US LevFin Wrap — Rates prompt loan surge, divestitures drive new money deals

William Hoffman
+Bill Weisbrod

28 September 2023•6 min read

While there were several bond deals in the market this week, the tide has clearly turned in favor of loans with nearly $40bn priced or in-market this week from more than 40 borrowers.

Automotive data company CDK Global and measurement device manufacturer MKS Instruments had two of the largest deals of the week with a pair of $3.5bn repricings. Others such as packaging maker ProAmpac priced a $2.24bn TLB amend and extend due 2028 and Apollo-backed hospital operator LifePoint Health is seeking to chip away at its maturity wall with a $2bn TLB due 2028.

The surge in activity is largely driven by the Federal Reserve’s solidified view that rates aren’t likely to increase much from here — if at all — and the realization that they’re not coming down anytime soon.

Projections from the Fed put the federal funds rate above 5% through the end of 2025, possibly coming down to around 4% by 2026. That is still double where rates were in 2019.

This high-for-longer dynamic has borrowers prioritizing the early repayment flexibility that loans can offer over bonds.

Yes, they’ll pay up more in the short term for that flexibility in the loan market. Spreads differ based on the issuer, but baseline three-month SOFR averages are trading at around 5.3% whereas five-year treasuries are lower at 4.6%.

Three-month SOFR averaged vs 5-year Treasuries (via New York Fed)

But borrowers can absorb that added upfront cost now that they have the confidence that SOFR rates won’t rise much from here and further eat into cashflows.

“They're paying a higher cost to borrow up front in the loan market, but there's the prepay ability of it and the potential to refi at a lower spread and lower rate down the line,” one portfolio manager said.

Take for example last week’s deals for Worldpay and Syneos Health, where the bond portions of the debt packages were downsized in favor of upsizing the loans.

Demand for loans also remains high because investors are happy to take the additional yield that loans provide right now with the same confidence that rates are unlikely to come down quickly.

Some companies may be issuing loans in hopes that their interest rate will come down in the long run, but buysiders we spoke to think rates will remain higher for longer than many people expect, which could become a problem for companies with a lot of floating rate debt.

“This is a more normalized type of environment,” the portfolio manager said. “Even when we get to the cutting cycle the lows aren't going to be as low.”

Getting creative

These higher-for-longer rates are causing companies to get creative in how they lower interest expenses and ultimately reduce debt.

Increasingly companies are divesting non-core business segments and using the added cash to bring leverage down.

Worldpay, Simon & Schuster, Bausch + Lomb and NCR Atleos have all tapped the market this month to fund divestitures from their former parent companies, and many more could be on the way, as we detailed this week.

Just this week, Goldman Sachs launched syndication of a $700m two-part TLB to fund private equity firm The Jordan Company’s buyout of DuPont’s resins business Delrin.

Meanwhile, companies in the energy space are using the momentum of increased oil prices this week to issue opportunistically and refinance. Both the WTI and Brent Crude indexes hit highs of over $90 per barrel this week up from lows of around $70 over the summer.

Oil prices on the rise (Via US Energy Information Administration)

Oil credits such as Transocean, Shelf Drilling, Sitio Royalties and GIP III Stetson all successfully tapped the market this week and even some mining credits such as Mineral Resources and WE Soda were in the market to take advantage of rising iron ore prices.

An energy analyst said many of the issuers this week are weaker credits in the sector that were going to have to pay up for their refis anyway, so they might as well come to market with the tailwind of higher oil prices at their backs.

One company moving away from fossil fuels, bulk liquid storage business IMTT, issued just the third sustainability-linked loan so far this year as it seeks to transition to greener end markets. Investors we spoke to had no problem with IMTT’s changing business model but were less enthused about the potential for loan coupon step downs.

And in a new LBO, environmental services and oil recycling company Heritage-Crystal Clean’s TLB to fund J.F. Lehman & Company’s take-private is getting strong feedback from buysiders as a play on “reshoring” of manufacturing to the US, in spite of some exposure to fluctuating commodity prices.

But overall, extensions and refinancings like ProAmpac and LifePoint are an easier sell to buysiders already familiar with those names, than brand new issuers, another loan analyst noted.

“LifePoint is in a lot of portfolios already,” they said. “It’s not net new risk. Most of the stuff in the market is a regular way refi so it’s easier to get done.”

Trouble ahead

Stop us if you’ve heard this one before — the government is poised to shut down this weekend.

History would suggest this issue gets resolved in the 11th hour and has next to no effect on credit markets. But there’s always a chance that this one is different and could be more prolonged.

Previous shutdowns have been either short-lived at just 1-5 days or have gone much longer at 3-5 weeks, according to analysts at BMO. The more prolonged scenario is where investors really start to make moves and see spreads widen out, which could impact primary issuance if the shutdown comes to fruition at all, sources said this week.

The Hollywood strikes look to be halfway over as the Writers Guild of America came to a tentative agreement with the studios this week as we wrote about in greater detail here.

The actors have yet to come to an agreement however and the United Auto Workers are entering their third week on strike putting pressure on the big three US automotive companies and adding some supply and wage inflation pressures to the system, according to BofA.

And in tech, the CEO of X (formerly Twitter) Linda Yaccarino is set to meet with bankers who underwrote Elon Musk’s take private of the company to present a new business plan, according to a report from the Financial Times.

Linda Yaccarino at the 2023 Code Conference (via YouTube)

Her appearance at the Code Conference this week was less than inspiring. While she did say that X would be profitable in early 2024, Yaccarino stumbled on exactly how many active users are on the platform, came off as combative with the interviewer, and appeared out of the loop with Musk’s stated subscription plans.

If you like these LevFin wraps, perhaps you’ll also enjoy our private credit rundown — The Unicrunch. It’s part of our private credit offering that formally launched this week.

Finally, if you’re looking for a good weekend podcast, check out our Cloud 9fin conversation with Muddy Waters Research’s Carson Block on his short seller’s guide to credit.