Episode 42

MARCH 16, 2022

Charles Youngblood on narrowly syndicated credit

Charles Youngblood, Senior Vice President and Product Specialist at Crescent Capital, discusses narrowly syndicated credit and how the investment performs in an inflationary environment.

Steve Peacher: Hey everybody it's Steve Peacher again from SLC Management, today I’m really excited to have Charles ("Charlie") Youngblood with me. Charlie’s a Senior Vice President and Product Specialist in the capital markets area at Crescent Capital. So, Charlie thanks for taking a minute.

Charlie Youngblood: Thank you.

Steve Peacher: So, the topic today, we want to talk about is narrowly syndicated credit, which some people will know, but many people who listen won't know so what are narrowly syndicating loans and what is narrowly syndicated credit, and we'll go from there.

Charlie Youngblood: Sure, basically, we'll use an analogy from the equity market what narrowly syndicated credit is, it's essentially small cap loans and bonds that are in the below investment grade credit space, so you're talking $150 to $400 million in issue size, whereas your standard high yield bonds and bank loans are much larger than that. And basically, how they get them into the space is the companies that have graduated from the direct lending or privately originated market and now they're in the syndicated markets, but they just don't have as many holders, they don't have as many participants people who are purchasing these as they would if they were broadly syndicated. So typical investors might include, beyond ourselves, insurance companies, BDCs, and that sort of stuff. That's why they're not as well known to the retail marketplaces because they tend to be institutional holders.

Steve Peacher: That's interesting because when I started in the high yield market myself in 1990 the average deal size was about $250 million. So now that's considered a narrowly syndicated bond deal or loan. So, if you compare this sub segment of deals in that $150 to $450 million space, this narrowly syndicated market, how does that compare to the to the larger broadly syndicated market in terms of return, in terms of spread, terms of volatility, maybe, how do you compare the two markets?

Charlie Youngblood: So essentially these bonds loans they have a yield premium to them because they're smaller you know you got to get compensated a little bit more for going into the smaller space, it's about 100 to 200 basis points more yield than you get over comparable high yield bonds or bank loan. And what's interesting is they have similar ratings on them as you'd find in broadly syndicated, bigger issue sizes. And they're also priced daily, just like the other bonds and loans that you see out there that are better known, that are high yield bonds or broadly syndicated loans, but what's different is because they're smaller they just don't trade daily. So, they’re actually going to have less volatility at certain times when there's sharp downturns in the market. And because what's happening is you know the larger issues are being sold because they're more readily available to sell and because, although these price daily they just don't see the same sort of price move.

Steve Peacher: One of the big areas of focus in the in the markets today, of course, is inflation. Fed’s started to raise rates so you could say we’re in a rising rate environment, of course, the back of the curves comes off a bit on the back of the Ukrainian situation, but if you say that we're in a high inflation environment for some period of time, we’re in a rising rate environment which the Fed has certainly signaled, when you think about this narrowly syndicated segment, which of course spans both bonds and loans, how would you expect it to perform in a rising rate environment?

Charlie Youngblood: You know, I think that this is actually a great asset class because the majority of it, the vast majority of it is actually loans, when we look at the new issue markets so far this year it's all been loans so they're floating rate and that having a floating rate means that your coupon adjusts every three months or so, depending on the issue, mind you, but that means that you're going to adjust up as rates are going up and they're also lower duration, because they’re loans and having that higher coupon and that adjustment means that you're going to get that additional yield. And historically what we were looking at recently, is that these – now to be fair we've been investing in this since 2009 so we've got it a nice long bit of time, long term definitely but not multiple market cycles as you'd hoped, but still in that amount of time, we've seen a 90 basis point advantage over in average returns over investment grade ¹, so this is really a great asset class to be in as opposed to investment grade in the rising rate environment. And I don't mean that as a slight on anybody others anyone else’s assets so much as it's an allocation play, you do need to have of course some security because nobody would have expected what was happening as you were mentioning in the back end of the curve in terms of yield because of that flight to quality we saw with the Ukrainian invasion, but at the same time prior to that everybody was really expecting rates to rise in the short term.

Steve Peacher: Well, high yield and leverage loan margins have grown so dramatically. I know I couldn't have imagined, early 90s, that the markets would be this big, and so I am a firm believer that the smaller part of that market, that narrowly syndicated part, offers great value for investors, because you're really not taking that much more credit risk, really no more credit risk. You give up a little bit of liquidity, but you pick up a lot of spread in return for that, which is what so attractive of about it. Let me shift gears, I like to do with these we were talking before about electric vehicles and you said you had a love/hate relationship with your Tesla which I’m personally interested to hear about as somebody who's thinking about buying an electric vehicle, so what give me your experience with your Tesla?

Charlie Youngblood: So, I love having an electric car as a matter of fact when you think of portfolios I think it's great you should have an electric car and maybe a gas car too, because when you're going around town it's great to just hop into it and you don't have to worry about idling to keep cool in the summer or warm in the winter because it's not you know producing any greenhouse gas. I really have enjoyed having a Tesla I’ve actually had two, they were on three-year leases so I’m on my second one, and the software is great, the pickup is great, great vehicle. But a lot of the fit and finish things have just been driving me nuts recently. So, my lease is coming up the end of the year, I’m going to start looking around again. I’m probably going to go with another electric vehicle, it might be a Tesla too, but it's just been tough because here's a company that went from really working hard on a couple of models and now they've got a gamut of models here, but like six or so, and you know the truck hasn't even come out or the roadster, but you're seeing little problems with them that weren't there three years ago, which is a little bit of a disappointment. My wife is really angry at some of the software updates because they've screwed up her phone and the interface, you know the vehicle and that kind of stuff but, at the end of the day I know I’m going to have an electric car it's just finding the right one with you know speed, handling and you know that efficiency for not having to run on gas.

Steve Peacher: Well, screwing up somebody's phone is the quickest way to irritate somebody so I totally get that as well, and also, you're going to see what you're seeing now a lot more electric cars from other manufacturers, so I think that will end up raising the bar on some of these fit and finish issues which maybe Tesla has been able to get away with up until now. Well Charlie this has been great thanks for the education on narrowly syndicated credit and thanks to everybody for listening to this episode of Three in Five.

Charlie Youngblood: Thank you.

¹ Calculated internally by Crescent Capital portfolio analysts. 90bps represents the difference between Investment Grade Fixed Income and the CSCS strategy (Narrowly Syndicated Credit) since Oct 2009 (inception date for CSCS Composite).

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