| NEW YORK, March 24
NEW YORK, March 24 Low-rated US buyout loans are
pricing with razor thin margins not seen since the financial
crisis of 2008 as a dearth of new deals allows companies to
dictate terms in a borrower’s market.
B3-rated data center operator Cologix priced a US$300m
seven-year first-lien term loan and a US$60m delayed draw term
loan at 300bp over Libor on March 10 to help finance its buyout
by private equity firm Stonepeak in addition to a $135m
second-lien loan at 700bp over Libor.
The deal is being seen as a new pricing benchmark for the
credit rating, which is Moody’s lowest credit rating for a first
lien loan. S&P rated the Cologix loan at B.
The current round of price cutting, which started in mid
2016 and totaled US$208bn for this year on March 13, started
with stronger credits but is now extending to lower-rated
companies - which is making some investors nervous.
B3 loans can price as high as 775bp to compensate investors
for higher risk, as seen on a US$175m B3/B- loan for automotive
supplier Diversified Machine Inc’s buyout in November 2011.
The slump in pricing has erased the pricing differential
between B3 credits and higher-rated B2 loans, which is leaving
investors questioning why they would lend to riskier lower-rated
"A year ago you could build a portfolio with a spread of
375bp for B2 ratings,” said Farboud Tavangar, a founder of LCM
Asset Management. “That 375bp is now really heading toward
275bp. If you were going to go to a B3 profile, you aren't going
to get much more spread, so you have to ask what you are getting
for that additional risk."
Cologix’s deal is yielding only around 4.15%, well below
average levels. Primary yields on B3/B deals in the last three
years have averaged 5.8% and 6.1% for B3/B- deals. The yield
includes Libor or Libor floors, which generally adds about
75-100bp to coupons.
Despite the slump in pricing, loans are currently valued
close to historical averages, taking pricing, Libor and default
rates into account, said Beth MacLean, executive vice president
and bank loan portfolio manager at PIMCO.
“If you look back in time - and especially when you factor
in that we are in a very low default environment - we view the
market today as pretty fair,” MacLean said.
The asset class is still attractive to investors as
leveraged loans are secured, unlike high-yield bonds, which have
seen an even bigger pricing reduction that has closed the spread
gap between the two instruments.
The yield differential between leveraged loans and
high-yield bonds climbed to 32bp from only 14bp on March 1,
according to JP Morgan. The difference was 80bp in early
“If you are only getting 25bp more yield, then the loan
looks a lot better,” MacLean said. “You get just about the same
yield with the protection of secured assets. If I can move up in
the capital structure and only give up a bit of spread, that
makes a lot of sense.”
Before 2008, loans rated B3 by Moody’s or B/B- by S&P
regularly priced at 300bp over Libor or below. Teen clothing
retailer Claire’s Stores priced a US$1.45bn term loan in May
2007 at 275bp over Libor to support its buyout by private equity
firm Apollo Group.
Silicone based-products maker Momentive Performance Material
went even lower and priced a US$525m term loan at 225bp over
Libor in December 2006 to back is purchase by Apollo.
B3 pricing soared after the credit crisis. Only one buyout
loan has priced below 300bp since then - a US$1.085bn term loan
backing third-party claim manager Sedgwick Claims Management
Services’ acquisition by private equity firm KKR which priced at
275bp over Libor in 2014.
At that time, investors were piling into loan funds as fears
about increasing interest rates spurred demand amid more than a
year of consecutive inflows. The Federal Reserve increased
interest rates for the third time in March which is driving
investors into the asset class again and prompted the rapid
collapse in loan pricing.
Loan funds have now seen inflows every week since August
2016 barring one week in November and inflows have averaged
US$920.5m in the last four weeks.
"I don't think surprise is the right word,” said Tavangar,
referring to the slump in pricing. “It reflects the fact that
there is a lot of demand out there."
(Reporting by Jonathan Schwarzberg; Editing By Tessa Walsh)