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: April 30, 2014
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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)
Semi-Annual
Report
For the Six Months Ended
APRIL 30, 2014
FIRST TRUST BROOKFIELD
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TABLE OF CONTENTS
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FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
SEMI-ANNUAL REPORT
APRIL 30, 2014
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
Additional Information...................................................... 27
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) SEMI-ANNUAL
LETTER FROM THE CHAIRMAN AND CEO
APRIL 30, 2014
Dear Shareholders:
I am pleased to present you with the semi-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.
Despite some volatility, the six months covered by this report have been
positive for the U.S. markets. In fact, the S&P 500(R) Index, as measured on a
total return basis, rose 8.36% during the period. 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 reach their financial goals.
First Trust continues to offer a variety of products that we believe could fit
the financial plans for many 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 APRIL 30, 2014 (UNAUDITED)
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FUND STATISTICS
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Symbol on New York Stock Exchange FHY
Common Share Price $16.07
Common Share Net Asset Value ("NAV") $17.35
Premium (Discount) to NAV (7.38)%
Net Assets Applicable to Common Shares $146,777,063
Current Monthly Distribution per Common Share (1) $0.120
Current Annualized Distribution per Common Share $1.440
Current Distribution Rate on Closing Common Share Price (2) 8.96%
Current Distribution Rate on NAV (2) 8.30%
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COMMON SHARE PRICE & NAV (WEEKLY CLOSING PRICE)
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Common Share Price NAV
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
10/13 15.92 17.51
15.78 17.42
15.65 17.41
15.87 17.43
15.70 17.46
11/13 15.82 17.50
15.59 17.41
15.54 17.43
15.62 17.45
12/13 15.81 17.48
15.70 17.43
15.81 17.53
15.83 17.60
15.95 17.57
1/14 15.54 17.09
15.45 17.00
15.62 17.14
15.75 17.23
2/14 15.98 17.37
15.73 17.25
15.80 17.23
15.88 17.25
3/14 15.88 17.30
15.90 17.26
15.84 17.26
15.93 17.30
16.03 17.32
4/14 16.07 17.35
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PERFORMANCE
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Average Annual Total Return
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6 Months Ended 1 Year Ended 5 Years Ended Inception (3/28/2006)
4/30/2014 4/30/2014 4/30/2014 to 4/30/2014
FUND PERFORMANCE (3)
NAV 3.63% 6.06% 11.75% -2.14%
Market Value 5.30% 1.06% 7.81% -3.61%
INDEX PERFORMANCE
Barclays Capital Ba U.S. High Yield Index 4.50% 5.12% 13.74% 9.08%
Bank of America Merrill Lynch U.S. High Yield
Master II Index 4.76% 6.29% 15.80% 8.87%
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% OF TOTAL
ASSET CLASSIFICATION INVESTMENTS
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Corporate Bonds and Notes 72.2%
Foreign Corporate Bonds and Notes 12.7
Residential Mortgage-Backed Securities 5.8
Manufactured Housing Loans 4.1
Senior Floating-Rate Loan Interests 2.4
Equity 1.6
Commercial Mortgage-Backed Securities 1.2
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 0.5%
AA- 0.5
A- 1.0
BBB- 2.4
BB+ 4.9
BB 11.0
BB- 12.5
B+ 11.3
B 14.4
B- 18.5
CCC+ 14.2
CCC 2.2
CCC- 2.1
CC 1.6
C 1.0
D 0.9
NR 1.0
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Total 100.0%
======
(1) Most recent distribution paid or declared through 4/30/2014. 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 4/30/2014. 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 relate 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.
NR Not rated.
Page 2
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PORTFOLIO COMMENTARY
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FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
SEMI-ANNUAL REPORT
APRIL 30, 2014
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 $190 billion in assets
under management as of March 31, 2014. 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, 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 maintains offices and
investment teams in Toronto, Chicago, Boston and London and had over $10 billion
of assets under management as of March 31, 2014.
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
TAPERING AND INTERNATIONAL EVENTS FUEL MARKETS
As we entered the six-month period beginning November 2013, the Federal Reserve
finally announced the start of the long-awaited taper. The markets applauded and
interest rates peaked above 3% on the combination of the tapering news and
stronger year-end economic growth in North America. Even Washington got in the
act, with Congress passing a budget bill that should help avoid another
disconcerting government shutdown.
As 2014 began, international events influenced markets as investors grew
particularly concerned about emerging market declines. Russian troops entered
Crimea, and once again China's growth prospects came into question. The U.S. saw
a change in leadership at the Federal Reserve, and new Chairman Janet Yellen's
testimony before the House was well received, though she stumbled later with
comments over the pace of Fed stimulus tapering. However, throughout the period,
the Federal Reserve continued tapering its asset purchases. As the six-month
period ended, economic indicators in North America were somewhat weaker than
expected, possibly influenced by unusually cold weather. U.S. Treasury yields
ended April 2014 at 2.65%, a notable 38 basis points lower since the start of
2014.
HIGH YIELD OUTPERFORMS
The high-yield market produced a positive return of 4.76% for the six-month
period ended April 30, 2014, according to the Bank of America Merrill Lynch U.S.
High Yield Master II Index. The asset class benefitted from strong fundamentals
combined with positive inflows. For the six-month period, performance was
similar for BB and B-rated securities, while the lower-rated tiers had higher
returns. All broad sectors within high yield posted positive returns over the
period. By industry, the market saw outperformance in banking, insurance and
utilities, which were up 6.7%, 6.4% and 6.2%, respectively1. Underperforming
sectors included automotive, consumer cyclicals and financial services, which
were up 3.9%, 3.8%, and 3.8%,respectively.(1)
-----------------------------
(1) Bank of America Merrill Lynch U.S. High Yield Master II Index.
Page 3
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PORTFOLIO COMMENTARY (CONTINUED)
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CREDIT CONDITIONS
The period ended with the default of Energy Future Holdings Corp., which was the
largest high-yield default on record at $36.1 billion. This increased the
trailing twelve-month default rate to 2.15%. By historical measures, the default
rate remains considerably below the long-term average of 3.9%.(2) 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. In April, we also saw the completion of the
largest high-yield bond transaction in the market's history
(Altice/Numericable). The market continues to post record issuance, with April's
volume of $41.3 billion representing the ninth highest monthly total on
record.(3) New issue activity continues to be led by refinancing, which tends to
reduce credit risk by extending maturities. We also saw a reduction in the
issuance of payment-in-kind/toggle bonds, which are typically higher risk than
cash-pay bonds (since the issuer has the option to make some interest payments
in bonds rather than cash).
OUTLOOK
We believe the high-yield bond market will continue to enjoy the fruits of solid
credit fundamentals. The modest pace of economic growth over the past five years
has been ideal for high-yield bond investors, in our opinion. In many ways, this
is a "Goldilocks economy"-- neither too hot nor too cold. Faster growth would
have required companies to borrow to expand capacity. Slower growth might have
pressured profits. The uncertainty surrounding Fed policy, international growth,
and international politics has kept corporate management conservative and
tempered the levers which typically push leverage higher at this stage of the
cycle.
High-yield bond spreads ended the period at 412 basis points, only 6 basis
points above their post crisis low.(4) Investors are increasingly willing to
expose capital to credit, which is squeezing the potential return from credit.
Spreads are currently at a level where historically the high-yield market has
become more sensitive to rising interest rates, if and when they materialize. We
remain positively disposed toward high-yield investments, but continue to
caution that - like all risk assets - they remain vulnerable to investor
sentiment. We believe that investors would be prudent to keep future return
expectations roughly in line with current yields.
SECURITIZED PRODUCTS
Mortgage-related securitized products performed well through the period, largely
due to improved conditions in the underlying housing market and the associated
loan collateral of mortgage-backed Securities (MBS"). Volatility in the sector
continues to decrease as fundamentals continue to improve.
A key driver for the non-Agency MBS market is the value of the real estate
collateral securing the loans that back the portfolio's bonds. We are encouraged
by the sustained improvement in both residential and commercial real estate
markets. During the period, national home prices continued on the upward trend
and many of the fundamental underpinnings for housing, such as demand, inventory
levels and delinquency rates, are also showing marked progress. The most recent
survey of bank lending officers, the Senior Loan Officer Survey, showed
improvements in credit provision by banks. Credit has been very 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 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. In our opinion, 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 markets as well as the non-Agency MBS markets. In our view, the
secondary markets for seasoned securities continue to offer better opportunities
to the Fund, since these discount-priced securities benefit as the ability to
refinance a loan improves.
-----------------------------
(2) J.P. Morgan, High-Yield Market Monitor, May 1, 2014, page 3.
(3) J.P. Morgan, High-Yield Market Monitor, May 1, 2014, page 6.
(4) J.P. Morgan, High-Yield Market Monitor, May 1, 2014, page 1.
Page 4
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PORTFOLIO COMMENTARY (CONTINUED)
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PERFORMANCE ANALYSIS
For the six-month period ended April 30, 2014, the Fund had a total return(5) of
3.63% based on net asset value ("NAV"). For the period, the Fund traded from a
discount to NAV of -8.85% to a discount of -7.38%, resulting in a total return
of 5.30%, based on market price.
The total return for the Fund's benchmark, the Barclays Capital Ba U.S. High
Yield Index, was 4.50% for the six-month period ended April 30, 2014. 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.
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. As
of April 30, 2014, the Fund's leverage was approximately 28.80% of Managed
Assets. Leverage contributed positively to the Fund's performance during the
period. The Fund may utilize leverage in an amount up to 33.33% of Managed
Assets. The Fund uses leverage because its managers believe that, over time,
leverage provides opportunities for additional income and capital growth for
common shareholders. However, the use of leverage also can expose common
shareholders to additional volatility. For example, if 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.
Contributors to relative performance this period included the Fund's overweight
position in the Services, Basic Industry and Consumer Cyclical sectors. All of
the Fund's relative sector underweights detracted from performance compared to
the Bank of America Merrill Lynch U.S. High Yield Master II Index. The Fund also
benefitted from an overweight allocation to CCC and B rated bonds while the
underweight position versus the Bank of America Merrill Lynch U.S. High Yield
Master II Index on BB rated bonds detracted from performance.
Compared to the Bank of America Merrill Lynch U.S. High Yield Master II Index, a
major detractor from performance was an underweight position in the Banking
sector, which outperformed the market. Also detracting from performance was
security selection in the Media sector, particularly in the Media services
subsector.
The Fund's portfolio holdings are subject to change without notice. The mention
of specific securities is not a recommendation or solicitation for any person to
buy, sell or hold any particular security. There is no assurance that the Fund
currently holds these securities. These views represent the opinions of
Brookfield Investment Management Inc. and are not intended to predict or depict
the performance of any investment. These views are as of the close of business
on April 30, 2014 and subject to change based on subsequent developments.
-----------------------------
(5) 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
APRIL 30, 2014 (UNAUDITED)
PRINCIPAL STATED STATED
VALUE DESCRIPTION COUPON MATURITY VALUE
------------ ---------------------------------------------------- ----------- ---------- -------------
CORPORATE BONDS AND NOTES - 98.4%
AUTOMOTIVE - 4.2%
$ 1,275,000 American Axle & Manufacturing, Inc.................. 6.25% 03/15/21 $ 1,354,688
1,050,000 American Axle & Manufacturing, Inc.................. 6.63% 10/15/22 1,143,188
1,750,000 Chrysler Group LLC/Chrysler Group Co-Issuer,
Inc. (a).......................................... 8.25% 06/15/21 1,975,312
1,500,000 Ford Motor Co. (a).................................. 6.50% 08/01/18 1,744,708
-------------
6,217,896
-------------
BASIC INDUSTRY - 12.1%
2,075,000 Alpha Natural Resources, Inc. (a)................... 6.25% 06/01/21 1,540,688
3,275,000 Arch Coal, Inc. (a)................................. 7.25% 06/15/21 2,464,437
1,750,000 Associated Materials LLC/AMH New Finance,
Inc. (a).......................................... 9.13% 11/01/17 1,846,250
500,000 Building Materials Corp. of America (b)............. 6.75% 05/01/21 542,500
2,450,000 Hexion US Finance Corp. (a)......................... 9.00% 11/15/20 2,385,688
1,100,000 Huntsman International LLC (a)...................... 8.63% 03/15/21 1,232,000
500,000 Ply Gem Industries, Inc. (b)........................ 6.50% 02/01/22 501,875
1,700,000 Polymer Group, Inc. (a)............................. 7.75% 02/01/19 1,831,750
1,000,000 Steel Dynamics, Inc. (a)............................ 7.63% 03/15/20 1,087,500
2,100,000 USG Corp. (a) (c)................................... 9.75% 01/15/18 2,541,000
1,650,000 Xerium Technologies, Inc. (a)....................... 8.88% 06/15/18 1,770,656
-------------
17,744,344
-------------
CAPITAL GOODS - 5.8%
1,750,000 Berry Plastics Corp. (a)............................ 9.50% 05/15/18 1,844,369
1,700,000 Crown Cork & Seal Co., Inc. (a)..................... 7.38% 12/15/26 1,895,500
1,755,000 Mueller Water Products, Inc. (a).................... 7.38% 06/01/17 1,790,100
676,000 Tekni-Plex, Inc. (b)................................ 9.75% 06/01/19 768,950
650,000 Terex Corp.......................................... 6.50% 04/01/20 708,500
1,350,000 Terex Corp. (a)..................................... 6.00% 05/15/21 1,451,250
-------------
8,458,669
-------------
CONSUMER CYCLICAL - 6.6%
2,000,000 ACCO Brands Corp. (a)............................... 6.75% 04/30/20 2,090,000
1,775,000 L Brands, Inc. (a).................................. 7.60% 07/15/37 1,903,687
1,750,000 Levi Strauss & Co. (a).............................. 7.63% 05/15/20 1,903,125
1,500,000 Michaels Stores, Inc. (a)........................... 7.75% 11/01/18 1,595,625
2,100,000 Reynolds Group Issuer, Inc. (a)..................... 9.00% 04/15/19 2,252,250
-------------
9,744,687
-------------
CONSUMER NON-CYCLICAL - 5.5%
1,350,000 C&S Group Enterprises LLC (a) (b)................... 8.38% 05/01/17 1,412,505
1,000,000 Easton-Bell Sports, Inc. (a)........................ 9.75% 12/01/16 1,052,520
1,800,000 New Albertsons, Inc. (a)............................ 7.75% 06/15/26 1,539,000
1,850,000 Post Holdings, Inc. (a)............................. 7.38% 02/15/22 1,984,125
1,900,000 Roundy's Supermarkets, Inc. (a) (b)................. 10.25% 12/15/20 2,052,000
-------------
8,040,150
-------------
ENERGY - 15.3%
2,100,000 Atlas Pipeline Partners LP/Atlas Pipeline
Finance Corp. (a)................................. 5.88% 08/01/23 2,084,250
Page 6 See Notes to Financial Statements
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
PORTFOLIO OF INVESTMENTS (CONTINUED)
APRIL 30, 2014 (UNAUDITED)
PRINCIPAL STATED STATED
VALUE DESCRIPTION COUPON MATURITY VALUE
------------ ---------------------------------------------------- ----------- ---------- -------------
CORPORATE BONDS AND NOTES (CONTINUED)
ENERGY (CONTINUED)
$ 1,750,000 Breitburn Energy Partners LP/Breitburn
Finance Corp. (a)................................. 8.63% 10/15/20 $ 1,916,250
250,000 Breitburn Energy Partners LP/Breitburn
Finance Corp...................................... 7.88% 04/15/22 271,875
1,925,000 Calfrac Holdings LP (a) (b)......................... 7.50% 12/01/20 2,045,312
2,060,000 EV Energy Partners LP/EV Energy Finance
Corp. (a)......................................... 8.00% 04/15/19 2,163,000
225,000 Ferrellgas Partners LP/Ferrellgas Partners
Finance Corp...................................... 8.63% 06/15/20 240,750
816,163 GMX Resources, Inc. (a) (e) (j)..................... 11.00% 12/01/17 701,900
1,700,000 Hilcorp Energy I LP/Hilcorp Finance
Co. (a) (b)....................................... 8.00% 02/15/20 1,842,375
1,000,000 ION Geophysical Corp. (b)........................... 8.13% 05/15/18 945,000
1,750,000 Key Energy Services, Inc. (a)....................... 6.75% 03/01/21 1,855,000
950,000 Linn Energy LLC/Linn Energy Finance
Corp. (a)......................................... 8.63% 04/15/20 1,029,563
800,000 Linn Energy LLC/Linn Energy Finance
Corp.............................................. 7.75% 02/01/21 860,000
1,275,000 Pioneer Natural Resources Co. (a)................... 6.65% 03/15/17 1,447,861
1,300,000 RKI Exploration & Production LLC/RKI
Finance Corp. (b)................................. 8.50% 08/01/21 1,417,000
1,000,000 Tesoro Logistics, LP/Tesoro Logistics Finance
Corp.............................................. 6.13% 10/15/21 1,062,500
2,100,000 Venoco, Inc. (a).................................... 8.88% 02/15/19 2,079,000
415,000 W&T Offshore, Inc................................... 8.50% 06/15/19 450,275
-------------
22,411,911
-------------
HEALTHCARE - 8.6%
1,925,000 CHS/Community Health Systems, Inc. (a).............. 7.13% 07/15/20 2,066,969
1,375,000 DJO Finance LLC/DJO Finance Corp. (a)............... 9.88% 04/15/18 1,505,625
1,750,000 HCA, Inc. (a)....................................... 8.00% 10/01/18 2,080,312
1,045,000 inVentiv Health, Inc. (b)........................... 11.00% 08/15/18 969,238
1,725,000 Jaguar Holdings Co./Merger (a) (b).................. 9.50% 12/01/19 1,914,750
1,925,000 Kindred Healthcare, Inc. (a)........................ 8.25% 06/01/19 2,064,562
2,000,000 Kindred Healthcare, Inc. (b)........................ 6.38% 04/15/22 2,035,000
-------------
12,636,456
-------------
MEDIA - 6.6%
1,850,000 Cablevision Systems Corp. (a)....................... 8.63% 09/15/17 2,183,000
1,700,000 CCO Holdings LLC/CCO Holdings Capital
Corp. (a)......................................... 8.13% 04/30/20 1,867,875
1,700,000 Clear Channel Communications, Inc. (a).............. 9.00% 03/01/21 1,814,750
1,850,000 Cumulus Media Holdings, Inc. (a).................... 7.75% 05/01/19 1,979,500
1,750,000 Mediacom LLC/Mediacom Capital Corp. (a)............. 9.13% 08/15/19 1,874,687
-------------
9,719,812
-------------
REAL ESTATE - 1.3%
1,750,000 Realogy Corp. (a) (b)............................... 7.88% 02/15/19 1,903,125
-------------
See Notes to Financial Statements Page 7
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
PORTFOLIO OF INVESTMENTS (CONTINUED)
APRIL 30, 2014 (UNAUDITED)
PRINCIPAL STATED STATED
VALUE DESCRIPTION COUPON MATURITY VALUE
------------ ---------------------------------------------------- ----------- ---------- -------------
CORPORATE BONDS AND NOTES (CONTINUED)
SERVICES - 17.8%
$ 978,000 Avis Budget Car Rental LLC/Avis Budget
Finance, Inc. (a)................................. 8.25% 01/15/19 $ 1,046,460
1,000,000 Avis Budget Car Rental LLC/Avis Budget
Finance, Inc...................................... 5.50% 04/01/23 1,015,000
2,000,000 Boyd Gaming Corp. (a)............................... 9.00% 07/01/20 2,217,500
2,550,000 Casella Waste Systems, Inc. (a)..................... 7.75% 02/15/19 2,683,875
1,975,000 Cenveo Corp. (a).................................... 8.88% 02/01/18 2,051,531
1,950,000 Chester Downs & Marina LLC (a) (b).................. 9.25% 02/01/20 1,940,250
1,550,000 GLP Capital LP/GLP Financing II, Inc. (b)........... 5.38% 11/01/23 1,604,250
1,475,000 Iron Mountain, Inc. (a)............................. 6.00% 08/15/23 1,574,563
250,000 Jurassic Holdings III (b)........................... 6.88% 02/15/21 259,375
1,300,000 MGM Resorts International (a)....................... 7.63% 01/15/17 1,482,000
1,786,979 MTR Gaming Group, Inc. (a).......................... 11.50% 08/01/19 2,019,286
1,250,000 National Cinemedia LLC.............................. 6.00% 04/15/22 1,318,750
1,725,000 Palace Entertainment Holdings LLC/Palace
Entertainment Holdings Corp. (a) (b).............. 8.88% 04/15/17 1,797,234
2,100,000 Pulte Group, Inc. (a)............................... 6.38% 05/15/33 2,079,000
1,000,000 Sotheby's (b)....................................... 5.25% 10/01/22 975,000
875,000 United Rentals North America, Inc................... 8.25% 02/01/21 983,281
900,000 United Rentals North America, Inc................... 7.63% 04/15/22 1,017,000
-------------
26,064,355
-------------
TECHNOLOGY & ELECTRONICS - 2.9%
500,000 CyrusOne LP/CyrusOne Finance Corp................... 6.38% 11/15/22 533,750
2,400,000 First Data Corp. (a)................................ 11.25% 01/15/21 2,754,000
893,000 Freescale Semiconductor, Inc. (a)................... 8.05% 02/01/20 980,068
-------------
4,267,818
-------------
TELECOMMUNICATIONS - 11.7%
2,000,000 Centurylink, Inc. (a)............................... 7.65% 03/15/42 1,965,000
2,000,000 Cincinnati Bell, Inc. (a)........................... 8.75% 03/15/18 2,101,250
1,200,000 Fairpoint Communications, Inc. (b).................. 8.75% 08/15/19 1,305,000
1,750,000 Frontier Communications Corp. (a)................... 7.13% 03/15/19 1,964,375
900,000 Frontier Communications Corp........................ 7.13% 01/15/23 933,750
500,000 Frontier Communications Corp........................ 6.88% 07/15/28 500,000
1,750,000 Level 3 Communications, Inc. (a).................... 8.88% 06/01/19 1,929,375
475,000 Level 3 Financing, Inc. (b)......................... 6.13% 01/15/21 499,938
1,700,000 PAETEC Holding Corp. (a)............................ 9.88% 12/01/18 1,861,500
1,875,000 T-Mobile USA, Inc. (a).............................. 6.63% 04/01/23 2,015,625
1,925,000 Windstream Corp. (a)................................ 7.50% 06/01/22 2,064,562
-------------
17,140,375
-------------
TOTAL CORPORATE BONDS AND NOTES................................................ 144,349,598
(Cost $136,712,894) -------------
Page 8 See Notes to Financial Statements
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
PORTFOLIO OF INVESTMENTS (CONTINUED)
APRIL 30, 2014 (UNAUDITED)
PRINCIPAL
VALUE
(LOCAL STATED STATED VALUE
CURRENCY) DESCRIPTION COUPON MATURITY (US DOLLARS)
------------ ---------------------------------------------------- ----------- ---------- -------------
FOREIGN CORPORATE BONDS AND NOTES - 17.3%
AUTOMOTIVE - 2.4%
1,300,000 Jaguar Land Rover PLC (USD) (b)..................... 8.13% 05/15/21 $ 1,477,125
1,375,000 Servus Luxembourg Holding S.C.A.
(EUR) (b)......................................... 7.75% 06/15/18 2,057,922
-------------
3,535,047
-------------
BASIC INDUSTRY - 4.6%
1,540,000 Cascades, Inc. (USD) (a)............................ 7.88% 01/15/20 1,651,650
1,150,000 FMG Resources (August 2006) Pty Ltd.
(USD) (b)......................................... 6.88% 04/01/22 1,234,813
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 1,943,625
-------------
6,763,838
-------------
CAPITAL GOODS - 4.0%
2,000,000 Ardagh Packaging Finance PLC/Ardagh
Holdings USA, Inc. (USD) (a) (b).................. 6.75% 01/31/21 2,090,000
1,000,000 INEOS Group Holdings S.A. (USD) (b)................. 5.88% 02/15/19 1,022,500
800,000 KraussMaffei Group GMBH (EUR)....................... 8.75% 12/15/20 1,256,937
1,425,000 Trinseo Materials Operating S.C.A./Trinseo
Materials Finance, Inc. (USD) (a)................. 8.75% 02/01/19 1,521,187
-------------
5,890,624
-------------
ENERGY - 1.0%
645,000 Precision Drilling Corp. (USD)...................... 6.63% 11/15/20 696,600
700,000 Puma International Financing S.A. (USD) (b)......... 6.75% 02/01/21 719,250
-------------
1,415,850
-------------
MEDIA - 1.4%
625,000 Altice S.A. (USD) (b)............................... 7.75% 05/15/22 652,344
812,500 Numericable Finance & Co., S.C.A. (EUR)............. 12.38% 02/15/19 1,425,876
-------------
2,078,220
-------------
SERVICES - 0.7%
700,000 Bilbao Luxembourg S.A. (EUR) (d).................... 10.50% 12/01/18 1,018,486
-------------
TECHNOLOGY & ELECTRONICS - 1.4%
1,500,000 Legrand France S.A. (USD) (a)....................... 8.50% 02/15/25 2,046,077
-------------
TELECOMMUNICATIONS - 1.8%
1,900,000 Intelsat Luxembourg S.A. (USD) (a).................. 7.75% 06/01/21 1,987,875
700,000 Wind Acquisition Finance S.A. (USD) (b)............. 7.38% 04/23/21 721,000
-------------
2,708,875
-------------
TOTAL FOREIGN CORPORATE BONDS AND NOTES........................................ 25,457,017
(Cost $23,940,701) -------------
See Notes to Financial Statements Page 9
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
PORTFOLIO OF INVESTMENTS (CONTINUED)
APRIL 30, 2014 (UNAUDITED)
PRINCIPAL STATED STATED
VALUE DESCRIPTION COUPON MATURITY VALUE
------------ ---------------------------------------------------- ----------- ---------- -------------
MORTGAGE-BACKED SECURITIES - 9.5%
COLLATERALIZED MORTGAGE OBLIGATIONS - 7.8%
Citicorp Mortgage Securities, Inc.
$ 2,006,136 Series 2007-2, Class 1A3.......................... 6.00% 02/25/37 $ 2,121,248
Countrywide Alternative Loan Trust
1,066,409 Series 2006-29T1, Class 2A6....................... 6.50% 10/25/36 945,372
165,947 Series 2007-11T1, Class A37 (f)................... 39.09% 05/25/37 291,709
1,202,417 Series 2007-OA3, Class 1A1 (f).................... 0.29% 04/25/47 1,008,707
Countrywide Home Loan Mortgage Pass-
Through Trust
223,760 Series 2006-21, Class A8.......................... 5.75% 02/25/37 207,323
HarborView Mortgage Loan Trust
1,343,663 Series 2005-9, Class B10 (f) (g).................. 1.91% 06/20/35 13
Home Equity Asset Trust
1,190,000 Series 2006-4, Class 2A4 (f)...................... 0.43% 08/25/36 920,122
1,261,000 Series 2006-7, Class 2A3 (f)...................... 0.30% 01/25/37 857,649
Nomura Resecuritization Trust
831,000 Series 2014-1R, Class 2A6 (b)..................... (h) 02/26/37 83
2,757,000 Series 2014-1R, Class 2A11 (b) (f)................ 0.28% 02/26/37 1,210,613
Residential Accredit Loans, Inc.
175,144 Series 2007-Q56, Class A2 (f)..................... 54.30% 04/25/37 405,492
Securitized Asset Backed Receivables LLC Trust
1,387,588 Series 2007, Class BR4 (f)........................ 0.35% 05/25/37 859,094
1,817,980 Series 2007-BR3, Class A2B (f).................... 0.37% 04/25/37 1,132,854
Washington Mutual Alternative Mortgage Pass-
Through Certificates
51,756 Series 2007-5, Class A11 (f)...................... 38.55% 06/25/37 91,220
Wells Fargo Mortgage Backed Securities Trust
829,733 Series 2006-8, Class A15.......................... 6.00% 07/25/36 842,547
294,338 Series 2006-AR1, Class 2A5 (f).................... 5.35% 03/25/36 293,639
322,067 Series 2007-8, Class 2A2.......................... 6.00% 07/25/37 313,846
-------------
11,501,531
-------------
COMMERCIAL MORTGAGE-BACKED SECURITIES - 1.7%
Banc of America Large Loan, Inc.
1,548,035 Series 2005-MIB1, Class L (f) (g) (i)............. 3.15% 03/15/22 147,110
Greenwich Capital Commercial Funding Corp.
1,180,000 Series 2007-GG11, Class AJ (f).................... 6.06% 12/10/49 1,214,240
Vornado DP LLC
930,000 Series 2010-VNO, Class D (b)...................... 6.36% 09/13/28 1,076,030
-------------
2,437,380
-------------
TOTAL MORTGAGE-BACKED SECURITIES............................................... 13,938,911
(Cost $13,013,783) -------------
ASSET-BACKED SECURITIES - 5.5%
Ace Securities Corp.
1,015,730 Series 2003-MH1, Class A4 (b)..................... 6.50% 08/15/30 1,083,994
Page 10 See Notes to Financial Statements
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
PORTFOLIO OF INVESTMENTS (CONTINUED)
APRIL 30, 2014 (UNAUDITED)
PRINCIPAL STATED STATED
VALUE DESCRIPTION COUPON MATURITY VALUE
------------ ---------------------------------------------------- ----------- ---------- -------------
ASSET-BACKED SECURITIES (CONTINUED)
BankAmerica Manufactured Housing Contract
Trust II
$ 2,300,000 Series 1997-1, Class B1 (g)....................... 6.94% 06/10/21 $ 2,587,437
Bombardier Capital Mortgage Securitization Corp.
276,761 Series 1999-B, Class A1B.......................... 6.61% 12/15/29 151,667
Citigroup Mortgage Loan Trust, Inc.
2,301,000 Series 2003-HE3, Class M4 (f)..................... 3.15% 12/25/33 1,069,192
Green Tree Financial Corp.
92,478 Series 1997-4, Class B1........................... 7.23% 02/15/29 6,781
695,227 Series 1998-4, Class M1........................... 6.83% 04/01/30 433,329
1,447,966 Series 1999-3, Class M1........................... 6.96% 02/01/31 97,827
GSAMP Trust
2,914,626 Series 2006-S5, Class A1 (f)...................... 0.33% 09/25/36 94,359
903,420 Series 2007-HE1, Class A2B (f).................... 0.25% 03/25/47 883,080
IMC Home Equity Loan Trust
2,122,534 Series 1997-3, Class B............................ 7.87% 08/20/28 1,057,994
2,227,242 Series 1997-5, Class B (g)........................ 7.59% 11/20/28 429,357
Oakwood Mortgage Investors, Inc.
725,650 Series 1999-B, Class M1........................... 7.18% 12/15/26 227,724
-------------
TOTAL ASSET-BACKED SECURITIES.................................................. 8,122,741
(Cost $6,281,264) -------------
SENIOR FLOATING-RATE LOAN INTERESTS - 3.3%
CONSUMER NON-CYCLICAL - 0.4%
669,946 Albertsons, Inc., Term Loan B-1 (f)................. 4.75% 02/27/16 669,946
-------------
FOOD & STAPLES RETAILING - 0.4%
550,000 Roundy's Supermarkets, Tranche B Term
Loan (f).......................................... 5.75% 02/21/21 550,687
-------------
HEALTHCARE - 0.7%
1,000,000 inVentiv Health, Inc., Term Loan B (f).............. 7.50% 08/04/16 999,380
-------------
SERVICES - 0.7%
1,000,000 Caesars Growth Properties, LLC, Term
Loan B (f)........................................ 7.00% 04/15/21 1,002,500
-------------
TELECOMMUNICATIONS - 0.7%
990,000 Fairpoint Communications, Inc., Term
Loan (f).......................................... 7.50% 02/14/19 1,020,235
-------------
UTILITY - 0.4%
834,744 Texas Competitive Electric Holdings Co., LLC,
Tranche B2 (f) (j)................................ 4.74% 10/10/17 628,838
-------------
TOTAL SENIOR FLOATING-RATE LOAN INTERESTS...................................... 4,871,586
(Cost $5,015,326) -------------
See Notes to Financial Statements Page 11
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
PORTFOLIO OF INVESTMENTS (CONTINUED)
APRIL 30, 2014 (UNAUDITED)
SHARES DESCRIPTION VALUE
------------ ------------------------------------------------------------------------------- -------------
COMMON STOCKS - 2.2%
AUTOMOTIVE - 0.4%
33,500 Ford Motor Co.................................................................. $ 541,025
-------------
INDUSTRIAL CONGLOMERATES - 0.4%
20,275 General Electric Co............................................................ 545,195
-------------
SERVICES - 0.3%
13,250 Iron Mountain, Inc............................................................. 376,830
-------------
TELECOMMUNICATIONS - 0.8%
211,034 Frontier Communications Corp................................................... 1,255,652
-------------
UTILITY - 0.3%
36,000 AES Corp....................................................................... 520,200
-------------
TOTAL COMMON STOCKS............................................................ 3,238,902
(Cost $2,843,977) -------------
PREFERRED SECURITIES - 0.1%
3,500 Independence III CDO, Ltd., Series 3A, Class PS (h) (i)........................ 3,500
4,000 Soloso CDO, Ltd., Series 2005-1 (h) (i)........................................ 40,000
9,000 White Marlin CDO, Ltd., Series AI (e) (h) (i).................................. 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)............. (h) 06/22/37 575
2,500,000 Preferred Term Securities XXVI, Ltd.
Subordinated Note (i)............................. (h) 09/22/37 250
-------------
TOTAL STRUCTURED NOTES......................................................... 825
(Cost $0) -------------
TOTAL INVESTMENTS - 136.3%..................................................... 200,068,080
(Cost $187,807,945) (k)
OUTSTANDING LOAN - (40.4%)..................................................... (59,350,000)
NET OTHER ASSETS AND LIABILITIES - 4.1%........................................ 6,058,983
-------------
NET ASSETS - 100.0%............................................................ $ 146,777,063
=============
-----------------------------
(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 regiupon 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 April 30, 2014,
securities noted as such amounted to $42,010,101 or 28.62% 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 April 30,
2014.
(d) 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%. The first interest payment is scheduled for June 1,
2014.
(e) The issuer is in default. Income is not being accrued.
Page 12 See Notes to Financial Statements
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
PORTFOLIO OF INVESTMENTS (CONTINUED)
APRIL 30, 2014 (UNAUDITED)
(f) Floating rate security. The interest rate shown reflects the rate in
effect at April 30, 2014.
(g) Security missed one or more of its interest payments.
(h) Zero coupon security.
(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) This issuer has filed for protection in federal bankruptcy court.
(k) Aggregate cost for financial reporting purposes, which approximates the
aggregate costs for federal income tax purposes. As of April 30, 2014, the
aggregate gross unrealized appreciation for all securities in which there
was an excess of value over tax cost was $14,327,445 and the aggregate
gross unrealized depreciation for all securities in which there was an
excess of tax cost over value was $2,067,310.
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 April 30,
2014 is as follows(see Note 2A - Portfolio Valuation in the Notes to Financial
Statements):
ASSETS TABLE
LEVEL 2 LEVEL 3
TOTAL LEVEL 1 SIGNIFICANT SIGNIFICANT
VALUE AT QUOTED OBSERVABLE UNOBSERVABLE
INVESTMENTS 4/30/2014 PRICES INPUTS INPUTS
--------------------------------------------------- ------------- ------------ ------------- ---------------
Corporate Bonds and Notes*......................... $ 144,349,598 $ -- $ 144,349,598 $ --
Foreign Corporate Bonds and Notes*................. 25,457,017 -- 25,457,017 --
Mortgage-Backed Securities:
Collateralized Mortgage Obligations............. 11,501,531 -- 11,501,531 --
Commercial Mortgage-Backed Securities........... 2,437,380 -- 2,437,380 --
Asset-Backed Securities............................ 8,122,741 -- 8,122,741 --
Senior Floating-Rate Loan Interests*............... 4,871,586 -- 4,871,586 --
Common Stocks*..................................... 3,238,902 3,238,902 -- --
Preferred Securities............................... 88,500 -- -- 88,500
Structured Notes................................... 825 -- 825 --
------------- ------------ ------------- ---------------
Total Investments.................................. 200,068,080 3,238,902 196,740,678 88,500
Forward Foreign Currency Contracts**............... 4,688 -- 4,688 --
------------- ------------ ------------- ---------------
Total.............................................. $ 200,072,768 $ 3,238,902 $ 196,745,366 $ 88,500
============= ============ ============= ===============
LIABILITIES TABLE
LEVEL 2 LEVEL 3
TOTAL LEVEL 1 SIGNIFICANT SIGNIFICANT
VALUE AT QUOTED OBSERVABLE UNOBSERVABLE
4/30/2014 PRICES INPUTS INPUTS
------------- ------------ ------------- ---------------
Forward Foreign Currency Contracts**............... $ (7,856) $ -- $ (7,856) $ --
============= ============ ============= ===============
* 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 April 30, 2014.
See Notes to Financial Statements Page 13
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
PORTFOLIO OF INVESTMENTS (CONTINUED)
APRIL 30, 2014 (UNAUDITED)
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, 2013
Preferred Securities $ 88,500
Net Realized Gain (Loss) --
Net Change in Unrealized Appreciation/Depreciation --
Purchases --
Sales --
Transfers In --
Transfers Out --
ENDING BALANCE AT APRIL 30, 2014
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 April 30, 2014.
Forward Foreign Currency Contracts
-------------------------------------------------------
Purchase Sale Unrealized
Settlement Amount Amount Value as of Value as of Appreciation/
Date Counterparty Purchased (a) Sold (a) April 30, 2014 April 30, 2014 (Depreciation)
------------ -------------- ----------------- ----------------- ----------------- ---------------- ----------------
05/12/14 BNYM EUR 690,749 USD 953,595 $ 958,283 $ 953,595 $ 4,688
05/12/14 BNYM USD 6,408,451 EUR 4,625,000 6,408,451 6,416,307 (7,856)
----------------
Net unrealized appreciation (depreciation)............................................................. $ (3,168)
================
(a) Please see Portfolio of Investments for currency description.
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
APRIL 30, 2014 (UNAUDITED)
ASSETS:
Investments, at value
(Cost $187,807,945) ................................................ $ 200,068,080
Cash .................................................................. 4,358,506
Unrealized appreciation on forward foreign currency contracts ......... 4,688
Receivables:
Interest ........................................................... 3,572,668
Dividends .......................................................... 5,988
Prepaid expenses ...................................................... 24,285
-------------
Total Assets .................................................... 208,034,215
-------------
LIABILITIES:
Outstanding loan ...................................................... 59,350,000
Unrealized depreciation on forward foreign currency contracts ......... 7,856
Payables:
Investment securities purchased .................................... 1,639,258
Investment advisory fees ........................................... 152,048
Audit and tax fees ................................................. 38,308
Administrative fees ................................................ 21,606
Printing fees ...................................................... 14,508
Legal fees ......................................................... 9,264
Custodian fees ..................................................... 6,385
Interest and fees on loan .......................................... 6,198
Transfer agent fees ................................................ 5,527
Trustees' fees and expenses ........................................ 2,147
Financial reporting fees ........................................... 771
Other liabilities ..................................................... 3,276
-------------
Total Liabilities ............................................... 61,257,152
-------------
NET ASSETS ............................................................ $ 146,777,063
=============
NET ASSETS CONSIST OF:
Paid-in capital ....................................................... $ 195,193,058
Par value ............................................................. 84,589
Accumulated net investment income (loss) .............................. 5,602,994
Accumulated net realized gain (loss) on investments ................... (66,362,246)
Net unrealized appreciation (depreciation) on investments ............. 12,258,668
-------------
NET ASSETS ............................................................ $ 146,777,063
=============
NET ASSET VALUE, per Common Share (par value $0.01 per Common Share)... $ 17.35
=============
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 SIX MONTHS ENDED APRIL 30, 2014 (UNAUDITED)
INVESTMENT INCOME:
Interest............................................................... $ 7,584,897
-------------
Total investment income............................................. 7,584,897
-------------
EXPENSES:
Investment advisory fees............................................... 905,262
Interest and fees on loan.............................................. 418,172
Legal fees............................................................. 200,522
Administrative fees.................................................... 104,802
Printing fees.......................................................... 36,157
Audit and tax fees..................................................... 34,812
Transfer agent fees.................................................... 20,020
Custodian fees......................................................... 12,955
Trustees' fees and expenses............................................ 9,769
Financial reporting fees............................................... 4,625
Other.................................................................. 45,274
-------------
Total expenses...................................................... 1,792,370
-------------
NET INVESTMENT INCOME (LOSS)........................................... 5,792,527
-------------
NET REALIZED AND UNREALIZED GAIN (LOSS):
Net realized gain (loss) on:
Investments......................................................... (2,134,501)
Forward foreign currency contracts.................................. (121,244)
Foreign currency transactions....................................... 108,056
-------------
Net realized gain (loss)............................................... (2,147,689)
-------------
Net change in unrealized appreciation (depreciation) on:
Investments......................................................... 1,041,155
Forward foreign currency contracts.................................. (56,685)
Foreign currency translation........................................ (96)
-------------
Net change in unrealized appreciation (depreciation)................... 984,374
-------------
NET REALIZED AND UNREALIZED GAIN (LOSS)................................ (1,163,315)
-------------
NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS....... $ 4,629,212
=============
Page 16 See Notes to Financial Statements
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
STATEMENTS OF CHANGES IN NET ASSETS
SIX MONTHS
ENDED YEAR
4/30/2014 ENDED
(UNAUDITED) 10/31/2013
-------------- --------------
OPERATIONS:
Net investment income (loss)........................................................ $ 5,792,527 $ 12,538,550
Net realized gain (loss)............................................................ (2,147,689) 1,897,930
Net change in unrealized appreciation (depreciation)................................ 984,374 1,770,493
-------------- --------------
Net increase (decrease) in net assets resulting from operations..................... 4,629,212 16,206,973
-------------- --------------
DISTRIBUTIONS TO SHAREHOLDERS FROM:
Net investment income............................................................... (6,090,386) (5,633,114)
Return of capital................................................................... (6,652,538)
-------------- --------------
Total distributions to shareholders................................................. (6,090,386) (12,285,652)
-------------- --------------
CAPITAL TRANSACTIONS:
Proceeds from Common Shares sold through at the market offerings.................... -- 112,291
-------------- --------------
Net increase (decrease) in net assets resulting from capital transactions........... -- 112,291
-------------- --------------
Total increase (decrease) in net assets............................................. (1,461,174) 4,033,612
NET ASSETS:
Beginning of period................................................................. 148,238,237 144,204,625
-------------- --------------
End of period...................................................................... $ 146,777,063 $ 148,238,237
============== ==============
Accumulated net investment income (loss) at end of period.......................... $ 5,602,994 $ 5,900,853
============== ==============
CAPITAL TRANSACTIONS WERE AS FOLLOWS:
Common Shares at beginning of period................................................ 8,458,869 8,452,416
Common Shares sold through at the market offerings.................................. -- 6,453
-------------- --------------
Common Shares at end of period...................................................... 8,458,869 8,458,869
============== ==============
See Notes to Financial Statements Page 17
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
STATEMENT OF CASH FLOWS
FOR THE SIX MONTHS ENDED APRIL 30, 2014 (UNAUDITED)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net increase (decrease) in net assets resulting from operations................. $ 4,629,212
Adjustments to reconcile net increase (decrease) in net assets resulting from
operations to net cash used in operating activities:
Purchases of investments.................................................. (31,501,192)
Sales, maturities and paydowns of investments............................. 31,161,077
Net amortization/accretion of premiums/discounts on investments........... (108,000)
Net realized gain/loss on investments..................................... 2,134,501
Net change in unrealized appreciation/depreciation on forward foreign
currency contracts..................................................... 56,685
Net change in unrealized appreciation/depreciation on investments......... (1,041,155)
CHANGES IN ASSETS AND LIABILITIES:
Decrease in interest receivable........................................... 435,848
Increase in dividends receivable.......................................... (5,988)
Increase in prepaid expenses.............................................. (5,511)
Decrease in other assets.................................................. 6,042
Increase in interest and fees on loan payable............................. 1,576
Decrease in investment advisory fees payable.............................. (2,139)
Decrease in audit and tax fees payable.................................... (31,892)
Increase in legal fees payable............................................ 4,077
Decrease in printing fees payable......................................... (7,915)
Increase in administrative fees payable................................... 1,599
Decrease in custodian fees payable........................................ (17,754)
Increase in transfer agent fees payable................................... 365
Increase in Trustees' fees and expenses payable........................... 291
Increase in other liabilities payable..................................... 3,276
--------------
CASH PROVIDED BY OPERATING ACTIVITIES........................................... $ 5,713,003
--------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Distributions to Common Shareholders from net investment income........... (6,090,386)
Proceeds from borrowing................................................... 8,650,000
Repayment of borrowing.................................................... (4,700,000)
--------------
CASH USED IN FINANCING ACTIVITIES............................................... (2,140,386)
--------------
Increase in cash................................................................ 3,572,617
Cash at beginning of period..................................................... 785,889
--------------
CASH AT END OF PERIOD........................................................... $ 4,358,506
==============
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid during the period for interest and fees............................... $ 416,596
==============
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
SIX MONTHS
ENDED YEAR YEAR YEAR YEAR YEAR
4/30/2014 ENDED ENDED ENDED ENDED ENDED
(UNAUDITED) 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............................... $ 17.52 $ 17.06 $ 16.17 $ 15.87 $ 14.22 $ 25.56
--------- --------- --------- --------- --------- ---------
INCOME FROM INVESTMENT OPERATIONS:
Net investment income (loss)............ 0.68 1.48 1.52 0.59 1.86 3.87
Net realized and unrealized gain
(loss)............................... (0.13) 0.43 0.90 0.32 1.17 (11.31)
--------- --------- --------- --------- --------- ---------
Total from investment operations........ 0.55 1.91 2.42 0.91 3.03 (7.44)
--------- --------- --------- --------- --------- ---------
DISTRIBUTIONS PAID TO SHAREHOLDERS FROM:
Net investment income................... (0.72) (0.66) (0.61) (0.54) -- (0.27)
Return of capital....................... -- (0.79) (0.94) (0.07) (1.38) (3.63)
--------- --------- --------- --------- --------- ---------
Total distributions to Common
Shareholders......................... (0.72) (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.......... $ 17.35 $ 17.52 $ 17.06 $ 16.17 $ 15.87 $ 14.22
========= ========= ========= ========= ========= =========
Market value, end of period............. $ 16.07 $ 15.97 $ 17.69 $ 14.51 $ 14.49 $ 13.17
========= ========= ========= ========= ========= =========
TOTAL RETURN BASED ON NET ASSET
VALUE (e)............................ 3.63% 12.19% 16.11% 13.60% 23.46% (28.92)%
========= ========= ========= ========= ========= =========
TOTAL RETURN BASED ON MARKET
VALUE (e)............................ 5.30% (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)........................... $ 146,777 $ 148,238 $ 144,205 $ 131,109 $ 50,468 $ 45,159
Ratio of total expenses to average
net assets........................... 2.46%(f) 2.22% 2.52% 2.35% 2.29% 1.77%
Ratio of total expenses to average
net assets excluding interest
expense.............................. 1.89%(f) 1.71% 1.93% 1.93% 2.21% 1.77%
Ratio of net investment income (loss) to
average net assets................... 7.96%(f) 8.55% 9.52% 9.65% 12.54% 22.79%
Portfolio turnover rate................. 15% 27% 33% 49% 332%(g) 147%(g)
INDEBTEDNESS:
Total loan outstanding (in 000's)....... $ 59,350 $ 55,400 $ 54,400 $ 54,400 N/A N/A
Asset coverage per $1,000 of
indebtedness (h)..................... $ 3,473 $ 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 sub-advisory
agreement with Brookfield, a new sub-advisor, 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 capidistributions, 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) Annualized.
(g) 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 subsequent fiscal years. The turnover rate may vary greatly from year
to year as well as within a year.
(h) 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)
APRIL 30, 2014 (UNAUDITED)
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 at market value or, in the absence of
market value with respect to any portfolio securities, at fair value 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 investments are 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 mean of
their most recent bid and asked price,if available, and otherwise at their
closing bid price.
Page 20
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
--------------------------------------------------------------------------------
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
APRIL 30, 2014 (UNAUDITED)
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 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 an independent pricing service. The independent 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 an independent 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/borrower, 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.
(1) The terms "security" and "securities" used throughout the Notes to
Financial Statements include Senior Loans.
Page 21
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
--------------------------------------------------------------------------------
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
APRIL 30, 2014 (UNAUDITED)
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.
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 April 30, 2014, 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 April 30, 2014, 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 April 30, 2014, 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.
Page 22
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
--------------------------------------------------------------------------------
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
APRIL 30, 2014 (UNAUDITED)
% OF
ACQUISITION PRINCIPAL CARRYING NET
SECURITY DATE VALUE/SHARES PRICE COST VALUE ASSETS
----------------------------------------------------------------------------------------------------------------------------------
Banc of America Large Loan, Inc.
Series 2005-MIB1, Class L, 3.15%, 03/15/22 06/26/06 $ 1,548,035 $ 9.50 $ 291,135 $ 147,110 0.10%
Independence III CDO, Ltd.
Series 3A, Class PS 04/11/06 3,500 1.00 -- 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
------------ ----------- ------
$ 291,135 $ 236,435 0.16%
============ =========== ======
* Amount is less than $0.01.
** Amount is less than 0.01%.
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 six months ended April 30, 2014, the amount of notional values of
forward foreign currency contracts opened and closed were $40,698,740 and
$19,903,395, respectively.
Page 23
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NOTES TO FINANCIAL STATEMENTS (CONTINUED)
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FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
APRIL 30, 2014 (UNAUDITED)
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.
The tax character of distributions paid during the fiscal year ended October 31,
2013, was as follows:
Distributions paid from:
Ordinary income................................. $ 5,633,114
Capital gain.................................... --
Return of capital............................... 6,652,538
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:
Page 24
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NOTES TO FINANCIAL STATEMENTS (CONTINUED)
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FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
APRIL 30, 2014 (UNAUDITED)
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. Effective October 3, 2011, FHY acquired the assets and
assumed the liabilities of First Trust Strategic High Income Fund (FHI) and
First Trust Strategic High Income Fund III (FHO) in exchange for shares of FHY
pursuant to a reorganization. These limitations generally reduce the utilization
of 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 April 30, 2014,
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.
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 that is allocated pro rata among each fund in the First Trust Fund
Complex based on net assets. Each Independent Trustee is also paid an annual per
fund fee that varies based on whether the fund is a closed-end or other actively
managed fund, or is an index fund.
Additionally, the Lead Independent Trustee and the Chairmen of the Audit
Committee, Nominating and Governance Committee and Valuation Committee are paid
annual fees 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 Committee Chairmen rotate every
three years. The officers and "Interested" Trustee receive no compensation from
the Fund 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 six months ended April 30, 2014, were
$33,140,450 and $28,950,343, respectively.
Page 25
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NOTES TO FINANCIAL STATEMENTS (CONTINUED)
--------------------------------------------------------------------------------
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
APRIL 30, 2014 (UNAUDITED)
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. Effective July 24, 2013, $13,850,000 of the
commitment was converted to fixed-rate financing of 2.79% for a seven year
period. The borrowing rate on the floating rate financing amount is equal 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.
The average amount outstanding for the six months ended April 30, 2014 was
$56,023,204, with a weighted average interest rate of 1.34%. As of April 30,
2014, the Fund had outstanding borrowings of $59,350,000 under this committed
facility agreement. On the floating rate financing amount, the high and low
annual interest rates for the six months ended April 30, 2014 were 0.87% and
0.85%, respectively. The weighted average interest rate at April 30, 2014 was
1.30%.
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, 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
will be 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. For the year ended October 31, 2013, transactions related to
offerings under such sales agreement were as follows:
COMMON NET PROCEEDS
SHARES NET PROCEEDS NET ASSET VALUE RECEIVED IN
SOLD RECEIVED OF SHARES SOLD EXCESS OF NET ASSET VALUE
---------- ------------ --------------- -------------------------
6,453 $ 112,291 $ 1 09,427 $ 2,864
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
The Fund has entered into a settlement of the previously-reported class action
lawsuit filed by Lehman Brothers Special Finance, Inc. in the United States
Bankruptcy Court for the Southern District of New York (the "Class Litigation").
The settlement fully disposes of all outstanding claims asserted against the
Fund and the Fund is no longer a party to the Class Litigation.
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 May 20, 2014, the Fund declared a dividend of $0.1200 per share to Common
Shareholders of record on June 4, 2014, payable June 10, 2014.
On June 19, 2014, the Fund declared a dividend of $0.1200 per share to Common
Shareholders of record on July 3, 2014, payable July 15, 2014.
Page 26
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ADDITIONAL INFORMATION
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FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
APRIL 30, 2014 (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.
Page 27
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ADDITIONAL INFORMATION (CONTINUED)
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FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
APRIL 30, 2014 (UNAUDITED)
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 securities 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 at http://www.sec.gov.
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.
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, First Trust High Income Long/Short
Fund and First Trust Energy Infrastructure Fund, was held on April 23, 2014 (the
"Annual Meeting"). At the Annual Meeting, Trustee Robert F. Keith was elected by
the Common Shareholders of the First Trust Strategic High Income Fund II as a
Class I Trustee for a three-year term expiring at the Fund's annual meeting of
shareholders in 2017. The number of votes cast in favor of Mr. Keith was
7,274,840, the number of votes against was 125,717 and the number of abstentions
was 1,058,312. Richard E. Erickson, Thomas R. Kadlec, Niel B. Nielson and James
A. Bowen are the other current and continuing Trustees.
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 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, 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
Page 28
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ADDITIONAL INFORMATION (CONTINUED)
--------------------------------------------------------------------------------
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
APRIL 30, 2014 (UNAUDITED)
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 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.
Page 29
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ADDITIONAL INFORMATION (CONTINUED)
--------------------------------------------------------------------------------
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
APRIL 30, 2014 (UNAUDITED)
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.
Page 30
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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.
Brookfield Place
250 Vesey Street, 15th 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.
Not applicable.
ITEM 3. AUDIT COMMITTEE FINANCIAL EXPERT.
Not applicable.
ITEM 4. PRINCIPAL ACCOUNTANT FEES AND SERVICES.
Not applicable.
ITEM 5. AUDIT COMMITTEE OF LISTED REGISTRANTS.
Not applicable.
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.
Not applicable.
ITEM 8. PORTFOLIO MANAGERS OF CLOSED-END MANAGEMENT INVESTMENT COMPANIES.
There has been no change, as of the date of this filing, in any of the
portfolios managers identified in response to paragraph (a)(1) of this Item in
the Registrant's most recently filed annual report on Form N-CSR.
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) Not applicable.
(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: June 20, 2014
----------------
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: June 20, 2014
----------------
By (Signature and Title)* /s/ James M. Dykas
----------------------------------------
James M. Dykas, Treasurer,
Chief Financial Officer and
Chief Accounting Officer
(principal financial officer)
Date: June 20, 2014
----------------
* Print the name and title of each signing officer under his or her signature.