EFT - Premier Loan Fund With 19% YTD Total Returns

Nov. 11, 2021 4:33 AM ETEaton Vance Floating Rate Income Trust (EFT)
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Binary Tree Analytics
2.37K Followers

Summary

  • EFT is a closed-end fund that focuses on leveraged loans.
  • The fund has had a phenomenal year in 2021 with EFT on track to make more than 19% in total returns.
  • The fund has extremely robust 5- and 10- year total returns that sit at 7.8% and 7.1% respectively.
  • EFT has a small allocation to CLO debt as well.

Leveraged Buyout LBO is shown on the business photo using the text

Andrii Dodonov/iStock via Getty Images

Thesis

Eaton Vance Floating Rate Income Trust (NYSE:EFT) is a closed-end fund that focuses on leveraged loans. Under normal market conditions, the fund invests at least 80% of its total assets in senior loans of domestic and foreign borrowers that are denominated in USD and foreign currencies. The fund hedges any FX component. The fund has extremely robust 5- and 10- year total returns that sit at 7.8% and 7.1% respectively, obtained from a low volatility asset class such as leveraged loans. The fund usually prefers to invest in double-BB credit quality names but has navigated to overweight single-B loans at the present in order to extract more yield from the portfolio. Leverage is running a bit on the high side as well at 36%. All analytics for this fund are very robust and make it a great buy-and-hold vehicle for the income bucket for an investor's portfolio. Coming off a phenomenal year in 2021 with EFT on track to make more than 19% in total returns (think about that for a second - a low volatility fixed income asset class returning as much as the equity market !) we think 2022 is likely going to be much more challenging. Looking at the historic precedence of 2013-2015 when the Fed tapered and subsequently raised rates we see a negative EFT performance in each of those years driven by a combination of credit spreads and rates. We like this fund very much and we think it is a great buy-and-hold name but the next 24 months are going to be challenging, especially since the fund is currently trading at a significant premium to NAV when compared to its historical levels (4.12% premium with a high 1.77 z-stat). If you already own the name we rate it "Hold" while new investors should put EFT on their watchlists and start accumulating below $14.3 / share.

CEF Metrics

This section details some CEF metrics and overall fund analytics:

Leverage Ratio: 36%

  • On the high side for the CEF space.

Expense Ratio: 2.24%

  • On the high side in the space

Manager: Eaton Vance

  • Premier asset manager.

Yield: 6.13%

  • Average for the loan asset class.

Premium/Z-Stat: 4.12%/1.77

  • The fund is trading at a premium.
  • The premium is on the high side given statistical data about this fund

Quick Asset Class Review

Before we dive into the portfolio credit risk and market risk composition let us have a quick re-visit of the generalities of the leveraged loan asset class and the position of senior secured loans in the capital structure of high yield companies:

Eaton Vance EFT Asset Class Review

Source: Eaton Vance

When a company is taken over via an LBO or purely the management extracts dividends via issuance of debt the capital structure will look quite similar to what you see above. The riskiest part of the capital structure will be the equity, which is the first loss-absorbing piece but also has the greatest upside if the company overperforms. Next in line are the high yield bonds, which are usually fixed rate senior unsecured bonds, placed with maturities of up to 5-7 years. Floating rate loans are the most senior piece of the capital structure, they are usually senior secured, meaning they have a first lien on the property of the company if a bankruptcy occurs. That seniority and first-order claim on company property make leveraged loans exhibit very high recovery rates, hence they yield the least amount in the company structure and they exhibit a very low volatility compared to bonds and equity.

Portfolio Composition - Credit Risk

The fund invests in a portfolio of predominantly floating rate leveraged loans with a small bucket of high yield bonds and a small allocation to CLO tranches:

EFT ETF asset mix

Source: Eaton Vance

Although the fund usually prefers to invest in the safer, better quality double-BB leveraged loans, at present the fund is running a riskier than average portfolio with the B bucket containing the highest concentration of credits, but with a sizeable CCC bucket as well:

EFT ETF credit quality

Source: Eaton Vance

The fund is overweight the Electronics/Electrical sector, but quite close to a balanced maximum sectoral allocation of 15-17% of the portfolio:

EFT ETF top 10 sectors

Source: Eaton Vance Annual Report

The rest of the allocation sectors are all well below 10% of the overall portfolio.

On an individual name basis, however, the portfolio is fairly granular:

EFT ETF top 10 issuers

Source: Eaton Vance

Usually, figures above 1% are considered concentrated bets in my book, so the fund is well set up with only a handful of names above that threshold.

Portfolio Composition - Market Risk

In this section, I will discuss in more detail the aspects of the EFT portfolio that relate to market risk - i.e. fluctuations in risk-free rates and credit spreads that can cause upward or downward pressure on the EFT portfolio NAV.

Given that it is a leveraged loan fund and the underlying portfolio is based on re-setting floating rates, EFT has a low duration, thus less susceptible to interest rate curve moves driven by the Fed taper actions.

The main risk in this fund is the credit spread risk. As we can see from the below graph, underlying leveraged loans credit spreads are at historical lows, with CLO spreads having tightened substantially in the past year as well:

Post crisis CLO spreads

Source: Eaton Vance

We will see in the next section how even a small widening in credit spreads can result in a negative performance for the fund given its high leverage. Specifically, when referencing the above graph we are going to look at the 2013-2015 period when the dotted "Loans" credit spread line moved marginally higher.

Returns

Given Fed taper discussions and imminent higher rates, let us have a look at how the fund performed during a similar period of Fed balance sheet taper and rising interest rates, namely 2013-2015:

EFT ETF returns

Source: Seeking Alpha

During the last tightening cycle, similar to other leveraged loan CEFs, the fund was slightly negative from a total return perspective. It initially sold off as rates went up on the back of the tapering talk, and then the fund carry kicked into level out the performance, with the fund selling off again in late 2014.

EFT ETF yearly total return

EFT ETF trailing total return

EFT ETF months with negative total returns

Source: Author

We can see from the above total return table that 2013-2015 was a period when the fund lost money in each consecutive year. Similarly, from a months with negative total returns perspective, those were also the years when we saw the highest number of months yielding negative total returns. Coming off a phenomenal 2021 we are inclined to think history is going to repeat itself.

Distributions & NAV

EFT distribution and NAV

Source: Morningstar

The fund exhibits a good NAV performance in the past ten years, with only a modest -0.47% annual give-up. This means that the asset manager is doing a good job of selecting the credits in the portfolio and trading the loans so that the fund distributions are covered from the cash flows produced by the portfolio and the capital gains realized on the trading actions. These are the traits of a good asset manager.

EFT performanceSource: Eaton Vance

We can see the same story playing out in the Section 19(A) details where most of the dividends that the fund distributes are generated from net investment income rather than NAV give-up.

Conclusion

EFT is a very robust well-run leveraged loan fund. The management team has proven itself throughout the years with the fund having minimal NAV slippage in the past decade. The fund is coming off a great 2021 performance but we fear 2022 is going to be much more challenging. Looking at the historic precedence of 2013-2015 when the Fed tapered and subsequently raised rates we see a negative EFT performance in each of those years driven by a combination of credit spreads and rates. If you already own the name we rate it "Hold" while new investors should put EFT on their watchlists and start accumulating below $14.3 / share.

This article was written by

Binary Tree Analytics profile picture
2.37K Followers
With a financial services cash and derivatives trading background, Binary Tree Analytics aims to provide transparency and analytics in respect to capital markets instruments and trades._____________________________http://www.BinaryTreeAnalytics.com

Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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