIPTION COUPON MATURITY (US DOLLAR)
---------------- ---------------------------------------------- --------- ------------ ------------
FOREIGN CORPORATE BONDS AND NOTES - 15.8%
AUTOMOTIVE - 2.3%
1,300,000 Jaguar Land Rover PLC (USD) (b)............... 8.13% 05/15/21 1,482,000
1,375,000 Servus Luxembourg Holding S.C.A.
(EUR) (b).................................. 7.75% 06/15/18 1,954,191
------------
3,436,191
------------
BASIC INDUSTRY - 4.6%
1,540,000 Cascades, Inc. (USD) (a)...................... 7.88% 01/15/20 1,655,500
1,150,000 FMG Resources (August 2006) Pty Ltd.
(USD) (b).................................. 6.88% 04/01/22 1,227,625
1,750,000 Masonite International Corp. (USD) (a) (b).... 8.25% 04/15/21 1,933,750
1,775,000 Tembec Industries, Inc. (USD) (a)............. 11.25% 12/15/18 1,948,063
------------
6,764,938
------------
CAPITAL GOODS - 3.1%
2,000,000 Ardagh Packaging Finance PLC/Ardagh
Holdings USA, Inc. (USD) (b)............... 7.00% 11/15/20 2,000,000
800,000 Kraussmaffei Group GMBH (EUR)................. 8.75% 12/15/20 1,211,117
1,425,000 Trinseo Materials Operating S.C.A.
(USD) (b).................................. 8.75% 02/01/19 1,428,563
------------
4,639,680
------------
ENERGY - 0.5%
645,000 Precision Drilling Corp. (USD)................ 6.63% 11/15/20 690,150
------------
FINANCIAL SERVICES - 1.4%
1,250,000 Numericable Finance & Co., S.C.A. (EUR)....... 12.38% 02/15/19 2,040,620
------------
REAL ESTATE - 0.6%
700,000 RPG Byty, s.r.o. (EUR)........................ 6.75% 05/01/20 964,685
------------
SERVICES - 0.6%
700,000 Bilbao Luxembourg S.A. (EUR) (g).............. 10.50% 12/01/18 962,356
------------
TECHNOLOGY & ELECTRONICS - 1.3%
1,500,000 Legrand France S.A. (USD) (a)................. 8.50% 02/15/25 1,965,242
------------
TELECOMMUNICATIONS - 1.4%
1,900,000 Intelsat Luxembourg S.A. (USD) (b)............ 7.75% 06/01/21 2,011,625
------------
TOTAL FOREIGN CORPORATE BONDS AND NOTES....... 23,475,487
(Cost $22,445,519) ------------
See Notes to Financial Statements Page 9
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
PORTFOLIO OF INVESTMENTS (CONTINUED)
OCTOBER 31, 2013
PRINCIPAL STATED STATED
VALUE DESCRIPTION COUPON MATURITY VALUE
---------------- ---------------------------------------------- --------- ------------ ------------
ASSET-BACKED SECURITIES - 7.6%
Ace Securities Corp.
$ 1,065,444 Series 2003-MH1, Class A4 (b)............. 6.50% 08/15/30 $ 1,138,447
BankAmerica Manufactured Housing
Contract Trust II
2,300,000 Series 1997-1, Class B1 (f)............... 6.94% 06/10/21 2,463,091
Bombardier Capital Mortgage
Securitization Corp.
280,944 Series 1999-B, Class A1B.................. 6.61% 12/15/29 155,976
Citigroup Mortgage Loan Trust, Inc.
2,301,000 Series 2003-HE3, Class M4 (h)............. 3.18% 12/25/33 1,004,378
Green Tree Financial Corp.
965,802 Series 1996-6, Class B1................... 8.00% 09/15/27 320,403
101,656 Series 1997-4, Class B1................... 7.23% 02/15/29 7,512
704,764 Series 1998-4, Class M1................... 6.83% 04/01/30 426,766
1,622,825 Series 1999-3, Class M1................... 6.96% 02/01/31 114,950
GSAMP Trust
2,921,505 Series 2006-S5, Class A1 (h).............. 0.36% 09/25/36 95,817
1,105,735 Series 2007-HE1, Class A2B (h)............ 0.28% 03/25/47 1,013,492
419,586 Series 2007-NC1, Class A2B (h)............ 0.28% 12/25/46 225,043
2,814,725 Series 2007-NC1, Class A2C (h)............ 0.33% 12/25/46 1,519,352
Home Equity Asset Trust
1,190,000 Series 2006-4, Class 2A4 (h).............. 0.46% 08/25/36 909,891
IMC Home Equity Loan Trust
2,256,743 Series 1997-3, Class B.................... 7.87% 08/20/28 1,157,752
2,384,683 Series 1997-5, Class B (f)................ 7.59% 11/20/28 455,547
Oakwood Mortgage Investors, Inc.
753,009 Series 1999-B, Class M1................... 7.18% 12/15/26 224,001
------------
TOTAL ASSET-BACKED SECURITIES............................................. 11,232,418
(Cost $8,805,674) ------------
MORTGAGE-BACKED SECURITIES - 6.1%
COLLATERALIZED MORTGAGE OBLIGATIONS - 4.4%
Citicorp Mortgage Securities, Inc.
2,156,646 Series 2007-2, Class 1A3.................. 6.00% 02/25/37 2,230,285
Countrywide Alternative Loan Tru
226,755 Series 2006-41CB, Class 2A14.............. 6.00% 01/25/37 182,452
174,819 Series 2007-11T1, Class A37 (h)........... 38.95% 05/25/37 282,155
Countrywide Home Loan Mortgage Pass
Through Trust
250,984 Series 2006-21, Class A8.................. 5.75% 02/25/37 221,150
705,280 Series 2007-10, Class A5.................. 6.00% 07/25/37 618,868
Page 10 See Notes to Financial Statements
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
PORTFOLIO OF INVESTMENTS (CONTINUED)
OCTOBER 31, 2013
PRINCIPAL STATED STATED
VALUE DESCRIPTION COUPON MATURITY VALUE
---------------- ---------------------------------------------- --------- ------------ ------------
MORTGAGE-BACKED SECURITIES (CONTINUED)
COLLATERALIZED MORTGAGE OBLIGATIONS (CONTINUED)
HarborView Mortgage Loan Trust
$ 2,080,028 Series 2005-9, Class B10 (f) (h).......... 1.93% 06/20/35 $ 21
Residential Accredit Loans, Inc.
185,391 Series 2007-Q56, Class A2 (h)............. 54.09% 04/25/37 382,992
Residential Asset Securitization Trust
1,116,912 Series 2005-A8CB, Class A11............... 6.00% 07/25/35 998,613
Washington Mutual Alternative Mortgage
Pass-Through Certificates
55,602 Series 2007-5, Class A11 (h).............. 38.41% 06/25/37 97,118
Wells Fargo Mortgage Backed Securities Trust
952,808 Series 2006-8, Class A15.................. 6.00% 07/25/36 909,719
329,883 Series 2006-AR1, Class 2A5 (h)............ 5.35% 03/25/36 324,869
371,737 Series 2007-8, Class 2A2.................. 6.00% 07/25/37 358,194
------------
6,606,436
------------
COMMERCIAL MORTGAGE-BACKED SECURITIES - 1.7%
Banc of America Large Loan, Inc.
1,548,035 Series 2005-MIB1, Class L (f) (h) (i)..... 3.17% 03/15/22 335,645
Greenwich Capital Commercial Funding Corp.
1,180,000 Series 2007-GG11, Class AJ (h)............ 6.05% 12/10/49 1,122,529
Vornado DP LLC
930,000 Series 2010-VNO, Class D (b).............. 6.36% 09/13/28 1,061,977
------------
2,520,151
------------
TOTAL MORTGAGE-BACKED SECURITIES.......................................... 9,126,587
(Cost $8,465,397) ------------
SENIOR FLOATING-RATE LOAN INTERESTS - 2.2%
CONSUMER NON-CYCLICAL - 0.4%
671,625 Albertsons, Inc., Term Loan B-1 (h)........... 4.75% 02/27/16 673,861
------------
HEALTHCARE - 0.7%
1,000,000 inVentiv Health, Inc., Term Loan B (h)........ 7.50% 08/04/16 984,000
------------
TELECOMMUNICATIONS - 0.7%
995,000 Fairpoint Communications, Inc., Term Loan (h). 7.50% 02/14/19 1,013,378
------------
UTILITY - 0.4%
834,744 Texas Competitive Electric Holdings Co.,
LLC Tranche B2 (h)........................ 4.67%-4.77% 10/10/17 555,915
------------
TOTAL SENIOR FLOATING-RATE LOAN INTERESTS................................. 3,227,154
(Cost $3,477,620) ------------
See Notes to Financial Statements Page 11
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
PORTFOLIO OF INVESTMENTS (CONTINUED)
OCTOBER 31, 2013
SHARES DESCRIPTION VALUE
---------------- ---------------------------------------------------------------------------- ------------
COMMON STOCKS - 1.0%
SERVICES - 0.2%
13,250 Iron Mountain, Inc. ........................................................ $ 351,655
------------
TELECOMMUNICATIONS - 0.8%
250,000 Frontier Communications Corp. .............................................. 1,102,500
------------
TOTAL COMMON STOCKS......................................................... 1,454,155
(Cost $1,536,883) ------------
PREFERRED SECURITIES - 0.1%
3,500 Independence III CDO, Ltd., Series 3A, Class PS (i) (j)..................... 3,500
4,000 Soloso CDO, Ltd., Series 2005-1 (i) (j)..................................... 40,000
9,000 White Marlin CDO, Ltd., Series AI (e) (i) (j)............................... 45,000
------------
TOTAL PREFERRED SECURITIES ................................................. 88,500
(Cost $0) ------------
PRINCIPAL STATED STATED
VALUE DESCRIPTION COUPON MATURITY VALUE
---------------- ---------------------------------------------- --------- ------------ ------------
STRUCTURED NOTES - 0.0%
$ 5,750,000 Preferred Term Securities XXV, Ltd. (i)....... (j) 06/22/37 575
Preferred Term Securities XXVI, Ltd.
2,500,000 Subordinated Note (i)..................... (j) 09/22/37 250
------------
TOTAL STRUCTURED NOTES...................................................... 825
(Cost $0) ------------
TOTAL INVESTMENTS - 132.8% 196,863,319
(Cost $185,644,339) (k).....................................................
OUTSTANDING LOAN - (37.4%).................................................. (55,400,000)
NET OTHER ASSETS AND LIABILITIES - 4.6%..................................... 6,774,918
------------
NET ASSETS - 100.0%......................................................... $148,238,237
============
-----------------------------
(a) All or a portion of this security serves as collateral on the outstanding
loan.
(b) This security, sold within the terms of a private placement memorandum, is
exempt from registration upon resale under Rule 144A under the Securities
Act of 1933, as amended (the "1933 Act"), and may be resold in
transactions exempt from registration, normally to qualified institutional
buyers. Pursuant to procedures adopted by the Fund's Board of Trustees,
this security has been determined to be liquid by Brookfield Investment
Management Inc., the Fund's sub-advisor. Although market instability can
result in periods of increased overall market illiquidity,liquidity for
each security is determined based on security-specific factors and
assumptions, which require subjective judgment. At October 31, 2013,
securities noted as such amounted to $37,442,682 or 25.26% of net assets.
(c) Multi-Step Coupon Bond - Coupon steps up or down based upon ratings
changes by Standard & Poor's Ratings Group or Moody's Investors Service,
Inc. The interest rate shown reflects the rate in effect at October 31,
2013.
(d) This issuer filed for bankruptcy on April 1, 2013.
(e) The issuer is in default. Income is not being accrued.
(f) Security missed one or more of its interest payments.
(g) This security is a Payment-in-Kind ("PIK") Toggle Note whereby the issuer
may, at its option, elect to pay interest in cash at the stated coupon or
in PIK at 11.25%. (h) Floating rate security. The interest rate shown
reflects the rate in effect at October 31, 2013.
Page 12 See Notes to Financial Statements
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
PORTFOLIO OF INVESTMENTS (CONTINUED)
OCTOBER 31, 2013
(i) This security, sold within the terms of a private placement memorandum, is
exempt from registration upon resale under Rule 144A under the 1933 Act,
and may be resold in transactions exempt from registration, normally to
qualified institutional buyers (see Note 2C - Restricted Securities in the
Notes to Financial Statements).
(j) Zero coupon security.
(k) Aggregate cost for federal income tax purposes is $215,928,767. As of
October 31, 2013, the aggregate gross unrealized appreciation for all
securities in which there was an excess of value over tax cost was
$12,687,156 and the aggregate gross unrealized depreciation for all
securities in which there was an excess of tax cost over value was
$31,752,604.
CDO Collateralized Debt Obligation
EUR Euro
USD United States Dollar
-----------------------------
VALUATION INPUTS
A summary of the inputs used to value the Fund's investments as of October 31,
2013 is as follows (see Note 2A - Portfolio Valuation in the Notes to Financial
Statements):
LEVEL 2 LEVEL 3
TOTAL LEVEL 1 SIGNIFICANT SIGNIFICANT
VALUE AT QUOTED OBSERVABLE UNOBSERVABLE
10/31/2013 PRICES INPUTS INPUTS
------------- ------------- ------------- -------------
Corporate Bonds and Notes*......................... $ 148,258,193 $ -- $ 148,258,193 $ --
Foreign Corporate Bonds and Notes*................. 23,475,487 -- 23,475,487 --
Asset-Backed Securities............................ 11,232,418 -- 11,232,418 --
Mortgage-Backed Securities:
Collateralized Mortgage Obligations............ 6,606,436 -- 6,606,436 --
Commercial Mortgage-Backed Securities.......... 2,520,151 -- 2,520,151 --
Senior Floating-Rate Loan Interests*............... 3,227,154 -- 3,227,154 --
Common Stocks* 1,454,155..................... 1,454,155 -- --
Preferred Securities .............................. 88,500 -- -- 88,500
Structured Notes .............................. 825 -- 825 --
------------- ------------- ------------- -------------
Total Investments .............................. 196,863,319 1,454,155 195,320,664 88,500
Forward Foreign Currency Contracts**............... 53,517 -- 53,517 --
------------- ------------- ------------- -------------
Total.............................................. $ 196,916,836 $ 1,454,155 $ 195,374,181 $ 88,500
============= ============= ============= =============
* See Portfolio of Investments for industry breakout.
** See the Schedule of Forward Foreign Currency Contracts for contract and
currency detail.
All transfers in and out of the Levels during the period are assumed to be
transferred on the last day of the period at their current value. There were no
transfers between Levels at October 31, 2013.
See Notes to Financial Statements Page 13
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
PORTFOLIO OF INVESTMENTS (CONTINUED)
OCTOBER 31, 2013
The following table presents the activity of the Fund's investments measured at
fair value on a recurring basis using significant unobservable inputs (Level 3)
for the period presented.
Beginning Balance at October 31, 2012
Preferred Securities $ 88,500
Net Realized Gain (Loss) --
Net Change in Unrealized Appreciation/Depreciation --
Purchases --
Sales --
Transfers In --
Transfers Out --
Ending Balance at October 31, 2013
Preferred Securities 88,500
----------
Total Level 3 holdings $ 88,500
==========
There was no net change in unrealized appreciation (depreciation) from Level 3
investments held as of October 31, 2013.
SCHEDULE OF FORWARD FOREIGN CURRENCY CONTRACTS (see Note 2F - Forward Foreign
Currency Contracts in the Notes to Financial Statements):
FORWARD FOREIGN CURRENCY CONTRACTS
---------------------------------------------------
PURCHASE SALE UNREALIZED
SETTLEMENT AMOUNT AMOUNT VALUE AS OF VALUE AS OF APPRECIATION
DATE COUNTERPARTY PURCHASED (a) SOLD (a) OCTOBER 31, 2013 OCTOBER 31, 2013 (DEPRECIATION)
---------- ------------ --------------- --------------- ---------------- ---------------- --------------
11/25/13 BNYM USD 5,814,182 EUR 4,255,000 $ 5,814,182 $ 5,777,541 $ 36,641
11/25/13 BNYM USD 1,069,190 EUR 775,000 1,069,190 1,052,314 16,876
--------------
Net unrealized appreciation (depreciation)....................................................... $ 53,517
==============
(a) Please see Portfolio of Investments for currency descriptions.
Counterparty Abbreviations:
BNYM Bank of New York Mellon
Page 14 See Notes to Financial Statements
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
STATEMENT OF ASSETS AND LIABILITIES
OCTOBER 31, 2013
ASSETS:
Investments, at value
(Cost $185,644,339)......................................................................... $ 196,863,319
Cash........................................................................................... 785,889
Unrealized appreciation on forward foreign currency contracts.................................. 53,517
Receivables:
Interest.................................................................................... 4,008,516
Investment securities sold.................................................................. 2,210,734
Prepaid expenses............................................................................... 18,774
Other assets................................................................................... 6,042
-------------
Total Assets............................................................................. 203,946,791
-------------
LIABILITIES:
Outstanding loan............................................................................... 55,400,000
Payables:
Investment advisory fees.................................................................... 154,187
Audit and tax fees.......................................................................... 70,200
Custodian fees.............................................................................. 24,139
Printing fees............................................................................... 22,423
Administrative fees......................................................................... 20,007
Legal fees.................................................................................. 5,187
Transfer agent fees......................................................................... 5,162
Interest and fees on loan................................................................... 4,622
Trustees' fees and expenses................................................................. 1,856
Financial reporting fees.................................................................... 771
-------------
Total Liabilities........................................................................ 55,708,554
-------------
NET ASSETS..................................................................................... $ 148,238,237
=============
NET ASSETS CONSIST OF:
Paid-in capital................................................................................ $ 195,193,058
Par value...................................................................................... 84,589
Accumulated net investment income (loss)....................................................... 5,900,853
Accumulated net realized gain (loss) on investments, forward foreign currency contracts
and foreign currency transactions........................................................... (64,214,557)
Net unrealized appreciation (depreciation) on investments, forward foreign currency contracts
and foreign currency translation............................................................ 11,274,294
-------------
NET ASSETS..................................................................................... $ 148,238,237
=============
NET ASSET VALUE, per Common Share (par value $0.01 per Common Share)........................... $ 17.52
=============
Number of Common Shares outstanding (unlimited number of Common Shares has been authorized).... 8,458,869
=============
See Notes to Financial Statements Page 15
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
STATEMENT OF OPERATIONS
FOR THE YEAR ENDED OCTOBER 31, 2013
INVESTMENT INCOME:
Interest....................................................................................... $ 15,583,092
Dividends...................................................................................... 57,155
Other.......................................................................................... 145,998
-------------
Total investment income..................................................................... 15,786,245
-------------
EXPENSES:
Investment advisory fees....................................................................... 1,813,463
Interest and fees on loan...................................................................... 737,115
Administrative fees............................................................................ 210,598
At the market offering costs................................................................... 150,037
Printing fees.................................................................................. 72,915
Audit and tax fees............................................................................. 72,065
Transfer agent fees............................................................................ 39,424
Custodian fees................................................................................. 26,321
Trustees' fees and expenses.................................................................... 20,943
Legal fees..................................................................................... 16,838
Financial reporting fees....................................................................... 9,250
Other.......................................................................................... 78,726
-------------
Total expenses.............................................................................. 3,247,695
-------------
NET INVESTMENT INCOME (LOSS)................................................................... 12,538,550
-------------
NET REALIZED AND UNREALIZED GAIN (LOSS):
Net realized gain (loss) on:
Investments................................................................................. 2,118,880
Forward foreign currency contracts.......................................................... (13,876)
Foreign currency transactions............................................................... (207,074)
-------------
Net realized gain (loss)....................................................................... 1,897,930
-------------
Net change in unrealized appreciation (depreciation) on:
Investments................................................................................. 1,715,179
Forward foreign currency contracts.......................................................... 53,517
Foreign currency translation................................................................ 1,797
-------------
Net change in unrealized appreciation (depreciation)........................................... 1,770,493
-------------
NET REALIZED AND UNREALIZED GAIN (LOSS)........................................................ 3,668,423
-------------
NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS............................... $ 16,206,973
=============
Page 16 See Notes to Financial Statements
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
STATEMENTS OF CHANGES IN NET ASSETS
YEAR YEAR
ENDED ENDED
10/31/2013 10/31/2012
-------------- --------------
OPERATIONS:
Net investment income (loss)....................................................... $ 12,538,550 $ 12,821,067
Net realized gain (loss)........................................................... 1,897,930 (204,326)
Net change in unrealized appreciation (depreciation)............................... 1,770,493 7,275,057
-------------- --------------
Net increase (decrease) in net assets resulting from operations.................... 16,206,973 19,891,798
-------------- --------------
DISTRIBUTIONS TO SHAREHOLDERS FROM:
Net investment income.............................................................. (5,633,114) (5,019,769)
Net realized gain.................................................................. -- --
Return of capital.................................................................. (6,652,538) (7,678,703)
-------------- --------------
Total distributions to shareholders................................................ (12,285,652) (12,698,472)
-------------- --------------
CAPITAL TRANSACTIONS:
Proceeds from Common Shares sold through at the market offerings................... 112,291 5,582,406
Proceeds from Common Shares reinvested............................................. -- 319,447
-------------- --------------
Net increase (decrease) in net assets resulting from capital transactions.......... 112,291 5,901,853
-------------- --------------
Total increase (decrease) in net assets............................................ 4,033,612 13,095,179
NET ASSETS:
Beginning of period................................................................ 144,204,625 131,109,446
-------------- --------------
End of period...................................................................... $ 148,238,237 $ 144,204,625
============== ==============
Accumulated net investment income (loss) at end of period.......................... $ 5,900,853 $ 2,222,720
============== ==============
CAPITAL TRANSACTIONS WERE AS FOLLOWS:
Common Shares at beginning of period............................................... 8,452,416 8,106,875
Common Shares sold through at the market offerings................................. 6,453 326,295
Common Shares issued as reinvestment under the Dividend Reinvestment Plan.......... -- 19,246
-------------- --------------
Common Shares at end of period..................................................... 8,458,869 8,452,416
============== ==============
See Notes to Financial Statements Page 17
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
STATEMENT OF CASH FLOWS
FOR THE YEAR ENDED OCTOBER 31, 2013
CASH FLOWS FROM OPERATING ACTIVITIES:
Net increase (decrease) in net assets resulting from operations...... $ 16,206,973
Adjustments to reconcile net increase (decrease) in net assets resulting from
operations to net cash used in operating activities:
Purchases of investments..................................................... (56,981,008)
Sales, maturities and paydowns of investments................................ 52,082,392
Net amortization/accretion of premiums/discounts on investments.............. (119,519)
Net realized gain/loss on investments........................................ (2,118,880)
Net change in unrealized appreciation/depreciation on forward foreign
currency contracts....................................................... (53,517)
Net change in unrealized appreciation/depreciation on investments............ (1,715,179)
CHANGES IN ASSETS AND LIABILITIES:
Increase in interest receivable.............................................. (303,753)
Decrease in prepaid expenses................................................. 107,977
Increase in other assets..................................................... (6,042)
Decrease in interest and fees on loan payable................................ (64,345)
Increase in investment advisory fees payable................................. 2,968
Decrease in audit and tax fees payable....................................... (635)
Decrease in legal fees payable............................................... (6,378)
Decrease in printing fees payable............................................ (3,816)
Increase in administrative fees payable...................................... 4,878
Increase in custodian fees payable........................................... 17,969
Increase in transfer agent fees payable...................................... 859
Decrease in Trustees' fees and expenses payable.............................. (101)
Decrease in other liabilities................................................ (17,522)
------------
CASH PROVIDED BY OPERATING ACTIVITIES.............................................. $ 7,033,321
------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds of Common Shares sold............................................... 112,291
Distributions to Common Shareholders from net investment income.............. (5,633,114)
Distributions to Common Shareholders from return of capital.................. (6,652,538)
Proceeds from borrowing...................................................... 1,000,000
------------
CASH USED IN FINANCING ACTIVITIES.................................................. (11,173,361)
------------
Decrease in cash................................................................... (4,140,040)
Cash at beginning of period........................................................ 4,925,929
------------
CASH AT END OF PERIOD.............................................................. $ 785,889
============
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid during the period for interest and fees.................................. $ 801,460
============
Page 18 See Notes to Financial Statements
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
FINANCIAL HIGHLIGHTS
FOR A COMMON SHARE OUTSTANDING THROUGHOUT EACH PERIOD
YEAR YEAR YEAR YEAR YEAR
ENDED ENDED ENDED ENDED ENDED
10/31/2013 10/31/2012 10/31/2011 10/31/2010 (a)(b) 10/31/2009 (b)(c)
-------------- -------------- -------------- ---------------- ----------------
Net asset value, beginning of period ........ $ 17.06 $ 16.17 $ 15.87 $ 14.22 $ 25.56
---------- ---------- ---------- ---------- ----------
INCOME FROM INVESTMENT OPERATIONS:
Net investment income (loss)................. 1.48 1.52 0.59 1.86 3.87
Net realized and unrealized gain (loss)...... 0.43 0.90 0.32 1.17 (11.31)
---------- ---------- ---------- ---------- ----------
Total from investment operations............. 1.91 2.42 0.91 3.03 (7.44)
---------- ---------- ---------- ---------- ----------
DISTRIBUTIONS PAID TO SHAREHOLDERS FROM:
Net investment income........................ (0.66) (0.61) (0.54) -- (0.27)
Net realized gain............................ -- -- -- -- --
Return of capital............................ (0.79) (0.94) (0.07) (1.38) (3.63)
---------- ---------- ---------- ---------- ----------
Total from distributions..................... (1.45) (1.55) (0.61) (1.38) (3.90)
---------- ---------- ---------- ---------- ----------
Premiums from shares sold in at the market
offerings................................. 0.00 (d) 0.02 -- -- --
---------- ---------- ---------- ---------- ----------
Net asset value, end of period............... $ 17.52 $ 17.06 $ 16.17 $ 15.87 $ 14.22
========== ========== ========== ========== ==========
Market value, end of period.................. $ 15.97 $ 17.69 $ 14.51 $ 14.49 $ 13.17
========== ========== ========== ========== ==========
TOTAL RETURN BASED ON NET ASSET VALUE (e).... 12.19% 16.11% 13.60% 23.46% (28.92)%
========== ========== ========== ========== ==========
TOTAL RETURN BASED ON MARKET VALUE (e)....... (1.38)% 34.16% 11.64% 21.71% (22.00)%
========== ========== ========== ========== ==========
-----------------------
RATIOS TO AVERAGE NET ASSETS/SUPPLEMENTAL DATA:
Net assets, end of period (in 000's) ........ $ 148,238 $ 144,205 $ 131,109 $ 50,468 $ 45,159
Ratio of total expenses to average net
assets ................................... 2.22% 2.52% 2.35% 2.29% 1.77%
Ratio of total expenses to average net assets
excluding interest expense ............... 1.71% 1.93% 1.93% 2.21% 1.77%
Ratio of net investment income (loss) to
average net assets ....................... 8.55% 9.52% 9.65% 12.54% 22.79%
Portfolio turnover rate ..................... 27% 33% 49% 332% (f) 147% (f)
INDEBTEDNESS:
Total loan outstanding (in 000's) ........... $ 55,400 $ 54,400 $ 54,400 N/A N/A
Asset coverage per $1,000 of
indebtedness (g) ......................... $ 3,676 $ 3,651 $ 3,410 N/A N/A
-----------------------------
(a) On September 20, 2010, the Fund's Board of Trustees approved a new
investment management agreement with First Trust Advisors L.P. and a new
sub-advisory agreement with Brookfield Investment Management Inc.
("Brookfield"), and on December 20, 2010, the shareholders voted to
approve both agreements.
(b) All share amounts, net asset values and market values have been adjusted
as a result of the 1-for-3 reverse share split on September 30, 2011.
(c) On June 29, 2009, the Fund's Board of Trustees approved a new sub-advisory
agreement with Brookfield, and on October 14, 2009, the shareholders voted
to approve the new sub-advisory agreement with Brookfield.
(d) Amount represents less than $0.01 per share.
(e) Total return is based on the combination of reinvested dividend, capital
gain and return of capital distributions, if any, at prices obtained by
the Dividend Reinvestment Plan, and changes in net asset value per share
for net asset value returns and changes in Common Share price for market
value returns. Total returns do not reflect sales load and are not
annualized for periods less than one year. Past performance is not
indicative of future results.
(f) For the fiscal years ended October 31, 2010 and 2009, the Fund's portfolio
turnover rate reflects mortgage pool forward commitments as purchases and
sales. This caused the reported portfolio turnover rate to be higher than
in previous fiscal years. The turnover rate may vary greatly from year to
year as well as within a year.
(g) Calculated by subtracting the Fund's total liabilities (not including the
loan outstanding) from the Fund's total assets, and dividing by the
outstanding loan balance in 000's.
N/A Not applicable.
See Notes to Financial Statements Page 19
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
OCTOBER 31, 2013
1. ORGANIZATION
First Trust Strategic High Income Fund II (the "Fund") is a diversified,
closed-end management investment company organized as a Massachusetts business
trust on January 18, 2006, and is registered with the Securities and Exchange
Commission ("SEC") under the Investment Company Act of 1940, as amended (the
"1940 Act"). The Fund trades under the ticker symbol FHY on the New York Stock
Exchange ("NYSE").
The Fund's primary investment objective is to seek a high level of current
income. The Fund seeks capital growth as a secondary objective. The Fund seeks
to achieve its investment objectives by investing in a diversified portfolio of
below-investment grade and investment grade debt securities, and equity
securities that Brookfield Investment Management Inc. ("Brookfield" or the
"Sub-Advisor") believes offer attractive yield and/or capital appreciation
potential. The Fund may invest up to 100% of its Managed Assets in
below-investment grade debt securities (commonly referred to as "high-yield" or
"junk" bonds). Managed Assets means the average daily total asset value of the
Fund minus the sum of the Fund's liabilities other than the principal amount of
borrowings or reverse repurchase agreements, if any. There can be no assurance
that the Fund will achieve its investment objectives. The Fund may not be
appropriate for all investors.
2. SIGNIFICANT ACCOUNTING POLICIES
The following is a summary of significant accounting policies consistently
followed by the Fund in the preparation of its financial statements. The
preparation of financial statements in accordance with accounting principles
generally accepted in the United States of America ("U.S. GAAP") requires
management to make estimates and assumptions that affect the reported amounts
and disclosures in the financial statements. Actual results could differ from
those estimates.
A. PORTFOLIO VALUATION:
The net asset value ("NAV") of the Common Shares of the Fund is determined
daily, as of the close of regular trading on the NYSE, normally 4:00 p.m.
Eastern time, on each day the NYSE is open for trading. If the NYSE closes early
on a valuation day, the NAV is determined as of that time. Domestic debt
securities and foreign securities are priced using data reflecting the earlier
closing of the principal markets for those securities. The NAV per Common Share
is calculated by dividing the value of all assets of the Fund (including accrued
interest and dividends), less all liabilities (including accrued expenses,
dividends declared but unpaid and any borrowings of the Fund), by the total
number of Common Shares outstanding.
The Fund's investments are valued daily in accordance with valuation procedures
adopted by the Fund's Board of Trustees and in accordance with provisions of the
1940 Act. Market quotations and prices used to value the Fund's investments are
primarily obtained from third party pricing services. The Fund's securities will
be valued as follows:
Corporate bonds, notes, U.S. government securities, mortgage-backed
securities, asset-backed securities and other debt securities are valued
on the basis of valuations provided by dealers who make markets in such
securities or by an independent pricing service approved by the Fund's
Board of Trustees, which may use the following valuation inputs when
available:
1) benchmark yields;
2) reported trades;
3) broker/dealer quotes;
4) issuer spreads;
5) benchmark securities;
6) bids and offers; and
7) reference data including market research publications.
Common stocks and other equity securities listed on any national or
foreign exchange (excluding the NASDAQ(R) Stock Market LLC ("NASDAQ") and
the London Stock Exchange Alternative Investment Market ("AIM")) are
valued at the last sale price on the exchange on which they are
principally traded or, for NASDAQ and AIM securities, the official closing
price. Securities traded on more than one securities exchange are valued
at the last sale price or official closing price, as applicable, at the
close of the securities exchange representing the principal market for
such securities.
Securities traded in an over-the-counter market are valued at the midpoint
between the bid and the asked price, if available, and otherwise at their
closing bid price.
The loan assignments, participations and commitments ("Senior Loans")1
held in the Fund are not listed on any securities exchange or board of
trade. Senior Loans are typically bought and sold by institutional
investors in individually negotiated private transactions that function in
many respects like an over-the-counter secondary market, although
typically no formal market-makers exist. This market, while having grown
substantially since its inception, generally has fewer trades and less
liquidity than the
1 The terms "security" and "securities" used throughout the Notes to
Financial Statements include Senior Loans.
Page 20
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
--------------------------------------------------------------------------------
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
OCTOBER 31, 2013
secondary market for other types of securities. Some Senior Loans have few
or no trades, or trade infrequently, and information regarding a specific
Senior Loan may not be widely available or may be incomplete. Accordingly,
determinations of the market value of Senior Loans may be based on
infrequent and dated information. Because there is less reliable,
objective data available, elements of judgment may play a greater role in
valuation of Senior Loans than for other types of securities. Typically,
Senior Loans are valued using information provided by a third party
pricing service. The third party pricing service primarily uses
over-the-counter pricing from dealer runs and broker quotes from
indicative sheets to value the Senior Loans.
Credit default swaps, if any, are valued using a pricing service or, if
the pricing service does not provide a value, by quotes provided by the
selling dealer or financial institution.
Forward foreign currency contracts are valued at the current day's
interpolated foreign exchange rate, as calculated using the current day's
spot rate, and the thirty, sixty, ninety, and one-hundred eighty day
forward rates provided by an independent pricing service.
Debt securities having a remaining maturity of sixty days or less when
purchased are valued at cost adjusted for amortization of premiums and
accretion of discounts.
Certain securities may not be able to be priced by pre-established pricing
methods. Such securities may be valued by the Fund's Board of Trustees or its
delegate at fair value. These securities generally include, but are not limited
to, restricted securities (securities which may not be publicly sold without
registration under the Securities Act of 1933, as amended (the "1933 Act")) for
which a pricing service is unable to provide a market price; securities whose
trading has been formally suspended; a security whose market price is not
available from a pre-established pricing source; a security with respect to
which an 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
NAV 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 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 security upon its current sale. The use of fair value prices
by the Fund generally results in prices used by the Fund that may differ from
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, including, but not limited to, the following:
1) the fundamental business data relating to the issuer;
2) an evaluation of the forces which influence the market in which
these securities are purchased and sold;
3) the type, size and cost of a security;
4) the financial statements of the issuer;
5) the credit quality and cash flow of the issuer, based on the
Sub-Advisor's or external analysis;
6) the information as to any transactions in or offers for the
security;
7) the price and extent of public trading in similar securities (or
equity securities) of the issuer, or comparable companies;
8) the coupon payments;
9) the quality, value and salability of collateral, if any, securing
the security;
10) the business prospects of the issuer, including any ability to
obtain money or resources from a parent or affiliate and an
assessment of the issuer's management;
11) the prospects for the issuer's industry, and multiples (of earnings
and/or cash flows) being paid for similar businesses in that
industry; and
12) other relevant factors.
The Fund invests a significant portion of its assets in below-investment grade
debt securities, including structured finance securities and corporate bonds.
Structured finance securities include: asset-backed securities, including home
equity, manufactured housing, etc.; commercial mortgage-backed securities;
residential mortgage-backed or private-label collateralized mortgage
obligations; and collateralized debt obligations. The value and related income
of these securities is sensitive to changes in economic conditions, including
delinquencies and/or defaults.
The Fund is subject to fair value accounting standards that define fair value,
establish the framework for measuring fair value and provide a three-level
hierarchy for fair valuation based upon the inputs to the valuation as of the
measurement date. The three levels of the fair value hierarchy are as follows:
o Level 1 - Level 1 inputs are quoted prices in active markets for
identical investments. An active market is a market in which
transactions for the investment occur with sufficient frequency and
volume to provide pricing information on an ongoing basis.
o Level 2 - Level 2 inputs are observable inputs, either directly or
indirectly, and include the following:
o Quoted prices for similar investments in active markets.
o Quoted prices for identical or similar investments in markets
that are non-active. A non-active market is a market where
there are few transactions for the investment, the prices are
not current, or price quotations vary substantially either
over time or among market makers, or in which little
information is released publicly.
Page 21
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
--------------------------------------------------------------------------------
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
OCTOBER 31, 2013
o Inputs other than quoted prices that are observable for the
investment (for example, interest rates and yield curves
observable at commonly quoted intervals, volatilities,
prepayment speeds, loss severities, credit risks, and default
rates).
o Inputs that are derived principally from or corroborated by
observable market data by correlation or other means.
o Level 3 - Level 3 inputs are unobservable inputs. Unobservable
inputs may reflect the reporting entity's own assumptions about the
assumptions that market participants would use in pricing the
investment.
The inputs or methodology used for valuing investments are not necessarily an
indication of the risk associated with investing in those investments. A summary
of the inputs used to value the Fund's investments as of October 31, 2013, is
included with the Fund's Portfolio of Investments.
B. SECURITIES TRANSACTIONS AND INVESTMENT INCOME:
Securities transactions are recorded as of the trade date. Realized gains and
losses from securities transactions are recorded on the identified cost basis.
Interest income is recorded daily on the accrual basis. Amortization of premiums
and accretion of discounts are recorded using the effective interest method.
The Fund invests in certain lower credit quality securitized assets (for
example, asset-backed securities, collateralized mortgage obligations and
commercial mortgage-backed securities), as well as interest-only securities,
that have contractual cash flows. For these securities, if there is a change in
the estimated cash flows, based on an evaluation of current information, then
the estimated yield is adjusted. Additionally, if the evaluation of current
information indicates a permanent impairment of the security, the cost basis of
the security is written down and a loss is recognized. Debt obligations may be
placed on non-accrual status, and related interest income may be reduced by
ceasing current accruals and amortization/accretion and writing off interest
receivables when the collection of all or a portion of interest has become
doubtful based on consistently applied procedures. A debt obligation is removed
from non-accrual status when the issuer resumes interest payments or when
collectability of interest is reasonably assured.
Securities purchased on a when-issued, delayed-delivery or forward purchase
commitment basis may have extended settlement periods. The value of the security
so purchased is subject to market fluctuations during this period. The Fund
maintains liquid assets with a current value at least equal to the amount of its
when-issued, delayed-delivery or forward purchase commitments until payment is
made. At October 31, 2013, the Fund had no when-issued, delayed-delivery or
forward purchase commitments.
C. RESTRICTED SECURITIES:
The Fund invests in restricted securities, which are securities that may not be
offered for public sale without first being registered under the 1933 Act. Prior
to registration, restricted securities may only be resold in transactions exempt
from registration under Rule 144A under the 1933 Act, normally to qualified
institutional buyers. As of October 31, 2013, the Fund held restricted
securities as shown in the following table that the Sub-Advisor has deemed
illiquid pursuant to procedures adopted by the Fund's Board of Trustees.
Although market instability can result in periods of increased overall market
illiquidity, liquidity for each security is determined based on
security-specific factors and assumptions, which require subjective judgment.
The Fund does not have the right to demand that such securities be registered.
These securities are valued according to the valuation procedures as stated in
the Portfolio Valuation note (Note 2A) and are not expressed as a discount to
the carrying value of a comparable unrestricted security. There are no
unrestricted securities with the same maturity dates and yields for these
issuers.
% OF
ACQUISITION PRINCIPAL CARRYING NET
SECURITY DATE VALUE/SHARES PRICE COST VALUE ASSETS
------------------------------------------------------------------------------------------------------------------------
Banc of America Large Loan, Inc.
Series 2005-MIB1, Class L, 3.17%, 03/15/22 06/26/06 $ 1,548,035 $ 21.68 $ 268,459 $ 335,645 0.23%
Independence III CDO, Ltd.
Series 3A, Class PS 04/11/06 3,500 0.00* -- 3,500 0.00**
Preferred Term Securities XXV, Ltd.
Zero Coupon, 06/22/37 03/27/07 $ 5,750,000 0.00* -- 575 0.00**
Preferred Term Securities XXVI, Ltd.
Subordinated Note, Zero Coupon, 09/22/37 06/06/07 $ 2,500,000 0.00* -- 250 0.00**
Soloso CDO, Ltd., Series 2005-1 04/24/06 4,000 10.00 -- 40,000 0.03
White Marlin CDO, Ltd., Series AI 06/01/07 9,000 5.00 -- 45,000 0.03
--------- --------- ------
$ 268,459 $ 424,970 0.29%
========= ========= ======
* Amount is less than $0.01.
** Amount is less than 0.01%.
Page 22
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
--------------------------------------------------------------------------------
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
OCTOBER 31, 2013
D. INTEREST-ONLY SECURITIES:
An interest-only security ("IO Security") is the interest-only portion of a
mortgage-backed security that receives some or all of the interest portion of
the underlying mortgage-backed security and little or no principal. A reference
principal value called a notional value is used to calculate the amount of
interest due to the IO Security. IO Securities are sold at a deep discount to
their notional principal amount. Generally speaking, when interest rates are
falling and prepayment rates are increasing, the value of an IO Security will
fall. Conversely, when interest rates are rising and prepayment rates are
decreasing, generally the value of an IO Security will rise. These securities,
if any, are identified on the Portfolio of Investments.
E. COLLATERALIZED DEBT OBLIGATIONS:
A collateralized debt obligation ("CDO") is an asset-backed security whose
underlying collateral is typically a portfolio of bonds or bank loans. Where the
underlying collateral is a portfolio of bonds, a CDO is referred to as a
collateralized bond obligation ("CBO"). Where the underlying collateral is a
portfolio of bank loans, a CDO is referred to as a collateralized loan
obligation ("CLO"). Investors in CDOs bear the credit risk of the underlying
collateral. Multiple tranches of securities are issued by the CDO, offering
investors various maturity and credit risk characteristics. Tranches are
categorized as senior, mezzanine, and subordinated/equity, according to their
degree of risk. If there are defaults or the CDO's collateral otherwise
underperforms, scheduled payments to senior tranches take precedence over those
of mezzanine tranches, and scheduled payments to mezzanine tranches take
precedence over those to subordinated/equity tranches. CDOs, similar to other
asset-backed securities, are subject to prepayment risk.
F. FORWARD FOREIGN CURRENCY CONTRACTS:
The Fund is subject to foreign currency risk in the normal course of pursuing
its investment objectives. Forward foreign currency contracts are agreements to
exchange one currency for another at a future date and at a specified price. The
Fund uses forward foreign currency contracts to facilitate transactions in
foreign securities and to manage the Fund's foreign currency exposure. These
contracts are valued daily, and the Fund's net equity therein, representing
unrealized gain or loss on the contracts as measured by the difference between
the forward foreign exchange rates at the dates of entry into the contracts and
the forward rates at the reporting date, is included in "Unrealized appreciation
(depreciation) on forward foreign currency contracts" on the Statement of Assets
and Liabilities. When the forward contract is closed, the Fund records a
realized gain or loss equal to the difference between the proceeds from (or the
cost of) the closing transaction and the Fund's basis in the contract. This
realized gain or loss is included in "Net realized gain (loss) on forward
foreign currency contracts" on the Statement of Operations. Risks arise from the
possible inability of counterparties to meet the terms of their contracts and
from movement in currency and securities values and interest rates. Due to the
risks, the Fund could incur losses in excess of the net unrealized value shown
on the Schedule of Forward Foreign Currency Contracts.
During the year ended October 31, 2013, the amount of notional values of forward
foreign currency contracts opened and closed were $17,186,514 and $10,303,143,
respectively.
G. FOREIGN CURRENCY:
The books and records of the Fund are maintained in U.S. dollars. Foreign
currencies, investments and other assets and liabilities are translated into
U.S. dollars at the exchange rates prevailing at the end of the period.
Purchases and sales of investments and items of income and expense are
translated on the respective dates of such transactions. Unrealized gains and
losses on assets and liabilities, other than investments in securities, which
result from changes in foreign currency exchange rates have been included in
"Net change in unrealized appreciation (depreciation) on foreign currency
translation" on the Statement of Operations. Unrealized gains and losses on
investments in securities which result from changes in foreign exchange rates
are included with fluctuations arising from changes in market price and are
shown in "Net change in unrealized appreciation (depreciation) on investments"
on the Statement of Operations. Net realized foreign currency gains and losses
include the effect of changes in exchange rates between trade date and
settlement date on investment security transactions, foreign currency
transactions and interest and dividends received. The portion of foreign
currency gains and losses related to fluctuation in exchange rates between the
initial purchase trade date and subsequent sale trade date is included in "Net
realized gain (loss) on foreign currency transactions" on the Statement of
Operations.
H. DIVIDENDS AND DISTRIBUTIONS TO SHAREHOLDERS:
The Fund will distribute to holders of its Common Shares monthly dividends of
all or a portion of its net income after the payment of interest and dividends
in connection with leverage, if any. Distributions will automatically be
reinvested into additional Common Shares pursuant to the Fund's Dividend
Reinvestment Plan unless cash distributions are elected by the shareholder.
Distributions from income and capital gains are determined in accordance with
income tax regulations, which may differ from U.S. GAAP. Certain capital
accounts in the financial statements are periodically adjusted for permanent
differences in order to reflect their tax character. These permanent differences
are primarily due to the varying treatment of income and gain/loss on portfolio
securities held by the Fund and have no impact on net assets or NAV per share.
Temporary differences, which arise from recognizing certain items of income,
expense and gain/loss in different periods for financial statement and tax
purposes, will reverse at some point in the future. Permanent differences
Page 23
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NOTES TO FINANCIAL STATEMENTS (CONTINUED)
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FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
OCTOBER 31, 2013
incurred during the fiscal year ended October 31, 2013, primarily as a result of
differing book/tax treatment on recognition of amortization/accretion on
portfolio holdings, have been reclassified at year end to reflect a decrease in
accumulated net investment income (loss) by $3,227,303, an increase in
accumulated net realized gain (loss) on investments by $5,655,933 and a decrease
to paid-in capital of $2,428,630. Net assets were not affected by this
reclassification.
The tax character of distributions paid during the fiscal year ended October 31,
2013, and October 31, 2012, was as follows:
Distributions paid from: 2013 2012
Ordinary income.................................. $ 5,633,114 $ 5,019,769
Capital gain..................................... -- --
Return of capital................................ 6,652,538 7,678,703
As of October 31, 2013, the distributable earnings and net assets on a tax basis
were as follows:
Undistributed ordinary income.................... $ --
Undistributed capital gains...................... --
-------------
Total undistributed earnings..................... --
Accumulated capital and other losses............. (27,975,760)
Net unrealized appreciation (depreciation)....... (19,063,650)
-------------
Total accumulated earnings (losses).............. (47,039,410)
Other............................................ --
Paid-in capital.................................. 195,277,647
-------------
Net assets....................................... $ 148,238,237
=============
I. INCOME TAXES:
The Fund intends to continue to qualify as a regulated investment company by
complying with the requirements under Subchapter M of the Internal Revenue Code
of 1986, as amended, which includes distributing substantially all of its net
investment income and net realized gains to shareholders. Accordingly, no
provision has been made for federal or state income taxes. However, due to the
timing and amount of distributions, the Fund may be subject to an excise tax of
4% of the amount by which approximately 98% of the Fund's taxable income exceeds
the distributions from such taxable income for the calendar year.
Under the Regulated Investment Company Modernization Act of 2010 (the "Act"),
net capital losses arising in taxable years after December 22, 2010, may be
carried forward indefinitely, and their character is retained as short-term
and/or long-term losses. Previously, net capital losses were carried forward for
up to eight years and treated as short-term losses. As a transition rule, the
Act requires that post-enactment net capital losses be used before pre-enactment
net capital losses. At October 31, 2013, the Fund had pre-enactment net capital
losses for federal income tax purposes of $27,975,760 expiring as follows:
EXPIRATION DATE AMOUNT
October 31, 2017 $ 5,612,448
October 31, 2018 15,309,424
October 31, 2019 7,053,888
Of these losses, $27,941,145 are subject to loss limitation resulting from
reorganization activity. These limitations generally reduce the ability to
utilize these losses to a maximum of $4,318,194 per year.
During the taxable year ended October 31, 2013, the Fund utilized pre-enactment
capital loss carryforwards in the amount of $2,143,447.
The Fund is subject to certain limitations under the U.S. tax rules on the use
of capital loss carryforwards and net unrealized built-in losses. These
limitations apply when there has been a 50% change in ownership.
The Fund is subject to accounting standards that establish a minimum threshold
for recognizing, and a system for measuring, the benefits of a tax position
taken or expected to be taken in a tax return. Taxable years ending 2010, 2011,
2012 and 2013 remain open to federal and state audit. As of October 31, 2013,
management has evaluated the application of these standards to the Fund and has
determined that no provision for income tax is required in the Fund's financial
statements for uncertain tax positions.
J. EXPENSES:
The Fund will pay all expenses directly related to its operations.
Page 24
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NOTES TO FINANCIAL STATEMENTS (CONTINUED)
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FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
OCTOBER 31, 2013
K. ACCOUNTING PRONOUNCEMENTS:
In December 2011, the Financial Accounting Standards Board ("FASB") issued
Accounting Standards Update No. 2011-11 "Disclosures about Offsetting Assets and
Liabilities" ("ASU 2011-11"). This disclosure requirement is intended to help
investors and other financial statement users better assess the effect or
potential effect of offsetting arrangements on a fund's financial position. ASU
2011-11 requires entities to disclose both gross and net information about both
instruments and transactions eligible for offset on the Statements of Assets and
Liabilities, and disclose instruments and transactions subject to master netting
or similar agreements. In addition, in January 2013, FASB issued Accounting
Standards Update No. 2013-1 "Clarifying the Scope of Offsetting Assets and
Liabilities" ("ASU 2013-1"), specifying which transactions are subject to
offsetting disclosures. The scope of the disclosure requirements is limited to
derivative instruments, repurchase agreements and reverse repurchase agreements,
and securities borrowing and securities lending transactions. ASU 2011-11 and
ASU 2013-1 are effective for financial statements with fiscal years beginning on
or after January 1, 2013, and interim periods within those fiscal years.
Management is currently evaluating the impact of the updated standards on the
Fund's financial statements, if any.
3. INVESTMENT ADVISORY FEE, AFFILIATED TRANSACTIONS AND OTHER FEE ARRANGEMENTS
First Trust, the investment advisor to the Fund, is a limited partnership with
one limited partner, Grace Partners of DuPage L.P., and one general partner, The
Charger Corporation. The Charger Corporation is an Illinois corporation
controlled by James A. Bowen, Chief Executive Officer of First Trust. First
Trust is responsible for the ongoing monitoring of the Fund's investment
portfolio, managing the Fund's business affairs and providing certain
administrative services necessary for the management of the Fund. For these
investment management services, First Trust is entitled to a monthly fee
calculated at an annual rate of 0.90% of the Fund's Managed Assets. First Trust
also provides fund reporting services to the Fund for a flat annual fee in the
amount of $9,250.
Brookfield serves as the Fund's sub-advisor and manages the Fund's portfolio
subject to First Trust's supervision. The Sub-Advisor receives a portfolio
management fee at an annual rate of 0.45% of Managed Assets that is paid by
First Trust from its investment advisory fee.
BNY Mellon Investment Servicing (US) Inc. ("BNYM IS") serves as the Fund's
administrator, fund accountant and transfer agent in accordance with certain fee
arrangements. As administrator and fund accountant, BNYM IS is responsible for
providing certain administrative and accounting services to the Fund, including
maintaining the Fund's books of account, records of the Fund's securities
transactions, and certain other books and records. As transfer agent, BNYM IS is
responsible for maintaining shareholder records for the Fund. The Bank of New
York Mellon ("BNYM") serves as the Fund's custodian in accordance with certain
fee arrangements. As custodian, BNYM is responsible for custody of the Fund's
assets.
Each Trustee who is not an officer or employee of First Trust, any sub-advisor
or any of their affiliates ("Independent Trustees") is paid a fixed annual
retainer of $125,000 per year and an annual per fund fee of $4,000 for each
closed-end fund or other actively managed fund and $1,000 for each index fund in
the First Trust Fund Complex. The fixed annual retainer is allocated pro rata
among each fund in the First Trust Fund Complex based on net assets.
Additionally, the Lead Independent Trustee is paid $15,000 annually, the
Chairman of the Audit Committee is paid $10,000 annually, and each of the
Chairmen of the Nominating and Governance Committee and the Valuation Committee
is paid $5,000 annually to serve in such capacities, with such compensation
allocated pro rata among each fund in the First Trust Fund Complex based on net
assets. Trustees are reimbursed for travel and out-of-pocket expenses in
connection with all meetings. The Lead Independent Trustee and each Committee
Chairman will serve two-year terms until December 31, 2013, before rotating to
serve as Chairman of another Committee or as Lead Independent Trustee. After
December 31, 2013, the Lead Independent Trustee and Committee Chairmen will
rotate every three years. The officers and "Interested" Trustee receive no
compensation from the funds for acting in such capacities.
4. PURCHASES AND SALES OF SECURITIES
The cost of purchases and proceeds from sales of securities, excluding
short-term investments, for the year ended October 31, 2013, were $56,981,008
and $54,104,776, respectively.
5. BORROWINGS
The Fund entered into a committed facility agreement with BNP Paribas Prime
Brokerage Inc. ("BNP") that has a maximum commitment amount of $66,000,000.
Absent certain events of default or failure to maintain certain collateral
requirements, BNP may not terminate the committed facility agreement except upon
180 calendar days' prior notice. Prior to July 24, 2013, the borrowing rate
under the facility was equal to the 3-month LIBOR plus 80 basis points.
Effective July 24, 2013, $13,850,000 of the commitment was converted to
fixed-rate financing of 2.79% for a seven year period. In addition, the
borrowing rate on the floating rate financing amount was amended to 1-month
LIBOR plus 70 basis points. Under the facility, the Fund pays a commitment fee
of 0.80% on the undrawn amount of such facility.
Page 25
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NOTES TO FINANCIAL STATEMENTS (CONTINUED)
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FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
OCTOBER 31, 2013
The average amount outstanding for the year ended October 31, 2013 was
$54,882,192, with a weighted average interest rate of 1.16%. As of October 31,
2013, the Fund had outstanding borrowings of $55,400,000 under this committed
facility agreement. On the floating rate financing amount, the high and low
annual interest rates for the year ended October 31, 2013 were 1.11% and 0.87%,
respectively. The weighted average interest rate at October 31, 2013 was 1.35%.
6. COMMON SHARE OFFERINGS
On June 8, 2012, the Fund, Advisor and Sub-Advisor entered into a sales
agreement with JonesTrading Institutional Services, LLC ("JonesTrading") whereby
the Fund may offer and sell up to 1,000,000 Common Shares from time to time
through JonesTrading as agent for the offer and sale of the Common Shares. Sales
of Common Shares pursuant to the sales agreement may be made in negotiated
transactions or transactions that are deemed to be "at the market" as defined in
Rule 415 under the 1933 Act, as amended, including sales made directly on the
NYSE or sales made through a market maker other than on an exchange, at an
offering price equal to or in excess of the net asset value per share of the
Fund's Common Shares at the time such Common Shares are initially sold. The Fund
used the net proceeds from the sale of the Common Shares in accordance with its
investment objectives and policies. Sales of Common Shares made under the sales
agreement were made pursuant to a "shelf" registration statement on Form N-2
(the "Registration Statement") that will require the Fund to obtain
effectiveness from the SEC on an annual basis. The Registration Statement has
not been effective since February 2013 and therefore Common Shares have not been
offered under the sales agreement since that time. Any future sales of Common
Shares under the sales agreement will be made pursuant to an effective
Registration Statement. Transactions related to offerings under such sales
agreement are as follows:
COMMON NET PROCEEDS
SHARES NET PROCEEDS NET ASSET VALUE RECEIVED IN
SOLD RECEIVED OF SHARES SOLD EXCESS OF NET ASSET VALUE
---------- -------------- --------------- -------------------------
Year Ended 10/31/13 6,453 $ 112,291 $ 109,427 $ 2,864
Year Ended 10/31/12 326,295 5,582,406 5,436,347 146,059
Additionally, offering costs of $225,325 were recorded as a prepaid asset and
were amortized to expense on a straight line basis over a one-year period.
7. INDEMNIFICATION
The Fund has a variety of indemnification obligations under contracts with its
service providers. The Fund's maximum exposure under these arrangements is
unknown. However, the Fund has not had prior claims or losses pursuant to these
contracts and expects the risk of loss to be remote.
8. LITIGATION
Lehman Brothers Special Finance, Inc. ("LBSF") is maintaining a certain class
action in the United States Bankruptcy Court for the Southern District of New
York (the "Class Litigation"), seeking to recover funds that it alleges were
inappropriately distributed to counter-parties upon the termination of credit
swap agreements based on Lehman Brothers' bankruptcy. The Class Litigation was
filed September 14, 2010. The Class Litigation names the issuers of certain
asset-backed securities (the "Issuer Defendants"), the trustees for such
securities (the "Trustee Defendants") and certain of the investors in the
securities (the "Named Noteholder Defendants"). On July 11, 2012, special
counsel for LBSF filed a motion in the United States Bankruptcy Court for the
Southern District of New York to add additional Named Noteholder Defendants in
the Class Litigation, including the Fund and two funds (First Trust Strategic
High Income Fund and First Trust Strategic High Income Fund III) subsequently
reorganized into the Fund. On July 18, 2012 the court granted the motion to add
the Named Noteholder Defendants, including the Fund. The matter has been stayed
until January 20, 2014.
The Fund has been advised that it, First Trust Strategic High Income Fund and
First Trust Strategic High Income Fund III received, in the aggregate,
$6,750,000 from one Issuer Defendant, although the Fund's liability could exceed
this amount due to an award of pre-judgment interest or other factors. LBSF is
attempting to resolve its claims through court-ordered mediation and
negotiation. Based on the current status of the litigation, the Fund cannot
predict the outcome of the Class Litigation at this time.
9. SUBSEQUENT EVENTS
Management has evaluated the impact of all subsequent events to the Fund through
the date the financial statements were issued, and has determined that there
were the following subsequent events:
On November 20, 2013, the Fund declared a dividend of $0.1200 per share to
Common Shareholders of record on December 4, 2013, payable December 10, 2013.
On December 17, 2013, the Fund declared a dividend of $0.1200 per share to
Common Shareholders of record on January 6, 2014, payable January 15, 2014.
Page 26
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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
--------------------------------------------------------------------------------
TO THE BOARD OF TRUSTEES AND SHAREHOLDERS OF FIRST TRUST STRATEGIC HIGH INCOME
FUND II:
We have audited the accompanying statement of assets and liabilities of First
Trust Strategic High Income Fund II (the "Fund"), including the portfolio of
investments, as of October 31, 2013, and the related statements of operations
and cash flows for the year then ended, the statements of changes in net assets
for each of the two years in the period then ended, and the financial highlights
for each of the five years in the period then ended. These financial statements
and financial highlights are the responsibility of the Fund's management. Our
responsibility is to express an opinion on these financial statements and
financial highlights based on our audits.
We conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audits to obtain reasonable assurance about whether the
financial statements and financial highlights are free of material misstatement.
The Fund is not required to have, nor were we engaged to perform, an audit of
its internal control over financial reporting. Our audits included consideration
of internal control over financial reporting as a basis for designing audit
procedures that are appropriate in the circumstances, but not for the purpose of
expressing an opinion on the effectiveness of the Fund's internal control over
financial reporting. Accordingly, we express no such opinion. An audit also
includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements, assessing the accounting principles
used and significant estimates made by management, as well as evaluating the
overall financial statement presentation. Our procedures included confirmation
of securities owned as of October 31, 2013 by correspondence with the Fund's
custodian, agent banks, and brokers; where replies were not received, we
performed other auditing procedures. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements and financial highlights referred to
above present fairly, in all material respects, the financial position of the
First Trust Strategic High Income Fund II as of October 31, 2013, the results of
its operations and its cash flows for the year then ended, the changes in its
net assets for each of the two years in the period then ended, and the financial
highlights for each of the five years in the period then ended, in conformity
with accounting principles generally accepted in the United States of America.
/s/ Deloitte & Touche L.P.
Chicago, Illinois
December 20, 2013
Page 27
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ADDITIONAL INFORMATION
--------------------------------------------------------------------------------
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
OCTOBER 31, 2013 (UNAUDITED)
DIVIDEND REINVESTMENT PLAN
If your Common Shares are registered directly with the Fund or if you hold your
Common Shares with a brokerage firm that participates in the Fund's Dividend
Reinvestment Plan (the "Plan"), unless you elect, by written notice to the Fund,
to receive cash distributions, all dividends, including any capital gain
distributions, on your Common Shares will be automatically reinvested by BNY
Mellon Investment Servicing (US) Inc. (the "Plan Agent"), in additional Common
Shares under the Plan. If you elect to receive cash distributions, you will
receive all distributions in cash paid by check mailed directly to you by the
Plan Agent, as the dividend paying agent.
If you decide to participate in the Plan, the number of Common Shares you will
receive will be determined as follows:
(1) If Common Shares are trading at or above net asset value ("NAV") at
the time of valuation, the Fund will issue new shares at a price
equal to the greater of (i) NAV per Common Share on that date or
(ii) 95% of the market price on that date.
(2) If Common Shares are trading below NAV at the time of valuation, the
Plan Agent will receive the dividend or distribution in cash and
will purchase Common Shares in the open market, on the NYSE or
elsewhere, for the participants' accounts. It is possible that the
market price for the Common Shares may increase before the Plan
Agent has completed its purchases. Therefore, the average purchase
price per share paid by the Plan Agent may exceed the market price
at the time of valuation, resulting in the purchase of fewer shares
than if the dividend or distribution had been paid in Common Shares
issued by the Fund. The Plan Agent will use all dividends and
distributions received in cash to purchase Common Shares in the open
market within 30 days of the valuation date except where temporary
curtailment or suspension of purchases is necessary to comply with
federal securities laws. Interest will not be paid on any uninvested
cash payments.
You may elect to opt-out of or withdraw from the Plan at any time by giving
written notice to the Plan Agent, or by telephone at (866) 340-1104, in
accordance with such reasonable requirements as the Plan Agent and the Fund may
agree upon. If you withdraw or the Plan is terminated, you will receive a
certificate for each whole share in your account under the Plan, and you will
receive a cash payment for any fraction of a share in your account. If you wish,
the Plan Agent will sell your shares and send you the proceeds, minus brokerage
commissions.
The Plan Agent maintains all Common Shareholders' accounts in the Plan and gives
written confirmation of all transactions in the accounts, including information
you may need for tax records. Common Shares in your account will be held by the
Plan Agent in non-certificated form. The Plan Agent will forward to each
participant any proxy solicitation material and will vote any shares so held
only in accordance with proxies returned to the Fund. Any proxy you receive will
include all Common Shares you have received under the Plan.
There is no brokerage charge for reinvestment of your dividends or distributions
in Common Shares. However, all participants will pay a pro rata share of
brokerage commissions incurred by the Plan Agent when it makes open market
purchases.
Automatically reinvesting dividends and distributions does not mean that you do
not have to pay income taxes due upon receiving dividends and distributions.
Capital gains and income are realized although cash is not received by you.
Consult your financial advisor for more information.
If you hold your Common Shares with a brokerage firm that does not participate
in the Plan, you will not be able to participate in the Plan and any dividend
reinvestment may be effected on different terms than those described above.
The Fund reserves the right to amend or terminate the Plan if in the judgment of
the Board of Trustees the change is warranted. There is no direct service charge
to participants in the Plan; however, the Fund reserves the right to amend the
Plan to include a service charge payable by the participants. Additional
information about the Plan may be obtained by writing BNY Mellon Investment
Servicing (US) Inc., 301 Bellevue Parkway, Wilmington, Delaware 19809.
--------------------------------------------------------------------------------
PROXY VOTING POLICIES AND PROCEDURES
A description of the policies and procedures that the Fund uses to determine how
to vote proxies and information on how the Fund voted proxies relating to
portfolio investments during the most recent 12-month period ended June 30 is
available (1) without charge, upon request, by calling (800) 988-5891; (2) on
the Fund's website located at http://www.ftportfolios.com; and (3) on the
Securities and Exchange Commission's ("SEC") website located at
http://www.sec.gov.
Page 28
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ADDITIONAL INFORMATION (CONTINUED)
--------------------------------------------------------------------------------
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
OCTOBER 31, 2013 (UNAUDITED)
PORTFOLIO HOLDINGS
The Fund files its complete schedule of portfolio holdings with the SEC for the
first and third quarters of each fiscal year on Form N-Q. The Fund's Forms N-Q
are available (1) by calling (800) 988-5891; (2) on the Fund's website located
at http://www.ftportfolios.com;
(3) on the SEC's website at http://www.sec.gov; and (4) for review and copying
at the SEC's Public Reference Room ("PRR") in Washington, DC. Information
regarding the operation of the PRR may be obtained by calling (800) SEC-0330.
NYSE CERTIFICATION INFORMATION
In accordance with Section 303A-12 of the New York Stock Exchange ("NYSE")
Listed Company Manual, the Fund's President has certified to the NYSE that, as
of May 14, 2013, he was not aware of any violation by the Fund of NYSE corporate
governance listing standards. In addition, the Fund's reports to the SEC on
Forms N-CSR, N-CSRS and N-Q contain certifications by the Fund's principal
executive officer and principal financial officer that relate to the Fund's
public disclosure in such reports and are required by Rule 30a-2 under the 1940
Act.
SUBMISSION OF MATTERS TO A VOTE OF SHAREHOLDERS
The Joint Annual Meeting of Shareholders of the Common Shares of Macquarie/First
Trust Global Infrastructure/Utilities Dividend & Income Fund, First Trust Energy
Income and Growth Fund, First Trust Enhanced Equity Income Fund, First
Trust/Aberdeen Global Opportunity Income Fund, First Trust Mortgage Income Fund,
First Trust Strategic High Income Fund II, First Trust/Aberdeen Emerging
Opportunity Fund, First Trust Specialty Finance and Financial Opportunities
Fund, First Trust Dividend and Income Fund (formerly First Trust Active Dividend
Income Fund), First Trust High Income Long/Short Fund and First Trust Energy
Infrastructure Fund, was held on April 17, 2013 (the "Annual Meeting"). At the
Annual Meeting, Trustees James A. Bowen and Niel B. Nielson were elected by the
Common Shareholders of the First Trust Strategic High Income Fund II as Class
III Trustees for three-year terms expiring at the Fund's annual meeting of
shareholders in 2016. The number of votes cast in favor of Mr. Bowen was
7,083,334, the number of votes against was 180,891 and the number of abstentions
was 1,194,644. The number of votes cast in favor of Mr. Nielson was 7,106,027,
the number against was 158,198 and the number of abstentions was 1,194,644.
Richard E. Erickson, Thomas R. Kadlec and Robert F. Keith are the other current
and continuing Trustees.
TAX INFORMATION
Of the ordinary income (including short-term capital gain) distributions made by
the Fund during the year ended October 31, 2013, none qualify for the corporate
dividends received deduction available to corporate shareholders or as qualified
dividend income.
RISK CONSIDERATIONS
Risks are inherent in all investing. The following summarizes some of the risks
that should be considered for the Fund. For additional information about the
risks associated with investing in the Fund, please see the Fund's prospectus
and statement of additional information, as well as other Fund regulatory
filinGS.
INVESTMENT AND MARKET RISK: An investment in the Fund's Common Shares is subject
to investment risk, including the possible loss of the entire principal
invested. An investment in Common Shares represents an indirect investment in
the securities owned by the Fund. The value of these securities, like other
market investments, may move up or down, sometimes rapidly and unpredictably.
Common Shares at any point in time may be worth less than the original
investment, even after taking into account the reinvestment of Fund dividends
and distributions. Security prices can fluctuate for several reasons including
the general condition of the securities markets, or when political or economic
events affecting the issuers occur, including the risk that borrowers do not pay
their mortgages. When the Advisor or Sub-Advisor determines that it is
temporarily unable to follow the Fund's investment strategy or that it is
impractical to do so (such as when a market disruption event has occurred and
trading in the securities is extremely limited or absent), the Advisor or
Sub-Advisor may take temporary defensive positions.
RESIDENTIAL MORTGAGE-BACKED SECURITIES RISK: MBS's may have less potential for
capital appreciation than comparable fixed-income securities due to the
likelihood of increased prepayments of mortgages as interest rates decline. If
the Fund buys MBS's at a premium, mortgage foreclosures and prepayments of
principal by mortgagors (which usually may be made at any time without penalty)
may result in some loss of the Fund's principal investment to the extent of the
premium paid. Alternatively, in a rising interest rate environment, the value of
MBS's may be adversely affected when payments on underlying mortgages do not
occur as anticipated, resulting in the extension of the security's effective
maturity and the related increase in interest rate sensitivity of a longer-term
instrument. The value of MBS's may also change due to shifts in the market's
perception of issuers and regulatory or tax changes adversely affecting the
markets as a whole. In addition, MBS's are subject to the credit risk associated
with the performance of the underlying mortgage properties. In certain
instances, third-party guarantees or other forms of credit support can reduce
the credit risk. The Fund may also invest in MBS's which are interest-only
securities ("IO") and principal-only ("PO") securities. Generally speaking, when
interest rates are falling and prepayment rates are
Page 29
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ADDITIONAL INFORMATION (CONTINUED)
--------------------------------------------------------------------------------
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
OCTOBER 31, 2013 (UNAUDITED)
increasing, the value of a PO security will rise and the value of an IO security
will fall. Conversely, when interest rates are rising and prepayment rates are
decreasing, generally the value of a PO will fall and the value of an IO
security will rise. In addition to the foregoing, residential MBS's are subject
to additional risks, including, but not limited to: (i) the United States
residential mortgage market has recently encountered various difficulties and
changed economic conditions. In addition, recently, residential property values
in various states have declined or remained stable after extended periods of
appreciation. A continued decline or an extended flattening in those values may
result in additional increases in delinquencies and losses on residential
mortgage loans generally; (ii) if a residential mortgage obligation is secured
by a junior lien it will be subordinate to the rights of the mortgagees or
beneficiaries under the related senior mortgages or deeds of trust; and (iii)
depending on the length of a residential mortgage obligation underling a
residential MBS, unscheduled or early payments of principal and interest may
shorten the security's effective maturity and prevailing interest rates may be
higher or lower than the current yield of the Fund's portfolio at the time the
Fund receives the payments for reinvestment.
VALUE INVESTING RISK: The Sub-Advisor focuses the Fund's investments on
securities that they believe are undervalued or inexpensive relative to other
investments. Such securities are subject to the risk of misestimating certain
fundamental factors. Disciplined adherence to a "value" investment mandate
during periods in which that style is "out of favor" can result in significant
underperformance relative to overall market indices and other managed investment
vehicles that pursue growth style investments and/or flexible style mandates.
BELOW-INVESTMENT GRADE SECURITIES RISK: The Fund invests in below-investment
grade securities. The market values for high-yield securities tend to be very
volatile, and these securities are less liquid than investment grade debt
securities. For these reasons, an investment in the Fund is subject to the
following specific risks: (a) increased price sensitivity to changing interest
rates and to a deteriorating economic environment; (b) greater risk of loss due
to default or declining credit quality; (c) adverse issuer specific events are
more likely to render the issuer unable to make interest and/or principal
payments; and (d) a negative perception of the high-yield market may depress the
price and liquidity of high-yield securities.
DISTRESSED SECURITIES RISK: The Fund may invest in securities issued by
companies in a bankruptcy reorganization proceeding, subject to some other form
of a public or private debt restructuring or otherwise in default or in
significant risk of default in the payment of interest or repayment of principal
or trading at prices substantially below other below-investment grade debt
securities of companies in similar industries. Distressed securities frequently
do not produce income while they are outstanding. The Fund may be required to
incur certain extraordinary expenses in order to protect and recover its
investment. Therefore, to the extent the Sub-Advisor seeks capital appreciation
through investment in distressed securities; the ability to achieve current
income may be diminished.
ECONOMIC CONDITIONS RISK: Adverse changes in economic conditions are more likely
to lead to a weakened capacity of a high-yield issuer to make principal payments
and interest payments than an investment grade issuer. An economic downturn
could severely affect the ability of highly leveraged issuers to service their
debt obligations or to repay their obligations upon maturity. Under adverse
market or economic conditions, the secondary market for high-yield securities
could contract further, independent of any specific adverse changes in the
condition of a particular issuer and these securities may become illiquid. As a
result, the Sub-Advisor could find it more difficult to sell these securities or
may be able to sell the securities only at prices lower than if such securities
were widely traded.
FIXED-INCOME SECURITIES RISK: Debt securities, including high yield securities,
are subject to certain risks, including: (i) issuer risk, which is the risk that
the value of fixed-income securities may decline for a number of reasons which
directly relate to the issuer, such as management performance, financial
leverage and reduced demand for the issuer's goods and services or, in the case
of asset-backed issuers, a decline in the value and/or cash flows of the
underlying assets; (ii) reinvestment risk, which is the risk that income from
the Fund's portfolio will decline if the proceeds from matured, traded or called
bonds are reinvested at market interest rates that are below the portfolio's
current earnings rate; (iii) prepayment risk, which is the risk that during
periods of declining interest rates, the issuer of a security may exercise its
option to prepay principal earlier than scheduled, forcing the reinvestment in
lower yielding securities; and
(iv) credit risk, which is the risk that a security in the Fund's portfolio will
decline in price or the issuer fails to make interest payments when due because
the issuer of the security experiences a decline in its financial status.
INTEREST RATE RISK: The Fund's portfolio is also subject to interest rate risk.
Interest rate risk is the risk that fixed-income securities will decline in
value because of changes in market interest rates. Investments in debt
securities with long-term maturities may experience significant price declines
if long-term interest rates increase.
LEVERAGE RISK: The Fund may borrow an amount up to 33-1/3% (or such other
percentage as permitted by law) of its assets (including the amount borrowed)
less liabilities other than borrowings. The Fund may use leverage for investment
purposes and to meet cash requirements. Its leveraged capital structure creates
special risks not associated with unleveraged funds having similar investment
objectives and policies. These include the possibility of higher volatility of
the NAV of the Fund. The Fund previously leveraged its assets through the use of
reverse repurchase agreements. Reverse repurchase agreements are subject to the
risks that the market value of the securities sold by the Fund may decline below
the price of the securities the Fund is obligated to repurchase, and that the
securities
Page 30
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ADDITIONAL INFORMATION (CONTINUED)
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FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
OCTOBER 31, 2013 (UNAUDITED)
may not be returned to the Fund. The Fund may from time to time consider
changing the amount of the leverage in response to actual or anticipated changes
in interest rates or the value of the Fund's investment portfolio. There can be
no assurance that the leverage strategies will be successful.
FOREIGN SECURITIES RISK: The Fund may invest in securities (equity or debt) of
foreign issuers. Investing in securities of foreign issuers, which are generally
denominated in foreign currencies, may involve certain risks not typically
associated with investing in securities of U.S. issuers. These risks include:
(i) there may be less publicly available information about
foreign issuers or markets due to less rigorous disclosure or accounting
standards or regulatory practices; (ii) foreign markets may be smaller, less
liquid and more volatile than the U.S. market; (iii) potential adverse effects
of fluctuations in currency exchange rates or controls on the value of the
Fund's investments; (iv) the economies of foreign countries may grow at slower
rates than expected or may experience a downturn or recession; (v) the impact of
economic, political, social or diplomatic events; (vi) certain foreign countries
may impose restrictions on the ability of foreign issuers to make payments of
principal and interest to investors located in the United States due to blockage
of foreign currency exchanges or otherwise; and (vii) withholding and other
foreign taxes may decrease the Fund's return. These risks may be more pronounced
to the extent that the Fund invests a significant amount of its assets in
companies located in one region and to the extent that the Fund invests in
securities of issuers in emerging markets.
ADVISORY AND SUB-ADVISORY AGREEMENTS
BOARD CONSIDERATIONS REGARDING APPROVAL OF INVESTMENT MANAGEMENT AND INVESTMENT
SUB-ADVISORY AGREEMENTS
The Board of Trustees of First Trust Strategic High Income Fund II (the "Fund"),
including the Independent Trustees, approved the continuation of the Investment
Management Agreement (the "Advisory Agreement") between the Fund and First Trust
Advisors L.P. (the "Advisor") and the Investment Sub Advisory Agreement (the
"Sub Advisory Agreement" and together with the Advisory Agreement, the
"Agreements") among the Fund, the Advisor and Brookfield Investment Management
Inc. (the "Sub-Advisor"), at a meeting held on June 9-10, 2013. The Board
determined that the continuation of the Agreements is in the best interests of
the Fund in light of the extent and quality of the services provided and such
other matters as the Board considered to be relevant in the exercise of its
reasonable business judgment.
To reach this determination, the Board considered its duties under the
Investment Company Act of 1940, as amended (the "1940 Act"), as well as under
the general principles of state law in reviewing and approving advisory
contracts; the requirements of the 1940 Act in such matters; the fiduciary duty
of investment advisors with respect to advisory agreements and compensation; the
standards used by courts in determining whether investment company boards have
fulfilled their duties; and the factors to be considered by the Board in voting
on such agreements. To assist the Board in its evaluation of the Agreements, the
Independent Trustees received a separate report from each of the Advisor and the
Sub-Advisor in advance of the Board meeting responding to a request for
information from counsel to the Independent Trustees. The reports, among other
things, outlined the services provided by the Advisor and the Sub-Advisor
(including the relevant personnel responsible for these services and their
experience); the advisory and sub-advisory fees for the Fund as compared to fees
charged to other clients of the Advisor and the Sub-Advisor and as compared to
fees charged by investment advisors and sub-advisors to comparable funds;
expenses of the Fund as compared to expense ratios of comparable funds; the
nature of expenses incurred in providing services to the Fund and the potential
for economies of scale, if any; financial data on the Advisor and the
Sub-Advisor; any fall out benefits to the Advisor and the Sub-Advisor; and
information on the Advisor's and the Sub-Advisor's compliance programs.
Following receipt of this information, the Independent Trustees and their
counsel met separately to discuss the information provided by the Advisor and
the Sub-Advisor. The Board applied its business judgment to determine whether
the arrangements between the Fund and the Advisor and among the Fund, the
Advisor and the Sub-Advisor are reasonable business arrangements from the Fund's
perspective as well as from the perspective of shareholders. The Board
considered that shareholders chose to invest or remain invested in the Fund
knowing that the Advisor and the Sub-Advisor manage the Fund.
In reviewing the Agreements, the Board considered the nature, extent and quality
of services provided by the Advisor and the Sub-Advisor under the Agreements.
The Board considered the Advisor's statements regarding the incremental benefits
associated with the Fund's advisor/sub-advisor management structure. With
respect to the Advisory Agreement, the Board considered that the Advisor is
responsible for the overall management and administration of the Fund and
reviewed the services provided by the Advisor to the Fund, including the
oversight of the Sub-Advisor. The Board noted the compliance program that had
been developed by the Advisor and considered that it includes a robust program
for monitoring the Sub-Advisor's compliance with the 1940 Act and the Fund's
investment objectives and policies. With respect to the Sub-Advisory Agreement,
the Board reviewed the materials provided by the Sub Advisor and considered the
services that the Sub-Advisor provides to the Fund, including the Sub-Advisor's
day-to-day management of the Fund's investments since 2009. In light of the
information presented and the considerations made, the Board concluded that the
nature, extent and quality of services provided to the Fund by the Advisor and
the Sub-Advisor under the Agreements have been and are expected to remain
satisfactory and that the Sub-Advisor, under the oversight of the Advisor, has
managed the Fund consistent with its investment objectives and policies.
Page 31
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ADDITIONAL INFORMATION (CONTINUED)
--------------------------------------------------------------------------------
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
OCTOBER 31, 2013 (UNAUDITED)
The Board considered the advisory and sub-advisory fees paid under the
Agreements. The Board considered the advisory fees charged by the Advisor to
similar funds and other non-fund clients, noting that the Advisor does not
provide advisory services to other funds with investment objectives and policies
similar to the Fund's, but does provide services to certain separately managed
accounts with investment objectives and policies similar to the Fund's. The
Board noted that the Advisor charges a lower advisory fee rate to the separately
managed accounts, as well as the Advisor's statement that the nature of the
services provided to the separately managed accounts is not comparable to those
provided to the Fund. The Board considered the sub-advisory fee and how it
relates to the Fund's overall advisory fee structure and noted that the
sub-advisory fee is paid by the Advisor from its advisory fee. The Board also
considered information provided by the Sub-Advisor as to the fees it charges to
other closed-end funds it manages, noting that the sub-advisory fee rate is
lower than the advisory fee rate charged by the Sub-Advisor to the other funds
it manages. In addition, the Board reviewed data prepared by Lipper Inc.
("Lipper"), an independent source, showing the advisory fees and expense ratios
of the Fund as compared to the management fees and expense ratios of an expense
peer group selected by Lipper and similar data from the Advisor for a separate
peer group selected by the Advisor. The Board noted that the Lipper and Advisor
peer groups did not include any overlapping peer funds. The Board discussed with
representatives of the Advisor the limitations in creating a relevant peer group
for the Fund, including that (i) the Fund is unique in its composition, which
makes assembling peers with similar strategies and asset mix difficult; (ii)
peer funds may use different types of leverage which have different costs
associated with them or may use no leverage; (iii) none of the peer funds employ
an advisor/sub-advisor management structure; and (iv) many of the peer funds are
larger than the Fund, which causes the Fund's fixed expenses to be higher on a
percentage basis as compared to the larger peer funds. The Board took these
limitations into account in considering the peer data. In reviewing the peer
data, the Board noted that the Fund's contractual advisory fee was above the
median of the Lipper expense peer group.
The Board also considered performance information for the Fund, noting that the
performance information included the Fund's quarterly performance report, which
is part of the process that the Board has established for monitoring the Fund's
performance and portfolio risk on an ongoing basis. The Board determined that
this process continues to be effective for reviewing the Fund's performance. In
addition to the Board's ongoing review of performance, the Board also received
data prepared by Lipper comparing the Fund's performance to a performance peer
universe selected by Lipper and to two benchmarks. In reviewing the Fund's
performance as compared to the performance of the Lipper performance peer
universe, the Board took into account the limitations described above with
respect to creating a relevant peer group for the Fund. The Board also
considered the Fund's dividend yield as of March 28, 2013 and an analysis
prepared by the Advisor on the continued benefits provided by the Fund's
leverage. In addition, the Board compared the Fund's premium/discount over the
past eight quarters to the average and median premium/discount of the Advisor
peer group over the same period and considered the factors that may impact a
fund's premium/discount.
On the basis of all the information provided on the fees, expenses and
performance of the Fund, the Board concluded that the advisory and sub-advisory
fees were reasonable and appropriate in light of the nature, extent and quality
of services provided by the Advisor and Sub-Advisor under the Agreements.
The Board noted that the Advisor has continued to invest in personnel and
infrastructure and considered whether fee levels reflect any economies of scale
for the benefit of shareholders. The Board determined that due to the Fund's
closed-end structure, the potential for realization of economies of scale as
Fund assets grow was not a material factor to be considered. The Board also
considered the costs of the services provided and profits realized by the
Advisor from serving as investment advisor to the Fund for the twelve months
ended December 31, 2012, as set forth in the materials provided to the Board.
The Board noted the inherent limitations in the profitability analysis, and
concluded that the Advisor's estimated profitability appeared to be not
excessive in light of the services provided to the Fund. In addition, the Board
considered fall-out benefits described by the Advisor that may be realized from
its relationship with the Fund, including the Advisor's compensation for fund
reporting services pursuant to a separate Fund Reporting Services Agreement.
The Board noted the Sub-Advisor's expenses in providing investment services to
the Fund and considered the Sub-Advisor's statement that it does not expect
economies of scale to be present in connection with its provision of services to
the Fund. The Board considered that the sub advisory fee rate was negotiated at
arm's length between the Advisor and the Sub-Advisor, an unaffiliated third
party. The Board also considered data provided by the Sub-Advisor with respect
to the profitability of the Sub Advisory Agreement to the Sub-Advisor. The Board
noted the inherent limitations in the profitability analysis and concluded that
the profitability analysis for the Advisor was more relevant, although the
profitability of the Sub-Advisory Agreement appeared to be not excessive in
light of the services provided to the Fund. The Board noted that the Sub-Advisor
does not maintain any soft-dollar arrangements and that the Sub-Advisor
indicated that it does not anticipate any material fall out benefits from its
relationship to the Fund.
Based on all of the information considered and the conclusions reached, the
Board, including the Independent Trustees, unanimously determined that the terms
of the Agreements continue to be fair and reasonable and that the continuation
of the Agreements is in the best interests of the Fund. No single factor was
determinative in the Board's analysis.
Page 32
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BOARD OF TRUSTEES AND OFFICERS
--------------------------------------------------------------------------------
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
OCTOBER 31, 2013 (UNAUDITED)
NUMBER OF OTHER
PORTFOLIOS IN TRUSTEESHIPS OR
THE FIRST TRUST DIRECTORSHIPS
NAME, ADDRESS, TERM OF OFFICE FUND COMPLEX HELD BY TRUSTEE
DATE OF BIRTH AND AND LENGTH OF PRINCIPAL OCCUPATIONS OVERSEEN BY DURING PAST
POSITION WITH THE FUND SERVICE(2) DURING PAST 5 YEARS TRUSTEE 5 YEARS
------------------------------------------------------------------------------------------------------------------------------------
INDEPENDENT TRUSTEES
------------------------------------------------------------------------------------------------------------------------------------
Richard E. Erickson, Trustee o Three-Year Term Physician; President, Wheaton Orthopedics; 105 None
c/o First Trust Advisors L.P. Limited Partner, Gundersen Real
120 E. Liberty Drive, o Since Fund Estate Limited Partnership; Member,
Suite 400 Inception Sportsmed LLC
Wheaton, IL 60187
D.O.B.: 04/51
Thomas R. Kadlec, Trustee o Three-Year Term President (March 2010 to Present), Senior Director of
c/o First Trust Advisors L.P. Vice President and Chief Financial Officer 105 ADM Investor
120 E. Liberty Drive, o Since Fund (May 2007 to March 2010), Services,Inc.
Suite 400 Inception ADM Investor Services, Inc. and ADM
Wheaton, IL 60187 (Futures Commission Merchant) Investor
D.O.B.: 11/57 Services,
International
Robert F. Keith, Trustee o Three-Year Term President (2003 to Present), 105 Director of
c/o First Trust Advisors L.P. Hibs Enterprises (Financial and Trust Company
120 E. Liberty Drive, o Since June 2006 Management Consulting) of Illinois
Suite 400
Wheaton, IL 60187
D.O.B.: 11/56
Niel B. Nielson, Trustee o Three-Year Term President and Chief Executive Officer (June 105 Director of
c/o First Trust Advisors L.P. 2012 to Present), Dew Learning LLC Covenant
120 E. Liberty Drive, (Educational Products and Services); President Transport Inc.
Suite 400 o Since Fund (June 2002 to June 2012), Covenant College
Wheaton, IL 60187 Inception
D.O.B.: 03/54
------------------------------------------------------------------------------------------------------------------------------------
INTERESTED TRUSTEE
------------------------------------------------------------------------------------------------------------------------------------
James A. Bowen(1), Trustee and o Three Year Term Chief Executive Officer (December 2010 105 None
Chairman of the Board to Present), President (until December
120 East Liberty Drive, o Since Fund 2010), First Trust Advisors L.P. and First
Suite 400 Inception Trust Portfolios L.P.; Chairman of the
Wheaton, IL 60187 Board of Directors, BondWave LLC
D.O.B.: 09/55 (Software Development Company/
Investment Advisor) and Stonebridge
Advisors LLC (Investment Advisor)
(1) Mr. Bowen is deemed an "interested person" of the Fund due to his position
as Chief Executive Officer of First Trust Advisors L.P., investment
advisor of the Trust.
(2) Currently, Robert F. Keith, as a Class I Trustee, is serving as a trustee
until the Fund's 2014 annual meeting of shareholders. Richard E. Erickson
and Thomas R. Kadlec, as Class II Trustees, are serving as trustees until
the Fund's 2015 annual meeting of shareholders. James A. Bowen and Niel B.
Nielson, as Class III Trustees, are serving as trustees until the Fund's
2016 annual meeting of shareholders.
Page 33
--------------------------------------------------------------------------------
BOARD OF TRUSTEES AND OFFICERS (CONTINUED)
--------------------------------------------------------------------------------
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
OCTOBER 31, 2013 (UNAUDITED)
NAME, ADDRESS POSITION AND OFFICES TERM OF OFFICE AND PRINCIPAL OCCUPATIONS
AND DATE OF BIRTH WITH FUND LENGTH OF SERVICE DURING PAST 5 YEARS
------------------------------------------------------------------------------------------------------------------------------------
OFFICERS WHO ARE NOT TRUSTEES(3)
------------------------------------------------------------------------------------------------------------------------------------
Mark R. Bradley President and Chief o Indefinite Term Chief Operating Officer (December 2010 to Present)
120 E. Liberty Drive, Executive Officer and Chief Financial Officer, First Trust Advisors
Suite 400 o Since January 2012 L.P. and First Trust Portfolios L.P.; Chief
Wheaton, IL 60187 Financial Officer, BondWave LLC (Software
D.O.B.: 11/57 Development Company/Investment Advisor) and
Stonebridge Advisors LLC (Investment Advisor)
James M. Dykas Treasurer, Chief Financial o Indefinite Term Controller (January 2011 to Present).
120 E. Liberty Drive, Officer and Chief Senior Vice President (April 2007 to
Suite 400 Accounting Officer o Since January 2012 January 2011), First Trust Advisors L.P.
Wheaton, IL 60187 and First Trust Portfolios L.P.
D.O.B.: 01/66
W. Scott Jardine Secretary and Chief o Indefinite Term General Counsel, First Trust Advisors L.P., First
120 E. Liberty Drive, Legal Officer Trust Portfolios L.P.; Secretary, BondWave LLC
Wheaton, IL 60187 o Since Fund Inception (Software Development Company/Investment
Suite 400 Advisor) and Stonebridge Advisors LLC
D.O.B.: 05/60 (Investment Advisor)
Daniel J. Lindquist Vice President o Indefinite Term Managing Director (July 2012 to Present), Senior
120 E. Liberty Drive, Vice President (September 2005 to July 2012),
Suite 400 o Since Fund Inception First Trust Advisors L.P. and First Trust
Wheaton, IL 60187 Portfolios L.P.
D.O.B.: 02/70
Kristi A. Maher Chief Compliance Officer o Indefinite Term Deputy General Counsel,
120 E. Liberty Drive, and Assistant Secretary First Trust Advisors L.P. and
Suite 400 o Since Fund Inception First Trust Portfolios L.P.
Wheaton, IL 60187
D.O.B.: 12/66
-----------------------------------------
(3) The term "officer" means the president, vice president, secretary,
treasurer, controller or any other officer who performs a policy making
function.
Page 34
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PRIVACY POLICY
--------------------------------------------------------------------------------
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
OCTOBER 31, 2013
PRIVACY POLICY
First Trust values our relationship with you and considers your privacy an
important priority in maintaining that relationship. We are committed to
protecting the security and confidentiality of your personal information.
SOURCES OF INFORMATION
We collect nonpublic personal information about you from the following sources:
o Information we receive from you and your broker-dealer, investment
advisor or financial representative through interviews,
applications, agreements or other forms;
o Information about your transactions with us, our affiliates or
others;
o Information we receive from your inquiries by mail, e-mail or
telephone; and
o Information we collect on our website through the use of "cookies".
For example, we may identify the pages on our website that your
browser requests or visits.
INFORMATION COLLECTED
The type of data we collect may include your name, address, social security
number, age, financial status, assets, income, tax information, retirement and
estate plan information, transaction history, account balance, payment history,
investment objectives, marital status, family relationships and other personal
information.
DISCLOSURE OF INFORMATION
We do not disclose any nonpublic personal information about our customers or
former customers to anyone, except as permitted by law. In addition to using
this information to verify your identity (as required under law), the permitted
uses may also include the disclosure of such information to unaffiliated
companies for the following reasons:
o In order to provide you with products and services and to effect
transactions that you request or authorize, we may disclose your
personal information as described above to unaffiliated financial
service providers and other companies that perform administrative or
other services on our behalf, such as transfer agents, custodians
and trustees, or that assist us in the distribution of investor
materials such as trustees, banks, financial representatives, proxy
services, solicitors and printers.
o We may release information we have about you if you direct us to do
so, if we are compelled by law to do so, or in other legally limited
circumstances (for example to protect your account from fraud).
In addition, in order to alert you to our other financial products and services,
we may share your personal information within First Trust.
PRIVACY ONLINE
We allow third-party companies, including AddThis (a social media sharing
service), to collect certain anonymous information when you visit our website.
These companies may use non-personally identifiable information during your
visits to this and other websites in order to provide advertisements about goods
and services likely to be of greater interest to you. These companies typically
use a cookie, third party web beacon or pixel tags, to collect this information.
To learn more about this behavioral advertising practice, you can visit
www.networkadvertising.org.
CONFIDENTIALITY AND SECURITY
With regard to our internal security procedures, First Trust restricts access to
your nonpublic personal information to those First Trust employees who need to
know that information to provide products or services to you. We maintain
physical, electronic and procedural safeguards to protect your nonpublic
personal information.
POLICY UPDATES AND INQUIRIES
As required by federal law, we will notify you of our privacy policy annually.
We reserve the right to modify this policy at any time, however, if we do change
it, we will tell you promptly. For questions about our policy, or for additional
copies of this notice, please go to www.ftportfolios.com, or contact us at
1-800-621-1675 (First Trust Portfolios) or 1-800-222-6822 (First Trust
Advisors).
Page 35
This Page Left Blank Intentionally.
This Page Left Blank Intentionally.
FIRST TRUST
INVESTMENT ADVISOR
First Trust Advisors L.P.
120 E. Liberty Drive, Suite 400
Wheaton, IL 60187
INVESTMENT SUB-ADVISOR
Brookfield Investment Management Inc.
3 World Financial Center
200 Vesey Street, 10th Floor
New York, NY 10281
ADMINISTRATOR,
FUND ACCOUNTANT &
TRANSFER AGENT
BNY Mellon Investment Servicing (US) Inc.
301 Bellevue Parkway
Wilmington, DE 19809
CUSTODIAN
The Bank of New York Mellon
101 Barclay Street, 20th Floor
New York, NY 10286
INDEPENDENT REGISTERED
PUBLIC ACCOUNTING FIRM
Deloitte & Touche LLP
111 S. Wacker Drive
Chicago, IL 60606
LEGAL COUNSEL
Chapman and Cutler LLP
111 W. Monroe Street
Chicago, IL 60603
[BLANK BACK COVER]
ITEM 2. CODE OF ETHICS.
(a) The registrant, as of the end of the period covered by this report,
has adopted a code of ethics that applies to the registrant's
principal executive officer, principal financial officer, principal
accounting officer or controller, or persons performing similar
functions, regardless of whether these individuals are employed by
the registrant or a third party.
(c) There have been no amendments, during the period covered by this
report, to a provision of the code of ethics that applies to the
registrant's principal executive officer, principal financial
officer, principal accounting officer or controller, or persons
performing similar functions, regardless of whether these
individuals are employed by the registrant or a third party, and
that relates to any element of the code of ethics description.
(d) The registrant has not granted any waivers, including an implicit
waiver, from a provision of the code of ethics that applies to the
registrant's principal executive officer, principal financial
officer, principal accounting officer or controller, or persons
performing similar functions, regardless of whether these
individuals are employed by the registrant or a third party, that
relates to one or more of the items set forth in paragraph (b) of
this item's instructions.
ITEM 3. AUDIT COMMITTEE FINANCIAL EXPERT.
As of the end of the period covered by the report, the Registrant's board of
trustees has determined that Thomas R. Kadlec and Robert F. Keith are qualified
to serve as audit committee financial experts serving on its audit committee and
that each of them is "independent," as defined by Item 3 of Form N-CSR.
ITEM 4. PRINCIPAL ACCOUNTANT FEES AND SERVICES.
(a) Audit Fees (Registrant) -- The aggregate fees billed for each of the
last two fiscal years for professional services rendered by the
principal accountant for the audit of the registrant's annual
financial statements or services that are normally provided by the
accountant in connection with statutory and regulatory filings or
engagements for those fiscal years were $90,500 for the fiscal year
ended October 31, 2012 and $65,000 for the fiscal year ended October
31, 2013.
(b) Audit-Related Fees (Registrant) -- The aggregate fees billed in each
of the last two fiscal years for assurance and related services by
the principal accountant that are reasonably related to the
performance of the audit of the registrant's financial statements
and are not reported under paragraph (a) of this Item were $0 for
the fiscal year ended October 31, 2012 and $0 for the fiscal year
ended October 31, 2013.
Audit-Related Fees (Investment Advisor) -- The aggregate fees billed
in each of the last two fiscal years for assurance and related
services by the principal accountant that are reasonably related to
the performance of the audit of the registrant's financial
statements and are not reported under paragraph (a) of this Item
were $0 for the fiscal year ended October 31, 2012 and $0 for the
fiscal year ended October 31, 2013.
(c) Tax Fees (Registrant) -- The aggregate fees billed in each of the
last two fiscal years for professional services rendered by the
principal accountant for tax compliance, tax advice, and tax
planning were $0 for the fiscal year ended October 31, 2012 and
$5,200 for the fiscal year ended October 31, 2013. These fees were
for tax return preparation.
Tax Fees (Investment Advisor) -- The aggregate fees billed in each
of the last two fiscal years for professional services rendered by
the principal accountant for tax compliance, tax advice, and tax
planning were $0 for the fiscal year ended October 31, 2012 and $0
for the fiscal year ended October 31, 2013.
(d) All Other Fees (Registrant) -- The aggregate fees billed in each of
the last two fiscal years for products and services provided by the
principal accountant to the Registrant, other than the services
reported in paragraphs (a) through (c) of this Item were $0 for the
fiscal year ended October 31, 2012 and $0 for the fiscal year ended
October 31, 2013.
All Other Fees (Investment Adviser) The aggregate fees billed in
each of the last two fiscal years for products and services provided
by the principal accountant to the Registrant, other than the
services reported in paragraphs (a) through (c) of this Item were $0
for the fiscal year ended October 31, 2012 and $0 for the fiscal
year ended October 31, 2013.
(e)(1) Disclose the audit committee's pre-approval policies and procedures
described in paragraph (c)(7) of Rule 2-01 of Regulation S-X.
Pursuant to its charter and its Audit and Non-Audit Services Pre-Approval
Policy, the Audit Committee (the "Committee") is responsible for the
pre-approval of all audit services and permitted non-audit services (including
the fees and terms thereof) to be performed for the registrant by its
independent auditors. The Chairman of the Committee is authorized to give such
pre-approvals on behalf of the Committee up to $25,000 and report any such
pre-approval to the full Committee.
The Committee is also responsible for the pre-approval of the independent
auditor's engagements for non-audit services with the registrant's adviser (not
including a sub-adviser whose role is primarily portfolio management and is
sub-contracted or overseen by another investment adviser) and any entity
controlling, controlled by or under common control with the investment adviser
that provides ongoing services to the registrant, if the engagement relates
directly to the operations and financial reporting of the registrant, subject to
the de minimis exceptions for non-audit services described in Rule 2-01 of
Regulation S-X. If the independent auditor has provided non-audit services to
the registrant's adviser (other than any sub-adviser whose role is primarily
portfolio management and is sub-contracted with or overseen by another
investment adviser) and any entity controlling, controlled by or under common
control with the investment adviser that provides ongoing services to the
registrant that were not pre-approved pursuant to its policies, the Committee
will consider whether the provision of such non-audit services is compatible
with the auditor's independence.
(e)(2) The percentage of services described in each of paragraphs (b)
through (d) for the Registrant and the Registrant's investment
adviser of this Item that were approved by the audit committee
pursuant to the pre-approval exceptions included in paragraph
(c)(7)(i)(c) or paragraph (c)(7)(ii) of Rule 2-01 of Regulation S-X
are as follows:
(b) 0%
(c) 0%
(d) 0%
(f) The percentage of hours expended on the principal accountant's
engagement to audit the registrant's financial statements for the
most recent fiscal year that were attributed to work performed by
persons other than the principal accountant's full-time, permanent
employees was less than fifty percent.
(g) The aggregate non-audit fees billed by the registrant's accountant
for services rendered to the registrant, and rendered to the
registrant's investment adviser (not including any sub-adviser whose
role is primarily portfolio management and is subcontracted with or
overseen by another investment adviser), and any entity controlling,
controlled by, or under common control with the adviser that
provides ongoing services to the registrant for the Registrant's
fiscal year ended October 31, 2012 were $0 for the Registrant and
$6,600 for the Registrant's investment adviser and for the
Registrant's fiscal year ended October 31, 2013 were $5,200 for the
Registrant and $3,000 for the Registrant's investment adviser.
(h) The registrant's audit committee of the board of directors has
considered whether the provision of non-audit services that were
rendered to the registrant's investment adviser (not including any
sub-adviser whose role is primarily portfolio management and is
subcontracted with or overseen by another investment adviser), and
any entity controlling, controlled by, or under common control with
the investment adviser that provides ongoing services to the
registrant that were not pre-approved pursuant to paragraph
(c)(7)(ii) of Rule 2-01 of Regulation S-X is compatible with
maintaining the principal accountant's independence.
ITEM 5. AUDIT COMMITTEE OF LISTED REGISTRANTS.
(a) The Registrant has a separately designated audit committee consisting of
all the independent directors of the Registrant. The members of the audit
committee are: Thomas R. Kadlec, Niel B. Nielson, Richard E. Erickson and
Robert F. Keith.
ITEM 6. INVESTMENTS.
(a) Schedule of Investments in securities of unaffiliated issuers as of the
close of the reporting period is included as part of the report to
shareholders filed under Item 1 of this form.
(b) Not applicable.
ITEM 7. DISCLOSURE OF PROXY VOTING POLICIES AND PROCEDURES FOR CLOSED-END
MANAGEMENT INVESTMENT COMPANIES.
The Proxy Voting Policies are attached herewith.
BROOKFIELD INVESTMENT MANAGEMENT INC.
PORTFOLIO PROXY VOTING POLICIES AND PROCEDURES
MAY 2012
The Portfolio Proxy Voting Policies and Procedures (the "Policies and
Procedures") set forth the proxy voting policies, procedures and guidelines to
be followed by Brookfield Investment Management Inc. and its subsidiaries and
affiliates (collectively, "BIM") in voting portfolio proxies relating to
securities that are held in the portfolios of the investment companies or other
clients ("Clients") for which BIM has been delegated such proxy voting
authority.
A. PROXY VOTING COMMITTEE
BIM's internal proxy voting committee (the "Committee") is responsible for
overseeing the proxy voting process and ensuring that BIM meets its regulatory
and corporate governance obligations in voting of portfolio proxies.
The Committee shall oversee the proxy voting agent's compliance with these
Policies and Procedures, including any deviations by the proxy voting agent from
the proxy voting guidelines ("Guidelines").
B. ADMINISTRATION AND VOTING OF PORTFOLIO PROXIES
1. FIDUCIARY DUTY AND OBJECTIVE
As an investment adviser that has been granted the authority to vote on
portfolio proxies, BIM owes a fiduciary duty to its Clients to monitor corporate
events and to vote portfolio proxies consistent with the best interests of its
Clients. In this regard, BIM seeks to ensure that all votes are free from
unwarranted and inappropriate influences. Accordingly, BIM generally votes
portfolio proxies in a uniform manner for its Clients and in accordance with
these Policies and Procedures and the Guidelines.
In meeting its fiduciary duty, BIM generally view proxy voting as a way to
enhance the value of the company's stock held by the Clients. Similarly, when
voting on matters for which the Guidelines dictate a vote be decided on a
case-by-case basis, BIM's primary consideration is the economic interests its
Clients.
2. PROXY VOTING AGENT
BIM may retain an independent third party proxy voting agent to assist BIM in
its proxy voting responsibilities in accordance with these Policies and
Procedures and in particular, with the Guidelines. As discussed above, the
Committee is responsible for monitoring the proxy voting agent.
In general, BIM may consider the proxy voting agent's research and analysis as
part of BIM's own review of a proxy proposal in which the Guidelines recommend
that the vote be considered on a case-by-case basis. BIM bears ultimate
responsibility for how portfolio proxies are voted. Unless instructed otherwise
by BIM, the proxy voting agent, when retained, will vote each portfolio proxy in
accordance with the Guidelines. The proxy voting agent also will assist BIM in
maintaining records of BIM's portfolio proxy votes, including the appropriate
records necessary for registered investment companies to meet their regulatory
obligations regarding the annual filing of proxy voting records on Form N-PX
with the Securities and Exchange Commission ("SEC").
3. MATERIAL CONFLICTS OF INTEREST
BIM votes portfolio proxies without regard to any other business relationship
between BIM and the company to which the portfolio proxy relates. To this end,
BIM must identify material conflicts of interest that may arise between a Client
and BIM, such as the following relationships:
o BIM provides significant investment advisory or other services to a
portfolio company or its affiliates (the "Company") whose management
is soliciting proxies or BIM is seeking to provide such services;
o BIM serves as an investment adviser to the pension or other
investment account of the Company or BIM is seeking to serve in that
capacity; or
o BIM and the Company have a lending or other financial-related
relationship.
In each of these situations, voting against the Company management's
recommendation may cause BIM a loss of revenue or other benefit.
BIM generally seeks to avoid such material conflicts of interest by maintaining
separate investment decision-making and proxy voting decision-making processes.
To further minimize possible conflicts of interest, BIM and the Committee employ
the following procedures, as long as BIM determines that the course of action is
consistent with the best interests of the Clients:
o If the proposal that gives rise to a material conflict is
specifically addressed in the Guidelines, BIM will vote the
portfolio proxy in accordance with the Guidelines, provided that the
Guidelines do not provide discretion to BIM on how to vote on the
matter (i.e., case-by-case); or
o If the previous procedure does not provide an appropriate voting
recommendation, BIM may retain an independent fiduciary for advice
on how to vote the proposal or the Committee may direct BIM to
abstain from voting because voting on the particular proposal is
impracticable and/or is outweighed by the cost of voting.
4. CERTAIN FOREIGN SECURITIES
Portfolio proxies relating to foreign securities held by Clients are subject to
these Policies and Procedures. In certain foreign jurisdictions, however, the
voting of portfolio proxies can result in additional restrictions that have an
economic impact to the security, such as "share-blocking." If BIM votes on the
portfolio proxy, share-blocking may prevent BIM from selling the shares of the
foreign security for a period of time. In determining whether to vote portfolio
proxies subject to such restrictions, BIM, in consultation with the Committee,
considers whether the vote, either in itself or together with the votes of other
shareholders, is expected to affect the value of the security that outweighs the
cost of voting. If BIM votes on a portfolio proxy and during the "share-blocking
period," BIM would like to sell the affected foreign security, BIM, in
consultation with the Committee, will attempt to recall the shares (as allowable
within the market time-frame and practices).
C. FUND BOARD REPORTING AND RECORDKEEPING
BIM will prepare periodic reports for submission to the Boards of Directors of
its affiliated funds (the "Funds") describing:
o any issues arising under these Policies and Procedures since the
last report to the Funds' Boards of Directors/Trustees and the
resolution of such issues, including but not limited to, information
about conflicts of interest not addressed in the Policies and
Procedures; and
o any proxy votes taken by BIM on behalf of the Funds since the last
report to such Funds' Boards of Directors/Trustees that deviated
from these Policies and Procedures, with reasons for any such
deviations.
In addition, no less frequently than annually, BIM will provide the Boards of
Directors/Trustees of the Funds with a written report of any recommended changes
based upon BIM's experience under these Policies and Procedures, evolving
industry practices and developments in the applicable laws or regulations.
BIM will maintain all records that are required under, and in accordance with,
all applicable regulations, including the Investment Company Act of 1940, as
amended, and the Investment Advisers Act of 1940, which include, but not limited
to:
o these Policies and Procedures, as amended from time to time;
o records of votes cast with respect to portfolio proxies, reflecting
the information required to be included in Form N-PX, as applicable;
o records of written client requests for proxy voting information and
any written responses of BIM to such requests; and
o any written materials prepared by BIM that were material to making a
decision in how to vote, or that memorialized the basis for the
decision.
D. AMENDMENTS TO THESE PROCEDURES
The Committee shall periodically review and update these Policies and Procedures
as necessary. Any amendments to these Procedures and Policies (including the
Guidelines) shall be provided to the Board of Directors of BIM and to the Boards
of Directors of the Funds for review and approval.
E. PROXY VOTING GUIDELINES
Guidelines are available upon request.
ITEM 8. PORTFOLIO MANAGERS OF CLOSED-END MANAGEMENT INVESTMENT COMPANIES.
(a)(1) IDENTIFICATION OF PORTFOLIO MANAGERS OR MANAGEMENT TEAM MEMBERS AND
DESCRIPTION OF ROLE OF PORTFOLIO MANAGERS OR MANAGEMENT TEAM MEMBERS
Information provided as of January 2, 2014.
Brookfield Investment Management Inc. ("Brookfield") serves as the Fund's
Sub-Advisor. Brookfield is a wholly-owned subsidiary of Brookfield Asset
Management, a global alternative asset manager with approximately $184 billion
in assets under management as of September 30, 2013. Brookfield Asset Management
has over a 100-year history of owning and operating assets with a focus on
property, renewable power, infrastructure and private equity. The company offers
a range of public and private investment products and services, which leverage
its expertise and experience and provide it with a competitive advantage in the
markets where it operates. On behalf of its clients, Brookfield Asset Management
is also an active investor in the public securities markets, where its
experience extends over 30 years. Over this time, the company has successfully
developed several investment operations and built expertise in the management of
institutional portfolios, retail mutual funds, and structured product
investments.
Brookfield Asset Management's public market activities are conducted by
Brookfield Investment Management, a registered investment advisor. These
activities complement Brookfield Asset Management's core competencies and
include global listed real estate and infrastructure equities, corporate
high-yield investments, opportunistic credit strategies and a dedicated
insurance asset management division. Headquartered in New York, NY, Brookfield
Investment Management maintains offices and investment teams in Toronto,
Chicago, Boston and London and has over $10 billion of assets under management
as of September 30, 2013.
Dana E. Erikson, CFA, Managing Director
Mr. Erikson, Portfolio Manager and the Head of the Global High Yield Team, is
responsible for the firm's corporate high yield exposures and the establishment
of portfolio objectives and strategies. Mr. Erikson has 27 years of investment
experience. Prior to joining the firm in 2006, he was with Evergreen Investments
or one of its predecessor firms since 1996. He was a senior portfolio manager
and the Head of the High Yield team. Prior to that, he was Head of High Yield
Research. Mr. Erikson received a BA in Economics from Brown University and an
MBA, with honors, from Northeastern University. Mr. Erikson holds the Chartered
Financial Analyst designation and he is a member of the Boston Security Analysts
Society.
Anthony Breaks, CFA, Director
Mr. Breaks is a Portfolio Manager on the Securitized Products Investments team
and has worked for the firm since May 2002. Mr. Breaks is a team leader in
MBS/ABS and is a member of the team's securities analysis committee. Mr. Breaks
also has managed securitized product vehicles, such as SIV, ABCP and CDOs, for
Brookfield and has experience in insurance company asset management. Mr. Breaks
earned a Bachelor of Science degree in Electrical Engineering from the
Massachusetts Institute of Technology. He holds the Chartered Financial Analyst
designation.
(a)(2) OTHER ACCOUNTS MANAGED BY PORTFOLIO MANAGERS OR MANAGEMENT TEAM MEMBER
AND POTENTIAL CONFLICTS OF INTEREST Information provided as of October
31, 2013.
# of Accounts Total Assets
Managed for which for which
Total Advisory Fee is Advisory Fee
Name of Portfolio Manager or # of Accounts Based on is Based on
Team Member Type of Accounts* Managed Total Assets Performance Performance
----------------------------- --------------------------------- ------------- ------------ ----------------- --------------
1. Dana Erikson Registered Investment Companies: 7 $635M 0 $0
Other Pooled Investment Vehicles: 4 $213M 1 $0
Other Accounts: 1 $171M 0 $0
2. Anthony Breaks Registered Investment Companies: 1 $492M 0 $0
Other Pooled Investment Vehicles: 0 $0 0 $0
Other Accounts: 2 $431M 0 $0
PORTFOLIO MANAGER POTENTIAL CONFLICTS OF INTERESTS
Potential conflicts of interest may arise when a fund's portfolio manager has
day-to-day management responsibilities with respect to one or more other funds
or other accounts, as is the case for the portfolio managers of the Fund. These
potential conflicts may include:
Allocation of Limited Time and Attention. A portfolio manager who is responsible
for managing multiple funds and/or accounts may devote unequal time and
attention to the management of those funds and/or accounts. As a result, the
portfolio manager may not be able to formulate as complete a strategy or
identify equally attractive investment opportunities for each of those accounts
as the case may be if he or she were to devote substantially more attention to
the management of a single fund. The effects of this potential conflict may be
more pronounced where funds and/or accounts overseen by a particular portfolio
manager have different investment strategies.
Allocation of Limited Investment Opportunities. If a portfolio manager
identifies a limited investment opportunity that may be suitable for multiple
funds and/or accounts, the opportunity may be allocated among these several
funds or accounts, which may limit a client's ability to take full advantage of
the investment opportunity.
Pursuit of Differing Strategies. At times, a portfolio manager may determine
that an investment opportunity may be appropriate for only some of the funds
and/or accounts for which he or she exercises investment responsibility, or may
decide that certain of the funds and/or accounts should take differing positions
with respect to a particular security. In these cases, the portfolio manager may
place separate transactions for one or more funds or accounts which may affect
the market price of the security or the execution of the transaction, or both,
to the detriment or benefit of one or more other funds and/or accounts.
Variation in Compensation. A conflict of interest may arise where the financial
or other benefits available to the portfolio manager differ among the funds
and/or accounts that he or she manages. If the structure of the investment
adviser's management fee and/or the portfolio manager's compensation differs
among funds and/or accounts (such as where certain funds or accounts pay higher
management fees or performance-based management fees), the portfolio manager
might be motivated to help certain funds and/or accounts over others. The
portfolio manager might be motivated to favor funds and/or accounts in which he
or she has an interest or in which the investment advisor and/or its affiliates
have interests. Similarly, the desire to maintain or raise assets under
management or to enhance the portfolio manager's performance record or to derive
other rewards, financial or otherwise, could influence the portfolio manager to
lend preferential treatment to those funds and/or accounts that could most
significantly benefit the portfolio manager.
Related Business Opportunities. The investment adviser or its affiliates may
provide more services (such as distribution or recordkeeping) for some types of
funds or accounts than for others. In such cases, a portfolio manager may
benefit, either directly or indirectly, by devoting disproportionate attention
to the management of fund and/or accounts that provide greater overall returns
to the investment manager and its affiliates.
Brookfield Investment Management Inc. ("Brookfield") has adopted compliance
policies and procedures that are designed to address the various conflicts of
interest that may arise for it and the individuals that it employs. For example,
Brookfield seeks to minimize the effects of competing interests for the time and
attention of portfolio managers by assigning portfolio managers to manage funds
and accounts that share a similar investment style. Brookfield also has adopted
trade allocation procedures that are designed to facilitate the fair allocation
of limited investment opportunities among multiple funds and accounts.
(a)(3) COMPENSATION STRUCTURE OF PORTFOLIO MANAGERS OR MANAGEMENT TEAM MEMBERS
PORTFOLIO MANAGER COMPENSATION
Information provided as of October 31, 2013.
The Fund's portfolio managers are compensated by the sub-advisor. Brookfield
compensates its portfolio managers based on the scale and complexity of their
portfolio responsibilities, the total return performance of funds and accounts
managed by the portfolio manager on an absolute basis and versus appropriate
peer groups of similar size and strategy, as well as the management skills
displayed in managing their subordinates and the teamwork displayed in working
with other members of the firm. Since the portfolio managers are responsible for
multiple funds and accounts, investment performance is evaluated on an aggregate
basis almost equally weighted among performance, management and teamwork. Base
compensation for Brookfield's portfolio managers varies in line with a portfolio
manager's seniority and position. The compensation of portfolio managers with
other job responsibilities (such as acting as an executive officer of Brookfield
or supervising various departments) includes consideration of the scope of such
responsibilities and the portfolio manager's performance in meeting them.
Brookfield seeks to compensate portfolio managers commensurate with their
responsibilities and performance, and competitive with other firms within the
investment management industry. Salaries, bonuses and stock-based compensation
also are influenced by the operating performance of Brookfield and its parent
company, Brookfield Asset Management Inc. While the salaries of Brookfield's
portfolio managers are comparatively fixed, cash bonuses and stock-based
compensation may fluctuate significantly from year to year. Bonuses are
determined on a discretionary basis by the senior executives of Brookfield and
measured by individual and team-oriented performance guidelines. The amount of
the Long Term Incentive Plan (LTIP) is approved by the board of directors
annually and there is a rolling vesting schedule to aid in retention of key
people. A key component of this program is achievement of client objectives in
order to properly align interests with our clients. Further, the incentive
compensation of all investment personnel who work on each strategy is directly
tied to the relative performance of the strategy and its clients.
(a)(4) DISCLOSURE OF SECURITIES OWNERSHIP
Information provided as of October 31, 2013.
Dollar Range of Fund Shares
Name Beneficially Owned
Dana Erikson $0
Anthony Breaks $0
(b) Not applicable.
ITEM 9. PURCHASES OF EQUITY SECURITIES BY CLOSED-END MANAGEMENT INVESTMENT
COMPANY AND AFFILIATED PURCHASERS.
Not applicable.
ITEM 10. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
There have been no material changes to the procedures by which the shareholders
may recommend nominees to the registrant's board of directors, where those
changes were implemented after the registrant last provided disclosure in
response to the requirements of Item 407(c)(2)(iv) of Regulation S-K (17 CFR
229.407) (as required by Item 22(b)(15) of Schedule 14A (17 CFR 240.14a-101)),
or this Item.
ITEM 11. CONTROLS AND PROCEDURES.
(a) The registrant's principal executive and principal financial
officers, or persons performing similar functions, have concluded
that the registrant's disclosure controls and procedures (as defined
in Rule 30a-3(c) under the Investment Company Act of 1940, as
amended (the "1940 Act") (17 CFR 270.30a-3(c))) are effective, as of
a date within 90 days of the filing date of the report that includes
the disclosure required by this paragraph, based on their evaluation
of these controls and procedures required by Rule 30a-3(b) under the
1940 Act (17 CFR 270.30a-3(b)) and Rules 13a-15(b) or 15d-15(b)
under the Securities Exchange Act of 1934, as amended (17 CFR
240.13a-15(b) or 240.15d-15(b)).
(b) There were no changes in the registrant's internal control over
financial reporting (as defined in Rule 30a-3(d) under the 1940 Act
(17 CFR 270.30a-3(d)) that occurred during the registrant's second
fiscal quarter of the period covered by this report that has
materially affected, or is reasonably likely to materially affect,
the registrant's internal control over financial reporting.
ITEM 12. EXHIBITS.
(a)(1) Code of ethics, or any amendment thereto, that is the subject of
disclosure required by Item 2 is attached hereto.
(a)(2) Certifications pursuant to Rule 30a-2(a) under the 1940 Act and
Section 302 of the Sarbanes-Oxley Act of 2002 are attached hereto.
(a)(3) Not applicable.
(b) Certifications pursuant to Rule 30a-2(b) under the 1940 Act and
Section 906 of the Sarbanes- Oxley Act of 2002 are attached hereto.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934 and the
Investment Company Act of 1940, the registrant has duly caused this report to be
signed on its behalf by the undersigned, thereunto duly authorized.
(registrant) First Trust Strategic High Income Fund II
-------------------------------------------------------
By (Signature and Title)* /s/ Mark R. Bradley
----------------------------------------
Mark R. Bradley, President and
Chief Executive Officer
(principal executive officer)
Date: December 20, 2013
--------------------
Pursuant to the requirements of the Securities Exchange Act of 1934 and the
Investment Company Act of 1940, this report has been signed below by the
following persons on behalf of the registrant and in the capacities and on the
dates indicated.
By (Signature and Title)* /s/ Mark R. Bradley
----------------------------------------
Mark R. Bradley, President and
Chief Executive Officer
(principal executive officer)
Date: December 20, 2013
--------------------
By (Signature and Title)* /s/ James M. Dykas
----------------------------------------
James M. Dykas, Treasurer,
Chief Financial Officer and
Chief Accounting Officer
(principal financial officer)
Date: December 20, 2013
--------------------
* Print the name and title of each signing officer under his or her signature.