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October 2021 | Issue 239
Oxbridge fund tops the class to break CLO run
It has taken a fund that invests in a range of credit funds to stop the dominance of CLO strategies in our credit hedge fund rankings, as Sandalwood’s Oxbridge Partners returned 2.93% in August. This breaks a sequence of five months where a CLO fund came top.
The Oxbridge fund finished 42 basis points ahead of second-placed BK Opportunities Fund, which invests in CLOs and returned an estimated 2.51%.
The vast majority of funds listed with Creditflux have delivered positive returns so far this year and a healthy proportion hit target returns in the high single digits. Sources say the emphasis will turn to protecting 2021 gains in the fourth quarter.
CIFC looks to have another crack at direct lending
CIFC Asset Management is exploring the possibility of building out a direct lending business for a second time, with chief executive officer Steve Vaccaro telling the audience at Creditflux’s CLO Symposium that the firm is looking to broaden its business.
“We’re looking very hard at direct lending,” he said during a fireside chat. “I think that’s very complementary to what we do now and our investor base is increasingly demanding that we be a multi-strategy platform.”
CIFC’s previous foray in middle market credit was in 2014, but only lasted six months. The firm hired Peter McLaughlin as managing director to lead this effort, but he left shortly after to join Medley Capital.
Vaccaro said investors “don’t want to change managers when they want to reallocate within credit”. He said they prefer to be with managers that can do multiple things.
“As investors have broadened the number of things they want to invest in, they’re also finding they’re increasingly incapable of being nimble enough to move with relative value. As relative value shifts, they want you to shift for them. They want somebody they can trust across multiple products within credit,” he said.
CIFC started out in the early 2000s operating only in US CLO management. In the last seven years it has established new strategies, adding high yield, CLO tranche investing and distressed debt to its repertoire. It also moved into Europe, opening a London office in 2018.
Aside from its dalliance with direct lending in 2014, CIFC has experience managing mid-market loans. The firm’s 1.0 US CLOs had 40% buckets to invest in mid-market loans.
New CLO stampede predicted ahead of Sofr switch
The US CLO boom continued in September as new issue volume topped $16 billion, following $17.6 billion of August issuance.
With around 200 warehouses thought to be open, market participants are expecting volumes to remain elevated heading into the fourth quarter — but many predict a slowdown as the Libor transition plays out.
“Based on the pipeline we see and the number of warehouses open, we expect the record pace of issuance to continue through the remainder of the year,” says Kashyap Arora, co-chief investment officer at Vibrant Capital Partners. “We may also see a pull-forward effect for issuance planned for early 2022 because of the Libor-to-Sofr transition starting in January.”
In addition, many private equity sponsors are looking to get their M&A pipeline sorted before the budget bill makes its way through Congress. Some attribute the heavy loan pipeline to investors getting ahead of a possible increase in capital gains tax.
“A lot of sponsors are looking to sell businesses now in order to lock in gains before the tax rate goes up,” says Ivo Turkedjiev, managing director at New Mountain Capital.
In September, 2021’s US new issue volume broke the previous record of $114.6 billion set in 2018, according to Creditflux data. The record was broken by 21 September, and the number stands at $115.3 billion as Creditflux goes to press.
Nine CLOs each — and every one of them is different
CLO giants Blackstone and Carlyle Group have printed nine new US CLOs apiece this year, but CLO market participants say managers are creating distinct portfolios.
“There is sufficient depth in the US so you can really create selective portfolios,” says Yannick Le Serviget, global head of leveraged loans and private debt at Axa Investment Managers Alts.
He says conditions have changed through 2021, with pockets of volatility in March-April and again in August, as well as other periods where the relative value between primary and secondary loans has shifted.
Despite this, CLO pricing has been relatively stable. Carlyle Group’s nine CLOs have triple A spreads ranging from 106 basis points to 116.88bp.
Blackstone’s triple As priced within a similarly narrow range of 100-113bp. Its double Bs have been just as stable, with prints of 600-645bp.
Sources say there is huge demand for CLO paper and that in any other year CLO triple As would be 20bp tighter than they are (around 117bp), but the barrage of issuance has prevented excessive tightening.
CLO managers are looking to capitalise by squeezing in deals before year end, with Axa IM also contemplating opening a warehouse in the US.
Hedging picks up as dip-buying is weighed against inflation
Inflation and rates will be the central drivers of credit market performance into the end of the year and beyond, investors and strategists agree. But catalysts for short-term sell-offs abound and are prompting risk-reduction as investors eye opportunities to reload at better levels.
Broad-based volatility re-entered the picture as Creditflux went to press, with the US overshadowed by an impending government shutdown and possible default should it fail to raise its debt ceiling. Infrastructure and spending bills worth over $5 trillion hung in the balance. China sparked fears of a slowdown in growth driven by rising coal and gas prices, as well as the country’s emissions targets.
“We are cautiously optimistic on credit in the medium term,” says one portfolio manager. “But reducing risk in the shorter term makes sense as it will give us room to add on pullbacks. Selling bonds creates liquidity risk as you have to be able to buy them back, so it makes much more sense to use derivatives hedges, such as credit indices, rates and curves.”
Complicating this approach is that October has historically been a positive month for credit returns, aided in part by low new bond issuance while borrowers are in earnings blackout. November is then typically weaker, as high yield borrowers rush to do deals before the end of the year.
This year the November dynamics could be especially volatile if that surge happens at the same time the US Federal Reserve announces a start to asset purchase tapering, says one credit strategist in London. A strategist at another firm agrees, but still favours compression trades between high yield and investment grade CDS.
French hedgers price in election six months ahead
The CDS market is well known to be more reactive than cash credit to changes of sentiment. However, a growing fixation among participants to price in macro and political risk ahead of time appears to have hit an extreme in the case of French presidential election hedging — more than six months before the country goes to the polls.
French bank five-year senior loss absorbing CDS has traded at odds with their subordinated cash instruments in recent weeks, when compared to other European financial borrowers. Societe Generale CDS in particular has diverged from the bank’s additional tier ones, suggesting a relative value reversal could follow.
“The decoupling between the two instruments essentially results from the significant underperformance of SocGen CDS within the CDS market,” says Pierre-Yves Bretonniere, head of relative value credit strategy at BNP Paribas.
“It does not reflect any negative fundamental development for SocGen, but is a direct consequence of hedging flows in anticipation of the French elections in Q2 next year,” he adds.
The first round of the French presidential election is due to be held on 10 April 2022. Polls at this stage have rarely been good predictors in the past.
According to Bretonniere, SocGen SLA CDS was at time of press trading around its widest level in a year versus most European peers.
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Global credit funds & CLO's
October 2021 | Issue 239
Published in London & New York.
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