All in all, it’s been a fairly dismal end to the year, with most markets feeling a bit sour. The resignation of Jim Mattis, the US Defence secretary probably won’t help assuage the growing fears about Trump Vs 2, Unchained. My own sense though is that we might see a sharp (positive) reversal in sentiment early in 2019, with markets bouncing back but only after more red ink during the first few months. If I had to guess I would watch out for a catalyst emerging out of Asia and emerging markets, with a determined move by Asian central banks to increase liquidity. In fact, on that exact theme Cross-Border Capital put out a note just this morning predicting a massive policy easing in 2019. Fingers crossed although arguably over the long term the central banks are just papering over much bigger structural problems.
Anyway, back in fundsland one consistent end of year worry for me has been the growing evidence of distress in the alternative funds’ sector, with the travesty at Catco the final straw. Only this week, it was Funding Circle’s turn in the spotlight. Its share price plummeted after a leading City analyst suggested that numbers coming out of the separate but connected investment trust vehicle presaged wider platform-wide problems. Quite why this was a surprise to anyone is beyond me. It’s been obvious for some time that the investment trust was overvalued, especially when it’s share were trading at a premium. The US market was and is hugely competitive which is why the fund eased back lending there and it’s also obvious that Funding Circle’s loan book goes through purple patches all the time – it’s had poor years in the past as it recalibrates its origination pipeline with its evolving risk metrics. In my view, that’s an obvious side effect of a fast-growing business, trying to constantly get the balance between risk and opportunity just right, using big data. If the past is anything to go by, it’ll reprice risk and get back on an even keel at some stage, probably in 2019. But the damage has been done to the lending fund, and I wouldn’t be surprised if markets now overreacted and pushed the share price closer to 80p (at which point they might be good value).
Sticking with this lending theme, by contrast, I think VPC Speciality Lending deserves some credit for pulling off a sensible restructuring. It’s moved away from P2P loans and focused on balance sheet lending. As a result, its income flows have started picking up and it looks like it might consistently hit an 8p a year dividend, covered. That translates to a dividend yield of over 10%, with the share price at the current 77p. The discount to NAV is around 14%. Other bits of good news includes some valuable equity stake realizations and a successful refinancing with CapitalSource, a division of Pacific Western Bank. But it is not all plain sailing and I would zero in on the fact that although it’s clocked up some nice gains from early redemptions and refinancings, the downside is that it ends up holding lots of cash as a result which could push down the portfolio yield. The key long-term challenge for this fund – in my view – is to find NEW loan origination which can sustain that 10% yield. I’m not entirely convinced that that is sustainable – lending rates are compressing and in effect, VPC needs gross rates closer to 15% which I suspect puts it in a difficult origination market. Nevertheless, congrats to VPC on getting its act together.
Sticking with the alternative income theme I think we should also give credit where credit is due (!), to a relatively low-profile fund called EJF Investments. This SFM fund invests in the equity of CDOs exposed to the subordinated debt of mid and small tier US banks and insurance companies. Since launch back in April 2017, its NAV has shot up 38% off the back of what was clearly an undervalued book of assets. But it also still seems to have a pipeline of good deals, helped along by the regulatory inspired restructuring of the US banking sector. The fund currently trades around NAV and yields about 5.5% pa in sterling terms. In the New year, I intend to have a closer look at this fund and understand the dynamics behind those returns. But definitely, one to watch.
Last but by no means least, a final bit of good news for a business which frequently appears in this blog on a regular basis. Shares in the US focused spin-out venture capital firm Allied Minds look like they might have turned a corner. Just a few weeks ago I was worrying that the shares might collapse all the way down to single figures, IF and that is a big IF, we assume that the portfolio has no real value – and all we have left is the cash. I think that was always an extreme scenario, but it was the narrative pushed by the short selling bears. Well, evidently there are some buyers out there (possibly Woodford or even Invesco???), the short sellers have now been squeezed and the shares have rallied hugely, nearly doubling in price to trade at over 70p at one point. They are currently back at 67p.
PS – just read quite the best political reportage for some time. Check out a fantastic essay in the current edition of the New York Review of Books (NYRB) by Mark Lilla, a US political academic and writer. It’s on the rise of the New Conservative French Right. A whole new world emerges on these pages, led by Marion Maréchal-Le Pen. It’s online now HERE. A must read and a hopeful sign that the Right might be rethinking its populist ideas.
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