M&G Credit Income (MGCI) reported annual results to 31 December 2020, noting that it had exceeded the level of performance originally targetted following its launch in November 2018. Chairman, David Simpson, said: “This target was to achieve an annualised dividend yield of LIBOR plus 2.5% (on the 100p issue price) from launch until 31 December 2019 and of LIBOR plus 4% (on the opening net asset value (NAV) per Ordinary Share) thereafter. MGCI’s NAV at its launch on 14 November 2018, being the gross proceeds of the IPO less the IPO expenses, was 98.38p per. The opening NAV on 1 January 2020 was 101.72p and the NAV on 31 December 2020 was 101.40p. Including dividends paid, the annualised NAV total return was 4.4% since launch although the NAV total return for the year to 31 December 2020 was 3.7%, reflecting the effects of the COVID-19 pandemic.”
‘The pipeline for new private investments remains strong’
The following is taken from the manager review section accompanying the results: “MGCI entered 2020 cautiously positioned. Attractively priced assets were hard to find as a result of tight spreads on corporate credit and low government bond yields, so we remained defensively positioned with allocations to high-grade asset-backed securities (ABS) and covered bonds. The outbreak of COVID-19 in Europe led to a fast and dramatic repricing across all risk assets. The speed and severity of the spread widening across all sectors, regardless of credit quality or duration, was extraordinary. As a result, the NAV of the Company declined. However, this dislocation presented attractive opportunities in the public markets. We were able to use existing cash holdings alongside proceeds from the sale of ABS and covered bonds to redeploy into mispriced, longer-dated, fixed-rate investment grade and high yield corporate bonds. Private transactions were put on hold, with almost all lenders and borrowers awaiting some semblance of market stabilisation and the establishment of a “new normal” before re-engaging.
As a result of the fiscal and monetary policy measures implemented by governments and central banks around the world, investor confidence started to return by the end of the second quarter. As liquidity in the ABS market improved, we were able to continue adding credit risk to the portfolio and increase the yield by switching into longer-dated, fixed-rate bonds. The Company was able to add attractively priced new issues as companies sought to improve balance sheets and liquidity alongside bonds from the secondary market where valuations had become misaligned relative to the underlying credit fundamentals.
Towards the end of the second quarter, we saw the reopening of the private credit markets with a significant number of borrowers seeking finance. Those private transactions that came to market in the second half of the year were very attractive; improved covenants, more conservative structures and better pricing than prior to the start of the pandemic. The Company committed to a number of private deals in the second half of the year across a variety of sectors, including the first direct investment into the social housing/infrastructure sector. This project relates to the maintenance of residential dwellings in the London borough of Lambeth and the provision of green spaces; a community centre; and a district heating network. As at 31 December 2020, the private asset portion of the portfolio, including irrevocable commitments, had increased to 49.25% (versus 27.41% at 31 December 2019) with an additional investment of approximately 10% in illiquid publicly listed assets, which are intended to be held to maturity. There continues to be a strong pipeline of private lending opportunities. The Company increased it’s holding in the M&G European Loan Fund (‘ELF’) in the second half of the year (11.98% as at 31 December 2020) as it offered good relative value to public high yield bonds. This loan portfolio was not immune from the fall in asset prices at the end of March and, whilst that NAV recovered in 2020, the loans market lagged the recovery seen in the public high yield market. This is a long-term holding intended to provide a steady and attractive stream of income.
Credit markets rallied strongly towards the end of 2020, bolstered by vaccine optimism, the removal of uncertainty over the US presidency and continued central bank support. Returns for the year as a whole finished in positive territory in both investment grade and high yield markets. Credit spreads in high yield markets ended the year higher than they were at the start of 2020, with investment-grade credit spreads broadly unchanged despite the substantially different economic climate. In the public markets, we took the opportunity to reduce our exposure to sectors that may experience difficulty over the short-to-medium term, where spreads were no longer sufficiently wide enough to compensate for the associated risks. In addition, we sold some of the more defensive positions in the portfolio which had tightened significantly versus the long-term target of the Company. This improved the risk profile, realised capital gains and added to the yield of the portfolio The proceeds were used to purchase new private transactions.
We continue to hedge the interest rate risk of the fixed-rate bonds in the portfolio to reduce the portfolio’s sensitivity to changes to interest rates Gilt futures are used to maintain a modified duration of between 1 and 1.5 years. When the Gilt yields fall this position will detract from the portfolio performance however, in a rising yield environment, the hedging strategy will provide an offset to a fall in price of duration sensitive fixed-rate bonds.
In June 2020, the Company raised an additional £14.2 million (net of expenses) via a placing of Ordinary Shares. The money raised was initially invested in a variety of public corporate bonds that were offering good relative value but has since been redeployed into private and more illiquid public assets. In the second half of 2020, the Company entered into an unsecured revolving credit facility with State Street Bank International GmbH. It is intended that this will be used to provide liquidity for investing when it is unattractive to sell existing holdings. The facility will be particularly useful when there is a significant number of private investments due to settle within a short period.
In early 2021, investor sentiment is optimistic and appears to be assuming a smooth recovery, no doubt buoyed by the vaccine rollout and the agreement of the Brexit deal between the UK and the EU. This investor confidence, coupled with central bank support, has resulted in a rally in credit market spreads offset by an increase in Government yields across most developed markets.
Underlying NAV performance has had a strong start to 2021. In the first quarter of the year NAV total return was up by 2.02%, which compares well to the performance on fixed income indices such as the ICE BofA Sterling and Collateralised Index which fell by 4.48% and the ICE BofA European Currency Non-Financial High Yield 2% Constrained Index which rose by 1.51%. The Company performance compares well to these fixed income indices due to both its low-interest rate risk, achieved by hedging the fixed-rate instruments in the portfolio, and to the tightening credit spread environment.
The Company is now reaching its long-term state of deployment and is delivering on its long-term performance objective set out at launch. The pipeline for new private investments remains strong with £32 million expressions of interest given with an average yield in line with the long term dividend policy of the Company. However, there has been some compression in illiquidity premia vs public markets as public market tightening is now beginning to be reflected in private transactions. Therefore, selecting the correct investments will be key.
Looking ahead, the Company will continue to sell strongly performing public bonds. These were generally bought at much wider spread levels in 2020 and will realise good capital gains. The cash raised will be redeployed into private assets which are being presented to us at attractive yield levels and will improve the income coverage of the dividend.”
About MGCI
MGCI aims to generate a regular and attractive level of income with low asset value volatility. MGCI seeks to achieve its investment objective by investing in a diversified portfolio of public and private debt and debt-like instruments. Over the longer term, it is expected that the company will be mainly invested in private debt Instruments, which are those instruments not quoted on a stock exchange.
MGCI: M&G Credit Income performance exceeds original 2018 IPO target