XAI Octagon Floating Rate & Alternative Income Trust ($XFLT)

Good morning. Welcome to the XFLT webinar update. Thank you so much for joining us today. We thought it would be helpful to host a call outside of our normally scheduled quarterly call cadence in order to provide you with some updates. We have a number of topics to address. But before we do, I do have a few housekeeping items we need to cover. Let me first begin with some introductions. I'm Kevin Davis with XA Investments. I head up sales and distribution for the firm. I'm happy to be joined today by Lauren Law from Octagon Credit, who is a Senior Portfolio Manager. She joined the firm in 2004 and oversees Octagon structured credit investment strategies. She'll be covering the current state of spreads within CLOs and the broader market -- the broader loan market as well. And she'll also touch on the impact that we've seen from the software disruption. We're also joined by my colleague, Kim Flynn, who is the President of XA Investments. Kim will be walking us through new developments in the space, the recent reverse stock split announcement and the historical premium discount that we've seen over time with the fund. Before we get into the presentation, we do have a few important disclosures that we want to address. We will be talking about performance throughout the presentation. Certainly, past performance does not guarantee future results and current performance may be higher or lower than the performance data quoted. We will also be discussing market outlook, and the materials do contain forward-looking statements. Investors should not place undue reliance on forward-looking statements. We encourage you to review all of the general disclosures of the presentation. And then 1 last housekeeping item, please note the Q&A box at the bottom of the screen. If you have any questions, please type them into the box, and we will do our best to address them in real time. If you don't get your question answered, please feel free to contact me directly and we will get those answers for you. Lastly, please check out our website, xainvestments.com to find information on the fund on our firm and some general education materials about the asset class and some of the things that we're working on in-house. So let's get started here. Most of you are likely already familiar with the subadviser on the fund, Octagon Credit. So you know their history, their expertise, a successful long-term track record that they've had in this space. It is newer to the firm, they are an industry leader in both CLO issuance and CLO fund management. The firm was founded in 1994 and has over $33 billion of AUM as of the end of 12/31. And XFLT was launched in 2017. It was Octagon's first strategy to be publicly available in a registered fund format. I'll also give you a brief background on XA Investments, we're a Chicago-based boutique alternative asset manager. We have $763 million in AUM as of 3/31. We have a suite of proprietary registered funds focused on alternative income. For each of these funds, XA acts as the adviser, and we work with best-in-class sub-advisers such as Octagon Credit. We have 2 listed closed-end funds as well as an interval fund, which is also sub-advised by Octagon and that's currently focused primarily on CLO debt. Lastly, in addition to our proprietary suite of funds, we have a robust consulting and research practice that's focused on the closed-end fund space, interval and tender offer funds. We help outside firms build products, bring them to market and publish research to support those efforts. We also make our research available on a subscription basis for interested parties that might be looking to learn a bit more about the space. Okay. So let's get to it. We have some prepared questions and topics for the speakers, which we're going to address throughout the presentation. And just a quick reminder, if you do have questions for the speakers, please type them into the Q&A box at the bottom of the screen. With that, let me turn to you, Kim. We've seen increased secondary market activity in loan and CLO books as closed-end funds and listed BDCs. Could you provide an overview for us for some of the notable recent developments that have impacted XFLT.

Sure. Kevin. Yes, happy to do so. In terms of recent developments, we've outlined a number of -- these are news headlines that you've been, I'm sure, staying current with the loan market and the CLO market has impacted -- been impacted in a similar way by headlines associated with AI and software sectors of the market. Lauren is going to cover that in greater detail in terms of the XFLT's limited exposure to that segment of the technology market. But we want to talk about XFLT in the context of its peers, specifically other listed closed-end funds that have CLO debt or CLO equity exposure. And then we're also going to just talk about the listed BDCs, which if you go back to September 2025 when XFLT started to trade at a larger discount to NAV much of the secondary market volatility began at that point with the tricolor and first brands news, and there were concerns by investors that there was some sort of systemic problem in the credit markets. As some time has passed, we now know that the Tricolor and first brands bankruptcies, there have been allegations of fraud and litigation associated with that. And so I think that it has [ royaled ] both the equity and the credit markets. And more recently, in February when the AI news was quite impactful. This has been very much a strong negative impact to XFLT in terms of its secondary market trading. So in response, the management team and the Board had been considering a number of measures to improve the overall in terms of how we think about the secondary market, overall health and wellness. We were concerned about the trading price of XFLT being below $5 a share. And in certain distribution platforms, funds that have stock prices below $5 a share are restricted. So we didn't want XFLT to be hindered at all in terms of the secondary marketplace, and we started thinking about what was necessary with a reverse split, which was completed March 20. And then more recently, we've talked with shareholders in the past about our distribution philosophy and the Board being focused on returning earned income to shareholders. We want to avoid returns of capital, and we did make an announcement April 1 for the May 1 payment of a distribution change amounting to a 25% reduction in the distribution amount. And we completed the 2025 year without returns of capital and into 2026. We have, through the end of the year, those determinations on return of capital or an annual tax determination. And so we wanted to make this change in April, we didn't want to wait or delay because we understand that XFLT is not alone in terms of other CLO focused funds needing to better align their earnings -- current earnings with their distribution rates. So maybe we'll move to the next slide and Kevin, we can talk a little bit more about the specifics of the reverse split.

Yes. I was going to address both of those last 2 points. Let's start with the reverse stock split. So can you walk us through the rationale for the transaction? And then how has the market responded?

So I'll start with the response. The -- actually, the reverse split coincided with an uplift in the loan market. So it's hard to separate the impact from the improvement in terms of the trading of the loan market. But it did respond favorably in terms of -- we didn't have too many questions, so I think that the communications plan was able to help shareholders understand the change. The reverse split was announced on March 6. It was completed March 20. It was a 1 for 5 reverse split and the XFLT began trading on the 23rd of March at the adjusted price in NAV. And you'll note that the distribution amounts have also been adjusted for the reverse split. So -- yes, so I think the response was either fairly neutral or slightly positive, but I think Octagon felt like that was largely due to the improvement in the loan market trading. And we have seen a continued shrinkage in the discount XFLT had been trading at a fairly large discount to NAV. But with Kevin with some of the recent buying activity, it has reduced the discount to about 22%. It's still fairly wide relative to XFLT's historical trading, which has been closer to par or slightly at a slight premium. But the category of CLO focused listed closed-end funds is also trading continues to remain discounted just because there are concerns about CLO equity earnings power and potential that remains a question for XFLT and for its peers.

Thank you for that. So let's get to your second point around distribution changes. And you'd mentioned on the previous slide that XFLT and its peers have cut distributions. Could you speak to how distributions are managed for XFLT and then how has XFLT trading since that distribution cut?

Yes. So I mean we've always used an income-based distribution philosophy in terms of managing and setting distributions. In the funds [indiscernible] passed, there have been a couple of calendar years where there were returns of capital, and we obviously disclose that to shareholders. In 2025, there was not a return of capital I think we're thoughtful about managing the distributions. We do have a distribution we like to have consistent regular monthly distributions. We're not 1 of the fund companies that is going to change the distribution amount every month. There are a few sponsors that do that. But I think, Kevin, 1 of the important points as you're looking at the distribution, the magnitude of the changes in distribution, XFLT among its peer group here, it's the only listed closed-end fund with a daily NAV. And so XFLT is going to respond in terms of the funds price and NAV more quickly, our peers, which tend to be focused on CLO equity. Most of them are quarterly NAV with monthly estimates. So that can impact some of how the secondary market price responds to those delayed NAVs. But in terms of our distribution change, the amount or the percentage of that distribution change since December 31, 2024, has been a reduction almost in half of the funds distributions. We leading into the end of 2024, if you recall, we had seen a rising rate environment and XFLT benefited from those increased rates and that was passed along to shareholders and a higher distribution. And so as the fund in 2025, we saw Fed rate cuts, which brought down earnings potential that was driven by rates, and then we've seen spread compression in the CLO equity market, which has further hurt earnings and resulted in the distributions. The changes that you see illustrated here for XFLT and for the peer funds.

So let me bring Lauren into the conversation speaking of spreads. So Lauren, we find ourselves in an unusual situation. Spreads in the loan market remain tight and increase to fall activity has led to credit losses. Could you discuss what you're seeing in the loan and the CLO market, particularly when it comes to CLO equity?

Sure. Yes. No, absolutely. And if you look back, CLO equity has gone through a particularly challenging stretch from a performance standpoint. And we've discussed the headwinds that CLO equity has faced probably across many webinars at this point, but it is worth emphasizing just how unusual recent history has been for the asset class. And so on Slide 12, this car kind of helps illustrate why. Historically, across different market environments and most notably during the global financial crisis, we see a pretty clear pattern. As credit losses rise, broadly syndicated loans spreads widen. In those environments, volatility is typically broad-based this gives skilled collateral managers meaningful opportunities to add value to CLO portfolios. They can rotate their portfolios, trade out of weaker positions and offset some or even all credit losses. And then loan prepayments, which continue even in periods of stress can be reinvested at higher spreads, and this is all beneficial for CLO equity longer term. The past 2 years, however, have been quite atypical. During this period, elevated defaults and default like activity often referred to as [indiscernible] drove persistent credit losses across the market. And this led to a 2-tiered market between performing and nonperforming loans [indiscernible] with concern and everything else and the market quickly and efficiently priced risk names. Compounding this challenge, strong demand for broadly syndicated leverage loans, combined with subdued M&A activity and limited new loan supply drove an aggressive repricing wave across the performing segment of the loan market. Loan spread compression, pressured CLO and equity cash flows. CLO equity holders did benefit from refinancing CLO tranche liabilities. However, this activity generally occurred at a slower pace than loan repricings. And as a result, refinancing liability costs mitigated but did not fully offset the headwind created by declining asset spreads. Taken together, these 2 forces credit losses, reducing deal NAVs and loan repricing is reducing cash flows, put sustained pressure on CLO equity valuations. The trust was very active in face of these headwinds. We focused our CLO investments on the highest quality collateral managers with the strongest underlying loan portfolios. And additionally, we place significant value on reinvestment period length and we actively manage our portfolio to extend weighted average reinvestment periods and refinance liability costs where possible. When the loan market eventually experiences broad-based volatility and at some point, it will, we want our collateral managers positioned to act with as few constraints as possible. That means being able to buy discounted assets, rebuild par, reinvest prepayment proceeds at wider spreads and so on and so forth. Over time, those dynamics are what help create long-term value for CLO equity investors and that remains the strategy underlying our CLO equity exposure today. And we can maybe talk about software and the volatility we've seen in the beginning of 2026 next to kind of expand upon this point.

Thank you for that. So a quick reminder for the audience. If there are any questions, please type them into the chat box at the bottom. Loren, I want to stick with you and address I mean, it's been on a lot of investors' minds lately disruption in software with AI. There is a perception there that with this AI disruption, it's increasing the risk profile of software loans, what are you observing in the loan market? And then how is XFLT exposed to the software sector?

Yes, of course. My prior response just was pretty backward looking, headwinds that faced the product in '24, '25 and really very early on in '26. But the backdrop has shifted and meaningfully so as we move further into this year. And that's both in the broadly syndicated leveraged loan market and across risk markets more broadly. The dominant theme this year has definitely been the rollout of AI technology and the second order effects from that. This is particularly acute within the software sector. Software companies have come under significant pressure. Equity valuations for a lot of these businesses are down by roughly 1/3 driven by slowing growth rates lower terminal value assumptions as improvements in large language models have challenged long-standing Software-as-a-Service business models. And while we actually continue from a fundamental perspective, expect software spending to grow faster than GDP in 2026, the dispersion within the sector has increased materially. There will be winners, there will be losers. And the market is really reflecting that uncertainty through elevated volatility and repricing. In the leveraged loan market, software and services represents about 15% of the total index. And the trust exposure to the sector comes in 2 ways. First, through our direct loan holdings. Importantly, we entered this period moderately underweight the software sector, and our direct holdings have maintained above average quality in the software space as evidenced by higher prices. That said, we continue to actively manage these positions on a name-by-name basis as conditions evolve. Second, the trust has indirect exposure to the sector through its CLO debt and equity holdings. And while sector allocations vary by manager, we are closely monitoring how our collateral managers are managing and optimizing software exposure in real time. On average, our CLO investments or CLO debt and equity holdings have less software exposure than the index and much less than BDCs as software represents a far larger portion of the private corporate credit market than the broadly syndicated leveraged loan market. Notably, weakness and volatility in software and certain adjacent sectors has begun to influence broader loan market dynamics and while we would not characterize the current situation as broad-based volatility, it has effectively halted the aggressive repricing activity we were experiencing through January of this year. That's the activity that had weighed on CLO equity cash flows. That pause alone has been somewhat constructive for CLO equity. In addition, new issue loan supply has increasingly needed to come to market with more attractive pricing and stronger terms in order to clear, representing a welcome shift after a prolonged period of spread compression. Stable spreads in the secondary loan market, combined with more attractively priced new issue is constructive for CLO equity cash flows. And while loan market volatility may be challenging in the near term, it also creates opportunities for CLO collateral managers to actively rotate their portfolios. We would expect CLOs that remain within the reinvestment periods to take advantage of these conditions, reallocating capital, improving portfolio quality and ultimately creating long-term value for CLO equity holders.

Thank you for that color, Lauren. I've got one other topic to bring up with Kim. Just a quick reminder, if there are questions, please type them into the chat box at the bottom. Kim, let's shift to the premium discount history of the trust. And can you talk through how has XFLT's price responded to some of these recent changes we've discussed and how is XFLT's shareholder base changed in recent months?

Sure. So while the fund historically did trade at a premium for the last year plus, XFLT has traded at a discount. And increasingly, with the concerns about credit, private credit, BDCs that discount widened out significantly in the fourth quarter and remains fairly wide today as of April 14. So the current discount here shown as of 3/31, I believe, was [ 22.96 ]%. We were pleased that the fund responded well to the reverse split and responded to the distribution news coming off of the funds all-time widest discount as of March 9, at a negative 30.77% discount. And that coincided with many of the peer group funds also trading at wider than 30% discounts. We only -- in the history of XFLT, we did see the fund hit a 30% discount, March 18 in 2020 with the federal government intervention in terms of COVID, the fund responded, obviously, very quickly and recovered from those large discounts in 2020 and the discounts tightened up pretty quickly. The current market discount, we're -- we've had questions in terms of what XFLT is doing to improve NAV performance and questions regarding what are we doing to improve price performance. And we appreciate all those questions. We've had dialogue with a lot of institutional investors who have come into XFLT in the last quarter. Maybe, Luke, if you could share the next slide, so I can address the current -- oh, actually, let me cover this, and then I'll cover the institutional share base. So thanks for sharing that. Yes. So this slide is just -- it's a little noisy, obviously, very colorful but we wanted to show where XFLT compares in terms of premium discount. It's not a good group to be in because all of these funds are heavily discounted where they historically have all traded the category has traded at a premium. So obviously, this is reflective of retail investors, individual investors stepping away from CLO debt, CLO equity-focused funds. This category you have the 2 leaders, Eagle Point in Oxford Lane. Eagle Point has ECC and EIC, Oxford Lane is the OXLC. Those funds have a long history. They're the 2 oldest funds in the market with longer than 10-year track records. And many of the funds, including ECC and OXLC are primarily 80% plus focused on CLO equity. And I think one of the things that the XFLT, as I noted, is a daily NAV fund. And the competitor funds because of their lagged NAVs that when there's volatility in the market, FLT will go to a larger discount more quickly. We understand the consequence of being transparent with the daily NAV. The competitor funds given their portfolio mix being focused on CLO equity, quarterly NAV is appropriate. That's what their management team has determined, but it just results in those funds catching up sometimes a month later, sometimes upwards of a quarter later. So it's just helpful when you look at these competitor funds to appreciate that XFLT is the only one with a daily NAV and that means you're at least getting it straight in terms of where the price is relative to today's NAV. And you'll see it -- we've seen it on the way down. You'll see it on the way up in terms of XFLT, with its NAV responding. And so I think the benefit that the peer funds have with the quarterly NAV is that it smooths it smooths things out on the way down and it smooths things out on the way up in terms of NAV changes. But the secondary market trading dynamic is really important for investors to understand because XFLT has 50% of the portfolio in loans, and we only have about 40% in CLO equity. So it's important that the loan book be valued on a daily basis, and that's why we since inception have had that same approach. And it's just a factor in terms of how people evaluate secondary market trading. One of the things, Luke, that I was going to talk about with the group was with respect to the institutional shareholder base. And we have seen some changes in the last quarter and you still see John Spence #10, which is our co-CEO, Ted [indiscernible], which is #11, co-CEO. And they have and always have been since inception shareholders along with our fund board, along with myself, I've got my entire 401(k) invested in XFLT. And so it's -- but what's interesting this quarter is that we have some new institutional quality investors, firms that understand the CLO marketplace. You've got Sit with a 7% position, you have Eagle Point. Eagle Point is the manager for ECC and EIC. They are also invested in the fund at 2.74%. Morgan Stanley, CF Capital, [indiscernible], RiverNorth. RiverNorth is a new addition to the table here. River North has not been a shareholder in XFLT largely because the fund was trading at a premium for most of its history, but they saw this opportunity to come into the fund. So I think we're very comfortable with the investors in the fund and the composition, and we'll continue reporting to you to the extent that there's any meaningful changes in terms of the funds ownership. So Kevin, I know we have a number of questions that have come in for Lauren and maybe we can take a few of those now with the time we have remaining.

Sure. We've got a couple of minutes left here. Lauren, let me bring in. So 1 question that came in. Can you give us a little more color on the leveraged loan market, expected future defaults, pricing, et cetera?

Sure. I am happy to. So what I can say is during the month of March, we actually saw a pretty healthy rally in loan market performance. the loan market remains down about 55 basis points on a year-to-date basis but was up 54 basis points in March, and that strong performance has continued into April. There was an attractive calendar of new issue loan opportunities through much of March that we were actively participating in. And we'll continue to do that as we see loan opportunities in the primary market. In terms of default and default like activity, we would expect that to continue. As I mentioned in my prepared remarks, I would not describe volatility in the market as quite broad-based yet, but there are lots of opportunities to rotate exposures across sectors within certain sectors software, professional services, business services being just a few to name. So we feel okay about the loan market today. That being said, there is a lot of uncertainty out there. We continue to manage to it and be prudent with the credit that we're picking for both the XFLT portfolio and other strategies that we managed.

So I'll ask you a bit of a crystal ball question. There's several questions that have come in here, just really centered around a catalyst that might turn things around again, with the caveat and the understanding that you don't have a crystal ball, what are some of the drivers that might improve returns going forward, specifically in CLO equity?

Yes, there are a lot of potential drivers for performance improvement in CLO equity. Number 1 would be a continued increase in spreads in the market. Number 2 would be trading activity in the loan market, the ability to build par which has been something that has been a little bit challenging over the course of the last couple of years. an improvement in the new issue CLO equity are, that has been something that has been challenging that arb is driven. We spent a lot of time talking about the spread side of the equation, but a continued tightening of CLO liability costs would also help matters there. So we do think the conditions exist for CLO equity performance to improve. But again, we don't have a crystal ball. We don't know how quickly these things will occur. I feel a little bit better today than I did during the month of January when 70% of loans were trading over par and repricings were happening at an incredibly rapid pace. The fact that, that has lessened in its severity and has really ceased happening since volatility began in the beginning of February, is constructive. So we are managing the best we can in what has been a challenging market and taking the opportunities that the market is presenting us today to rotate existing exposure to refinance and reset our existing exposure where we can and make new investments that we think are going to be accretive longer term to the trust holders.

So I've got another question here for Kim. And it was a 2-part question. First, I think Lauren has covered it with some of the drivers that will affect recovery going forward. But Kim, to you, so given XFLT's lower -- let's see our -- Yes, I've got it sorry. Given XFLT's lower exposure to -- apologies, my screen keeps blanking.

I think I see the question, Kevin. It's just saying the question that someone typed in is given XFLT's lower exposure to CLO equity compared to peers like ECC and OXLC, please discuss the NAV drawdown. And what is that relative to those peers? And I think, Luke, we actually have a slide that we didn't cover. And I think this addresses the second part of the question. So thank you guys for that question, and I'll address it. So the drawdown in NAV is shown in the light blue, we've got it noted as a negative 32.42% drawdown in NAV. And I think the person asking the question the instinct was right that the NAV drawdown has been less severe because of XFLT's portfolio composition, which as a reminder, it's 50% loans, 10% CLO debt, 40% CLO equity, and that portfolio composition has remained fairly stable over time. And you do see that the NAV has come down less. The only fund EIC, that's Eagle Point, they have -- this was the second fund that they launched. It too has a mix of investments and more CLO debt it has benefited EIC to be in terms of their allocation to CLO debt. CLO debt has performed fairly well. Rates have come down, so yields have come down on CLO debt, but that's given EIC an advantage in terms of the NAV performance in Orange shown in this chart. But the other funds that have lower or -- sorry, more severe drawdowns in NAV, the colors clustered towards the bottom. Those funds are all a majority or primarily all of the exposure is in CLO equity, where we've seen significant reductions in NAV. So hopefully, that helps answer the question. And I think maybe just given the time, I think we probably have time for one more question. And Kevin, I'm happy to -- this one, I think, is for Lauren and -- Thanks, Dave, for the question. The question is, is there a correlation between the fund price and interest rates I'm going to let Lauren, the expert, answer that, but I would argue that, yes, there has been in terms of where we've seen because we saw a pretty big impact to the fund in terms of earnings as as rates came down, but the whole portfolio is floating rate. So Lauren, what are your thoughts on correlation?

Yes. No, I think you covered it. Actually, it's pretty simple. It is a floating rate fund. There are ways in which we offset the impact of movements in floating rates. But at the end of the day, we are still going to generate more income for investors as the floating rate, as base rates move higher and less income for investors as base rates move lower. That is simply the nature of being floating rate. So yes, the simple answer is yes.

Perfect. Well, we are out of time. Thank you both so much for your input and your commentary today. I'll remind everyone that this call will be available via replay on our website. And as I mentioned at the outset, there is a wealth of information on our site. It's in the Knowledge Bank section of our website. Please reach out if you have additional needs or questions, and we certainly appreciate your time today. Thank you.