Friday letter: Pivot to private

The syndicated loan market does not offer debt investors the best value for money – for that you need to go properly private. And this week TICC Capital Corp found someone to guide it in that direction.

The syndicated loan market has, on the face of it, a lot going for it. And for investors searching for yield after the crisis it was a great entry point into credit. Senior secured debt offered decent returns that were reasonably low risk. And when banks lend balance sheet, they are more cautious with the terms than when they market public bonds. 

But word got out and money has poured into the large-cap leveraged loan market. Add to that distance from the crisis and even the banks that wouldn’t (or couldn’t) lend a brass farthing in recent years are rediscovering the slightly chunkier yield on leveraged loans. 

And so leverage has crept up while covenants have loosened in the leveraged loan markets. Last month, Debtwire and law firm Travers Smith published a report showing that 60 percent of all sponsor-backed deals executed over the last 12 months were covenant-lite. In the same report, more than half of the private equity firms behind the deals said that they expect leverage to increase over the next 12 months. 

On Tuesday, TICC Capital shareholders were told that, subject to their approval, Benefit Street Partners (BSP) would take over the investment adviser of the Nasdaq-listed BDC. The news should be great for TICC, which has struggled as its debt to equity ratio edged towards the 1:1 cap and returns did not produce enough yield to pay the promised dividend. The firm’s shares trade at a significant discount to net asset value – 0.74x. 

TICC’s portfolio is also made up of a significant portion of riskier assets, including 28 percent CLO equity alongside 13 percent second lien credit lines. And those less protected positions are also levered up, the firm’s debt to equity metric hit 0.97x at the end of June, compared with 0.77x a year earlier. 

BSP does not intend to continue the CLO and syndicated loan investment strategy of TICC Management, which it is set to take-over with a clean sweep of personnel and a name change. 

Instead, it will pivot the firm towards off-market privately sourced and arranged mid-market lending. The kind of deals that ex-Deutsche Bankers Rich Byrne and Tom Gahan have focused on since they set up the credit arm of Providence Equity Partners in 2008. 

In fact, as BSP pivots TICC towards more private deals, it is itself moving more towards sponsor-less lending. Just as the syndicated leveraged loan markets are crowded, even the smaller, more clubby mid-market sponsor finance world is beginning to lack elbow room. So BSP is seeking a higher proportion of borrowers that come without a sponsor because while you lose some of the reassurances about governance, you also lose a lot of the competition. 

TICC is not the first outfit to make that move. GSO Capital Partners is often ahead of the curve and FS Investment Corporation, the BDC sub-advised by GSO, said last year that it would focus more on private deals in preference to syndicated loans. 

The syndicated loan market remains a relatively safe place for new credit investors to dip a toe in. But for the best value for money you need to swim in the deeper, murkier waters of private lending, and for that you have to be either a confident swimmer or towed along by a manager who can navigate the currents.