The Interview - Stephen Siderow, BlueMountain Capital Management: "We expect to move to an environment in which credit-picking skills will drive performance"
President Stephen Siderow says credit investment specialist BlueMountain Capital Management is planning to launch a series of funds this year to exploit opportunities offered by current dislocations in the market, including a vehicle set to begin trading in June that will encompass various long-only and relative value strategies.
HW: What is the background to your company and fund?
SS: BlueMountain is an asset manager specialising in strategies in the corporate loan, bond, credit and equity derivatives markets that currently manages USD4.5bn.
The BlueMountain Corporate Loan Fund, which began trading on March 16, is designed to capitalise on opportunities in senior secured loans of high-yield issuers, also known as leveraged loans, and will have a US geographical focus. The fund is the first in a series of new vehicles that BlueMountain plans to launch in 2009 to take advantage of opportunities presented by the current credit market environment.
Leveraged loans have been a core part of BlueMountain's strategy since it launched its flagship multi-strategy Credit Alternatives Fund in 2003. The firm also manages significant loan assets through three collateralised loan obligation with total assets under management of USD1.4bn and the Defensive Credit Fund, a long-term separately managed account that manages approximately USD800m of loans. Both of these leveraged loan investment vehicles have dramatically outperformed their peers and benchmarks.
BlueMountain's fundamental credit team is led by Derek Smith, formerly head of US and European investment-grade and high-yield trading at Deutsche Bank, and before that head of US investment-grade credit trading at Goldman Sachs. Derek oversees the loan team, which is led by Charles Kobayashi, a 20-year veteran of the leveraged loan arena.
HW: Who are your key service providers?
SS: The BlueMountain Corporate Loan Fund uses PricewaterhouseCoopers for its audit, Purrington Moody Weil (US) and Maples Corporate Services (Cayman) for legal advice, and GlobeOp Financial Services as its administrator. The fund does not have any prime brokerage agreement in place.
HW: Are any further fund launches in prospect?
SS: BlueMountain plans to launch other funds in 2009 to exploit opportunities presented by the current market environment. The next vehicle should start trading as early as June and encompass a variety of long-only and relative value strategies, including bond basis and capital structure arbitrage, with underlying instruments spanning corporate loans, bonds and asset-backed securities.
HW: What is the profile of your client base? What is the split of assets under management between institutional and private clients?
SS: BlueMountain's assets have historically been somewhat equally split between North America and Europe. Institutional investors represent the overwhelming majority of our clients, at around 95 per cent, including funds of funds, pension funds, insurance companies and banks. Pension funds are increasingly more important to BlueMountain. Anecdotal evidence of this can be found in the fact that our Corporate Loan Fund was seeded by a UK pension fund adviser and its clients.
HW: What is your investment process?
SS: The firm identifies investment strategies using a combination of fundamental research and quantitative and technical analysis. BlueMountain's investment team operates in a highly integrated manner, with risk management as a key element of the investment process.
HW: How do you generate ideas for your funds?
SS: There is no simple answer to this as it really is strategy-specific. Some strategies, like index arbitrage, do not require any fundamental analysis and are purely technically driven. Others, like long-only corporate loan picking in the Corporate Loan Fund, are mostly fundamentally driven, and start with bottom-up credit research. But the technical dimension remains an important dimension of the idea generation process, even for fundamentally-driven strategies.
HW: What is your approach to managing risk?
SS: A separate risk management group supports and provides analysis for the investment process through independent reporting and monitoring of the funds' portfolios. The risk management group ensures both the integrity of the risk analysis and data disseminated throughout the firm and that the level of exposure taken is within the funds' fixed risk tolerances.
Should the funds be near these risk limits, the risk management group will flag this and suggest ways to bring it back to compliance. Depending on the sophistication of the fund's portfolio, this task can be very simple or quite complex.
HW: How has your recent performance compared with your expectations? Do you expect your performance to change going forward?
SS: BlueMountain managed to distinguish itself during the 2008 crisis. Performance across our three main open-ended vehicles, each of which has a relative value mandate, varied between a decline of 6.2 per cent and a return of 19.9 per cent - and the only vehicle to post a negative mark last year has already made up for it in 2009 with a performance of 7 per cent to date.
Given the huge dislocations in the credit markets today, we expect future performance to exceed past performance.
HW: What opportunities are you looking at right now?
SS: The current dislocations offer numerous opportunities that we are actively looking at exploiting through various vehicles. The fund we will launch in June will be concentrated on three of these opportunities.
These include, first, long cash-leveraged loans and bonds that we feel have been indiscriminately hit by selling pressure. Secondly, with bond basis and capital structure arbitrage we combine long positions in cash leveraged loans and bonds with short positions in synthetic instruments of the same issuer, allowing us to benefit from the convexity of the return profiles, regardless of the outcome.
Finally, we will go long in structurally protected tranches of consumer credit ABS, which typically benefit from a deteriorating economic environment, while simultaneously being able to sustain material increases in defaults without loss of principal.
HW: What events do you expect to see in your sector in the year ahead?
SS: We expect to move from a systemic environment, driven by technical selling pressure that did not discriminate between good and bad issuers, to an idiosyncratic environment, in which credit-picking skills will be essential to drive performance.
HW: How will these developments affect your own portfolio?
SS: With a 15 analyst-strong research department, led by the former chief operating officer of Citigroup's global corporate research division, along with what we believe is unique proprietary technology supporting our investment process, BlueMountain is ideally positioned to benefit from this market move.
HW: Are investors' expectations moving towards capital preservation? If so, how do you deal with this?
SS: We have always viewed capital preservation as a critical part of our mandate and have performed accordingly. Last year our funds were up or down only slightly - and where down, have already made back the losses in the first quarter of 2009.
HW: What differentiates you from other managers in your sector?
SS: One of the key distinguishing factors is our institutional business model. BlueMountain employs more than 125 professionals in its New York and London offices, more than half of which are non-investment professionals. Our proprietary operational and risk infrastructure is recognised as superior not only to that of many large buy-side but also sell-side institutions. Our integrated business model that rejects silos is designed to promote transparency and collaboration, align incentives, manage risk and generate superior returns.
HW: Do you foresee problems in raising mandates from investors through 2009? If so, what factors will drive investors to your funds?
SS: Managers need to think harder about the structure and liquidity they are offering to their investors. Asset-liability matching, transparency, co-investor risk, leverage and fee levels are under increased scrutiny. We believe that successful players will proactively address these issues by offering products that are well adapted to the current market environment and investor needs.
The innovative structure of the BlueMountain Corporate Loan Fund is the fruit of months of discussions with prospects and investors. We have, for instance, created a mechanism that mimics the advantages of a managed account, without requiring a minimum investment threshold. Also, performance fees will be not be assessed annually but rather based on cash distributions to investors.
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