By Randy Schwimmer, contributor
It seemed fitting somehow. After hurricanes, earthquakes and the new season of Jersey Shore, the latest insult was news that a bus-sized satellite could fall on our heads.
While NASA was unable to provide guidance on the ‘when’ or ‘where’ of the space junk’s re-entry on terra firma (“It’s too early to predict with any certainty,” a helpful spokesman reported), our resulting weekend anxiety echoed that of the global capital markets.
And attending the Thomson Reuters LPC 17th Annual Loan Conference last Thursday, listening to panelists predicting that the world of credit was headed for a similarly unpredictable yet hard landing, we thought it high time for a healthy dose of skepticism.
Not to ignore the gravity of the situation – the specter of Greece tumbling onto European banks is certainly a weighty matter – but some perspective seems in order. Chicken Littles aside, how do markets stack up at the moment?
Despite the Dow’s worst week since October 2008, the index still stands 64% above its 6763 low of March 2009. And although costs of leveraged loan issuance have rocketed, the requisite 8-9% yields aren’t far from the heady days of 2006. How’s that? Though generic single-B LIBOR spreads then were an anemic 250 bps, LIBOR was five percent.
How about loan defaults? August’s level of 0.33% (by principal) is the lowest in almost four years. As Eaton Vance’s Scott Page – one of the most eloquent advocates in the space – reminded the Conference audience, with all-in spreads now in the 5-6% range, you can suffer 20% defaults and (assuming historic recovery rates) still cover your losses.
Worried about the decaying orbit of money dropping from retail funds? Cash comes and goes, but those funds count for only 20% of loan buyers. And overall in-flows are still almost double what they were in 2010. Plus for all the chirping about CLO reinvestment periods ending, they don’t start cranking down in earnest until 2013.
Which would you rather buy: A 2007-vintage, covenant-lite, L+250 (no floor), 6.5x leveraged loan with a weak credit agreement trading at 92…or a newly-minted five times leveraged loan with covenants at L+600, plus a 125 bp floor, priced at 94? Us too.
In case you’d forgotten what really dodgy markets look like, go back a decade. In 2001 the dotcom bust had put loans on life support. The mantra from arrangers to issuers was “two-and-a-half, three-and-a-half,” signaling the maximum leverage – senior and total debt-to-EBITDA, respectively – they could expect to extract from the buy-side.
Today amidst Euro-grumbles and US budget hoo-hah, average senior and total leverage for large cap LBOs (per S&P/LCD) is 4.0x/6.0x. Not bad for a doomed market.
What kind of shape are financial institutions in compared to early 2009? One insider told us his bank – a major money-center – was informally discouraging corporate cash investors because it was costing more to hold their money than the returns to invest it!
So forgive us if, despite media hype to the contrary, we report – with an eye out for falling trash from the past – that things may actually be looking up.
Randy Schwimmer is senior managing director and head of capital markets with Churchill Financial.