Former Wall Street analyst and 7-time member of Institutional Investor Magazine’s All-American Fixed Research Team is resolute about putting asset protection first. We asked Sandy to tell us how he does it and why his cautious approach generates excess returns. Lenders instinctively know every loan has a margin of safety; and they know how to determine that margin. So, when investing in the credit markets, it helps to think like a lender.
“If you’re lending a corporate issuer money, you have to think about asset value protection,” says LOGiQ Asset Management PM and credit maven Sandy Liang. “What’s the value of specific collateral – which, depending on the industry could be the value of the company’s assets, the break-up value, or a multiple of cash flow.”
Lenders consider all these factors, and a smart investor examining a company’s debt issues will apply the same rigor. Liang says good investment ideas for the team can come from anywhere – although his primary sources are quantitative screens, a network of Wall Street contacts from his 12 years spent working in New York and bond databases from U.S. dealers that show the universe of what’s available. And, because Liang’s team has been at this awhile, they will also revisit issuers with whom they’re familiar. They’ll also consider new issues, which require comparing a new bond to its peers in the industry and examining how that industry is performing overall.
“Over the course of a cycle, the idea is to earn your coupon and get your principal back,” says Liang, who notes his background is primarily high yield debt investing. “So, it’s really about thinking about the downside as opposed to the upside.”
That’s because there are times when all the bonds in the universe will trade at, or close to, par; and when that happens, it places a mathematical limit on upside. In those cases, the objective is simply to not lose money, or to limit losses if you happen to make a bad pick. Meanwhile the return from the coupon payments on the bonds has historically rivalled returns from owning the same company’s common equity.
“You can limit your risk in the instances you’re wrong just by being closer to the assets, by having security, or being the only debt in the capital structure; knowing something about the breakup value,” he says. “It’s all part of the same process.”
LOGiQ’s credit team also makes an effort to stay away from industries that are in secular decline, which are numerous in the non-investment grade (BB ratings and below from credit rating from agencies) universe. While some credit investors will look hard to find value in declining-industry companies, based on positives like strong cash flow, Liang says he doesn’t like to go there.
“It doesn’t even matter how much debt a specific company in a bad industry has,” he says. “The whole industry will not be investment grade,” adding that right now, some of the biggest issuers in the high yield debt market are landline telecom providers. He avoids that industry, along with other declining areas like traditional radio and printing.
“You can tell when an industry smells like secular decline, because often for the good ones, earnings will be flat but the costs continue to improve,” Liang says. “Management will be proactive on that side but in the end, if you’re in a dinosaur business, it’s really hard to avoid that situation – where at some point, the company whiffs on earnings and all of a sudden the market is going to discount the decline at a faster rate which affects securities prices quickly.”
His group also works hard to avoid companies that have a lot of debt, and whose bonds are being bought by ETFs simply because they exist.
“We think there’s some mispricing that happens if a company is able to issue more debt just because they have a lot of debt,” Liang says, adding the ETF buyers, which have been increasing in numbers, can make this a flawed process. “So we’re trying to stay away from those kinds of plain vanilla, large capital structures that the ETFs buy just because they’re there. We have a process.”
In his primary vehicle, the Strategic Yield Fund, Liang will hold between 60 and 100 names – but never more than 100. His Credit Opportunities Fund, which is for accredited investors only, is a top-picks offering that’s more concentrated than a mutual fund and has a lower number of positions, and will possibly take positions in other parts of the researched issuer’s capital structure including its preferred and/or common equity.
He notes the team’s research process is very bottom-up, and entails getting to know the industries they follow, along with the specific companies and their management teams. From there, it’s a primarily long strategy.
“Frankly, we don’t trade a lot,” says Liang. “Our top 15 names don’t really change that much over time.”