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Market & Portfolio Commentary - October 2022

23.11.2022

After a very weak September, October 2022 turned out to be a much stronger month for financial assets. One of the main drivers behind the recovery was speculation that banks might start pivoting away from their campaign of rapid rate hikes. On top of that, we had a mild start to autumn in Western Europe which took pressure off natural gas prices and the political situation in the UK appears to have stabilised after Rishi Sunak was elected prime minister.

Sub investment grade highlights

The Credit Suisse Western European Leveraged Loan Index return, hedged to Euro, was at +0.65% for the month. Defensives outperformed cyclicals with a monthly return of +1.05% vs +0.26% respectively. CCCs lagged the market with a return of -4.8%, while single Bs and BBs returned +0.74% +1.61% respectively. As at the end of October, the 3-year discount margin on the index was 703bps. The Credit Suisse Western European High Yield Index, hedged to Euro, was up +1.88% (Year to Date ("YTD") -14.2%).

Primary levels slowly came back towards the back end of the month. October saw €1.7bn loan and €1.6bn HY Issuance, mainly driven by two issuers Fedrigoni (€1bn across FRN and fixed rate notes) and Ineos (€800m). In both instances the demand was strong and led to upscaling of the tranches.

Portfolio commentary

The LDI driven sell-off that started in late September on the back of the UK government's mini-budget continued into the first few weeks of October. In particular, CLO tranches were for sale but there was good two way volume, with large buyers stepping in at these lower levels. We also used this technical-driven sell-off as an opportunity to add some more CLO mezzanine positions to the fund, thereby bringing the total holdings to c.7% of the fund net asset value. To put it into some perspective, we've been buying some of these tranches with a cash price in the high 70s with a low/mid 10% yield to maturity. Of course, the all-in returns could be higher if we see some pull-to-par ahead well before maturity. We would need to see 33% cumulative default rates across the CLO portfolio to start incurring losses given the amount of subordination.

Further, in the credit opportunities sleeve, we initiated a position in a more cyclical business, which we expect to do well over the next few quarters. The company has strong liquidity and should be able to withstand a prolonged recession in Europe. The price of these loans had sold off to the high 70s, resulting in >13% yield to maturity. Given the cyclical nature of the business, we have only started to scale into the position as there could be more attractive entry points later on in the cycle. We also monetised an investment in a pharmaceutical company, which launched an exchange offer and paid investors an 8% fee to exchange their bonds into a slightly longer dated bond with a higher coupon. We financed these new investments by taking profits on a long held position in a US financial services company, which announced a settlement with Bank of America and received $1.8bn, which will be used to reduce debt.

Finally, we also added some exposure to performing credit names which had sold off in September, such as a global theme park operator and a Scandinavian healthcare provider. We also participated in a new high yield issue for a global gaming company. This name is very well known to the CVC Credit platform and came with an all-in yield of 10.875%.

Across the entire portfolio, as of October month end, the weighted average market price was 83.7, trading at a YTM of 16.9% (€ hedged) / 19.3% (GBP hedged), and delivering a 10.3% (€ hedged) / 12.7% (GBP hedged) running cash yield. This compares to a weighted average price of 96.5 and YTM 8.3% and 7.9% as of December 2021. The increase in yield is due to a) increase in base rates both in EUR and GBP, b) the lower weighted average cash price on the portfolio due to market weakness and c) the attractive new issue spreads we see both in the primary loan and CLO markets. Floating rate instruments comprised 82.7% of the portfolio while 72.3% was invested in senior secured assets. The portfolio had a cash position of 1.8% (including leverage) at the end of the month. Base rates continue to move up with 3M Euribor ending the month at c.1.7% and SONIA O/N at c.2.2%. Immediately after month end, the BoE hiked interest rates by a further 75bps, bringing SONIA O/N to c.2.9%. 

Commentary Sources:

a Credit Suisse
b LCD – November 2022

 

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