By Daniel Lanyon on 1st November 2016
The closed-ended fund now has more than half of its portfolio exposure to balance sheet lending platforms at the expense of p2p and marketplace loans.
Exposure to balance sheet lending platforms has reached more than 51 per cent in the VPC Specialty Lending fund, according to regulatory filings.
The £392m investment trust is the second largest portfolio offering investors exposure to the nascent market for online lending and has high profile backers in the form of Invesco Perpetual’s Mark Barnett and Neil Woodford among others.
Since launch back in March 2015 the fund has seen an appreciation in its net asset value but its overall total return has been hit hard by weakness in its share price, a move to a discount of more than 22 per cent at present as well as several other issues in recent months relating to its portfolio and currency hedging positions.
This, the managers of the fund say, has prompted the move into greater balance sheet exposure instead of loans from p2p and marketplace lending platforms. Balance Sheet loans now represent 51 per cent of the invested portfolio, compared to 43 per cent in June. The managers say that industry illiquidity has created attractive opportunities for Balance Sheet lending.
Balance sheet loans are made through a special purpose vehicle [SPV] with a platform using the cash to originate loans. This means the fund’s counter-party risk is with the platform in a balance sheet loan, but the risk is mitigated by the platform suffering the first losses from defaults, as well as by the SPV holding loans as collateral.
Marketplace or p2p loans are originated by a platform, which earns them an origination fee, with the fund lending directly to underlying borrowers targeting unlevered returns of 6 per cent to 10 per cent, or 11 per cent to 18 per cent on a levered basis. In addition, the fund makes balance sheet loans to the platforms with target returns of 11 to 16 per cent on an unlevered basis.
The fund’s whole loan portfolio took a hit this year, reflecting that portfolios as loan losses typically increase in the period between 12-14 months from issue. There were, in contrast, no impairments in the balance Sheet loans, which have a weighted average coupon of 13.0 per cent.
The fund’s NAV rose 0.16 per cent in September, with its whole loan portfolio weighing on revenue performance (+0.40 per cent), while capital losses of 0.24 per cent were driven by mark-to-market losses on Avant securitisations, according to analysts at Numis Securities. NAV total returns for the third quarter was just 0.86 per cent, made up of a revenue return of 2.03 per cent, offset by capital losses of 1.17 per cent.
“It has been another difficult quarter for VPC Specialty Lending and NAV returns for 2016 year to date are just 2.4 per cent, well behind the level required to hit the target return of 10 per cent pa. The fund targets a dividend of 8 per cent pa, and the last two quarterly dividends have been below this level at 1.5p,” they said.
“In addition, the dividends have not been fully covered by earnings, and have been partly funded from capital (the fund’ created substantial other distributable reserves after cancelling the share premium account).”
The fund is currently trading on a discount to NAV of 22 per cent, which may appear to offer value. However, we believe there is little scope for this discount to narrow until the fund consistently delivers monthly returns more closely in-line with its target.
While the fund has also experienced cash drag due to the need to hold cash collateral to meet commitments under its currency hedging arrangements, amplified during the Brexit fallout, cash has fallen to 6 per cent at 30 September from 10 per cent at the end of August.
New balance sheet loans include of 2.3 per cent of net assets in Kreditech (German consumer lending) and 2.0 per cent to Applied Data Finance (US consumer), as well as whole loans of 1.6 per cent of net assets via Funding Circle Europe.