Structured Credit: Seeing the Forest for the Trees

Though only introduced a few decades ago, structured credit has evolved into one of the largest segments of the US fixed income market.

Key Takeaways

• Structured credit historically has offered investors the potential for attractive risk-adjusted returns, diversification benefits and bespoke credit-risk exposure over multiple cycles. The assets may be particularly appealing currently in light of today’s high base interest rates and the attractive spreads offered by certain product types.      
• Despite lower credit default rates, structured credit historically has offered higher yields than similarly rated traditional fixed income products. Fundamental investors able to differentiate between an instrument’s rating and its actual credit risk, in our view, may take advantage of agency mis-ratings to seek incremental income.
• In our experience, the ability to analyze, value and actively manage structured credit assets is key to accessing the durable incremental returns offered by this asset class. First Eagle’s Napier Park unit has a team of professionals who have been actively managing structured credit risk and investment for over 30 years.  

Disclaimer

The opinions expressed are not necessarily those of the firm. These materials are provided for informational purposes only. These opinions are not intended to be a forecast of future events, a guarantee of future results or investment advice. Any statistics contained herein have been obtained from sources believed to be reliable, but the accuracy of this information cannot be guaranteed. The views expressed herein may change at any time subsequent to the date of issue hereof. The information provided is not to be construed as a recommendation or an offer to buy or sell or the solicitation of an offer to buy or sell any fund or security.

Past performance does not guarantee future results.

Risk Disclosures

All investments involve the risk of loss of principal.

Diversification does not guarantee investment returns and does not eliminate the risk of loss.

Alternative investments can be speculative and are not suitable for all investors. Investing in alternative investments is only intended for experienced and sophisticated investors who are willing and able to bear the high economic risks associated with such an investment. Investors should carefully review and consider potential risks before investing. Certain of these risks include:

• Loss of all or a substantial portion of the investment;
• Lack of liquidity in that there may be no secondary market or interest in the strategy and none is expected to develop;
• Volatility of returns;
• Interest rate risk;
• Restrictions on transferring interests in a private investment strategy;
• Potential lack of diversification and resulting higher risk due to concentration within one of more sectors, industries, countries or regions;
• Absence of information regarding valuations and pricing;
• Complex tax structures and delays in tax reporting;
• Less regulation and higher fees than mutual funds;
• Use of leverage, which magnifies the potential for gain or loss on amounts invested and is generally considered a speculative investment technique and increases the risks associated with investing in the strategy;
• Carried interest, which may cause the strategy to make more speculative, higher risk investments than would be the case in absence of such arrangements; and
• Below investment grade loans, which may default and adversely affect returns.

Definitions

Alpha is the excess return of an investment relative to a comparative market index or other broad benchmark.

Asset-backed securities (ABSs) are securitizations backed by cash flows from pools of income-generating credit assets, such as auto loans, credit-card receivables and student loans.

Broadly syndicated loans are a form of corporate financing provided by a group of lenders.

Collateralized debt obligations (CDOs) are securitizations backed by cash flows from pools of bonds, loans or other securitizations.

Collateralized loan obligations (CLOs) are securitizations backed by cash flows from pools of corporate loans, most commonly broadly syndicated loans.

Commercial mortgage-backed securities (CMBS) are securitizations backed by cash flows from pools of mortgages on commercial properties.

Credit-default swaps (CDS) are derivative contracts that transfer the default risk of a particular fixed income security from the swap buyer to the seller in exchange for a fee.

Credit-default swap indexes (CDX) are tradable baskets of single-name credit-default swaps.

A credit rating as represented here is an assessment provided by a nationally recognized statistical rating organization (NRSRO) of credit worthiness of an issuer with respect to debt obligations, including specific securities, money market instruments or other bonds. Ratings are measured on a scale that generally ranges from AAA (highest) to D (lowest); ratings are subject to change without notice. Not Rated (NR) indicates that the debtor was not rated and should not be interpreted as indicating low quality.

Credit-risk transfer (CRT) securities are synthetic securitizations that reference the credit risk of a designated group of mortgage loans guaranteed by Fannie Mae and Freddie Mac.

Fannie Mae is a government-sponsored enterprise that buys home mortgages from larger commercial banks and packages them into securities that are sold to investors. Fannie Mae guarantees the payment of principal and interest on the underlying mortgages, but the securities it issues are not backed by the full faith and credit of the federal government.

Freddie Mac is a government-sponsored enterprise that buys home mortgages from smaller commercial banks and credit unions and packages them into securities that are sold to investors. Freddie Mac guarantees the payment of principal and interest on the underlying mortgages, but the securities it issues are not backed by the full faith and credit of the federal government.

Residential mortgage-backed securities (RMBS) are securitizations backed by cash flows from pools of mortgages on residential properties.

A tranche is a portion of a security issue with its own unique risk/reward characteristics and credit rating.

Indexes are presented merely to show general trends in the markets for the periods presented and are not intended to imply that any fund is comparable to any index in composition or element of risk. Indexes are provided for comparison purposes only and a variety of factors may cause a benchmark to be an inaccurate benchmark for a particular fund. Investors cannot invest directly in an index.

Bloomberg 10-Year Municipal Bond Index measures the US municipal tax-exempt investment grade bond market with maturities of 10 years.

Bloomberg US Corporate High Yield Index measures the US dollar-denominated, high yield, fixed-rate corporate bond market.

Bloomberg US High Yield BB Index is a subindex of the Bloomberg US Corporate High Yield Index that measures the performance of bonds rated BB.

JPMorgan Collateralized Loan Obligation (CLO) Index is an unmanaged index that measures the performance of US dollar-denominated cash, arbitrage floating-rate collateralized loan obligations backed by broadly syndicated leveraged loans.

JPMorgan Leveraged Loan Index is designed to mirror the investable universe of the US dollar-denominated institutional leveraged loan market.

JPMorgan Leveraged Loan BB Index is a subindex of the JPMorgan Leveraged Loan Index consisting of loans rated BB rating.

JPMorgan US High Yield Index is designed to mirror the investable universe of the US high yield corporate debt market, including issues of US and Canadian domiciled issuers.

FEF Distributors, LLC (“FEFD”) (SIPC), a limited purpose broker-dealer, distributes certain First Eagle products. FEFD does not provide services to any investor but rather provides services to its First Eagle affiliates. As such, when FEFD presents a fund, strategy or other product to a prospective investor, FEFD and its representatives do not determine whether an investment in the fund, strategy or other product is in the best interests of, or is otherwise beneficial or suitable for, the investor. No statement by FEFD should be construed as a recommendation. Investors should exercise their own judgment and/or consult with a financial professional to determine whether it is advisable for the investor to invest in any First Eagle fund, strategy or product.

First Eagle Investments is the brand name for First Eagle Investment Management, LLC and its subsidiary investment advisers. First Eagle Alternative Credit and Napier Park are brand names for the two subsidiary investment advisers engaged in the alternative credit business.

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