Major Investors in Leveraged Loans Are Unloading Big Chunks
(Bloomberg) -- Besieged by investor withdrawals, mutual funds that invest in risky corporate loans have been unloading big chunks of loans in recent days. The selling is driving down prices to levels not seen in more than two years and forcing banks to keep some of the unwanted debt on their balance sheets.
Lord, Abbett & Co. and Eaton Vance Management are among the fund managers selling holdings to meet redemption requests and build up cash reserves, according to people with knowledge of the market, who asked not to be identified discussing a private matter. In just the past four trading days, investors have pulled $2.2 billion from all loan mutual funds and exchange-traded funds. That brings withdrawals from the asset class to almost $9 billion since mid-November, data from JPMorgan Chase & Co. and Lipper show.
Investors have turned sour on the loans amid global economic jitters. The Federal Reserve on Wednesday hiked rates for the fourth time this year though it dialed back projections for interest rates and economic growth in 2019.
That is making corporate loans, seen for much of the past year as an attractive shelter from rising rates, less attractive. “If the reason for people flocking into loans was to have floating-rate exposure, that rationale is less compelling now,” Greg Zappin, a portfolio manager at Penn Mutual Asset Management LLC, said in a phone interview.
The plunging debt prices are making it difficult for banks to offload loans they’ve underwritten but not yet sold to investors. Lenders including Wells Fargo & Co., Barclays Plc and Goldman Sachs Group Inc. have taken the rare step of holding on to the loans -- which are typically made to finance buyouts -- with the hope that they can resell them to investors later.
“There’s been a massive amount of volatility since October, so from a credit risk standpoint investors are being a lot more critical of what’s going on,” said Jody Lurie, a corporate credit analyst at Janney Montgomery Scott.
Scott Page, co-director of floating rate loans for Eaton Vance, acknowledged that retail investors have been withdrawing assets from loan funds in general, but said that institutions remain buyers. “Credit conditions haven’t changed amid the recent few weeks of outflows,” he said in an email. “We’re seeing record trade volumes and there’s a buyer for every seller.”
A spokesman for Lord Abbett said the firm raised its liquidity target in November because of uncertainty around Fed policy and the general risk-off environment, and is hoping to find bargains now.
Both firms didn’t comment specifically on their recent selling activity.
The reversal in leveraged loan sentiment came quickly. The debt had gained around 4 percent this year through the end of September, making it one of the best performing parts of credit markets. Now gains are closer to 1.4 percent for the year. Prices for loans fell to 94.8 cents on the dollar on Wednesday, as lower stock and energy prices have sapped investor appetite for risk.
Some high-profile loan deals have suffered: $2.9 billion of loans borrowed by Apollo-owned Rackspace Hosting are now quoted at about 89 cents on the dollar, declining steeply since late September. A $6.5 billion loan sold in September by Blackstone to buy a stake in Thomson Reuters Corp.’s financial terminal division is now quoted at 95.6 cents.
It’s all added up to a tough time for banks trying to sell risky loans used to fund buyouts ahead of the transactions closing. They’re offloading the debt at steep discounts with sweeter terms and -- in some cases -- they have opted to hang onto the loans themselves as they wait for the market to improve.
A group of banks led by Goldman Sachs had to hold onto a $500 million loan backing the acquisition by First Reserve, a private equity firm, of a stake in Blue Racer Midstream LLC, a pipeline operator, people familiar with the matter said. A mix of direct lenders and infrastructure funds have expressed interest in the debt and Goldman is now likely to sell the loan to a small group of buyers separate from the syndicated market, one of the people said.
Similarly, Wells Fargo and Barclays had to hold on to a $415 million loan to help finance Blackstone Group LP’s buyout of Ulterra Drilling Technologies and now plan to wait until January to offload the debt.
These delayed transactions means the banks will have to bear the risk of the loan prices falling further, as well as costs associated with holding the debt on their balance sheet.
In some cases, private equity owners are stepping in to help get deals done.
As a lender group led by Credit Suisse Group AG struggled to find buyers for the riskiest portion of a buyout of roofing company Tecta America Corp., Canadian private equity firm Altas Partners agreed to pony up more equity rather than force the banks to sell the $100 million loan at a steep discount, people familiar with the matter said. The banks also took some pain by giving up a chunk of their fees in the process, one of the people said.
Representatives for all the companies and the banks involved have declined to comment or didn’t immediately respond.
With junk bond offerings also slowing down, the performance of leveraged finance businesses will likely lag at Wall Street biggest banks, weighing on their earnings, said David Hendler, founder of Viola Risk Advisors LLC.
“It’s another Debbie Downer for bank earnings,” Hendler said. "Investment banking revenue was already facing difficulties from volatility, geopolitical risks, China tariffs and Brexit, so now throw this into the mix.”
©2018 Bloomberg L.P.