Managers at the coal face and why loans make sense

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It’s always a good sign when a senior funds manager retains some elements of research in his or her job, perhaps following closely a handful of companies, or a sector. This is particularly so in the world of credit and loans, both of which are hot topics. Ralph Hinckley does this so he can “keep in touch”.

Hinckley, a vice president and portfolio manager at Eaton Vance Investment Managers in Boston, runs the firm’s floating-rate loans strategy, having managed part of its credit team previously. Eaton Vance has a full range of fixed and floating-rate strategies, which often compete with each other for an investor’s eye.

Obviously, there have to be disciplines in place to ensure the department head doesn’t unduly favour the companies or sector being researched. However, the benefits of having that person standing alongside the analysts and other portfolio managers in the firing line, making mistakes from time to time, too, and bearing the consequences, are clear for both morale and overall performance.

Hinckley started with Eaton Vance in 2003, after doing a “cadetship” with a bank learning the ins and outs of credit. He started with the credit team in 2005. He still gets actively involved in workout situations and distressed portfolios. “I’m often deposed to give evidence in court,” he said last week on a visit to Australia.

Loans, which sit at the top of the security chain in the event of a company’s liquidation – ahead of high-yield debt and equity – differ from the rest of the rates-based investment universe in three ways:

. They have no duration exposure. It doesn’t matter whether rates are rising or falling because the loans reset every 35-50 days, when the LIBOR index resets. They are currently offering LIBOR, of about 2 per cent, plus 375bps. High-yield strategies, on the other hand, take both inflation and duration risk.

. Security. Sitting at the top of the tree is comforting for most investors, especially in times of general downturn.

. The vast majority of the return from loans is in the form of income. They normally don’t trade above par and rarely go far below par before readjusting. The average life of a corporate loan is three years and the weighted average company size in the Eaton Vance portfolio is US$5 billion in revenue and US$1 billion in cashflow. They are not small companies. They are the likes of Heinz, Hilton, Sprint and Dell.

There are two risks to worry about: individual stock credit risk and trading price volatility. The first is obvious, the second is not quite so. Trading price volatility is often caused by the retail sector, Hinkley says, but if the loans dip below their coupon rate they usually snap back quickly. At the moment the loan book is trading at 96.3 against par but is delivering slightly more yield than the higher-risk high-yield market – 6.63 per cent to 6.40 per cent.

“We don’t want to be the highest yielding manager in the marketplace,” Hinckley says, “because, by definition, that means we would be taking the highest risk.”

The loans managers can also offer exposure to private markets. In Eaton Vance’s case, just under half of the portfolio is in public equity or debt exposure. Unlike most private credit managers, which another hot topic in the current climate, loans managers such as Eaton Vance don’t lend direct to the companies. They deal through the banks and other institutions.

“It’s not without risk,” Hinckley says, “but it’s a different sort of risk… There have been only two negative returns years for loans ever [bearing in mind it is a relatively new asset class]. They were 2008 and 2015… In a loans portfolio you win by not losing.”

Chris Briant, the chief executive for Australasia of associate company Parametric, who also oversees Eaton Vance in Australia and New Zealand, says a loans strategy is ideal for the many retirement products which big super funds are developing for their pension-phase members. It’s an asset class which is quite relevant to that sort of protection and high proportion of income, he says. As previously reported, Ty Thurgood, formerly with Nomura in Sydney, has recently taken on the senior client role at Eaton Vance.

Hinckley is not new to Australia. He studied at Melbourne University in the early 1990s.

– G.B.

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