Credit Fund With $12 Billion Sees Payday in Leveraged Loan Boom

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An increasing flow of leveraged loans in Europe will ensure that investors snapping up the debt will get paid, according to Danish credit manager Capital Four.

“A growing market can keep a floor under the spread levels in Europe,” Mikkel Sckerl, a partner at the 10 billion-euro ($12 billion) manager, said by phone on Monday. “There’s much better value in the European currency tranches versus the U.S.”

Capital Four, founded in 2007, finds itself at the forefront of a boom in Europe as the region’s economic growth accelerates, asset prices rise and deal-making follows. Banks have also pulled back from lending amid balance sheet and capital concerns, opening up for investors to step into the breach with fresh cash.

A rally in the market halted in mid-2017 amid heavier new issue supply. The average new-issue spread for single B and unrated borrowers was 384 basis points over Euribor in the three months to end-July, little changed from June and May, according to data compiled by Bloomberg. That’s still down from about 600 basis points in mid 2016.

European loan issuance was 43.2 billion euros this year through July, on track to beat last year’s 53.6 billion euros.

Capital Four currently holds about 2 billion euros in leveraged loans, but its European Loan & Bond Fund invests only in senior secured corporate debt. That fund holds about 90 percent in loans and 10 percent in bonds right now.

“We can find better senior secured deals in the loan market right now,” said Torben Skodeberg, one of Capital Four’s founders, who previously worked at Nordea Investment Management. “We’re also careful on the interest rate duration. Because loans have no duration and high-yield bonds can have some.”

The fund has a duration of 0.4 years with an average coupon of about 4.4 percent. It returned 5.7 percent in the past year through July, 3 percentage points higher than its return target of three-month Euribor plus 300 basis points.

The fund is currently “very calm” and is building a robust portfolio of loans to avoid defaults. According to Skodeberg, it hasn’t had any defaults in the past 3 1/2 years.

“We invest in about one-fifth of all the deals that are shown to us,” he said. “So if we’re very disciplined and have a very good bottom-up process with restructuring, covenants and leveraged loans capability we can run with a lower default rate than the market.”

Its holdings include debt from Culligan International Co., Xella International SA and Ineos Group. One of the latest deals Capital Four took part in was a Breitling loan in July. Many of the transactions are based on leveraged buyouts by private equity firms such as Blackstone Group LP, Carlyle Group LP, KKR & Co. LP, Bain Capital LP and CVC Capital Partners Ltd.

The fund sees all the deals, and sees them “early,” after building up relationships over time, according to Sckerl.

The pitch is also that the most secure part of the corporate capital structure offers an alternative for institutional investors because government bonds currently pay very little, or nothing in yield, and also face the risk of rising interest rates.

Government bonds are “not a safe asset class because it pays very little or even negative,” said Skodeberg. “And you have a interest rate risk that can be pretty severe. And we don’t know when that’s going to kick in.”

(Previous version of this story corrected the spelling of a name in the last paragraph.)

— With assistance by Ruth McGavin

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