CLOs have been refinancing and resetting the interest rates on their notes at a breakneck pace. A conference call held Thursday by Eagle Point Credit (NSYE: ECC), a closed-end investment fund that invests in the equity, or most subordinate securities issued by collateralized loan obligations, suggests the pace is not about to let up.
Equity holders receive whatever is left over after paying the interest on more senior CLO securities, and they have the right to call deals or refinance them in order to reset the interest rates or extend the maturity. During the first quarter, Eagle Point, of Greenwich, Conn., did this on four CLOs that it controls by virtue of its equity holdings. (And has done so on a total of 10 since January 2017.)
Tom Majewski, Eagle Point's chief executive, took pains Thursday to tell analysts that the benefit this would produce in terms of increasing the funds available to the company's equity holdings over time was well worth the hit to cash flow as a result of the one-time transaction expenses. (The costs associated with refinancing, such as fees to investment banks and rating agencies, temporarily reduce funds available to equity holders.)
“While near-time cash flow may be reduced, we believe this is money very well spent,” Majewski told analysts during a conference to discuss first-quarter earnings. “Our investments will harvest increased cash flows to our CLO equity securities in the future [than they would] had we not taken these actions.”
In part because of the additional expenses, net cash distributions from Eagle Point’s portfolio was diminished to $1.10 a share, or $22.67 million, in the quarter – down from $34 million in the fourth quarter of 2017 and $28.9 million in the first quarter of 2017. The company’s net asset value also declined slightly to $16.65 a share, from $16.77 at the end of 2017.
But net income of $8.1 million, or 50 cents per share, was a 1-cent increase from the first quarter of 2017. Also, the firm's weighted average yield of 14.54% on the portfolio is up from 14.42% in the fourth quarter, reversing a yearlong slide since a yield performance of 16.2% recorded in March 2017. Majewski said this slight upswing is perhaps an “inflection point” reversing a year’s worth of declining yield aided by the company’s “proactive” refinance and reset activity, some timely sell-offs as well as investments into CLO debt and warehouse facilities.
Some of the cash-flow reductions may continue into the near future, as Eagle Point has identified “dozens” of CLOs for which it owns controlling equity shares that are ripe for resets in 2018, Majewski said. Sixteen deals in particularly have triple-A spreads in the 150s and 160s for which resets would provide the capacity for “radical” makeovers equity cash flow by repricing in the low 100s, he said.
Majewski said the Eagle Point advisors have pondered whether it might want to “stagger” the resets through a longer timetable so as to potentially gamble on grabbing even tighter AAA spreads later in the year – but the firm seems inclined to take the bird in hand. “If we can get 100 and 110 [basis points], just hit it,” he said. “If it’s 90 next week, we’ll cry then.”
With the indefinite “evergreen” structure of Eagle Point’s portfolio, Majewski said, “we believe there are few other investors with as many majority positions” to deploy in advantageous resets that lower the cost of funds on CLOs and allow more income to flow to the last-position equity stakes.
In the first quarter, the company spent $91.6 million in new investments, including six CLO equity purchases totaling $35.9 million, nine CLO debt purchases and six warehouses. The net capital deployed was $41.1 million after accounting for $50.5 million of divestments.
In addition, Eagle Point received $22.7 million in investment cash distributions.
While CLO equity assets grew from $447.27 million to $458 million over the quarter, the company’s CLO debt investments went to $20.04 million in the first quarter from $7.27 million in the fourth, while shares in warehouse loan accumulation facilities climbed to a new high of $36.27 million, from $25.37 million in the prior quarter.
“In nearly all cases they are opportunistic purchases, where they are at a discount,” Majewski said. “Everything we put in the ground we put in the ground for a reason.”
Next week, Eagle Point will complete a refinancing of its own debt, $60 million in 7% notes due 2020 will be repaid from proceeds of a offering of 6.66875% notes that provide the company its lowest-ever cost of funds, he said.
