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April 2021 | Issue 233
Sandalwood funds of credit funds outperform in February
Credit funds of funds came out on top in February, a month characterised by the sell off in US treasuries.
Sandalwood has four credit funds of funds listed with Creditflux and all made it into our top 10, generating between 3.56% and 3.13%.
This continues a strong run for funds of funds. The Creditflux index ended 2020 at 6.09% and the Sandalwood funds, led by Oxbridge Partners (20.93%), have all registered double-digit gains in the past 12 months.
In keeping with the multi-strategy approach of funds of funds, a diverse set of strategies are represented in our February top 10, including high yield, structured finance, CLO, long-short and distressed.
CLO managers eye bonds as short-dated loan universe shrinks
European CLO managers that focus on bonds say they had flexibility in the first quarter as the new issue loan pipeline ramped up.
In January, the pipeline seemed decent, but many of the deals had been pushed back from Q4 2020. Since then it has been flowing with a mixture of refinancings and new money — especially in March.
According to Debtwire Par, January issuance totalled €8.57 billion in western Europe. As Creditflux goes to press, March figures crept over €18 billion, with a further five deals worth about €7 billion to price before month-end.
Loan repayment profiles also accelerated, including Refinitiv’s €2.3 billion paydown. CLO managers therefore were left with plenty of cash to deploy, and those that could turned to the bond market, especially for out-of-reinvestment CLOs.
“When a CLO is post-reinvestment, you get repaid on transactions quickly,” says Asha Narayan, portfolio manager at PGIM in London. “You accumulate cash and the only way to reinvest is to buy credits that have a lower weighted average life than the CLO.”
With a shrinking universe of short-dated loan names, Narayan says that one option for that cash is to look at relative value between short-dated bonds and loans.
Narayan: looking at relative value of short-dated bonds and loans
Loan technical and supply glut keeps CLOs in check
CLO asset and liability spreads moved wider in March owing to unprecedented volumes of issuance, despite investors rotating into floating-rate products amid rising treasury rates.
The CLO arbitrage is saved somewhat by widening spreads on the asset side, with managers rotating out of higher-rated loans and into cheaper assets.
The supply and demand technical may be unique to CLOs, but investors across credit are having to adapt to the low-rate, high-volatility and all-time-high equity environment.
Tory Gossage, head of business development at Sound Point Capital Management, says her investors are cautious. “They need solutions that address the frothy markets while simultaneously solving for how quickly volatility can spike given the hold the Fed and its stimulus programme has on the market.”
US CLO triple As widened 13.07 basis points between 1 March and their wides on 23 March, according to Prytania Solutions’ CLO index.
Gossage: ‘LPs need solutions that address frothy markets’
Credit Suisse bears brunt of left-field hit to financials
Financials trading in March served as a reminder that mishaps can hit an investment portfolio from the unlikeliest of directions — and in the calmest of markets. Credit Suisse spreads in particular have been a headache, given the bank’s revelations it holds exposure to two embattled investment firms.
Credit Suisse and Nomura hit the headlines at the end of March having said they could face hefty losses on transactions related to US private investment firm Archegos Capital. Archegos began liquidating large positions to meet margin calls after being hit by stock investments it had made in Chinese tech and US media companies.
For Credit Suisse, this was a second blow to its reputation in quick succession. Earlier in the month it had moved to separate its asset management business from its wealth management arm amid fallout from the collapse of supply chain funds group Greensill Capital.
CSAM has named Ulrich Körner as chief executive officer to replace Eric Varvel.
Credit Suisse five-year CDS blew out in March, from 46.5bp to 72.5bp. Nomura traded at just 36.75bp on 19 March, but was above 52bp by the end of the month, and contagion quickly spread to other banks, including Deutsche Bank and Commerzbank.
CLO supply boom spurs S&P to demand issuance calendars
Record-breaking CLO supply in the first quarter is projected to continue through 2021, and the strain is being felt by rating agencies’ analysts, say sources.
At the start of March, S&P Ratings asked every US arranging bank for their schedule for every CLO launch through September — and said they may not take on orders outside that because the volume was too high to process. This has caused CLO issuers to map out early on their issuance plans for the remainder of the year.
An S&P spokesperson confirmed the communication with arrangers, telling Creditflux: “In the ordinary course of business, S&P Global Ratings’ commercial team regularly engages with its clients regarding expected structured finance deal volumes, which includes CLOs.”
S&P has emerged as the go-to rating agency post-covid. It features on 61.8% of transactions globally to date in 2021. The agency has rated 77.5% of US new issues this year and is the sole rating agency on 47.5% of them.
Despite supply pushing liability spreads wider, sources say the pipeline for new CLOs remains full, with around 20 deals. US CLO volumes passed $100 billion in the first quarter as Creditflux goes to press, up 138.72% from the same period in 2020, which saw $17.03 billion of new issues, $15.85 billion of refinancings and $10.83 billion of resets price.
One CLO trader says the pace of issuance is set to remain elevated.
“Despite last year’s volatility, I don’t expect large banks to be reluctant to open new warehouses, but I do expect them to be cognisant of recycling and not allowing warehouses to get stale,” the trader said.
Loan pipeline builds to fuel US CLO production into Q2
US CLO new issuance, already on a high, is set to be spurred on by a healthy loan pipeline over the second quarter of 2021.
According to Maureen D’Alleva, head of performing credit at Angelo Gordon in New York, there has been a meaningful pick up in the forward calendar over the past month, and she believes new issues are using a healthy mix of proceeds.
“In January, most new issues on the forward calendar were refis of existing loans; therefore, as a manager, you were experiencing spread compression,” she says. “Since then, there has been a shift to new money deals to fund M&A, LBOs and dividend recaps, allowing CLO managers to ramp warehouses.”
D’Alleva says that while leverage statistics in underlying companies may seem high, she expects to see an improvement after Q2 and Q3 earnings are incorporated in the past 12 months’ ebitda figures.
As Creditflux goes to press, US CLO managers have issued over $35.8 billion across 75 deals versus $13.8 billion across 30 deals in Q1 last year.
In Europe there has been €6.99 billion of issuance, up from €5.77 billion.
D’Alleva: “There has been a shift to new money deals”
Options investors look to medium-term market normalisation
Credit index options trading has been heating up, with investors looking to take views on future market volatility well beyond the customary three-month horizon as Europe and the US grapple to keep a lid on rates.
Options trading has picked up since the start of the year, driven by concerns about what happens if central bank tapering follows improved growth prospects, market sources report. But realised volatility in European CDS indices has stayed low despite these concerns.
“There is an opportunity for short volatility strategies to make money,” says Paola Lamedica, credit strategist at BNP Paribas. “It is hard to see volatility taking off in coming months as the European Central Bank has ramped up its purchase programme and been vocal about being accommodative to capping rates movement.”
The September expiry is in focus in Europe since some investors expect normalisation by then, with economic growth returning as countries turn the corner following covid-19 lockdowns.
“Going so far out is unusual, as normally options traders look ahead one to three months,” says Lamedica, “but market dynamics have made this an interesting date. The June expiry could also be popular as this is when many expect the next raft of ECB measures.”
Lamedica: ‘short volatility strategies may make money’
Corporates show resilience despite sovereign struggles
Turkey’s sovereign credit spread blow-out in the second half of March came as a shock for emerging market credit investors, adding to jitters Brazil had caused a month earlier. But it also highlighted a new trend of corporate borrowers shaking off sovereign weakness.
Turkey’s president Recep Tayyip Erdogan sparked the sell off when he sacked the country’s central bank chief seemingly without warning.
Turkish sovereign five-year CDS began March around 303 basis points, having been 284bp in mid-February, and was still only 305bp on 19 March. Thereafter it surged 181bp wider to close the month at 486bp.
Major Turkish corporate and bank spreads widened sharply as a result. But unlike the sovereign they had generally come back some way by month-end.
“Sovereign underperformance in EM is not always a leading factor to corporate performance,” says Nachu Chockalingam, senior credit portfolio manager at Federated Hermes. “We saw that with Turkey recently, but investor differentiation between the two is a theme that started last year.”
The CDX EM index was not greatly wider from the start of the month (182bp) to its end (191bp), and it hit a tight of 166bp on 22 March. This was despite the continued decline of Brazilian sovereign creditworthiness, with its five-year CDS spread widening from 193.5bp to 231.75bp.
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Global credit funds & CLO's
April 2021
| Issue 233
Published in London & New York.
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