CLOs, mutual funds fuel US leveraged loan market past $1tr

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CLOs, mutual funds fuel US leveraged loan market past $1tr

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More than $1tr of leveraged loans are now outstanding in the US market, according to the Loan Syndications and Trading Association. The market has doubled in size in just eight years, with lower rated loans swelling volumes as CLOs and retail funds chase yield in corporate credit.

The US leveraged loans market has doubled in outstanding volume in just eight years, according to a note from Bank of America Merrill Lynch analysts on Wednesday. The LSTA released figures on Monday that show the market now exceeds $1tr in outstanding volume — up from its $500bn figure in 2010. The high yield market, in contrast, has increased by $250bn during the same period, to about $1.1tr, according to BAML.

The BAML analysts said that increasing demand from institutional investors, in particular CLO managers and mutual funds, and growing supply from small first time issuers has driven this growth.

CLO managers have increased their share of the leveraged loan market from 43% in 2010 to 65%, the analysts wrote. The CLO market is on track to post record volumes this year — in the first quarter, the $33bn of paper sold was the busiest ever first quarter, and year to date volumes of $43bn are outstripping the volumes sold in 2014 (a post crisis peak year) by $8bn, according to researchers at Wells Fargo.

BAML also pointed to the growth of mutual funds, the next biggest buyer in the loans market, as helping to fuel the growth of the market. But CLO demand is arguably having a bigger influence on the characteristics of the loans market, they suggested.

Much of the increase in the amount of outstanding loans has been provided by B2 and B3 rated loans, BAML said, “to the detriment of BB3 and B1 loans”. CLOs have been “focusing especially on loans rated B2 and above. Mutual funds… on the other hand have increased their exposure across the rating spectrum.”

JP Morgan researchers pointed out on Wednesday that 63% of new issue loans have been rated single-B or lower in the year to date. Although this is below the 76.5% peak in 2013/2014, they said “at least from a ratings standpoint, this credit cycle looks a lot more extreme than even the 2005-2007 case.”

Fewer loans are being used for leveraged buyout activity compared with the 2007 peak, said the JP Morgan researchers. Acquisition activity accounted for 60% of loan activity in 2006 and 2007, over half of which can be attributed to LBOs, they said. In the year to date, however, just $29bn of loans have financed LBOs, out of gross loan volumes of $304bn (9.5%).

The average leverage multiples of large corporate loans has increased steadily from 3.7 times in 2008 to 5 times last year, although it was 4.9 times in 2007. However, the number of firms using adjustments to Ebitda figures in their leverage calculations reached an all time high in the first quarter of 2018, according to the LSTA. Across all deals, it has increased from less than 10% in 2009 to about 25%, the figures show.

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