August 31, 2018 / 6:28 PM / in 3 months

Attractive US leveraged loans to hold investors’ attention this fall

NEW YORK, Aug 31 (LPC) - The US leveraged loan market is expected to take the lion’s share of the jumbo debt financings that are lining up for a post Labor Day launch, as investors continue to favor higher-yielding loans over junk bonds.

The US$13.5bn loan and bond financing backing Blackstone’s acquisition of Thomson Reuters’ F&R division and €7.3bn loan and bond financing backing Carlyle Group and Singapore’s GIC’s acquisition of Akzo Nobel’s specialty chemicals business which are poised to launch in early September are already loan heavy.

The F&R buyout has an US$8bn term loan and US$5.5bn bond and the Akzo buyout has a €5bn loan and around €1.5bn of high-yield bonds, but the loan components could be further increased if demand remains strong, as loans also offer a hedge against rising interest rates.

A US$8.05bn debt financing backing KKR’s acquisition of Envision Healthcare consisting of a US$5.05bn term loan B and US$2.15bn of high-yield bonds is also on the blocks, along with a US$4.975bn loan backing Apollo’s buyout of US hospital group LifePoint Health.

Bankers are also working on a potential US$10bn financing to back the possible buyout of Johnson Controls International’s power solutions business.

Loans are in vogue as yields of 6.78% currently exceed 6.47% on high-yield bonds, according to Credit Suisse data, as investors are benefitting from rising interest and Libor rates. Bond yields of 6.06% exceeded 6.00% on loans only a year ago.

Floating rate loans are in the ascendancy once again as they pay lenders a margin over Libor which increases along with interest rates and the Federal Reserve is readying two further rate rises in October and December. A rise in the three-month Libor rate to 2.32% from 1.00% in early 2017 is also adding to loans’ appeal.

Leveraged loans posted a return of 3.07% versus 1.63% for high-yield bonds through August 10, according to LPC data.

The large deals need wide support from the market. Collateralized Loan Obligation (CLO) funds and other institutional investors are still highly liquid and able to soak up the short-term rise in supply, more than offsetting reduced retail demand as spreads compressed and Libor climbed.

“Between institutions and CLOs,I don’t think the asset class in aggregate has ever had a stronger investor base,” said John G. Popp, global head and chief investment officer of the credit investments group at Credit Suisse Asset Management.

Leveraged loan volume this year hit US$810.6bn through July, only 3% below a record US$835.2bn in the same period of 2017. This is five times higher than high yield bond volume through July of just US$116bn, which is 28.1% lower than US$161.4bn at the same point last year.

This has pushed outstanding leveraged loans to US$1.3trn, topping the outstanding high-yield bond market of US$1.2trn, according to Fitch Ratings.

LOOMING LOANS

The jumbo deals will see loans continue to outpace high-yield bonds in the second half of the year as their flexibility and ability to repay without penalty makes them private equity firm’s funding tool of choice.

Demand for loans will allow issuers to be flexible with their capital structures and may tempt them to move additional exposure to the loan side, investors said, although private equity firms have to balance the benefits of early repayment against the risk of rising interest rates driving borrowing costs higher.

“I think to the extent that they can, they would like to increase the loan size,” said Michael Nechamkin, co-chief investment officer and senior portfolio manager at Octagon Credit Investors. “They like the flexibility of loans.”

In the summer months, many private equity firms opted for loan-only deals to finance M&A activity, including KKR’s buyout of fitness center Bay Club in August, which was backed by US$765m of loans.

Advisor Group increased a term loan backing the acquisition of Signator Investors and a dividend recapitalization to US$650m from US$600m in August in another loan-only deal. The borrower firmed pricing at 375bp over Libor on the upsized deal after initially circulating pricing in the 375bp-400bp over Libor range. Advisor Group is backed by sponsors Lightyear Capital and PSP Investments.

SI Group also opted to line up a US$1.425bn first-lien term loan and a US$250m second-lien term loan in early August to back its buyout instead of tapping the bond market.

At the end of the day, investors know that the argument between loans and bonds comes down to relative value, which can switch quickly based on market conditions.

“We are dating, not marrying, US loans as we expect (leveraged loan) spreads to be more tactically resilient than (high-yield) spreads for the rest of ‘18,” wrote UBS analysts in a report last week.

Blackstone’s acquisition of the F&R division, which has been rebranded Refinitiv and includes IFR and LPC, is scheduled to close on October 1.

Reporting by Jonathan Schwarzberga and Yun Li Editing by Tessa Walsh and Michelle Sierra

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