By Daniel Lanyon on Thursday 12 July 2018
Following on from its dividend cut guidance, Funding Circle’s investment trust has plans to increase its leverage back to 50 per cent and concentrate on UK lending.
The £348m Funding Circle SME Income fund will reduce its exposure to US loan assets and is in discussions with the British Business Bank to increase leverage on its portfolio through a more formal partnership with the wider Funding Circle group, according to regulatory filings.
In the fund’s annual report, out this morning, it said its shareholders were keen to see cash invested away from the US and towards the UK and Continental Europe.
As a result, US holdings will fall by up to 10 per cent of the total portfolio. While it considered focusing the portfolio just on UK loan assets it decided that some US exposure reduces the risk profile of the fund through geographic diversity.
According to Funding Circle SME Income’s fact sheet from May, the portfolio has 68.4 per cent in the UK, 25.3 per cent US, and 6.3 per cent in Europe.
The move follows recent guidance from the fund’s board that it had reduced its target dividend owing to hedging costs increasing as well as lower gearing owing to amortisation of a funding line from the European Investment Bank.
Analysts at Numis say while portfolio yields are 6-7 per cent in local currency terms - net of servicing fees and defaults - hedging US assets is costing 1.7 per cent per year and 1 per cent for hedging Euro assets.
“The results highlight a number of steps that are being taken to offset the headwinds that led to the revised guidance, including reducing US exposure and maintaining leverage. We believe it is sensible to reduce the US exposure given the current drag on returns due to currency hedging.” Numis said.
“A change to a UK focused vehicle would have simplified the fund’s structure, but we can understand the Board wishing to maintain some geographic diversity.”
They add that returns in the year to the end of March 2018 have been favourable and support the move to following on from the “disappointing” news of a lower than expected dividend.
Analysts at Liberum also say that underlying performance of the portfolio is “relatively reassuring” but question whether US exposure it worth keeping at all.
“The board has stated that it intends to keep a level of US exposure for diversification purposes. If US exposure is reduced by 10 per cent, it will be a minority position in the portfolio and it is questionable whether it is worth maintaining this given the additional costs involved,” Liberum said.
In the annual report the investment trust’s board also said the British Business Bank looks set to back Funding Circle with a new leverage facility in which the fund will be able to participate. This could help boost the fund’s falling leverage as a result of the amortisation of a similar facility with the European Investment Bank.
The fund’s net asset value (NAV) at 31 March 2018 was 100.18p. This represents a 6.8 per cent NAV total return for the year with total impairment provisions on the portfolio represented 2.5 per cent of net amortised loans, representing a slight increase on the year before which were 2.1 per cent but, Numis says, this is still within the fund’s expectations.
Richard Boléat, chairman of the Funding Circle SME Income fund said the annual returns were “solid” and the portfolio a “differentiated and attractive” product for investors.
“Funding Circle and the Company [the fund] are in discussions with the British Business Bank about a project to provide financing to UK SMEs via the Funding Circle UK lending platform. Notwithstanding the recently updated forward guidance, the Company remains in a strong position to provide shareholders with a sustainable and attractive level of dividend income from its diversified pool of loans to small businesses," he said.