Photographer: Krisztian Bocsi/Bloomberg

When 'Good' Credit Assets Go 'Bad'

It can happen suddenly.

ALM 2013-10A is a collateralized loan obligation sold in 2013.

Issued near the height of investors' rampant search for yield, the debt consists of corporate loans that have been sliced and diced and served up to eager investors.

Angel Oak Multi-Strategy Income Fund is one of a stable of funds belonging to Angel Oak Partners LLC, an investment shop founded by former bond investors at the collapsed Washington Mutual Inc. The mutual fund buys a spectrum of fixed income—from corporate credit, to asset-backed securities, to U.S. Treasuries, and of course, CLOs—and boasts years of solid, sometimes double-digit, returns.

Purchasing such securities proved a winning strategy for the fund, propelling its assets under management to heavenly heights, from $220 million at inception to a peak of $4.8 billion last year as investors scrambled for the higher returns on offer from credit.

angeloak
Source: Bloomberg

Indeed, the mutual fund was the subject of a Bloomberg profile in 2012, which noted that it had beaten 99 percent of rivals with returns of 23 percent in 2012. At the time, some 78 percent of the fund was invested in residential mortgage debt not guaranteed by the government's housing financiers, or the same kind of debt that had been hard-hammered in the aftermath of the financial crisis.

Shares of the mutual fund have, however, since plunged nearer to earth, losing 12 percent since their peak in 2013 as worries over the future of various credit-related assets percolate among nervous investors. As the fund grew, its portfolio composition seemed to shift: Some 56 percent of the fund's portfolio is now allocated to nonagency residential debt, followed by 17 percent in commercial mortgage-backed securities and 15.1 percent invested in CLOs, according to the fund's website.

angelpost
Source: Bloomberg

Which brings us full circle, because Angel Oak Multi-Strategy Income Fund is also one of the biggest holders of a junior tranche of ALM 2013-10A, with some 9,000 shares marked at $84.66 as of the end of last year, according to Bloomberg data, making for a total investment of about $5 million.

Earlier this week, the same CLO drew bids in the 60s as part of a bid wanted in competition seen by Bloomberg News. Those are the kind of price levels that could prove worrisome for those anxious about a deterioration in credit-related assets. The sudden drop in bids for the CLO illustrates one of the primary concerns currently percolating among debt investors—namely, that they could be caught out by sudden and unexpected price declines in the riskiest areas of corporate credit. Still, it's worth noting here that the Angel Oak fund's total returns since inception remain firmly in positive territory.

"When less liquid markets have big dislocations, sometimes the pricing services don't accurately reflect the true prices, and big adjustments are made later. They tend to lag the actual market," said David Schawel of New River Investments. 

In other words, when good credit assets turn bad, so to speak, it can happen rather suddenly.

"Investors who are further from the day-to-day trading may be shocked to see big marks on what they own," Schawel added.

Correction: This article has been amended to show that ALM 2013-10A is the equity tranche of a CLO consisting of corporate loans. 

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