Sub-Advisor Spotlight: Elevating WealthCo's Alternative Income Pool with Onex's Corporate Credit Strategy
June 14, 2023
This month’s discussion focuses on the Alternative Income investments managed by Onex. Onex has managed assets on behalf of WealthCo investors since 2021. We posed a few questions to Dave Makarchuk, Chief Investment Officer for WealthCo, followed by a few to Ronnie Jaber, Co-Head of Credit at Onex.
Q: Dave, let’s start with an overview of WealthCo’s Alternative Income Fund.
Broadly speaking, our Alternative Income fund seeks to generate high levels of income by investing in debt securities via private markets. The portfolio consists of diversified allocations to higher-yielding fixed income securities which includes corporate credit, real estate debt (mortgages), and other diversified high yield holdings. The portfolio is well diversified by sector, credit quality, issuer, and investment type. Some investments within the fund will be privately issued and may be relatively illiquid to enhance long-term returns.
Q: How does the Onex mandate fit within the Alternative Income Fund?
Our investment in their Structured Credit Opportunities Fund provides diversified exposure to a variety of corporate debt holdings both in the United States (US) and in Europe. So far, the fund has delivered on its expectation of providing an annualized distribution of 9% per annum as well as modest capital appreciation.
Q: Why is Onex a good fit for WealthCo and its investors?
Onex has a lengthy track record of successfully providing private equity and private credit solutions to investors around the world. The depth and breadth of their credit team is impressive and their core values are very much aligned with ours, particularly with regard to their commitment to collaboration, entrepreneurship, and respect.
Q: Ronnie, how would you describe the overall investment strategy for the Structured Credit Opportunities Fund?
The objective of the strategy is to generate an attractive risk adjusted return by investing in diversified pools of senior secured corporate loans, while capitalizing on illiquidity and complexity premium. We view it as an efficient way to invest in corporate credit, while focusing on downside protection.
Q: From your perspective, how does it differ from that of other diversified credit funds?
By investing in both primary and secondary markets, and across the US and Europe, we can pivot based on opportunity set – and our ability to fundamentally underwrite the portfolios of loans is a distinct advantage because of the scale of our global team. We have over 20 fundamental credit team members to help analyze the underlying loans and allow us to properly underwrite risk/reward.
Q: How many unique investments are within the fund? How do you decide which countries and sectors to invest in?
We have over 75 unique investments (this will shift quarter to quarter as we rotate the portfolio), which each have diversified underlying portfolios, so all told we have over 1700 underlying companies across our portfolio. We focus on developed markets (US/Europe), and across sectors where we have long term fundamental credit expertise. Additionally, we have private equity teams in North America and Europe, and the credit team can utilize their expertise as well.
Q: Short-term interest rates have risen significantly over the last 12 months. How has that impacted your overall business and outlook?
The challenge to the outlook is about economic growth, we expect higher interest rates to remain with us for the foreseeable future, which will slow growth globally. We do not have a crystal ball but are not expecting material rate cuts in 2023, higher rates and sticky inflation will weigh on the consumer and pressure companies’ cash flow. We are wary of businesses with too much leverage/debt, who may have a tougher time passing through price increases, margins will contract, and the businesses may suffer.
We think this is a good time to move up in quality and focus on lending to the highest quality companies that can survive a market downturn. Our credit business is largely focused on lending to companies with floating interest rates, rising rates has meant higher yields in our loan portfolios. Many investors today are shifting allocations to private and alternative credit to move up in quality, and to take advantage of yields in the 7-10%+ range for credit investments while a lot of the uncertainty in the world plays out.
Q: Thanks for that perspective. Looking specifically at the Structured Credit Opportunity Fund, what has the impact of rising rates been?
Because of the floating rate nature of the loans in our portfolio we have not experienced negative impacts on the investments in our portfolio, we can benefit from rising rates. To the prior question, high interest rates for too long will mean more pressure on companies and we are watching that closely, our portfolio diversity, fundamental analysis, and active portfolio management gives us comfort in our current portfolio.
Q: Is there a point at which short-term rates get too high? How close are we to that point?
Yes, we believe short-term rates that exceed 6.5% will accelerate the growth slowdown and create larger economic issues. We are still ~1.5% away from that today and do not expect to get there as inflation is starting to cool, but the pace of rate hikes certainly increased concern in the market. Our current view is rates will not go up materially from current levels and should normalize over time, but probably will not get back to near-zero barring a material economic slowdown.
Q: WealthCo’s investment with Onex is via a Limited Partnership. From your perspective, what are the advantages of a Limited Partnership structure in comparison to open-ended or other publicly traded debt funds?
We think a large benefit is the ability to pick up illiquidity premiums. Many open-ended or publicly traded entities do not have the capacity to invest in a period of dislocation because they are worried about redemptions or outflows; we can be buyers when others are sellers and take advantage of stress and volatility. Being patient investors can drive material alpha in bumpy markets.
Q: Do you have any closing thoughts to share with WealthCo investors?
We appreciate our partnership with the WealthCo team and investors and are here to provide market commentary whenever you find it helpful. We understand the markets are noisy, but we are focused on your portfolio and maximizing the outcome, we continue to believe it’s a good market for credit investing.
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