Q1 2020 Commentary
The Fund (NICHX) returned +1.15% in the first quarter of 2020 amid the unfolding COVID-19 pandemic and resulting market volatility. With the economic outlook swiftly deteriorating, the Fund underperformed investment grade bonds but outperformed both high yield corporate debt and hedge fund indices by wide margins. Over the trailing 12 months, the Fund was up +10.11%, outperforming investment grade bond, high yield corporate debt and hedge fund indices over the same period.
Past performance does not guarantee future results
Macroeconomic developments, particularly those associated with the expected impact of the COVID-19 pandemic, had a larger-than-usual impact on Fund performance in the first quarter. Consistent with the Fund’s valuation policy, a significant number of positions were revalued lower in response to incoming information, market pricing signals and reduced expectations for future performance. As an additional measure, Variant elected to make interest rate adjustments across many of its senior credit facilities to reflect the view that the prevailing market rate for similar facilities in the current environment may now be higher. The interest rate adjustment had the impact of lowering Fund performance for the quarter.
Despite the negative impact from COVID-19 pandemic, the Fund did produce a positive result in the first quarter owing to its focus on less correlated market niches and structural protections, such as layers of first loss equity in its credit facilities. Much of the Fund’s performance was driven by developments in individual positions that were unrelated to the macroeconomic environment. Since inception, the Fund has displayed limited correlation and beta to public market indices in fixed income and equity markets.
Past performance does not guarantee future results
In terms of performance attribution details, the Fund’s allocation to litigation finance was the largest contributor to performance. In addition, a secondary market acquisition of an LP (Limited Partner) interest in a real estate fund boosted results in the quarter. Despite the interest rate adjustment mentioned above, the Fund’s senior credit facilities generally contributed to positive returns due to relatively high interest rates and origination points on new draws.
The Fund’s exposure to CLO (Collateralized Loan Obligation) warehousing was the largest single detractor from performance as the structured credit markets traded sharply lower in March. Positions in MLPs (Master Limited Partnerships) also detracted from performance, although the use of put options (the right to sell at a specific price by a specific date) limited the loss. Various exposures to transportation finance and small business lending were also negatively impacted during the quarter.
With respect to portfolio positioning, new exposures include three new senior credit facilities, including a diversified specialty finance manager, an originator financing electricity brokerage commissions and a specialized lender in the co-working space. The Fund also made a new commitment to a specialty finance fund with an existing partner, participated in two co-investment opportunities with another existing relationship and closed on a secondary market acquisition of an LP interest in a real estate fund.
A variety of existing positions were upsized during the quarter, the largest of which included the call down of capital on an aircraft leasing strategy and additional commitments to three different litigation finance strategies, two art lending opportunities, a short-term secured lender to small businesses and bridge lending to operators of skilled nursing facilities.
Notably, the single largest change in portfolio holdings was an increase in cash as the outlook became increasingly uncertain over the quarter. Emerging financial stress and the dramatic repricing of the cost of capital seem likely to present attractive new opportunities in the days ahead. As such, the elevated cash position is intended to be deployed into such opportunities should they arise. Overall, approximately 39% of invested principal is expected to be returned or be available for liquidation within the next 12 months.
Despite the heightened market volatility, the Fund was the beneficiary of continuous investor inflows throughout the quarter. Fund AUM increased by $109 million in the first quarter to close at $372 million.
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Inception date is October 2, 2017. Returns are net total returns. Between October 2017 and September 2018, performance is quoted for the Variant Alternative Income Fund LP, the predecessor private fund that converted into the interval fund. The predecessor fund was, in all material respects, equivalent to the interval fund. The private fund track record was adjusted to reflect the interval fund’s estimated expenses and expense limitations. Specifically, it reflects a management fee of 0.95% and fund expenses capped at 0.50%. The track record uses geometric returns and reflects the reinvestment of earnings. Results are unaudited.
Correlation is the performance relationship between the Fund and the reference indices on a monthly basis over the period. Beta measures the volatility of the Fund relative to the reference indices over the period.
“IG bonds” & “BBG Agg ” refer to the Bloomberg Barclays U.S. Aggregate Index, which is a broad-based flagship benchmark that measures the investment-grade, U.S. dollar-denominated, fixed-rate taxable bond market. “High yield” & “BBG HY” refer to the Bloomberg Barclays U.S. High Yield Index, which measures the U.S. dollar-denominated, high yield, fixed-rate corporate bond market. “Hedge funds” & “HFRXGL” refer to the HFRX Global Hedge Fund Index, which is designed to be representative of the overall composition of the hedge fund universe. “Equity” & “S&P 500” refer to the S&P 500® Index, which is a market-value weighted index of equity securities. Please note: The referenced indices are shown for general market comparisons. Investors cannot directly invest in an index and unmanaged index returns do not reflect any fees, expenses or transaction costs. Reference indices are provided for illustrative purposes only. There are no known published benchmarks or indices comparable to the investment strategies of the Fund.
The Variant Alternative Income Fund is a continuously-offered, non-diversified, registered closed-end fund with limited liquidity. There is no guarantee the Fund will achieve its objective. An investment in the Fund should only be made by investors who understand the risks involved, who are able to withstand the loss of the entire amount invested and who can bear the risks associated with the limited liquidity of Shares. A prospective investor must meet the definition of “accredited investor” under Regulation D under the Securities Act of 1933.
Important Risks: Shares are an illiquid investment. You should generally not expect to be able to sell your Shares (other than through the repurchase process), regardless of how the Fund performs. Although the Fund is required to implement a Share repurchase program only a limited number of Shares will be eligible for repurchase by the Fund.
An investment in the Fund is speculative, involves substantial risks, including the risk that the entire amount invested may be lost, and should not constitute a complete investment program. The Fund may leverage its investments by borrowing, use of swap agreements, options or other derivative instruments. The Fund is a newly-organized closed-end management investment company that has limited operating history and no public trading of its shares. The Fund is a non-diversified management investment company, meaning it may be more susceptible to any single economic or regulatory occurrence than a diversified investment company. In addition, the fund is subject to investment related risks of the underlying funds, general economic and market condition risk.
Alternative investments provide limited liquidity and include, among other things, the risks inherent in investing in securities, futures, commodities and derivatives, using leverage and engaging in short sales. The Fund’s investment performance depends, at least in part, on how its assets are allocated and reallocated among asset classes and strategies. Such allocation could result in the Fund holding asset classes or investments that perform poorly or underperform. Investments and investment transactions are subject to various counterparty risks. The counterparties to transactions in over the-counter or “inter-dealer” markets are typically subject to lesser credit evaluation and regulatory oversight compared to members of “exchange-based” markets. This may increase the risk that a counterparty will not settle a transaction because of a credit or liquidity problem, thus causing the Fund to suffer losses. The Fund and its service providers may be prone to operational and information security risks resulting from breaches in cyber security. A breach in cyber security refers to both intentional and unintentional events that may cause the Fund to lose proprietary information, suffer data corruption, or lose operational capacity.
PANDEMIC RISK. The continuing spread of an infectious respiratory illness caused by a novel strain of coronavirus (known as COVID-19) has caused volatility, severe market dislocations and liquidity constraints in many markets, including securities the Fund holds, and may adversely affect the Fund’s investments and operations.
BEFORE INVESTING YOU SHOULD CAREFULLY CONSIDER THE FUND’S INVESTMENT OBJECTIVES, RISKS, CHARGES AND EXPENSES. THIS AND OTHER INFORMATION IS IN THE PROSPECTUS, A COPY OF WHICH MAY BE OBTAINED FROM (877) 770-7717 OR WWW.VARIANTINVESTMENTS.COM. PLEASE READ THE PROSPECTUS CAREFULLY BEFORE YOU INVEST.
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