May 24, 2016
The year kicked off much as it left 2015, with significant bifurcation between the “haves” and “have-nots” in the bank loan market. Borrowers outside of commodity sectors and those with stable fundamentals (“haves”) continued to deliver solid performance, while commodity sectors and certain highly levered credits (“have-nots”) that have been struggling to meet interest payments performed poorly. More generally, bank loans have also been contending with a weakening technical backdrop in 2016, with CLO issuance totaling only $5.4 billion in Q1 2016 versus $31 billion in Q1 2015. At the same time, mutual fund outflows totaled $7.8 billion for the quarter, bringing net visible flows to -$2.4 billion for Q1 2016. Newly issued institutional loan volumes are down 31 percent on a year-over-year basis through Q1 2016, which has helped offset weak demand.
Following 10 months of CCCrated loans and distressed loans underperforming BB-rated and B-rated loans, the trend was broken in March with CCC-loans and distressed loans (those rated CC and below or in default) recording their best monthly gain since January 2012 and January 2014, respectively.
Source: Credit Suisse. Data as of 3.31.2016.
Against this weak technical backdrop and risk aversion at the start of the year, the Credit Suisse Leveraged Loan index posted a modest first-quarter gain of 1.3 percent with discount margins tightening by 22 basis points. Higher-quality bonds outperformed lower-quality bonds, but as the chart above shows, there was a dramatic shift during the quarter: March saw CCC-rated loans outperform BB-rated and B-rated loans, breaking a 10-month streak of underperformance. Even distressed loans, which include CC-rated, C-rated, and defaulted loans, returned 7 percent for the month, their strongest performance since January 2014.
Fundamentally, the loan market continues to perform well. Year-over-year earnings growth has been strong this cycle, averaging 11 percent since 2010 and exceeding nominal GDP growth every quarter. This suggests that the loan market has some cushion even if GDP growth slows. As our macroeconomic team believes that GDP growth will continue, aided by a strong consumer, we find attractive relative value opportunities in the new issue as well as the secondary market, particularly in sectors related to the consumer. These include technology, media, services, and select names in retail that have been unfairly punished as a result of a few problem children.
Loan market earnings growth remains healthy, with earnings before interest, taxes, depreciation, and amortization (EBITDA) growing at 7 percent on a year-over-year basis in Q4 2015, and 9 percent if oil and gas companies are excluded. Loan market earnings growth has been consistently stronger than nominal GDP growth in the current cycle, giving the loan market some cushion if U.S. economic growth slows.
Source: S&P LCD, Bloomberg, Guggenheim Investments. Data as of 3.31.2016.
—Thomas Hauser, Managing Director
This article is distributed for informational purposes only and should not be considered as investing advice or a recommendation of any particular security, strategy or investment product. It contains opinions of the authors but not necessarily those of Guggenheim Partners or its subsidiaries. The authors’ opinions are subject to change without notice. Information contained herein has been obtained from sources believed to be reliable, but are not assured as to accuracy. Past performance is no guarantee of future results.
Investing involves risk. In general, the value of fixed-income securities fall when interest rates rise. High-yield securities present more liquidity and credit risk than investment-grade bonds and may be subject to greater volatility. Asset-backed securities, including mortgage-backed securities, may have structures that make their reaction to interest rates and other factors difficult to predict, making their prices volatile and they are subject to liquidity risk. Investments in floating-rate senior-secured syndicated bank loans and other floating-rate securities involve special types of risks, including credit risk, interest-rate risk, liquidity risk and prepayment risk.
Guggenheim Investments represents the following affiliated investment management businesses of Guggenheim Partners, LLC: Guggenheim Partners Investment Management, LLC, Security Investors, LLC, Guggenheim Funds Investment Advisors, LLC, Guggenheim Funds Distributors, LLC, Guggenheim Real Estate, LLC, Transparent Value Advisors, LLC, GS GAMMA Advisors, LLC, Guggenheim Partners Europe Limited and Guggenheim Partners India Management.
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