Bridget Hughes: Hi. I'm Bridget Hughes. I'm one of the fund analysts at Morningstar. I am here at Third Avenue Management in New York talking with Jeff Gary, who is the Manager of the Third Avenue Focused Credit Fund.
Jeff, thanks for joining us.
Jeff Gary: Bridget, thank you very much for taking the time.
Hughes: Sure. First, I wanted to ask you about the fund and its launch and in terms of what kinds of opportunities were available at the time. I mean, as we all know, high-yield spreads had really widened out at a particular time, and the fund came just a little bit later to that party. Did that close a lot of windows for you?
Gary: No, not at all. We intentionally did not name it a credit opportunities fund. There were plenty of credit opportunities funds out there available primarily for institutional investors. But we saw the change – for many reasons – the change in the credit markets and several factors I'll talk about that this could be a tremendous strategy for the next 5, 10 and plus years.
First, we would have loved to have launched on March 31, which is the low point in the high-yield market. However, we started the process in early '09, and by the time you run through the SEC, we got to September 1. Still, plenty of the high-yield spreads were more than attractive. But our strategy, first and foremost, is very differentiated from anything that's out there.
We're focusing our capital based on our deep-dive research on 60 companies. And it's an opportunistic strategy. We can invest in bank loans, high yield, busted convertibles, as well as distress securities. So this is not available in the marketplace--where we can, in essence, add alpha by our credit selection and be much more than just a beta play in a way to benefit from a rising high-yield market.
The other factors we took into account were, first, the CLO market, which was a big buyer of bank loans in the last eight years, 80% of those funds end their reinvestment period over the next two years. And then, we have a wall of maturities of the individual loans expiring between 2012 and 2014, where the individual loans mature and something needs to happen with that. That is hundreds of billions of dollars.
Third, because of what we refer to as "the debt super cycle," in effect, most every government, state and most households are over indebted, and therefore, need to de-lever and be able to cut their expenses and cut their deficits, such that default rates should remain at elevated and slightly above average levels for a number of years.
And the last piece is, with financial institution deleveraging and a lot of capital going out of the system, both by three investment banks going out of business, many other institutions pulling back, there are tremendous opportunities for people like ourselves to provide financing for debtor-in-possession or DIP loans for companies in bankruptcy, financings to rescue a company from bankruptcy, as well as financings to help exit a bankruptcy.
And the last piece is, with 4% default rates probably for the next several years, we are likely to have $75 billion of defaults a year, and for somebody like ourselves picking 60 companies, that presents a lot of opportunities.