Actively managed, ultra-short duration floating-rate income strategy that invests primarily in privately syndicated, below investment grade senior secured corporate loans.
Portfolio review
The second quarter was marked by a series of conflicting economic data releases, which led to the anticipation of two rate cuts in 2024. The disinflationary and soft landing narrative, which came into question in 1Q24 following a series of upside surprises, regained credibility in2Q24 as the data came in mostly in line with expectations. Corporate credit sectors were further supported by 1Q24 earnings, which exceeded analyst expectations. The loan Index returned 1.90% in 2Q24 (the weakest quarterly return since Q3 2022), down from 2.46% last quarter. This softness was driven by weakness in price return. High base rates continued to provide a steady coupon stream for the loan asset class, pushing year to date return to 4.40% (outperforming comparable periods in 2020, 2021 and 2022). By ratings, single-B rated loans outperformed this quarter, posting gains of 2.06%, while double-B and CCC rated loans returned 1.80% and 1.24%, respectively. However, for the year, CCC loans have outperformed by posting a strong return of 6.48%, followed by single-B and double-B rated loans at 4.57% and 3.84%, respectively.
Opportunistic transactions continued to be the main driver of issuance in the primary market. Repricings are on a record pace in 2024, reaching a total of $223 billion in 2Q24 and $372 billion YTD. In addition, dividend recapitalization transaction reached a record high of $35 billion YTD, exceeding the full year volume of 2022 and 2023 combined. Excluding repricings and amendments, total institutional volume slightly increased to $146 billion from $143 billion in 1Q24. About $95 billion of total issuance were tied to refinancings (the third highest quarterly volume on record). On the demand side, collateralized loan obligations (CLO) issuance increased from 1Q24 volume as spreads tightened. The current YTD volume is now tracking $101 billion across 214 deals up from last year’s volume of $56 billion.
There was a notable increase in inflows into retail loan funds, as $5.5 billion entered the retail fund space during the quarter. There were four defaults in the Index during the quarter as the trailing 12-month default rate by principal amount decreased to 0.92% (from 1.14% in March).
On a NAV basis, Class I shares of the Fund outperformed the Index. The Fund’s primary relative contribution stemmed from selling the equity position of Longview which was received as part of a prior restructuring. By ratings, selection in single B rated loans contributed to the Fund’s performance. From an industry perspective, the main positive drivers were selection in media and software and the underweight allocation in diversified telecommunication services. Away from loan-level performance, the Fund’s modest exposure to high yield (HY) bonds slightly weighed on relative performance, as the HY bond market underperformed loans in 2Q24 (1.07% return for the Bloomberg U.S. Corporate High Yield Index). In contrast, selection in health care providers and services detracted from performance.
Portfolio and positioning changes were both mostly minimal during the period. The number of individual names in the portfolio increased from 350 to 362.
Current strategy and outlook
The recently cooler inflation data and softer labor market conditions have strengthened the case for a rate cut as early as September. However, with growth remaining near trend and inflation still comfortably above 2%, the pace at which the U.S. Federal Reserve cuts will remain slow and measured. We expect the technical backdrop to remain largely supportive in the loan market, as the ongoing demand and supply imbalance will likely persist for the balance of the year. Fundamental factors will remain supportive (mainly among stronger rated issuers) with high demand and decent margins. However, dispersion and bifurcation among weaker credits and consumer discretionary sectors will remain prevalent while slower growth and elevated rates could lead to higher downgrades and default risk within some sectors. Therefore, we generally maintain previously held cautious sectoral views, focus on credit selection and up-inquality positioning.
Key Takeaways
The loan Index returned 1.90% in 2Q24 (the weakest quarterly return since Q3 2022), down from 2.46% last quarter.
On a net asset value (NAV) basis, Class I shares of the Fund outperformed the Index.
We expect the technical backdrop to remain largely supportive in the loan market, as the ongoing demand and supply imbalance will likely persist for the balance of the year