Fitch: Looming Debt Ceiling Cannot Keep HY Markets Down
Primary issuance in the leveraged finance markets remains strong despite uncertainty around U.S. debt ceiling negotiations, according to Fitch Ratings.
The high yield bond market is off to a record start this year, coming on the heels of a record-setting 2012 during which over $315 billion of high yield bonds were priced. As of Jan. 15, a total of 19 high yield bonds totaling $9.3 billion have been sold. This represents a 12% increase over the same time period last year. Over 75% of the issuance to date has been used to refinance existing debt, a trend generally seen throughout 2012.
Issuers continue to take advantage of historically low spreads in an effort to reduce overall interest expense and push out their debt maturity profile. We expect this trend to continue as long, as borrowing rates remain favorable. High yield spreads have dropped 35 basis points thus far in 2013. Based on Fitch's most recent "U.S. Leveraged Finance Stats Quarterly" report, interest coverage for the speculative grade category has improved from 2.9x in 2010 to 3.5x at the end of the third quarter 2012. Speculative grade coverage statistics could continue to strengthen, as they are just now beginning to realize a full 12 months of savings from lower cost debt issued over the past 12 to 18 months, offset by higher debt levels among companies at the higher end of the credit spectrum.
High yield investors have seemingly become comfortable once again with risk, underscored by easy access for issuers. Investor confidence has been supported by decent economic and earnings reports, stronger credit profiles and a benign bond default at remain around 2% (we project the U.S. high yield default rate to be around 2% in 2013). High yield investors poured in $1.1 billion into high yield retail funds the week of Jan. 9, 2013, reversing a four week trend of outflows and further evidence of a risk on investor environment.
The leveraged loan market has also had a solid start. After a somewhat slow first week, the leveraged loan market saw a pick-up in primary activity. Loan demand continues to be high as investors look to hedge against higher future inflation. Leveraged loan retail funds have seen two weeks of inflows in 2013, totaling nearly $1 billion. This marks the 30th consecutive week of positive flows into the asset class, dating back to 2012.
Loan demand from collateral loan obligations (CLOs) has continued as the primary CLO market has quickly picked up steam in 2013. As many as 13 deals are being marketed and, so far this week, three deals were priced totaling approximately $1.8 billion. Based on the pipeline of CLO deals to date, over 35 deals could price between January and February and most consensus estimates put full year 2013 issuance between $70 billion and $80 billion.
Through the first two weeks, a total of 14 deals have been launched, totaling $15 billion of new loan issuance. In addition, Fitch's forward calendar has doubled from $16 billion at the end of December to $35 billion as of Jan. 15, 2013. As loan spreads continue to grind lower, we expect borrowers will take advantage of the favorable tone, which could translate into a new wave of repricings, similar to what was seen in the first four months of last year.
We believe one trend likely to continue into 2013 is the resurgence of the second-lien loan market. Second-lien issuance hit an annual post-crisis high of $18 billion in 2012, with nearly 40% of this total coming in the last quarter of the year. Thus far in January, Ameriforge Group, NEP Broadcasting, NFR Energy, LLC, and TNS Inc. have combined added $1 billion of second-lien loans to the forward calendar.
Recent surges in second-lien issuance have been observed during periods of strong demand, as investors are willing to accept poorer security packages in exchange for higher pricing. We note that the recovery rates on second-liens loans over the past several years have decreased significantly and also exhibit a wider range of values than first lien recoveries. On average, second-lien recoveries are more similar of those observed on unsecured bonds.
Limited supply in the primary market has forced investors to turn to the secondary market for assets, which has pushed secondary bids higher. After hitting a 2012 high of 97.94 on Dec. 24, 2012, the overall market bid continues to trend higher in 2013. Today, approximately 80% of all loans in the secondary loan market are priced at 98.0 or higher.
For more information, Fitch will be publishing its special report, "U.S. Leveraged Finance Market Quarterly - Fourth Quarter" during the week of Jan. 21, 2013.
Additional information is available on www.fitchratings.com.
The above article originally appeared as a post on the Fitch Wire credit market commentary page. The original article, which may include hyperlinks to companies and current ratings, can be accessed at www.fitchratings.com. All opinions expressed are those of Fitch Ratings.
Director, Leveraged Finance
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