12 Dec 2018 08:42
Alcentra European Floating Rate Income Fund Limited
Market Commentary
November saw weaker performance for the Index, driven by a small number of idiosyncratic situations as well as weakness in USD loans in the Index. However, the core EUR loan market remained relatively well insulated from broader financial market movements, supported by continued strong demand for assets from ramping CLOs.
The Fund was down -0.52% (gross) for the month, better than the Credit Suisse Western European Leveraged Loan Index ("CS WELLI") (hedged to GBP) at -0.61%.
November saw another relatively quiet month for European loan issuance with volumes of €7.7bn, -55% on the prior year, although up +38% on October levels. As expected, with the near term M&A pipeline having thinned out into year end, M&A driven issuance volumes were down -58% on the prior year, although this is based off a very strong prior year comparison (Nov 2017 saw €9.5mm of M&A driven volumes, one of only 8 months since the financial crisis with issuance above €9bn)2. And while refinancings/repricings saw an increase in activity, they remain at relatively low levels overall (-64% on prior year at €1.6bn)2, accounting for 20% of issuance for the month. Repricing activity declined in the later part of the month as financial market volatility saw a number of requests pulled (DeltaFiber, Hurtigruten). YTD issuance now stands at €96.4bn, -17% on the prior year2.
CLO formation continued at a strong pace, with €4.1bn of new CLOs priced in the month. While this is down -14% on the prior year it is worth highlighting that Nov 2017 was the largest month of issuance for that year, accounting for 23% of full year volumes. YTD CLO issuance is now up 41% at €27.3bn. This strong CLO technical has helped support trading levels in the European loan market.
Concerns around the US economic cycle, the potential impact of a trade war on global growth and a rise in European political risk led to increased volatility in financial markets in the month. The European loan market however benefitting from the continued supportive technicals discussed above, and outperformed the broader financial markets, with secondary prices only c.1pt lower (European HY was -2.5pts, US HY was -1.5pts and US Loans -1.3pts). This price decline in turn drove new issue spreads wider (from 373bps to 399bps), as deals were flexed wider to generate traction in a weaker secondary market.
There were a number of nuances to the Index's -0.61% performance in the month that are worth highlighting1; A small number of idiosyncratic movers accounted for c.30% of the negative return for the month, despite being only 4.5% of the Index. These bottom 20 loans saw a return of -4.56% and were driven lower by company specific weakness or from investors switching from loans to pari-pasu senior secured bonds, after the HY market traded off.
Despite only accounting for c.31% of the CS WELLI, USD loans within the index accounted for c.50% of the negative return for the month. These USD loans returned -1.17% and were driven lower by the broader weakness in the USD loan market, which is more exposed to retail investor fund flows.
As such, the residual core part of the CS WELLI (EUR and GBP loans, excluding the bottom 20 names) outperformed and returned -0.34%, indicating continued solid support for these assets, relative to other asset classes.
While the prospect of volatility across broader financial market volatility remains, we expect the core European Loan market to continue to be relatively well insulated, supported by the strong technical of a smaller new issue pipeline and continued buying support from ramping CLOs. There also appears to be less risk of re-pricings, given the weaker current market conditions, which is a positive for the outlook on loan spreads.
The default rate for the 12 months ending November remains at the same record low level of 0.11% seen in prior months. It is also worth highlighting that despite the weaker market in the month, the S&P distress ratio (share of performing loans trading below 80) remains low at 1.47%, down from 2.1% in September, reflecting fundamentals generally remains supportive.
Portfolio Manager's Commentary
The top performing credit was a manufacturing business that was up +3.96% after posting solid results and benefitting from news that the company it to be acquired by a trade buyer. The second best performing credit was a specialist financial services business that was up +0.59% after news reports suggested that the company would look to IPO in 2019.
The weakest name was a packaging business that was down -6.90% after reporting weaker than expect results due to raw material price inflation and a negative FX impact. The second weakest credit was a specialist financial services business that was down -6.68% due to weakness in the high yield bond market and the technical impact of a newly issued ABS financing, despite reporting solid results.
For the month as a whole, the fund returned -0.52%, ahead of the benchmark at -0.61% as positive credit selection benefited the Fund in an overall weaker market.
ENDS
For further information please contact:
Alcentra Limited
Simon Perry +44 20 7367 5272
Factsheet
An accompanying factsheet which includes the information above as well as wider commentary on the investments made by the Fund can be found on the Fund's website www.aefrif.com.
Background Information
Alcentra European Floating Rate Income Fund Limited, a Guernsey Authorised Closed-Ended Collective Investment Scheme, regulated by the Guernsey Financial Services Commission and listed on the Main Market of the London Stock Exchange invests predominantly in senior secured loans and senior secured bonds issued by European corporates and targets returns (net of fees and expenses) of 7% to 10% per annum. The Fund targets a dividend yield of 5.5 pence per £1.00 issue price of the initial offering of shares in the Fund for the first full year of investment, paid quarterly.
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