In this Q&A, Sir Michael Hintze, Chief Executive and Senior Investment Officerof CQS, presents an update on the risks and opportunities he sees in markets in 2016 and beyond.
Q: How has 2015 shaped up for CQS Insights?
Sir Michael Hintze: While performance has been mixed, I am very proud of the way our team has worked during 2015. Relative-value credit strategies have been challenging. Our convertibles strategies have performed well, both convertible arbitrage and long-only, especially on a relative basis. Our bespoke mandates have continued to deliver absolute returns for our clients and the long-only credit multi-strategy product has generated good returns.
Yost Partners was up 0.8% for the first quarter, while the Yost Focused Long Funds lost 5% net. The firm's benchmark, the MSCI World Index, declined by 5.2%. The funds' returns outperformed their benchmark due to their tilt toward value, high exposures to energy and financials and a bias toward quality. In his first-quarter letter Read More
There has been much comment of late about the end of the credit cycle which I believe to be incorrect. High yield credit spreads have been widening for some 18 months. Even adjusting for energy names, credit spreads are at relatively high levels. While this challenging environment has provided us with renewed opportunity, there have also been dislocations that have caused significant volatility in returns.
For example, our hedges have been affected by the basis widening. Indexes have not widened as much as the underlying single names, holding back returns in these relative-value credit portfolios. Fundamentals in ABS markets have continued to be good, but the technicals have been more challenging, although I believe this could now turn positive. The teams have continued to work hard and remain disciplined and, as a result, I believe the portfolios have significant embedded value. We have also added to the investment team over the year and in the portfolios I have direct responsibility for, we continue to actively trade both on the equity and credit sides. After a challenging 18 months, I think it is in credit markets that we are currently finding the most compelling alpha opportunities.
How do you see the investment environment for 2016?
Sir Michael Hintze: As I look into 2016, while I expect continued volatility, I am also excited about the opportunity set that is unfolding. Where there is disruption and dislocations, there is opportunity both on the long and short sides. I am also enthusiastic about the substantial investment opportunity I see resulting from bank disintermediation and market distortions more broadly. In a more volatile world one needs to be agile and, liquidity permitting, trade actively to monetise the volatility observed. Given the more technical and dislocated market environment, I believe fundamental credit and equity research will be a key element in enabling us to identify value in a market with greater dispersion.
What does that mean for the investment opportunity you see?
Sir Michael Hintze: There is a secular change and a structural opportunity due to the combined effects of regulation and central bank intervention.
Bank disintermediation, particularly in Europe and the US, is a long-term theme and I believe this will continue to provide an illiquidity premium for more patient capital. Furthermore, dislocations and distortions will provide a rich opportunity set and market participants with the skill sets to invest across the capital structure should be in a good position to find attractive relative value opportunities. More flexible and patient capital should be best able to take advantage of greater price volatility.
This, combined with a fundamentally-driven approach to investing and an understanding of the technical nature of the market, will be the key drivers of investment success in the coming year. To that end we have brought in further expertise in European distressed and US loans, and placed even greater focus on the trading of market dislocations that should enable us to extract greater value.
What is the outlook for corporate credit investment?
Sir Michael Hintze: As always, opportunity follows on from dislocation. As I alluded to earlier, there has been much comment of late about the end of the credit cycle which I believe to be incorrect. High yield credit spreads have been widening since June 2014.
We are seeing differentiation both within and between credits. Figures 1 and 2 respectively, illustrate the behavior within high yield indexes and between high yield and investment grade more recently.
Even adjusting for energy names, credit spreads are at relatively high levels. Figures 3, 4 and 5 show what has been going on in European and US high yield credit. Figure 3 illustrates the widening of European high yield and senior secured loan spreads since the Fed announced the commencement of Taper in June 2014.
Of note is Figure 4 which shows the evolution of US (ex-energy) and European high yield indexes since the beginning of 2015. The divergence between US CCC (ex-energy) and European CCC rated credit as can be seen in Figure 5.
Figure 6 shows how the dispersion of spreads in the European high yield bond market has widened since the beginning of 2015.
To some extent the divergence of monetary policies between the US and the UK, and the EU and Asia has been driving price action and in part it has been driven by the energy complex and resources sector. I believe this is broadly reflected in pricing. The key points are that credit has been widening since June 2014 and that there is growing dispersion creating attractive opportunities.
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