Update: 4.35% Astrea IV Class A-1 Secured Bonds

Final yield on the A-1 tranche is 4.35% (27.5 bps below guidance) while A-2 is 5.5% (12.5 bps below guidance). This may be attributed to heavy demand from institutional investors.

Which I can understand as the institutional tranches look more attractive.

Both tranches rank parri passu and has same priority of payments. The main differences are: [1] A-1 is SGD-denominated and available for retail investors while A-2 is USD-denominated and for institutional investors; and [2] the A1 tranche has marginally more protection, as the issuer must ensure its reserves are greater than the A1’s outstanding amount before it can redeem the A2 tranche.

The institutional A2 tranche offers a 115 bps yield pickup over the retail A1. This is partly because the 10-year USD treasury yields roughly 35-40 bps higher than the 10-year SGS. In addition, the issuer has to incur hedging costs in order to make the SGD distributions (as its income is denominated in USD).

Kudos to the issuer for creating a public SGD tranche so that retail investors can participate. But it does look like retail investors are getting a lesser deal here.

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4.625% Astrea IV Class A-1 Secured Bonds

My view on the first-ever retail bond issue by a wholly-owned Temasek subsidiary. Astrea (and its sponsor) is basically a fund that invests in 36 other private equity funds.

Indicative yield: 4.625%

Pros:

  • Secured structure: The bond is secured against shares of the underlying PE funds. That said, the security package is weak as it is not a hard asset and the bond is structurally subordinated (see below).
  • Secondary listing on SGX: This means you can sell the bond on SGX anytime you want after listing. However, given the small retail issuance size, I think trading liquidity may be limited. Hence, you may have to sell at a discount to par

Key Risks:

  • Not guaranteed by Temasek: Media reports cite this issuance as “Temasek’s first retail bond”. I think this is misleading as the bond is not guaranteed by Temasek. There is a possibility (albeit very small) that the issuer might run into operational difficulties and default. Under this scenario, I believe Temasek will not bail them out due to: [1] Temasek’s policy of being a passive investor; and [2] the issuer is not a strategically important subsidiary.
  • Difficult to forecast the issuer’s debt servicing ability: Interest payments will be funded using dividends received from the underlying funds. However, the issuer is essentially a fund of funds. This means they have no control over the performance and operations of individual funds, which are run by their own respective partners. Moreover, PE funds are considered to be a risky asset class as they generally invest in unproven or weak companies. That said, this risk is partly mitigated by Astrea’s diversified investment holdings as it holds 36 funds across different geographies and industries.
  • Structural subordination: In the event any underlying PE fund runs into operational difficulties, the underlying fund will have to first pay its own creditors. Any leftover value will then be attributed to Astrea (as the shareholder of the underlying funds). This “leftover value” may be low as PE funds are generally highly leveraged.
  • Unable to monitor issuer’s performance: PE funds are generally opaque and bondholders will receive limited disclosure on the performance of underlying funds. Information provided may also not be up to date.
  • High leverage: The funds have a combined NAV of SGD 1.1 bn while the issuer is proposing to issue SGD 500 mn worth of bonds. Proceeds will be used to repay existing debt. Post issuance, the issuer will have a Debt/Asset ratio of 46%. This is considerably high in my view. There is a bond covenant requiring Astrea to make contributions into the reserve account (after paying all outstanding interests) if the Debt/Assets ratio exceeds 50%.
  • 10-year lockup period: The bond maturity is 10 years while the issuer has a call option to redeem the bonds upon the fifth year (if certain conditions are met). If the call is exercised, you will receive your principal back. If the call is not exercised, the coupon will increase by 1% to 5.625%. Regardless, investors should be prepared to lock up their capital for 10 years.

Recommendation: 

Not attractive, invest a little only if you want some fixed income exposure in your portfolio.

When making bond investments, we consider the spread over the risk free rate (in this case the 10-year Singapore Government bond yield). This is currently around 2.6%. The chart below shows the 10-year yield on the SGS over the last five years.

Capture

Source: Bloomberg

In a rising interest rate environment, the yield on future new issuances will be higher than today’s. But if you buy the 10-year Astrea IV bond today, your return will be fixed at 4.6%-5.6%. When interest rates go up in future, the price of the Astrea IV bond will have to trade downwards. Hence, your best option is to hold it to maturity (which is 10 years, or 5 years if the bond is called).

Overall, I think the bond duration is a bit too long and the yield too low for my liking. The issuer is able to get away with a low yield due to its Temasek affiliation, but the bond carries moderate credit risk as it is not guaranteed by Temasek. Investors should consider this bond only if they want to diversify their portfolio into fixed income, but I would advise only a small allocation.

Note: This post was first published on 5th June 2018 in my other blog – https://sginvestorviews.wordpress.com/