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-22% YoY drop in euro leveraged loans issuance to €15bn as market-wide turbulence following the takeover of Credit Suisse delayed loan launches, set buysiders on edge. Secondary forced to cover for weak primary market, but trading still illiquid despite market-wide rally, as buysiders pivot out of credits with high interest burdens, downgrade risk

Single Bs margins +75.4 bps and OID +2.6 points wider YoY or +56.0 bps / +2.5 points wider QoQ (E+502.5 bps and 96.1 OID), with average deal size up +€46m to €453m and Materials/Consumer Discretionary dominating issuance; refis made up 45% of volumes and add-ons 30%

Q2 pipeline shows promise from continued A&E activity, best-efforts deals and the return of the recap, with LBOs still challenged; Services and Leisure names cluster the horizon

A hot start to the year petered out in the final weeks of the first quarter — Q1 23 saw €14.9bn of euro-denominated lev loan issuance, a 21.7% YoY drop, according to 9fin data, with opinions split on whether the coming quarters will bring relief for buysiders with cash to put to work.

“Sourcing assets will be the real challenge for CLOs this year,” said one CLO manager, with a sellside source countering that there is a “reasonable” pipeline for Q2, with “the normal expected” volumes of refinancings and recaps to come, alongside a pick-up in corporate M&A activity and a resurgence of best-efforts deals.

“We are expecting volatility to continue for the foreseeable future, but that should not prevent our market from functioning,” the banker said.

Banking sector turmoil, with the UBS takeover of Credit Suisse, left investors cautious and delayed the launch of several loans during the quarter, banking sources told 9fin. 

“There’s a feeling that in January and February people got ahead of themselves and of where the macro data really was,” said a second buysider. “This isn’t a crisis, but it does feel like the slow down in March was warranted — the market felt a little too hot around mid-Q1.”

On the question of what happens to Credit Suisse’s LevFin market share (9fin data says Credit Suisse were involved in bookrunning 61 euro deals in 2021 and 17 in 2022), bankers are coy — “It’s an active and competitive market with a lot of banks who are actively trying to gain market share, so it’s going to happen quite organically,” said the sellsider.

The April pipeline is still looking strong, according to a third sellside source, with expected transactions including:

an around €2.5bn Retail refinancing (this could be Action’s €1.5bn A&E, though Asda remains a contender), plus another around €2bn cut with sterling;

And split with dollars, April could bring:

c. €750m and c. €500m TLs from Industrial names;

But the EHY market is “the most attractive debt source” for issuers at the moment, two sellside sources told 9fin, with investors themselves admitting their exposure to fixed interest increased during the quarter.

“Paying a deep OID is very painful for issuers — and it’s painful for the banks who’ve underwritten it,” said a second sellside source. “That’s why I think today for borrowers the HY market offers the best cost and the best flexibility today, better than the loan market, better than the Direct Lending market.” (The Second Lien market, they add, is “almost non-existent”.)

Issuers had to cough up steep OID discounts in particular when coming to market with fungible add-ons — which made up 30% of Q1 23 volumes — to compensate for a predetermined margin with a deeper discount: taps in Q1 23 averaged E+475 bps / 96.2 versus non-taps at E+493 bps / 96.9, according to 9fin data.

Overall, Single B euro loans issued in the quarter had average pricing of E+502.5 bps and 96.1 OID, according to 9fin data, with Double BBs down at E+441.7 bps and 98.3. For Single Bs, this is 75.4 bps (+17.6%) / 2.6 points wider YoY or 56.0 bps (+12.6%) / 2.5 points wider QoQ.

Elsewhere, digesting maturities was the song of the season, with 44.9% of euro loans issued in Q1 23 including refinancing as a use of proceeds, per 9fin data. As reported, there is at least €2.8bn and €12.4bn of leverage loans maturing in 2023 and 2024 respectively, meaning A&Es and straight refis will continue to dominate upcoming issuance.

See the latest issue of the 9fin A&E Waiting List here.

As reported, some buysiders have found opportunities during the quarter in near-term maturities with an expected upcoming A&E (and therefore boost margins), with an eye particularly on 2025 and 2026 maturities. According to 9fin, some €112bn of euro loans are still set to mature in 2026 and 2027, leaving such opportunities wide open in the coming months.

But the LBO pipeline remains “extremely weak,” said the first sellside source. “We’re starting to see some opportunities open up — we’ve got around 10 live situations where auctions are starting, but this won’t translate into supply until Q3.”

The size of deals themselves is also picking up to an average of €453m — a common complaint the previous year, as the average euro loan size fell to €407m in 22 versus €584m in 21, per 9fin data.

However, some buyside sources at smaller CLO shops have continued to complain that, with many of these smaller deals coming to market heavily pre-marketed or skipping general syndication altogether (see Envalior’s LBO getting whittled down by private credit funds), they are getting left out of opportunities, even with credits they are already invested in. 

The second sellside source, however, dismissed this concern: “If CLO managers do their work and tell their agents that they are interested and active, they will get involved early, no matter what company they are at.”

A number of recaps are also in the pipeline, sellside sources said, having made up around just 5% of Q1 23 issuance, per 9fin data, but having drawn (more than the usual) buyside ire for coming at a time of turbulence — see comments on luxury watchmaker Breitling’s €205m add-on as an example.

“For the right credit at the right time, it works, and several are coming in Q2 and Q3,” said the second sellside source.

“What we’re also trying to convince the market of is that very large transactions are still doable,” they went on. “Competitors might have been strung by losses last year, but the idea that there isn’t a supportive underwriting or investing market there is a misconception. Particularly cross-border, those multi-billion deals can come.”

“The market is wide open for the right credit,” added a third sellside source.

So what’s the “right credit” in the current market? Five buysiders said they had a renewed focus on cash flow and interest coverage in today’s environment, with highly levered companies facing ever-higher interest burdens as rates hikes continue.

Some buysiders are also concerned that the ongoing spate of A&Es will allow issuers to grandfather their existing debt baskets — essentially emptying them and regaining their capacity — and therefore allow companies to re-lever at a time when buysiders are hoping for them to keep interest costs down.

Three portfolio managers also said they were pivoting away even from B3/B- credit on downgrade risk — this had been a key deciding factor when considering Albea for some — though balanced that “we’ll hold onto a CCC name with a strong base case”, as one put it. According to the second sellside source, “there’s a real difference between a B3 and a B2 credit that we have not seen for years.”

However, data points on this are scarce (owing to the quarter’s low supply — just three Moody’s-rated B3 loans came to market in the quarter: PortAventura, B&B Hotels and Albea), detailing just 0.76 points and 16.6 bps between Moody’s-rated B2 and B3 Q1 issuance, per 9fin, and B3 volumes at around 10% of total issuance.

Companies downgraded to CCC during the quarter include Luxembourg-based call centre operator Atento and Dutch IGM Resins.

Some buysiders also, however, also express hesitancy around primary BB names: “Narrow equity arbitrage means there’s not much to fix you if things start going wrong,” said a third buysider.

Looking to sectors, beyond the usual chatter around cyclical names, four buysiders said they were re-evaluating “historically safe” sectors of concerns in the light of higher debt burdens and uncertain EVs — including Healthcare, Financials and Tech.

“We’ve been finding more opportunities in cyclical credits because those are prepared for times of stress, have liquidity onshore and they’re paying enough now,” said a fourth buysider. “Those well-loved names with high levels of debt are the ones with the potentially unsustainable interest burdens now.”

“There are issues with valuations, but from a debt perspective, from a cash flow perspective, they’re still looking good,” countered another analyst.

As for Q1 23 issuance, Materials and Consumer Discretionary combined made up around 60% of euro Lev Loan volumes, boosted by billion-plus deals from names like Nord Anglia Education and Motor Fuel Group.

Looking ahead, “defaults will go up,” said a fifth buysider, “but managers have time to move out of names that can’t take the higher cost of leverage.“ They went on: “The market is more diverse than in 2008, there are much more opportunities, more options to trade around and rotate away from problems coming down the track.”

Still, secondary trading itself has been a thorny contention for many on the buyside this quarter. Despite a boost from a BWIC frenzy in mid-February, egged on by some warehouse liquidations, “it was nearly impossible to trade in secondary in those last weeks,” said the second buysider. “The bid/ask spread is so big, we still don’t know where it will shake out.”

But with primary volumes disappointing many on the buyside in Q1, investors have been forced to turn to secondary trading — and, for some, this has been a welcome adaptation. A second CLO manager said that out of the last nine CLOs they had ramped, around only 20% of loans they bought came from primary issuance. “Primary is a really fickle place to put your money because you’re outsourcing your portfolio management to the arranger,” they said.

But managers still need primary issuance to encourage secondary liquidity, a third CLO manager added: “Maybe one CLO can ramp entirely in secondary, but that’s the max, so [primary] does need to come back.”

“The market is changing quickly and timing is crucial,” said the first buysider. “The market has been rallying — we managed to get in before prices really took off, but prices haven’t been rational since October last year. When things do correct, [issuers] will all rush in at once.”

The market did indeed rally in Q1, despite macro wobbles, with the largest recoveries largely coming from the riskier credits (such as shorter-dated, lower-rated paper):

On individual names, the quarter’s 15 biggest downsliders are dominated by long-standing restructurings (or attempts thereof), including ongoing pain at Australian cancer clinic GenesisCare and French mass retailer Groupe Casino:

While the top quarter’s risers are often those who managed to address upcoming maturities during the quarter, validating the pre-emptive A&E strategy:

But with distress likely to continue to circle credits with upcoming maturities they are unable to tackle, “you have to be careful at the moment that you’re not over-exposed to names the market is stepping back from,” said the fifth buysider.

Other buysiders said they were still finding loan-bond swap opportunities in secondary, but cautioned that these were usually idiosyncratic trades and that moving into bonds was “not the cure” as far as risk management goes.

“The market seems to be a little bit more positive in terms of its stance from the middle of the quarter,” said the fourth buysider. “Yes, there’s increased volatility and more dispersion in terms of performance and businesses previously focused on acquisitive strategies need to focus on integration instead — but risks are increasingly priced-in and we feel we’re hitting the peaks in Central Bank action.”

“The volatility is here to stay,” said a sixth buysider. “Prep this year for next year — it’s definitely not leaving in the next six months.”

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European Lev Loans Q1 23 — Primary Pauses, but Pipeline Promises Plenty

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