Fund in Focus: IA Clarington Floating Rate Income Fund

Defensive positioning, risk management

Over the past couple of years, investor worries over rising interest rates have created significant investor interest in floating rate loans. These are instruments that pay a rate of interest that floats with a market interest rate, usually LIBOR. With central banks becoming more accommodative, where does that leave floating rate loan funds like the IA Clarington Floating Rate Income Fund?

A few years ago, there were only a couple of funds in the space, but this has since grown, and today there are 37 different offerings in the Floating Rate Loan category as defined by the Canadian Investment Funds Standards Committee. My favourite in the space remains the IA Clarington offering, managed by Jeff Sujitno of IA Clarington. For 2019 year to date as of Oct. 31, the fund gained 5.2%, which is comfortably ahead of the category average of 4.6%.

Mr. Sujitno’s approach is very simple and is best described as “clipping coupons.” He looks for loans offering an attractive coupon rate that are trading at a discount to par. The process starts with a top-down macro analysis, which helps the manager and his team understand the market trends and risks and helps set up their outlook.

Security selection is done using a fundamentally-driven, bottom-up credit analysis that focuses on cash flow generation, sustainability of revenues, balance sheet strength, and quality of management. The manager must also do extensive bottom-up credit analysis, as some borrowers have used “add backs,” which are adjustments to earnings and cash flows that make a company look stronger than it may be.

Credit spreads widened in the third quarter of the year. But as Mr. Sujitno wrote in the manager’s commentary, “The fund’s bias toward higher-rated credit contributed to its performance, as high-quality loans and high-yield bonds outperformed.” He believes loan and high-yield default rates could rise but will continue to be below long-term averages for the next year. He also believes central bank accommodation is the primary reason for such low default rates. That same bias to monetary accommodation reduces recession risk, which creates an environment that is supportive of credit, according to Mr. Sujitno. However, short-term volatility could still erupt and remains a risk.

In this environment, Mr. Sujitno remains defensive and conservative to help limit price volatility and surprise risk. The focus is therefore on larger, more liquid loans, as there is a risk that liquidity may suffer if we see any turbulence in the market. He avoids those names that have cash flows that are linked to commodity prices.

The fund has posted positive returns in every year since its launch. While other funds, namely Mackenzie’s offering, may post a more attractive absolute return stream, the defensive positioning and risk management focus of this fund keep it at the top of my list.

IA Clarington Floating Rate Income Fund
Fund company: IA Clarington Investments
Fund type Floating Rate Loans
FundGrade: C (October)
Style: Bottom up
Risk level: Low
Load status: Optional
RRSP/RRIF suitability: Good
Manager: Jeff Sujitno since November 2013; Amar Dhanoya since June 2016
MER: 1.85% (Series A)
Fund code: CCM9942 (Low-load units)
Minimum investment: $500

Dave Paterson, CFA, is a money manager and an expert on investment fund research and due diligence on a variety of investment products.

Notes and Disclaimer

Commissions, trailing commissions, management fees and expenses all may be associated with fund investments. Please read the simplified prospectus before investing. Mutual funds are not guaranteed and are not covered by the Canada Deposit Insurance Corporation or by any other government deposit insurer. There can be no assurances that the fund will be able to maintain its net asset value per security at a constant amount or that the full amount of your investment in the fund will be returned to you. Fund values change frequently and past performance may not be repeated. No guarantee of performance is made or implied. This article is for information purposes only and is not intended as personalized investment advice.