Leveraged Credit Expert DDJ's 2015 Outlook: Beneath the Ugly Face of Second Half 2014 Lies the Beauty of Opportunity

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Feb 04, 2015, 01:00 ET

WALTHAM, Mass., Feb. 4, 2015 /PRNewswire/ -- In its 2015 outlook, DDJ Capital Management, LLC, an institutional manager of high yield and bank loan strategies for investors worldwide, anticipates a volatile market offering bond pickers numerous and compelling buying opportunities, as certain high yielding corporate debt instruments can offer an attractive return stream not only this year but for several years to come.

Following a torrid pace in the first half of 2014, reaching a peak return of 5.73% on June 24, the U.S. leveraged credit market turned choppy and then headed south, said David Breazzano, DDJ's president and chief investment officer, in the firm's review of the past year and outlook for 2015.

In DDJ's view, the run-up during the first part of 2014 saw the leveraged credit market become meaningfully over-priced due to an imbalance between voracious demand from yield-starved investors seeking high-yielding credit instruments on the one hand, and relatively limited supply on the other. This condition led to widespread investor buying that appeared indiscriminate and coincided with signs of issuer excesses, such as deteriorating underwriting standards and creditworthiness, thereby driving high yield returns to an annualized pace of over 11% and spreads to their lowest levels seen since the 2008 crisis.

Reasons for the ugly second-half market varied, Breazzano said, but were primarily the result of macroeconomic influences as opposed to changes specific to leveraged credit market issuers. The key drivers of the market pullback, he added, were interest rate expectations, economic sluggishness overseas, political unrest in many regions around the world, and oil price declines.

"For many, the leveraged credit market went from beauty to beast in just six months. But to us, the opposite was the case," Breazzano said. "We expect the coming year to more resemble 2014's period of volatility than the prolonged, virtually uni-directional – up! – market that leveraged credit investors have enjoyed over the past several years."

Oil prices will continue to be a major source of leveraged credit market volatility in 2015, and until those stabilize, DDJ expects the high yield energy sector in particular to remain volatile. Other industry sectors and companies should benefit from increased consumer spending resulting from lower prices at the gas pump and a corresponding reduction in other energy-related expenses. Over the longer term, DDJ anticipates that certain energy issuers, such as service providers and high-cost producers, will face the prospects of credit defaults, which will likely push market yields higher and spreads wider.

DDJ also views the potential actions of foreign governments and their central banks as likely contributors to leveraged credit market volatility in 2015.

Additionally, two structural factors contributed to leveraged credit market swings in the second half of 2014: increased mutual fund ownership of high yield bonds and leveraged loans, thereby exposing the market to swings in retail investor sentiment, and declining inventories held by broker-dealers, which historically had stabilized price declines by serving as market intermediaries and using their own capital. As with the macroeconomic and geopolitical factors, "we believe these two market-specific factors will again contribute to higher-than-normal volatility in 2015," Breazzano said.

"To successfully maneuver through a more volatile market in 2015, we believe that managers must not only possess reliable and independent valuation capabilities, but also have a long-term investment horizon and access to 'patient' capital. Being a provider of capital in a market with high volatility and low liquidity can be quite advantageous to clients as long as the targeted opportunities are afforded the time needed to achieve fruition of the manager's investment theses," he said.

"Whether these opportunities arise because of a temporary interruption of an ongoing bull market or because an inflection point in spreads is reached, signaling the end of the current credit cycle, there will be beauty to be found in the leveraged credit market in 2015," Breazzano said.

To view the DDJ paper, 2014 Leveraged Credit Review and 2015 Outlook: Value is in the Eye of the Beholder, please click here:

http://www.ddjcap.com/uploads/files/DDJ%20CIO%20Perspective%20January%202015.pdf

DDJ's highlights over the course of 2014 include:

DDJ expanded the firm's client service team with the appointment of investment management industry veteran Laura Zink as a director of client service; the firm's investment team with the additions of Michael Graham and Melissa Bermudez as research analysts; and the firm's human resources department with the hiring of Kirsten Flaherty as human resources director;
A U.S. corporate client invested an additional $375 million with DDJ to manage in the firm's U.S. opportunistic high yield strategy;
A non-U.S. client invested an additional $120 million with DDJ to manage in the firm's U.S. core high yield strategy;
A U.S. West Coast-based public retirement system appointed the firm to manage a portfolio of bank loans and high yield bonds;
As of December 31, 2014, DDJ exceeded $8 billion in assets under management, approximately 12% above the total of approximately $7.14 billion on December 31, 2013. This increase stemmed from significant net inflows from both new and existing clients, as well as positive investment performance. Over half of DDJ's assets are managed on behalf of clients in Canada, the United Kingdom, continental Europe, and the Middle East, with the remainder managed on behalf of U.S. investors.
DDJ's U.S. opportunistic high yield strategy ranks in the top quartile in its peer category for the 1, 3, 5, and 10-year periods through December 31, 2014, according to eVestment, a leading source of investment performance for institutional investors.

About DDJ Capital Management, LLC

DDJ Capital Management is an institutional manager of high yield bond and loan strategies based in Waltham, Massachusetts. Established in 1996, DDJ currently manages over $8 billion on behalf of corporate and public retirement funds, insurance companies, endowments, foundations and family offices worldwide. DDJ's investment team consists of professionals highly specialized in the areas of credit research, legal analysis, bankruptcy law, portfolio management, trading and business operational improvements. For more information, please visit www.ddjcap.com.

Past performance is no guarantee of future returns.

SOURCE DDJ Capital Management, LLC