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Loan dangers: sentiment turns on the fixed-income alternative

by Robert St George on Mar 03, 2014 at 12:49

The group’s confidence in those relatively low rates is based on a dearth of imminent maturities, with only 2.6% of institutional loans falling due in 2014-15, and an improvement in the quality of issuance since the crash.

None of the most dangerous types of loans – those with interest coverage of less than 1.5 – were issued last year.

What defaults there are tend also to be telegraphed in advance and reflected in the loan’s price. In the US last year, 11 issuers defaulted on almost £7 billion of paper. Two-thirds of that was accounted for by five of the 11 issuers, specifically four yellow pages businesses and one textbook publisher.

More ominous, however, is another trend: ‘covenant light’ loans. By Neuberger Berman’s reckoning, 57% of US issuance in 2013 was ‘covenant light’ and such loans now represent 46% of the market.

The firm notes there was less interest in these loans in Europe, but tips an increase in 2014 as investors chase yield.

David Coombs, head of multi-asset investments at Rathbones, recently backed senior loans but is now cooling on them.

‘Our appetite is dwindling slightly in this asset class. It’s got very “me too” and very consensual in the past 12 months,’ he says.

‘There have been a lot of senior loan funds being launched in the open-ended space, which we don’t think is appropriate for loans. It always makes me nervous when fund groups all start launching funds in a hot asset class. I think we will actually be reducing senior loans as yields rise,’ he adds.

Matt Eagan, a manager in the Loomis Sayles fixed income team, believes loans have their uses. He describes the sector as ‘a good place to hide out’ when high yield is expensive, as it is now.

‘If you can earn 4% in 2014, you will probably be happy,’ he said. But he is also wary of loans’ strong correlation to high yield.

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