We’re excited to say that last month our Vertex Arbitrage Fund turned 3 years old!
The fund was introduced in 2013 to offer investors a solution to some of the present-day investing challenges; its purpose is to provide investors with an absolute return profile that is predictable, has low correlation with other assets, has little interest rate exposure, and is tax-efficient. Merger arbitrage satisfies these needs, and we just happened to already have two of Canada’s premier arbitrage portfolio managers, Craig Chilton and Tom Savage. And so the Vertex Arbitrage Fund was born. We have since been very pleased with how the fund has delivered on these objectives.
Absolute returns? ✔ With no negative yearly periods, only two negative quarters, and seven down months (five of which were less than -0.30%), the fund delivered positive performance during a period of market turbulence in Canada and abroad.
Predictable? ✔ A 3-year standard deviation of merely 2.16% and an average monthly return of 0.31% set the fund within our predicted range of 4-6%.
Low correlation? ✔ A correlation coefficient of 0.21 to the TSX and 0.28 to the S&P 500 (0 = no correlation, 1 = perfect correlation). See the final chart below for a comparison to the performance of a global bond index.
Tax-efficient? ✔ The fund’s performance is primarily tax-efficient capital gains. To date, just 1.2% of the NAV was distributed as income or only 10% of the cumulative return.
Interest rate exposure? ✔ Bond investors may now be facing their first real test in decades with the introduction of Trumponomics. Global bonds recently experienced their worst loss in nearly 30 years, as yields spiked amidst new-found inflation expectations under a Trump regime. The chart below illustrates the recent dramatic spike.
A significant challenge facing investors, notably income-starved baby boomers, is finding reliable sources of return in a climate of record-low interest rates. As we are seeing, any sustained threat of inflation will be punishing to bondholders of long-term debt given the currently tiny yields. This is one reason the Vertex Arbitrage Fund is a suitable fixed-income alternative. In merger arbitrage one of the input factors into the pricing of a spread, the source of return, is the prevailing interest rate. Because deals close over an average period of 3 to 4 months, we are able to regularly turn over the portfolio into new deals priced at the current rate (helpful when they are rising). As interest rates increase, we earn a spread over the new higher interest rate and our investors earn better returns.
To see how we’ve fared against bonds, the below chart looks at the daily returns of the Vertex Arbitrage Fund vs an index of global bonds (Bloomberg Barclays Global Aggregate Bond Total Return Index). You may recall a similar chart in our Q1 Report where we compared the fund to equity markets since July 2014, when equity markets previously peaked. In this chart, we examine the same time period as global bonds also peaked in July 2014, and more importantly, what happened over the last month during bonds’ dramatically sell-off. We think this underscores the durability of the fund’s strategy to perform in volatile periods; just as it did in January of this year, when equities sold-off.
Index source: Bloomberg Fund source: Internal System (unaudited), Net of Fees
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