Mike Clancy is the co-founder of Elgin Capital LLP. He has 15 years’ credit and derivative experience in New York and London, and was most recently global co-head of credit trading at Merril Lynch.
Interview with Michael Clancy
- How do you define the approach of your fund?
We'd define it as a research-driven, long/short credit fund with primary focus on Europe.
- What are the key characteristics of your strategy and how are you different from your 'peer group'?
To start with, our team at Elgin is excellent - we have an experienced group of successful people working together to manage all aspects of the fund - research, trading, portfolio management, derivatives and risk management.
Our risk management capabilities are a key element to our approach. We reduce the non credit risks within the portfolio so that our returns are derived purely from credit selection.
We adopt a systematically research-driven approach to identify credit opportunities within our universe. We focus on European issuers and on non-European domiciled issuers that have been active in the European credit space e.g. Philip Morris, Xerox, Ford. Our current portfolio is approximately 45 names (65 positions) and we are carrying 2-3 non-European domiciled names.
We run a diversified portfolio with a minimum of 75% in investment grade assets. We primarily invest in corporate bonds and single name Credit Default Swaps ("CDS"). We use long and short techniques to maximise our performance irrespective of market direction. In fact, in our first twelve months we were long 10 months and short 2 months. Approximately 68% of the Fund's annual net return was due to long positions with the remainder being attributed to short positions, demonstrating the validity of the Fund's long/short strategy in a decidedly directional market.
In terms of our peer group, there are a number of other European credit funds but the universe of comparables is a mixture of high yield and investment grade and few have the diversification requirements and credit research focus that Elgin does. Some credit funds which are primarily investment grade include Crescendo, GLG, Orn and AlpgaGen but each one of these funds is slightly different from Elgin Corporate Credit Fund.
- How do you construct your portfolio?
We have a systematic and disciplined investment approach that is research intensive. We examine the macro environment, technicals, sector and the individual credits to select appropriate strategies and credits. Sometimes the technical analysis dominates, other times it's the macro analysis. But we have to do all the work to properly evaluate the opportunity and maximise the trade potential. We look at the macro environment - from monetary policy to future earning prospects. We look at the volatility of the equity markets and the health of the M&A environment. For us, technical doesn't mean charts; it's primarily supply and demand. Our technical view helps us determine the strength of our conviction and whether we should be involved in the primary or secondary markets. New issue supply is currently running at about two-thirds of prior years so it's a quite bullish environment.
About 75% of our portfolio is usually individual names - longs we like and shorts we don't. With fallen angles like ABB and Ahold, we play them from both the short and long side, migrating through the capital structure. Our intensive credit research analysis allows us to carefully conduct relative value analysis, picking among the best names when all are cheap.
We've made money from our technical analysis (e.g. France Tel in Sterling), and credit events (e.g. tobacco litigation/tobacco M&A with Altria and BAT) and credit trends (e.g. France Tel).
- What are the key themes on the long and short books? How do you identify them?
Unsurprisingly, our theme identification comes out of our research process. Examples of shorts would be European car manufacturers and the European utilities sector. With the automobile manufacturers we worry about overcapacity, intense competition and with manufacturers' large US dollar exposure. With the utilities, it's their desire to diversify and our fear that diversification means deteriorating credit fundamentals and credit ratings. We are selectively long the Telecommunications sector. We categorise Telco's in two camps - those who are managing for equity holders and those who are managing for debt holders. . It's predictable that we favour that we favour players like TI and France Tel.
- What's your performance been like?
Since inception in February 2003, we've posted consistent returns while our asset base has grown from Euro 13M to nearly Euro 240M. Full year returns (February 2003-January 2004) were up 10.71% with annualised volatility of 4.63%. Our Sharpe ration for our first year was 1.85 (using 3 month Euribor as the risk free rate).
- How do you price the portfolio?
We mark the portfolio to market every evening. GlobeOp, our administrator, reviews the pricing and does position reconciliation daily. At the end of the month, our administrator goes through every position, obtains pricing quotes, re-prices the portfolio and issues the NAV.
- How liquid is your portfolio?
Our portfolio is fairly liquid as 75% is in investment grade. We can liquidate the portfolio in 2-3 days.
- What risk controls and measures do you have in place?
Our approach to risk management is both rigorous and sophisticated. We identify and measure precisely the risks that we want to take and the ones we want to shed. The risks are measured by single names and by securities as well as by each credit sector along the yield curve.
We have a system combining P&L reporting and risk management. The system is linked directly to the markets to assist intra-day activity. The combination of derivatives and credit backgrounds has produced a bespoke risk management report and process fitting these general principals. We measure the risk of each instrument traded and measure the risk of all hedges using the same methodology, thereby assuring cross-portfolio consistency. This allows us to precisely eliminate all portfolio risks except the desired credit risks.
Risk reports are used to monitor against predefined limits. This monitoring is carried out by Nick Reed, our CFO, who is independent to the investment decision making process and reports directly to me.
Basically, we measure everything to gauge for levels of market exposure. We have a "live" internal system which monitors the credit risk (spread duration and portfolio spread Beta) of each position as well as monitoring performance targets and stops for each position. Portfolio concentrations by ratings, single names, sectors, investment grade/sub-grade mix, interest rate risk and leverage (gross and net) are amongst the variables we monitor. We also "shock" the portfolio for certain adverse scenarios and manage our cash balance accordingly.
The portfolio is monitored throughout the day to ensure that we remain within our guidelines (by single name exposures, sector exposure, Investment Grade/Sub-Investment Grade mix etc.).
- What's your outlook for 2004? I think 2003 was a theme picking and 'index' market while in 2004 credit selection and the ability to go both long and short will prevail.
We believe that the stable rate environment will provide a favourable platform for the credit market in 2004. Going forward, though, we believe that markets will be significantly more sensitive to any information leading to changes in monetary policy.
The supply of investment grade will be moderate but sub investment grade issuance will be brisk. So far this year, the volume of issuances is already down 60-70%. The is positive for technicals but everyone is chasing the deals.
We expect upgrades in the Telecoms sector and downgrades in selected industrial credits. The improving M&A environment should be slightly negative for investment grade credit but boost cross-over credits. A more active M&A environment also throws out credit-intensive opportunities. We now have two (soon to be three in mid-March) dedicated credit analysts in our team which will improve our ability to capitalise on these opportunities.
The investor liquidity is good with wider investment grade spreads tempting real money back into the market.
- What's your background and how are the responsibilities for running the fund divided between the team?
Guillaume Bonpun and I run the portfolio and we sign off on all trades. Guillaume began his career in 1991 as a debt capital markets specialist at BNP Capital Markets, and eventually ran their London syndicate desk. He moved to Dresdner Kleinwort Benson in Paris in 1997 to lead their French debt origination and syndicate effort and then to London as Head of Bond Syndication (which went on to be ranked no. 2 in the newly formed EURO market) in 1999. He joined Merrill Lynch in 2000 to run European Corporate Debt syndication, leaving in 2002 to form Elgin with myself.
I began in 1986 as an interest rate derivatives trader at Bankers Trust in New York and moved to London in 1990 to trade interest rate and foreign exchange derivatives both at Bankers Trust and UBS until 1997. During that time I managed global derivative businesses in debt, equity, and foreign exchange. In 1998 I joined Dresdner Kleinwort Benson as Global Head of Credit and Emerging Markets. We were named European Corporate Bond House of the Year by IFR magazine in 1999. Prior to forming Elgin in 2002, I was Global Co-head of Credit Trading at Merrill Lynch, responsible for the firm's primary business (debt syndicate), corporate bond trading, credit derivatives, high yield trading, distressed debt, leveraged loans, and the trading of securitised products.
We have two (soon to be three) experienced and highly capable credit analysts with buy side and sell side experience. On the trading and risk management, we have two knowledgeable professionals. Our trader has over 10 years experience of both prop trading and market making, and other trader and risk manager has 7 years experience in product control and risk management and is a Chartered Accountant.
On the infrastructure side we have an experienced CFO/COO in Nick Reed (Chartered Accountant with 11 years experience in both cash and derivative markets) and Terry Watkins who manages all customer relations and marketing (19 years of investment banking experiences spanning both corporate finance and debt capital markets).
- Do you or your team have any plans to visit Asia in the coming months? Yes, Terry Watkins will be in Asia in mid April to meet current and prospective investors.
London W1J 0DX
+44 20 7647 1640