We specialize in leveraged loan products. Our CLO portfolios consist of approximately 90% leveraged loans.
Since 2003, MJX has employed a successful investment process with uncompromising discipline. MJX-managed funds provide investors access to a highly experienced and successful team in a complex and credit-intensive market. Our quarterly investor letters and industry reviews assure transparency of performance, which reflects our strong sense of accountability towards our investors.
Collateralized loan obligations are securitized interests in pools of assets, principally broadly syndicated non-investment grade bank loans (“leveraged loans”) made to corporate borrowers. Investors bear the credit risk of the loan collateral. Multiple tranches of securities are issued by the CLO, offering investors various maturity and credit risk characteristics. Tranches are categorized as senior, mezzanine, and subordinated/equity, according to their degree of credit risk. If there are defaults or the CLO’s collateral otherwise under performs, scheduled payments to senior tranches take precedence over those of mezzanine tranches, and scheduled payments to mezzanine tranches take precedence over those to subordinated/equity tranches. Senior and mezzanine tranches are typically rated, with the former receiving ratings of A to AAA and the latter receiving ratings of B to BBB. The ratings reflect both the credit quality of underlying collateral as well as how much protection a given tranche is afforded by tranches that are subordinate to it.
A CLO has a sponsoring organization, which establishes a special purpose vehicle to hold collateral and issue securities. Expenses associated with running the special purpose vehicle are subtracted from cash flows to investors.
One important distinction is that between static and managed deals. With the former, collateral is fixed through the life of the CLO. Investors can assess the various tranches of the CLO with full knowledge of what the collateral will be. The primary risk they face is credit risk. With a managed CLO, a portfolio manager like MJX is appointed to actively manage the collateral of the CLO. The life of a managed deal can be divided into three phases:
- Ramp-up, during which the portfolio manager initially invests the proceeds from sales of the CDO’s securities.
- The reinvestment period generally lasts four to five years. The manager actively manages the CDO’s collateral, reinvesting cash flows as well as buying and selling assets.
- In the final period, collateral matures or is sold. Investors are paid off.
At the time they purchase the CLO’s securities, investors in a managed deal do not know what specific assets the CLO will invest in, and those assets will change over time. All investors know is the identity of the portfolio manger and the investment guidelines that he will work under. Accordingly, investors in managed CLOs face both credit risk as well as the risk of poor management. Investors have the added burden of paying portfolio management fees.
CLOs can be structured as cash flow or market-value deals. In flow deal, cash from collateral are used to pay principal and interest to investors. If such cash flows prove inadequate, principal and interest is paid to tranches according to seniority. At any point in time, all immediate obligations to a given tranche are met before any payments are made to less senior tranches.
With a market value deal, principal and interest payments to investors come from both collateral cash flows as well as sales of collateral. Payments to tranches are not contingent on the adequacy of the collateral’s cash flows, but rather the adequacy of its market value. Should the market value of collateral drop below a certain level; payments are suspended to the equity tranche and more senior tranches may be impacted if performance continues to deteriorate.
Leveraged loans are the largest source of high-yield paper with new-issue volume of approximately $985 billion for the 12 months ending in December, 2017, according to S&P LCD.
The Relative Value approach seeks to benefit from the historic long-term performance of the “value” style of investing, while minimizing the opportunity cost associated with the market’s inevitable style rotation between value and growth. To this end, a systematic and disciplined review of current market value returns of each investment is compared to similarly risk-rated issuers to reduce exposure to the lowest return and reinvest in higher return issuers of the same or lower risk. We apply Relative Value style across three levels of risk/return: relative value of industry, relative value of issuers within an industry and relative value of issue for each issuer.
The leveraged loan market is comparable to the high-yield bond market from an issuer credit rating perspective and leverage perspective. A loan can be classified as leveraged if it generally meets any of the following criteria: debt ratings of below Baa3/BBB- from Moody’s and S&P, a debt-to-EBITDA ratio of 3.0 times or greater, or pricing of at least 125bp over LIBOR at issue. General attributes of Leveraged loans include:
- Leveraged loans have a floating interest rate.
- Leveraged loans generally mature in five to eight years.
- Leveraged loans are callable.
- The covenant packages of leveraged loans afford lenders some control over a credit.
- Leveraged loans are usually rated by Moody’s and S&P.
- Leveraged loans are usually secured by the assets of the issuer.