Monthly Listed Investment Trust Report – Oct 2024

This story features KKR CREDIT INCOME FUND, and other companies. For more info SHARE ANALYSIS: KKC

Download related file: IIR-Monthly-LMI-Update_-3-October-2024

A Listed Investment Company (LIC) is a listed investment vehicle that offers investors access to a diversified portfolio of shares in other companies also listed on the stock market.

Note: For comprehensive comparative data tables for LICs and ETFs please see attached.

KKR Credit Income Fund ((KKC))
During the month, we completed a review of KKC. KKC seeks to offer investors exposure to a fixed income investment offering a regular monthly income stream and long-term capital appreciation over a full market cycle through an investment in two credit investment strategies: (1) the Global Credit Opportunities strategy (“GCO strategy”); and (2) the European Direct Lending (EDL) strategy.

The Fund initially had a long term target of 50% to the GCO strategy and 50% to the EDL strategy, which the Fund met after becoming fully invested in the EDL strategy. However, moving forward the allocation is likely to be closer to 60% GCO strategy and 40% EDL strategy.

KKC has a total return target of 6%-8%p.a. on average over the medium term.

The target distribution is set prior to the commencement of the financial year and will reflect the forecast cashflow for the Fund over the financial year period. The Fund has announced a target distribution of 20 cents per unit for FY25, which is equivalent to 1.67 cents per unit per month and represented a yield of 8.5% based on the NAV as at 30 June 2024.

Distributions were initially paid quarterly with the distribution frequency increased to monthly from July 2021. The Manager is paid a fee of 0.88% p.a. (plus GST) of the NAV of the Fund and is eligible for a performance fee of 5.125% of the net return above the hurdle rate (RBA Cash Rate + 4.0%), subject to a High Water Mark. Fees are only charged at the Fund level with no fees charged in respect of the direct investment in KKR funds.

An investment in KKC is suitable for investors seeking to generate an enhanced income through a portfolio offering a different exposure and risk profile to other fixed income LITs on the ASX.

Given the nature of the underlying investments, we view the Fund to be at the high-end of the risk spectrum for fixed income with exposure to predominantly sub-investment grade securities.

While the Fund listed in November 2019, the Manager has a long history and substantial experience in credit markets across the fixed income spectrum. The exposure of the Fund has changed over time as the capital was called for the EDL strategy. The addition of the EDL strategy to the portfolio was designed to lower the volatility associated with the overall portfolio and diversifies the portfolio from both a geographic and asset perspective.

The GCO strategy is a traded credit strategy which means the portfolio will experience volatility in line with daily mark-to-market valuations. The distinction between traded credit and private credit
(direct lending) is an important one and one that investors should ensure they understand.

IIR maintained its Recommended Plus rating for KKC. KKC provides investors exposure to one of the preeminent asset managers in credit markets globally, particularly when it comes to sub-investment securities.

While the vehicle has had its challenges, the underlying investment strategies have delivered as expected. The buy-back program provided liquidity for investors seeking to exit, however we view the cessation of the buy-back program and the distribution of the capital being used for that program now being distributed to investors to be a positive, with unitholders now receiving a more attractive yield for the risk being taken.

This has been reflected in the discount, with the discount narrowing substantially since the reallocation of income and capital returns to investors. There is an increasing amount of uncertainty in global markets.

It is during these markets that we expect the Manager to outperform the broader market due the Manager’s diligent research and credit selection processes and active management of the portfolio.

BKI Investment Company Limited ((BKI))
BKI is a listed investment company (LIC) with a track record of over 20 years. Since listing, the Company has grown from a market capitalisation of $171 million to $1.4 billion as at 31 August 2024. As the Company has grown so has liquidity, which has been a key component to the narrowing of the discount over time.

The portfolio is managed by Contact Asset Management (the “Manager”) who were appointed as the Manager of the portfolio in 2016. The Manager is 100% employee owned with the founders,
Tom Millner and Will Culbert, involved in the investment team of BKI prior to taking over the management of the portfolio. The Company seeks to deliver an increasing fully franked income stream and capital growth over the long term.

The Company seeks to achieve this through a long only portfolio of quality ASX-listed securities with a focus on companies paying regular and sustainable dividends. The Manager has a research
driven, bottom-up, fundamental investment approach with the portfolio typically having 40-50 positions. The portfolio is concentrated to the top 20 positions, which generate the majority of the portfolio’s income.

While the Company can invest in companies of all sizes, the portfolio is typically concentrated to large cap (ASX 50) stocks. This reflects the concentration of the domestic market to large cap stocks with the Manager needing to take sizable positions in large cap stocks to show a level of conviction.

While there are limited formal limitations with regards to portfolio diversification the Company seeks to provide exposure to a portfolio that is diversified by both company and sector. The Manager is aware of the benchmark with regards to position sizing, however the portfolio is managed in a benchmark unaware manner with no individual stock or sector limitations. The Manager has a long-term investment horizon, which is reflected by a low level of annual portfolio turnover, and will remain largely invested at all times with a 10% limit on cash holdings.

The fee structure is competitive with the Company paying a management fee of 0.10% p.a and no performance fee.

An investment in BKI is suitable for those investors seeking exposure to a portfolio of quality ASX-listed companies and a fully franked income stream. The Company seeks to deliver a growing income stream to investors and long-term capital growth, with the Company distributing 90%-95% of its net profit after tax to shareholders. The Company will endeavour to outperform the S&P/ASX 300 Accumulation Index over the long-term, however there is no specific mandate to do so.

Given the investment style of the Manager, an investment in the Company is suited to those investors with a long-term investment horizon and is not suited for those seeking to generate alpha over the market. BKI could form part of an investors core exposure to quality and earnings generating companies. The portfolio is managed in a tax aware manner and therefore is suitable for those investors seeking to maximise the tax benefits with the long-term investment horizon and low turnover of the portfolio reducing transaction costs incurred by the Company.

IIR maintained its Recommended Plus rating for BKI. The Company now has a track of over 20 years over which time it has largely delivered on its objective of delivering a growing fully franked income stream and capital growth over the long-term. There have been a number of positives over the years, including the increase in the size of the Company and shareholder base which has increased liquidity, narrowed the discount and reduced the MER.

In January 2022, the Company also improved corporate governance with the appointment of a third independent director with the Board now majority independent. We view this as important given
the conflicts of interest that exist with some of the investments in the portfolio. In addition to conflicts management policies, offsetting the conflicts to some extent is the strong alignment of interest with members of the investment team and Board (including the Chair) having a significant interest in BKI.

The portfolio has underperformed the broader market and its peers over the long-term, however has offered capital preservation in down markets and the focus on dividend paying companies has seen the Company provide an above market dividend yield for most of its history.

Independent Investment Research, “IIR”, is an independent investment research house based in Australia and the United States. IIR specialises in the analysis of high quality commissioned research for Brokers, Family Offices and Fund Managers. IIR distributes its research in Asia, United States and the Americas. IIR does not participate in any corporate or capital raising activity and therefore it does not have any inherent bias that may result from research that is linked to any corporate/ capital raising activity.

IIR was established in 2004 under Aegis Equities Research Group of companies to provide investment research to a select group of retail and wholesale clients. Since March 2010, IIR (the Aegis Equities business was sold to Morningstar) has operated independently from Aegis by former Aegis senior executives/shareholders to provide clients with unparalleled research that covers listed and unlisted managed investments, listed companies, structured products, and IPOs. IIR takes great pride in the quality and independence of our analysis, underpinned by high caliber staff and a transparent, proven and rigorous research methodology.

INDEPENDENCE OF RESEARCH ANALYSTS

Research analysts are not directly supervised by personnel from other areas of the Firm whose interests or functions may conflict with those of the research analysts. The evaluation and appraisal of research analysts for purposes of career advancement, remuneration and promotion is structured so that non-research personnel do not exert inappropriate influence over analysts.

Supervision and reporting lines: Analysts who publish research reports are supervised by, and report to, Research Management. Research analysts do not report to, and are not supervised by, any sales personnel nor do they have dealings with Sales personnel

Evaluation and remuneration: The remuneration of research analysts is determined on the basis of a number of factors, including quality, accuracy and value of research, productivity, experience, individual reputation, and evaluations by investor clients.

INDEPENDENCE ACTIVITIES OF ANALYSTS

IIR restricts research analysts from performing roles that could prejudice, or appear to prejudice, the independence of their research.

Pitches: Research analysts are not permitted to participate in sales pitches for corporate mandates on behalf of a Broker and are not permitted to prepare or review materials for those pitches. Pitch materials by investor clients may not contain the promise of research coverage by IIR.

No promotion of issuers’ transactions: Research analysts may not be involved in promotional or marketing activities of an issuer of a relevant investment that would reasonably be construed as representing the issuer. For this reason, analysts are not permitted to attend “road show” presentations by issuers that are corporate clients of the Firm relating to offerings of securities or any other investment banking transaction from that our clients may undertake from time to time. Analysts may, however, observe road shows remotely, without asking questions, by video link or telephone in order to help ensure that they have access to the same information as their investor clients.

Widely-attended conferences: Analysts are permitted to attend and speak at widely-attended conferences at which our firm has been invited to present our views. These widely-attended conferences may include investor presentations by corporate clients of the Firm.

Other permitted activities: Analysts may be consulted by Firm sales personnel on matters such as market and industry trends, conditions and developments and the structuring, pricing and expected market reception of securities offerings or other market operations. Analysts may also carry out preliminary due diligence and vetting of issuers that may be prospective research clients of ours.

INDUCEMENTS AND INAPPROPRIATE INFLUENCES

IIR prohibits research analysts from soliciting or receiving any inducement in respect of their publication of research and restricts certain communications between research analysts and personnel from other business areas within the Firm including management, which might be perceived to result in inappropriate influence on analysts’ views.

Remuneration and other benefits: IIR procedures prohibit analysts from accepting any remuneration or other benefit from an issuer or any other party in respect of the publication of research and from offering or accepting any inducement (including the selective disclosure by an issuer of material information not generally available) for the publication of favourable research. These restrictions do not preclude the acceptance of reasonable hospitality in accordance with the Firm’s general policies on entertainment, gifts and corporate hospitality.

DISCLAIMER

This publication has been prepared by Independent Investment Research (Aust) Pty Limited trading as Independent Investment Research (“IIR”) (ABN 11 152 172 079), an corporate authorised representative of Australian Financial Services Licensee (AFSL no. 410381. IIR has been commissioned to prepare this independent research report (the “Report”) and will receive fees for its preparation. Each company specified in the Report (the “Participants”) has provided IIR with information about its current activities. While the information contained in this publication has been prepared with all reasonable care from sources that IIR believes are reliable, no responsibility or liability is accepted by IIR for any errors, omissions or misstatements however caused. In the event that updated or additional information is issued by the “Participants”, subsequent to this publication, IIR is under no obligation to provide further research unless commissioned to do so. Any opinions, forecasts or recommendations reflects the judgment and assumptions of IIR as at the date of publication and may change without notice. IIR and each Participant in the Report, their officers, agents and employees exclude all liability whatsoever, in negligence or otherwise, for any loss or damage relating to this document to the full extent permitted by law. This publication is not and should not be construed as, an offer to sell or the solicitation of an offer to purchase or subscribe for any investment. Any opinion contained in the Report is unsolicited general information only. Neither IIR nor the Participants are aware that any recipient intends to rely on this Report or of the manner in which a recipient intends to use it. In preparing our information, it is not possible to take into consideration the investment objectives, financial situation or particular needs of any individual recipient. Investors should obtain individual financial advice from their investment advisor to determine whether opinions or recommendations (if any) contained in this publication are appropriate to their investment objectives, financial situation or particular needs before acting on such opinions or recommendations. This report is intended for the residents of Australia. It is not intended for any person(s) who is resident of any other country. This document does not constitute an offer of services in jurisdictions where IIR or its affiliates do not have the necessary licenses. IIR and/or the Participant, their officers, employees or its related bodies corporate may, from time to time hold positions in any securities included in this Report and may buy or sell such securities or engage in other transactions involving such securities. IIR and the Participant, their directors and associates declare that from time to time they may hold interests in and/or earn brokerage, fees or other benefits from the securities mentioned in this publication.

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