From Reuters.com

Loan buyback-related rating actions stir debate

–Reuters LPC is a global provider of loan market news, data and analytics to the credit markets worldwide. For real-time news and analytics from LPC’s LoanConnector, sign up here.–

A wave of downgrades tied to loan buybacks is igniting debate in the leveraged loan and CLO markets, highlighting the growing tension between CLO managers and rating agencies.

CLO managers are already facing mark-to-market losses resulting from the growing number of loans rated below triple-C in their portfolios. The proportion of CLO portfolios with 15-20% of assets rated CCC+ or below went from about 13% last month to about 37% this month, according to a May 8 research report from Morgan Stanley, which based its calculations on a sample of 527 transactions (Fig. 1).

CLO managers are now dealing with an additional problem arising from rating actions that place issuers that buy back their loans below par in technical default. These technical defaults, managers say, artificially inflate the number of distressed loans in their portfolio, increasing the likelihood that many CLOs will go static.

Loan buybacks – which occur when an issuer buys back its loans in the secondary market – have gained in popularity as issuers look to retire debt in a sub-par market and reduce interest costs.

The buybacks, typically completed via an amendment process, are not coercive in nature, giving investors the flexibility to decide whether or not they would like to tender their paper at the price being offered by the issuer. In some cases, companies use cash on hand or increased equity contributions from private equity sponsors to de-lever.

Middle market struggles to survive

–Reuters LPC is a global provider of loan market news, data and analytics to the credit markets worldwide. For real-time news and analytics from LPC’s LoanConnector, sign up here.

With the backdrop of a deteriorating economy and continued tight lending conditions, middle market borrowers felt the full effects of the paralysis. Lending capacity deteriorated even further as some lenders were busy dealing with their own liquidity problems or reevaluating their portfolios, while others were lending selectively.

Amendments dominated activity, as issuers sought covenant relief from their lenders, who, in turn, received higher spreads and hefty amendment fees.

However, some signs of life have emerged in the primary market in the last few weeks.

“We have seen some deals coming slowly into the market, and some of the larger middle market players that were on the sidelines seem to be making their way back into the market,” says one lender.

Adds another middle market lender: “But these are just very small signs and don’t signal a recovery; we can only be cautiously optimistic.”

In fact, when asked how close the loan market is to reaching a bottom, 60% of Thomson Reuters LPC Quarterly Middle Market Survey respondents say we are there now. For the rest caution prevails: one-fifth say the market may not reach a bottom for another six months, while another fifth say it might be another year.