TD Asset Management estimates as much as $8-billion of the deals are done each year.AARON HARRIS/Reuters
Canada's biggest bond investors are reaching into the darker corners of the credit market in their search for yield.
TD Asset Management Inc. recently launched two funds to give clients access to privately negotiated bonds, according to Bruce MacKinnon, head of the new private debt group at Canada's second biggest bond investor, a unit of Toronto-Dominion Bank. CI Investments Inc. has boosted purchases of private deals for its mutual funds.
Investors are looking beyond public debt markets to hunt for investments as central banks pile on stimulus. Benchmark yields in Canada have fallen to record lows after the Bank of Canada cut rates twice last year to counter the collapse in oil prices. At the same time, regulations imposed in the wake of the financial crisis to curb risk taking by banks have curtailed their traditional role as middlemen in credit markets and raise concerns about liquidity.
Attractive pricing
"The pricing tends to be very attractive, and then the onus is on the portfolio manager, is that pricing attractive enough, and the structuring, the covenants, to compensate," said Geof Marshall, head of corporate bonds at CI's Signature Global Asset Management unit. "If trading is getting more difficult, then why not just live in an asset class I don't have to trade?"
TD Asset Management estimates as much as $8-billion of the deals are done each year. The money manager expects the securities to pay about 1.5 percentage points more than the average yield on FTSE TMX Canada universe bond index, which tracks investment-grade corporate debt and government bonds in Canada The kind of deals TD Asset Management and CI are pursuing aren't widely distributed. Instead, they're negotiated between the company and one lender, or a small creditor group, giving the buyers more control on terms to produce higher-yielding bespoke securities that are off the radar and not tracked by major bond indexes.
These investments can have a downside, according to Andrew Lin, head of energy and project finance at credit rating firm DBRS Ltd.
Less disclosure
"You're clipping a good coupon, you're getting a healthier rate than you would on a public bond, but there's less disclosure," Mr. Lin said, citing the reporting rules regulators impose on companies issuing public securities. "In addition to the fact it's illiquid you may have less financial information to assess any changes in credit quality."
TD Asset Management's funds will provided institutional investors access to debt that finances renewable energy, public infrastructure projects and real estate, according to Mr. MacKinnon.
These projects typically need more longer-term financing than what banks generally want to back. And where once it was only the large institutions such as insurers and pension funds that would finance the deals, Mr. MacKinnon expects years of low yields to make the debt attractive to smaller investors.
"It's the low yield environment that's causing portfolio managers to focus more on that," Mr. MacKinnon said. "We're able to deliver investment-grade quality investments that earn a higher yield than in the public space."
Mr. Marshall of CI Investments has been looking to include more private deals in the mutual funds he manages, though he caps the holdings to 10 per cent for each fund to comply with rules limiting purchases of illiquid assets.
For him, the main attraction is an investment he can help craft that promises immunity from daily market swings.
"I get my coupon payment every six months and I get my principle back at maturity," Mr. Marshall said. "Steady Eddy, and boring."