Numis analysts’ favourite p2p and direct lending fund

Numis Securities’ Ewan Lovett-Turner reveals the investment trust he thinks looks most attractive in the burgeoning p2p and direct lending space.

The £163m Funding Circle SME Income fund is one of the best ways to play the P2P and direct lending fund space, according to Numis Securities’ Ewan Lovett-Turner.

The closed-ended fund saw its net asset value (NAV) appreciate 0.6 per cent in December.  This is in-line with the fund’s dividend target, says Lovett-Turner, and meaning in 2016 the fund delivered NAV total returns of 6.2 per cent. It paid a dividend of 1.625p in January, equivalent to an annualised yield of 6.5 per cent.

“Funding Circle SME Income is our favoured play in the direct lending space. It offers exposure to SME loans predominantly in the UK (78 per cent of portfolio) and the US (20 per cent) with modest exposure to Continental Europe (2 per cent),” he said.

“In our view, SME lending is an attractive area of the P2P market, and Funding Circle’s leading market position gives it a potential competitive advantage in sourcing deals and in having the resources and expertise to analyse credit risk effectively,” he added.

The fund targets a dividend target of 6-7p per share per annum, and an NAV total return target of 8-9 per cent per annum once the portfolio is fully deployed and levered.

Unlike its peers, the Funding Circle SME Income fund has no management or performance fees at the listed fund level and instead charges on assets at the platform level. It also only holds loans originated by Funding Circle.

According to AltFi Data, the trust has underperformed the broader UK marketplace lending space, in terms of its Net Asset Value (NAV), as measured by the LARI, since inception although the gap has been closing in recent months.  

Source: AltFi Data

The Liberum AltFi Returns Index (LARI) measures the returns generated from p2p and marketplace lending in the UK.  Index values are time-weighted and published as aggregate annualised returns. As such the series expresses what an equal time-weighted exposure to every loan made by the eligible UK platforms would have returned over the preceding 12 month period. 

The Index is updated on a monthly basis. Index calculations are based on aggregated data from the four largest UK platforms by origination volume: Zopa, Funding Circle, Ratesetter and MarketInvoice. Together these four platforms represent over 70 per cent of the market in the UK and 60 per cent in the whole of Europe.

Lovett-Turner says the fund’s portfolio of loans is continuing to deliver on its return target but the next few months will be crucial to see if this continues, given that a number of peers experienced issues after monthly defaults increased after around 12 months from deployment.

“This reflects the typical life cycle of defaults in a portfolio of loans which experiences few delinquency issues in the early months, as borrowers have sufficient cash from the loan proceeds. As a result, investors earn close to the headline coupon,” he said.

“However, as the portfolio becomes more seasoned, the level of impairment increases, depressing the monthly return. Thereafter, the defaults stabilise at average levels and have less of an impact because amortisation has reduced outstanding loan balances.”