Toronto-based Third Eye Capital was established in 2005 by Arif N Bhalwani and Dr David G Alexander with their own capital and a CAD300million mandate from one of Canada’s largest pension funds.
The firm originates and manages privately negotiated secured loans to predominantly Canadian small- to mid-cap companies that are unable to access credit from conventional sources.
In 2008, it launched the Third Eye Capital Credit Opportunities fund, an umbrella fund that allows non-Canadian investors to benefit from the firm’s specialised expertise in direct lending. Investments made by the Fund require a high degree of analysis and due diligence that banks are not necessarily well equipped to handle with Bhalwani explaining that “our returns essentially come from exploiting this inefficiency in analysis”.
The primary focus is on companies where capital needs range from USD1million to USD30million, the sweet spot being USD10million to USD15million.
Today’s environment of global bank deleveraging makes it hard for SMEs to access financing. Credit markets for these companies “have not yet thawed” says Bhalwani but larger borrowers have been able to access high yield and other corporate bond markets to refinance and grow.
“Smaller borrowers have been forced to either postpone capital plans or reduce working capital which retards growth. We see a huge flow of lending transactions in the SME space,” says Bhalwani.
2011 was a good year for the firm. Total AUM doubled to approximately USD300million, primarily due to its domestic advisory relationship with Sprott Asset Management, a Canadian investment manager with USD10billion in assets.
Bhalwani says they could be at USD500million given investor demand but have capped subscriptions until the right lending opportunities arise. “Our strategy is gaining more prominence among investors because successful private credit managers have proven their ability to generate consistent, above-average returns, even during hostile environments like today.”
A significant difference between Third Eye and other hedge funds is that it looks for investment opportunities with one- to three-year time horizons rather than trading opportunities that need to be recycled in seconds or minutes. Having an all-weather strategy has allowed the firm to avoid a single loss in the portfolio since its inception.
“The fund has generated annualised returns of 14 per cent over the last four years so our organic growth has been extremely strong and reinforces a virtuous cycle of new and existing investor inflows.”
The recent trading debacle at JP Morgan has put operational risk management back in the spotlight but the likelihood of a major loss in a private credit fund is limited by the fact that a privately negotiated loan has a capped exposure, says Bhalwani.
“We make collateral-dependent loans. The loan amount can never exceed a pre-determined margin of the collateral securing it. Our risk management infrastructure emphasises capital preservation through constant monitoring of this loan-to-collateral value relationship.”
As for new opportunities in 2012, Bhalwani says that credit has been severely constrained in certain industries, particularly the alternative energy sector “due to massive losses suffered by banks during the 2008 excess capacity-induced collapse of the ethanol industry. Now, good companies with sustainable revenue models are unable to access traditional capital.”
On winning the award for the second consecutive year, Bhalwani comments: “We’re grateful to Hedgeweek’s readers and excited to win this award during a time when investors are more mindful about evaluating credit opportunities. Direct lending is an important strategy because it has tangible, immediate effects on SMEs that drive economic growth. We share this award with those companies.”