With a focus on insuring positive returns, market players are turning to more creative methods to their deal structuring. To be sure, it has brought a provocative flair to the market, in a phenomenon that is moving the ever-changing private placement landscape. Case in point, a recent structured transaction from Centre Group Holdings Ltd.
Based in Bermuda, the company is providing the private placement market with a vehicle that, while innovative in structure, still accomplishes capital market objectives. "A pioneer in the emerging area of alternative risk financing, Centre occupies an important space in the convergence of banking and insurance," said one company spokesman.
Illustrating its efforts is the group's recent participation in a collaterallized loan obligation (CLO) transaction for Castle Harbor CLO.
What's unique about this deal, explained Paul Hellmers, president and CEO of the group, is that although Centre wrapped $50 million of the $300 million deal, Banc of America Securities stood as sole provider of the funds. In fact, the bank advanced the $50 million and Centre provided insurance on the sum.
Of the $300 million issued only $50 million is considered in a junior position. Essentially, Centre agreed to insure the first-loss component of the CLO, an unusual stance for the insurance company.
"Banc of America writes the check for the total but takes risks on the most senior part of it," said Hellmers. In the end, Banc of America enjoys greater participation in the CLO market and safeguards the $50 million with the fundamentally insured double-A insurers.
Hellmers added that the attraction on Centre's behalf was the positioning it acquired. While remaining the reinsurer, the company, because it did not provide the $50 million in cash, basically assured a buyside position without delving into its funds. "If we were regular investors, we would take our money and invest it, which is fundamentally a more efficient use of our balance sheet. Using our insurance policy is analogous to a $50 million investment. But instead of actually spending $50 million of our money, we end up enhancing our returns using prudent leverage," explained Hellmers.
"We do a lot of quantitative modeling to evaluate the relative risk return tradeoffs," said Richard Weech, vice president of the Group.
Specifically, the modeling tackles issues of risk-adjusted returns and how it might configure in the group's portfolio. "We feel the current market conditions are attractive to take exposure in the leverage bank loan market," Weech said.
To be sure, the group has in the past year categorized 19% of its business as property and casualty insurance or reinsurance, 30% as structured asset finance and 16% of its activities included project finance and collateralized debt obligations (CDO).
Weech emphasizes that while there might be ample opportunity, the group relies on modeling as best they can and said, "We evaluate the precedents set by the market and in most instances modify what is more typically a commodity product into a tailored solution to enhance the return profile."
Nevertheless, the group intends to maintain focus on the comings and goings of the market, feeling most comfortable exploring new opportunities, whereas many of their competitors become experts in one particular field.
"A lot of companies are focused on product lines and responsibility. They dive in and become experts in that area and reach profitability. We don't typically have a product focus. We are opportunistic, withdrawing from markets when more typical capital providers have entered and focus on taking advantage of markets less well served," Hellmers said.
Furthermore, Hellmers cites the Castle Harbor deal as an ideal example of market opportunity. "Bank loans happen to be a sector that makes particular sense now," he said.
He said that the group felt particularly comfortable with the asset management group Springfield Asset Management LLC, who has experience managing over $1 billion of bank loans.
In the past year, the company has explored areas that included a credit enhancement for a $100 million deal involving Aerolinas Argentinas as well as a $145 million deal for Aeromexico and Mexicana. The Mexican transaction involved Aeromexico's first international debt issue since 1994. "Centre continues to find solutions to corporate financing needs in spite of unfavorable market conditions," said one spokesman.
As for future CLO structures, Hellmers said they hope to join in with Springfield again: "I hope we will work with them, but we don't have anything like a joint venture program set up. It's not like the money is burning a hole in our pockets," he said.
Although insurance companies have been relatively slow to embrace CDO techniques as a way to invest capital for return, Hellmers described an increasing interest in the fixed-income market. "But by no means can you consider it a gold rush," he said.
Yet the nature of their approach points to the underlying idiosyncrasy that lends itself to the challenge they want to meet. "To a certain extent we have to start all over again. So Castle Harbor might be the only one we ever do.
"If we were nine-to-five and knew what to expect, then it would be different. The fact is you never know one year to the next, one quarter to the other," Hellmer said.
