Listed debt trusts: something for nothing?

Tim Boreham

Independent Investment Research

ASX listed debt trusts are trading at material discounts to the value of their underlying assets, which presents potential opportunities for investors to derive enhanced yields on these income-focused investments.

Having sprung up like mushrooms after a thunderstorm over the past five years, these so-called credit-focused listed investment trusts (LITs) vehicles offer investors a liquid exposure to trillion-dollar credit markets, hitherto the preserve of institutions and sophisticated investors.

The LITS have diminished the default risks by investing in hundreds of companies across industries and geographies, with a mix of publicly traded and so-called private debt (company loans outside of the banking sector).

Being listed, the LITs are easily tradable which is usually not the case with the underlying investments. Investors receive a monthly distribution, usually at a floating rate based on a margin above a benchmark rate, such as the Reserve Bank of Australia’s cash rate.

If all goes well, the fund will recoup the capital amount on maturity.

The promoters also stress that when a borrower does run into trouble, debt holders rank further up the payments chain than shareholders (who typically receive nothing in a liquidation or receivership scenario).

However the listed performance of the trusts post since the coronavirus sell off shows that investors are still worried about the prospect of defaults when the various global stimulus and support measures wear off.

At the time of writing, the eight LITs were trading at discounts of up to 13 per cent, relative to their stated net tangible assets (NTA) per share.

Mind you, at the peak of the Covid sell-off in March the discounts were between 31 per cent and 39 per cent. But let’s face it, we all thought the world would fall apart and maybe it still will.

The LITs include the Partners Group Global Income Fund (PGG), which listed last September and global investment behemoth Kohlberg Kravis Roberts’ KKR Credit Income Fund (KKC), which debuted last December having raised a meaty $925 million.

Trailblazer Metrics Credit Partners launched the first credit-focused LIT, the MCP Master Income Trust (MXT) in December 2017. In April it followed up with the MCP Income Opportunities Trust (MOT), which raised $300 million in an oversubscribed issue.

The chairman of the Listed investment Companies and Trusts Association, Angus Gluskie, says the LITs are not immune from general market sell offs, while other income securities (such as hybrids) are also trading at a discount.

“In the listed market you will always have liquidity so you can sell at any time,” he says.

“If I bought a government bond in the unlisted market and I wanted to sell at a particular point, the bond will reflect the credit risk in the market.”

The bottom line is that discounts create opportunities, with new investors eyeing running yields of 10 per cent or more.

The big proviso of course is that the funds are as prudently managed as they claim and don’t incur a bad debt bath.

And with so many enterprises on government life support, this is yet to be tested in earnest.

Metrics Credit Partners contends that by moving up the risk curve “just slightly”, it can provide investors with consistent and stable income. The MCP Income Opportunities Trust targets a total return “through the cycle” of 8-10 per cent.

MCP managing partner Andrew Lockhart says the firm’s funds have no exposure to vulnerable sectors such as retail, student accommodation, education, tourism and retail property.

The funds are also highly liquid, so there is no looming forced selling scenario.

“The companies we lend to are fundamentally sound and have a business model that is not broken,” he says.

Other extant LITs are the Neuberger Berman’s NB Global Corporate income Trust (NBI), the Perpetual Credit Income Trust (PCI) and the Gryphon Capital income Trust (GCI).

The Neuberger Berman trust aims to hold paper in 250 to 350 companies globally, diversified by industry, country and credit quality. These include non-investment grade bonds issued by large and liquid global companies.

The Perpetual Credit Income Trust, which listed in May last year, invests in both domestic and global credit and fixed income, including corporate bonds, floating rate notes, securitised assets and private debt.

As it name suggests the Qualitas Real Estate income Fund (QRI) focuses on property loans.

Qualitas last month reported that 11 per cent of its portfolio consisted of construction loans in metro Melbourne and were likely to be affected by the stage four restrictions.

However the trust’s weighted average loan to valuation stands at 62 per cent, with “no loan impairments and no interest arrears in the trust’s portfolio.”

The fund returned an annualised 6.14 per cent in the three months to June 30.

Both the MCP Master Income Trust and the Perpetual Credit Income Trust strive for a return of the RBA cash rate (currently 0.25 per cent) plus a 3.25 per cent margin.

Metrics Credit Partners contends that by moving up the risk curve “just slightly”, it can provide investors with consistent and stable income. The MCP Income Opportunities Trust targets a total return “through the cycle” of 8-10 per cent.

The KKC fund, by the way is trading at the widest discount of 13.6 per cent, while investors who subscribed in the listing are 15 per cent under water.

A ‘fund of funds’, KKR invests in two KKR’s vehicles: the KKR Global Credit Opportunities Fund and the European Direct Lending fund.

KKR describes the flagship Opportunities fund as a “high conviction, value oriented” venture, investing in sub-investment grade markets. The European fund lends to mid-sized companies with underlying profits between $80-160 million.

In contrast, the MCP Master Income Trust is trading at a humble 1 per cent discount to both its NTA and listing price.

In theory, the NTA discounts will narrow if and when investors become convinced that the funds will recoup the full value of their paper at maturity.

But as long time watchers of the wider listed investment trust sector would know, some funds trade at a perennial discount.

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Under no circumstances have there been any inducements or like made by the company mentioned to either IIR or the author. The views here are independent and have no nexus to IIR’s core research offering. The views here are not recommendations and should not be considered as general advice in terms of stock recommendations in the ordinary sense.

Tim Boreham
Tim Boreham
Editor of New Criterion
Independent Investment Research

Many readers will remember Boreham as author of the Criterion column in The Australian newspaper, for well over a decade. He also has more than three decades’ experience of business reporting across three major publications.

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