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Performance under duress

| January 25, 2019

This document is intended for institutional investors and is not subject to all of the independence and disclosure standards applicable to debt research reports prepared for retail investors.

Rising markets can make even the most mundane investment managers look like masters of the universe, but falling markets test character. For the first time since early 2016, leveraged loan returns fell in the fourth quarter of last year. The average CLO barely beat the S&P/LSTA total return index. That left lots of winners and lots of losers.

The average CLO reporting between November 2 and December 12 last year outperformed the broad leveraged loan index by only 6 bp with a wide spread of results around that mark (Exhibit 1). Of the 505 CLOs tracked by Amherst through late 2018, 325 beat the index and 180 fell behind. At least a quarter of the tracked CLOs beat the index by 23 bp or more, and another quarter lagged by 8 bp or more. At the extremes, one manager guided its CLO to a 213 bp win against the index while another managed a 327 bp loss.

Exhibit 1: The average CLO beat the index by 6 bp into December with a wide spread of results around that mark

Source: Amherst Pierpont Securities

Among the Top 20 deals with the best total returns against the index, MJX Asset Management has four on the list, Bain Capital Credit has three and Black Diamond Capital Management, Columbia Management and GSO/Blackstone Debt Funds Management each have two. No other manager had more than one. Amherst tracks only three managed by Black Diamond, making its placement of two into the Top 20 especially notable.

Exhibit 2: The Top 20 performing CLO deals through December 12

Note: Each CLO reports results on the dates indicated. APS calculates 3-month total return through the reporting date, matches those returns to the S&P/LSTA index over those statement dates, and calculates the total return difference. Source: Amherst Pierpont Securities

The performance of any CLO reflects both the manager and the market. CLO managers may have portfolios that reprice as a small or large multiple of the broad market—the portfolio’s market beta. Portfolios with high beta outperform in rising markets and underperform in falling markets. Portfolios with low beta do just the opposite. Managers may also add or subtract performance or alpha regardless of market direction. The performance in a rapidly rising or falling market also can depend on when the manager reports results. Results reported early may reflect a more stable market than results reported later. Although measuring results against the S&P/LSTA index corrects for most of that potential bias, it does not control perfectly. Portfolios that report earlier will show less impact from their market beta than portfolios that report later.

Amherst will continue following CLO and manager total returns and reporting monthly.

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This material is intended only for institutional investors and does not carry all of the independence and disclosure standards of retail debt research reports. In the preparation of this material, the author may have consulted or otherwise discussed the matters referenced herein with one or more of Amherst Pierpont’s trading desks, any of which may have accumulated or otherwise taken a position, long or short, in any of the financial instruments discussed in or related to this material. Further, Amherst Pierpont may act as a market maker or principal dealer, and may have proprietary interests that differ or conflict with the recipient hereof, in connection with any financial instrument discussed in or related to this material.

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