Cheyne Capital

After the traumatic economic dislocation in 2008, which resulted in an almost unprecedented destruction in value for investors worldwide, 2009 saw some return to normality in valuations and returns. We are pleased to report that Cheyne Capital had a very busy and successful year in terms of repositioning to better reflect current market opportunities, adding new management, new fund managers, new investment vehicles, and helping our investors achieve attractive returns. Today Cheyne manages net assets of approximately US$ 5.5 billion across corporate credit, real estate and asset-backed strategies, event driven, convertible bonds, equity longshort, equity macro, and fund of funds.

Most major equity indices were up over 20% in 2009 and over 65% from the March 2009 lows. To put this rally in context, despite a solid 2009, equities will exit the noughties with their worst 10-year performance history on record (eg MSCI World Index is down -17% since 1999). Equities are more reasonably valued today on several key metrics, for example, the forward P/E ratio is 50% lower than it was 10 years ago, the dividend yield is 2x higher, and the risk-free rate of return is 40% lower. Prior to the last decade, there have been thirteen 10-year periods with negative stock returns. In every subsequent 10-year period, the annual returns have exceeded 10% and doubled the return of government bonds. Improving corporate profits, the re-emergence of M&A, reasonable valuations and, eventually, positive fund flows should be supportive for equities in 2010, but greater selectivity will be required. In 2009 smaller cap equities rallied the most as illustrated by the equally-weighted S&P 500 index which outperformed the S&P 500 by a whopping 20%. As a firm we believe the best risk-reward in equities today is in large cap equities with iconic brands, strong balance sheets, foreignsourced earnings, and pricing power.

Meanwhile, strong funds flows into credit should ensure a continuation of the robust performance enjoyed by investment grade credit in 2009 and fuel ongoing compression between crossover and investment-grade spreads. Even at current levels, investment-grade is pricing in Depression-era default rates, which Cheyne feels are unlikely to be realised, given the healthy liquidity profiles and access to capital that most investment-grade credits continue to enjoy. Nonetheless, individual credit selection remains key both to avoiding defaults and maximising returns from trading names within the funds. Cheyne's rigorous research capability positions us to identify trading opportunities, and should renewed deterioration in economic conditions or a cessation of the global carry trade precipitate a new round of spread widening, we will be well placed to avoid the problematic names in our long-only portfolios and position them for trading gains in our long-short funds.

European high yield performed extremely well in 2009 and yields continue to look attractive for institutional and retail investors seeking good yield in a lower interest rate environment from an asset class where default rate expectations, although still higher than long run averages, are coming down fast. On the supply side, LBO/fallen angel borrowers needing to refinance shorter term debts and extend past the big wall of 2014/2015 maturities will focus on the high yield market, given loan market new issuance remains relatively sluggish. Forecasts of supply into Europe suggest EUR 40-45bn+ of new issuance for 2010. This should lead to a transformation of the European high yield market in terms of breadth and depth. Moving into 2010, there is a much smaller distressed bond market focused on actual distressed assets, as opposed to good companies with distressed bond prices. This is highlighted by the proportion of European high yield bonds trading under 60 which fell from 51% at the end of 2008 to 3.9% at the end of 2009. Nonetheless, Cheyne believes that 2010 will be another positive year for European high yield, although not to the extent of 2009, and expects to see many trade opportunities around the refinancing wall event that Cheyne is well placed to take advantage of, including inter alia bond tenders, distressed exchanges, debt-for-equity offers, and bond calls.

Following the extraordinary dislocation of the European asset backed market in 2008, the market recovered substantially in 2009. Over the course of 2010, we expect continued strength for first pay, good quality, highly rated asset backed bonds (RMBS or single loan CMBS), as real money accounts and hedge funds continue to enter the space. Spreads in this sector will, we believe, continue to tighten over the course of the year prompting investors to look for yield further down the capital structure. Cheyne Capital believes the asset backed market offers substantial value against other fixed income asset classes. This will be a key opportunity for investors with the ability to analyse the underlying properties and related capital structures. With a focus on those specific market segments that continue to amply discount a reversal of the burgeoning global economic and financial markets recovery, we approach 2010 with fresh optimism.

Comments are closed.