TabCap is the blue-chip hedge fund spinout from Cheyne Capital from the same founders that recently sold Tabula IM, a fixed income ETF specialist firm, to Janus Henderson.
With close to USD800 million under management, David Peacock and John Weiss are achieving equity-like mid teen returns focusing on leveraged credit strategies, using credit index products.
Peacock explains that the context for their strategies lies in the wider credit world, where post GFC there was a migration of lending away from bank balance sheets and the normal brokered market for credit.
New regulation discouraged banks from holding inventory and intermediating liquid credit so there was a huge drop in volume in those markets, leading to a drop in liquidity, and higher bid-offers.
“It became more difficult to generate significant alpha managing these single-name instruments as they became more expensive to trade,” Peacock says. “Meanwhile banks were also being discouraged from doing what they had been set up to do since the Medicis – which is to lend people money.”
The consequence was an explosion in private credit strategies, and the indexation of credit in credit indices such as the iTraxx European, Asian and emerging market tradable credit default swap (CDS) indices and the CDX indices, a family of tradable CDS indices covering North America, Europe and emerging markets.
These markets are enjoying substantial growth with average daily notional volume of USD100 billion in Europe and the US, peaking at USD150 billion a day in the last quarter.
Peacock says: “It’s a demonstration of the liquidity appeal of these instruments when markets were stressed – and even the US treasury market was beginning to crack – CDS indices in fact enjoyed increased trading volumes.
“We recognised that our market was moving towards an index market better equipped to capture macro premia: the simplest being default premium where the implied level of default is much greater than that realised.”
Weiss says that the CDS indices are highly diversified with an equally weighted basket of 125 investment grade names in the US and European indices.
“We focus a lot less on the individual names because of the diversity,” he says. “Our funds isolate different risk premia and deliver them to investor in unitised form.”
Index investing is supported by other products that trade on the back of the indices, such as credit options which enable them to monetise volatility premium.
Weiss says that index tranches allow them to take a portfolio and slice it up with different subordination levels like a CLO, but in a standardised and tradeable form.
“We can package these complex products and investors can take a view on their preferred risk profile which we can deliver in a precise way,”
Peacock says, adding that the strategies work well in most market environments over the medium term.
“When spreads are moving around, that creates opportunity thanks to the ability to constantly roll and reinvest your portfolio since they are low friction liquid instruments. The need for higher spreads to create very attractive yields is surprisingly low,” Peacock says.
“Relative value in the volatility market for indices is quite helpful, particularly in environments such as we have just had – as it is decorrelated to the rest of the market – which is what many institutional investors are looking for now.”
Many investors have become locked-up in private market investments and want to be able to diversify, the pair say.
“There is lots of divestment going on away from private markets on the back of a demand for liquidity,” he says. “Even in the liquid markets, what’s the outlook on equities? Are we going to continue to see that kind of growth? An investment which is able to generate mid-teens equity-like returns through real cash flows is a different valuation proposition to equities valuations based on market sentiment that day.”
