IFPT goes to market with second fund
Investments in emerging market project finance loans

Barry Critchley
Financial Post

Friday, March 05, 2004

Montreal-based International Finance Participation Trust (IFPT) made history more than two years ago: It became the world's first entity formed to invest in emerging market project-finance loans made by a group of international financial institutions.

The innovation met with a positive response: the trust rounded up US$360-million from Canadian pension funds that were attracted by the opportunity to invest in a new asset class that would produce returns of around London inter-bank offer rate (LIBOR) plus 2% to 3% and have little correlation with other assets.

The US$360-million that was raised has either been invested -- so far the trust has made 33 investments in 20 countries in 24 different sectors -- or has been approved for investment.

"We are very happy with what we have achieved so far and will be ready to take on more capital shortly," said David Creighton, chief executive at IFPT Management, the entity that manages the trust. Creighton was the first staffer to join the manager, which is the brainchild of Carl Otto, a veteran money manager whose other innovations include developing Canada's first index fund.

Accordingly, the trust, which invests in senior debt originated by seven international financial institutions on a preferred creditor status basis, is in the process of rounding up investors for its second fund.

This time, the goal is to raise at least the amount that was garnered last time, to broaden the range of Canadian pension funds that might be interested in investing and to seek investors from Europe and the United States.
Unlike the first fund, the trust, which is home to 14 staffers, can point to its track record. Since inception, the fund has generated gross returns of LIBOR plus 3.83%. "The returns have been very steady. We have had no defaults or writeoffs from our investments, which are basically socially responsible infrastructure projects in the developing world," said Creighton.

Part of that track record is the high level of diversification the trust has been able to achieve, a consequence of the strict sector and country limits under which the fund operates. No country can receive more than 15% of the assets while each project is limited to 5% of the assets.

"We are well invested in Brazil and Russia. We are also in some other places that are off the beaten path," said Creighton, adding the fund has just invested in an office building in Azerbaijan "where we will get a return of LIBOR plus 600 basis points."

The second time round, the trust can also appeal to investors who have set aside an absolute return basket as part of the portfolio. "This fits perfectly well into that because LIBOR over time tends to be above U.S. rate of inflation. It fits into the same category as real return bonds but adds some incremental return." said Otto.
Adds Creighton: "In the past pension funds had some difficulty in deciding where to allocate the investment. We are now seeing more funds with allocations to absolute and real returns."

For its second fund, IFPT is planning some changes. For instance, it won't confine its investments to U.S.-dollar-denominated loans. Instead it will invest in euro-denominated loans because of the development opportunities in Eastern Europe.

IFPT has also purchased loans in the secondary market. Such purchases allows the fund to make investments that would otherwise be off limits largely because of the term of the loan.

IFPT was set up in the summer of 1999 even before changes to the country's Income Tax Act. Those changes, which came the next summer, allowed the formation of specified international finance trusts (SIFTs.)
SIFTs weren't subject to the 30% foreign limit that applies to pension funds provided that they invested 90% of its assets in debt issued to international financial institutions -- including the World Bank, Asian Development Bank and the European Bank for Reconstruction and Development.

SIFTs are in a special category for another reason: they enjoy preferred creditor status. That means the investment made by the trust rank pari passu with the loans from the international financial institutions. "Preferred creditor status is a political expression that guides conduct [a preferential treatment] rather than a legal status embodied in law," said Creighton.

The effect of preferred creditor status is a country gives priority to servicing the loans of the international financial institutions above and beyond its other foreign currency obligations. That priority also encourages the international financial institutions to make new loans. The result is there has been minimal writeoffs from such loans.

If Otto and Creighton have one regret, it is the trust hasn't been able to help Canadian businesses as much as they would like.

This is because of the lack of interest by Canadian exporters and companies in dealing with the world's development banks. Otto said while Canada owns about 3% of the International Finance Corp. (IFC), an affiliate of the World Bank, the IFC has two loans from Canadian exporters.

"If we come to the IFC with a request from Canadian exporters or developers, those institutions will listen and go out of their way to help Canadian exporters. It won't happen automatically but also requires some education of the Canadian exporters," he said.

© National Post 2004