Tetragon Financial Group Limited: Performance Report for July 2007
LONDON, August 16, 2007 -- Tetragon Financial Group Limited (TFG) is a Guernsey closed-ended investment company traded on the Euronext Amsterdam Exchange under the ticker symbol "TFG."
In this performance report, unless otherwise stated we report on the consolidated business incorporating TFG, Tetragon Financial Group LP and Tetragon Financial group Master Fund Limited (1). References to "we" are to Polygon Credit Management LP, TFG's investment manager.
July 2007 results at a glance:
- Overview: The portfolio continued its strong performance in July 2007, consistent with stable corporate credit fundamentals, while incurring no credit losses. The Q2 dividend was declared at $0.15, which was at the high end of our guidance. We look forward to what we think should be an opportune market environment for the investment portfolio.
- Net Assets: Consolidated net assets were $1.26 billion as of July 31, 2007.
- Income: Consolidated net income rose to $17.5 million in July 2007, up from $14.9 million in June 2007.
- Earnings per Share: July 2007 EPS were $0.14, up from $0.12 per share in June 2007.
- NAV per Share: July 2007 net asset value (NAV) per share was $10.07, after deducting the Q2 declared dividend of $0.15 per share.
- IRRs: The weighted-average IRR on closed CDO transactions was 16.4% at the end of July 2007.
- Life-to-Date Actual vs. Accrued Collateral Gains/(Losses): Against the backdrop of resilient credit fundamentals, loss reserves continued to outpace actual life-to-date losses. To the end of July 2007, $76.2 million of expected losses have been factored into the IRRs, versus an actual net gain of $0.6 million.
- New Deals: One new transaction closed in July 2007, totaling approximately $27 million in investment value.
- Deal Pipeline: We expect to settle two additional transactions in August 2007, with a total investment value of approximately $60 million. Despite the slowdown in CLO issuance, we expect income to hold up well based on our current portfolio of closed and committed deals.
- Leverage: Month-end leverage as of July 30, 2007 was 1.10x compared to 1.04x at the end of June 2007.
Dividend:
- Q2 2007 dividend of $0.15 per share: A dividend of $0.15 per share was announced on July 31, 2007. The previously given guidance was $0.13 to $0.15 per share.
TETRAGON FINANCIAL GROUP LIMITED
Performance Report for July 2007
- Optional Stock Dividend Plan: The company implemented an Optional Stock Dividend Plan allowing TFG's shareholders to elect to receive any declared dividends in the form of additional shares. Please refer to the website (http://www.tetragoninv.com) for additional details.
Share Capital:
- Shares in issue in TFG: During July, some TFG LP investors exercised their conversion rights and exchanged their LP interests for shares in TFG. Consequently the number of TFG shares in issue increased to 117,464,830. Total shares in the TFG Master Fund remain the same at 125.45 million.
Portfolio summary (please refer to page 4 for more details):
- Portfolio size: $1.44 billion invested as of the end of July 2007 across 66 settled transactions.
- Portfolio composition: The portfolio composition remained unchanged, with approximately 97% of risk capital allocated to CDO vehicles providing exposure to senior secured loans.
Market summary (please refer to page 4 & 5 for more details)
- Defaults: There was only one bankruptcy filing in July 2007 as the loan market continued to avoid defaults.
- Market Dynamics: Loan market conditions continued to shift in a manner that is favorable to lenders and other investors.
TETRAGON FINANCIAL GROUP LIMITED
Performance Report for July 2007
TETRAGON FINANCIAL GROUP
Performance Metrics and Drivers
Performance Metrics Q1 2007 Q2 2007 Jul-07
Pre IPO return - Class C shares 3.7% N/A N/A
Return on average equity for the period 4.7% 3.5% 1.4%
EPS ($) $0.35 $0.33 $0.14
Dividend ($M) N/A 18.8(1) N/A
DPS ($) N/A 0.15 N/A
Operating cost - income ratio(2) 31.4% 29.6% 38.2%
Performance Drivers Q1 2007 Q2 2007 Jul-07
Number of investments 56 65 66
Weighted Average IRR on completed 16.3% 16.5% 16.4%
transactions
Leverage at end of period 1.12 1.08 1.10
Net assets ($M) $989 $1,265 $1,264
Number of shares in issue (million) 89.1 125.5 125.5
Life to date accrued collateral losses (37.0) (60.6) (76.2)
($M)
Life to date actual collateral gains/ 0.8 0.4 0.6
(losses) ($M)
(1) Dividend for Q2 declared in July and liability recognised in the
Net Assets at that point
(2) "Operating cost-income ratio"
replaces "cost-income ratio" as a more
meaningful metric.
Operating cost includes operating
expenses and performance fees but
excludes hedging costs.
Expected Upcoming Events Date
Dividend payment date August 27, 2007
TFG presentation at the Lehman Brothers Financial
Services conference (3:45 PM) September 10, 2007
August monthly results reported September 18, 2007
Q3 financial statements released (including dividend October 30, 2007
announcement)
TETRAGON FINANCIAL GROUP LIMITED
Portfolio and Market Commentary for July 2007
Portfolio Size and Composition
- Portfolio size: $1.44 billion invested as of the end of July 2007 across 66 settled transactions.
On a look-through basis, the portfolio exposure to leveraged loans increased to approximately $15.5 billion during the month of July 2007, as we closed our 66th CLO transaction. We feel that the portfolio is sufficiently invested in the current environment, although we will consider opportunistically adding to the portfolio over the near term.
- Portfolio composition: The portfolio's focus on exposure to senior secured bank loans remains unchanged.
Through the end of July 2007, we had invested 94.9% of our capital in transactions providing exposure to broadly syndicated and middle market senior secured loans across the U.S. and Europe. 3.7% was invested in CDO2 transactions and 1.3% in ABS and Structured Finance CDOs. Of the CDO2 transactions, more than half are primarily exposed to senior secured bank loan risk.
Market Developments
- Defaults: There was only one market bankruptcy filing in July as the loan market continued to avoid defaults.
The loan market's default-free streak ended as Bally Total Fitness filed for bankruptcy on July 31, 2007. This pushed the S&P 12-month lagging default rate to 0.42% by number of loans, and 0.21% by principal amount, levels that are still well below the historical average of 3.15% and 3.45%, by number of loans and principal amount, respectively. The portfolio did not have exposure to Bally Total Fitness. Given that there were no payment defaults in TFG's portfolio during July 2007, our inception-to-date default rate remained at 0.04% (or 0.02% on an annualized basis) as we continued to build a reserve against future losses.
- Market Dynamics: Loan market conditions continued to shift in the favor of lenders and other investors.
The broad market rejection of "covenant-lite" structures observed in June 2007 widened its scope in July to include most loans, as investors anticipated the $200+ billion pipeline from the arrangers and began to demand additional concessions in the form of better pricing, original issue discounts (OIDs), and stronger covenants. As such, the primary market slowed considerably, with 27 transactions canceled or postponed during the month. According to S&P, the benchmark BB/BB- institutional spread average increased to L+250bps, and the B+/B average climbed to L+336bps, the highest levels since the fourth quarter of 2003. Since cash flow CLO structures are broadly unaffected by mark-to-market volatility, the current market environment may create potential investment opportunities for our collateral managers and allow them to make strategic trades into loans with wider spreads and better structures.
The loan market supply/demand imbalance was clearly impacted by the reduced "CLO bid". While nearly $22 billion of CLO paper was issued worldwide during the month, this represents a 12% decrease from the previous month, according to Morgan Stanley research. Looking forward, we expect that the slowed pace of CLO issuance will continue over the coming months as only the most established and successful portfolio managers will be able to access the market.
- Market Dynamics: Loan market conditions continued to shift in the favor of lenders and other investors (continued)
TFG has already fully invested its capital and is therefore not dependent on the CLO market operating at the pace of the last few years to preserve its current returns. Given TFG's permanent capital base, we may be able to take advantage of certain opportunistic situations in the future that would not otherwise be available.
Outlook
While the past few months have been volatile for the credit markets, we continue to believe that the portfolio is well-positioned to benefit from the recent and anticipated spread-widening environment. Because we have secured locked-in liability costs for the life of our transactions (typically 12+ years), our funding gap arbitrage will increase should our loan exposures repay and reprice at wider spreads. Finally, we think that our conservative approach to portfolio construction and hedging will augment this natural increase in arbitrage and further protect returns.