Monthly US Loan Market Update - January 2019

Jan 10, 2019 | Invesco Fixed Income

Global markets ended 2018 on a sour note with US equities returning -9.03% in December, their worst monthly performance since the Global Financial Crisis.1 Negative market sentiment was driven by concerns over slowing global growth amid tightening US monetary policy and further trade tension with China. The Federal Reserve (Fed) delivered a “dovish hike” during the month by simultaneously raising rates by another 25 basis points and reducing its guidance for 2019 rate increases; however, the Fed’s inclination to further increase rates was poorly received by nervous investors. Amid the turmoil, senior secured loans were impacted by investors’ risk aversion and the resulting selling pressure. Outflows during the month were driven by retail and institutional accounts rotating into cash amid weaker overall market sentiment and lower future rate expectations. On a relative basis, loans significantly outperformed equities, and were nearly in line with high yield returns in December. Away from the technical weaknes, credit fundamentals in the loan market remain supportive of low defaults in 2019 given issuers’ strong earnings growth and manageable interest coverage ratios. Overall, loans returned -2.54% for the month, bringing 2018 returns to 0.44%,2 which meaningfully outpaced fixed rate credit during the year.

Loan market technicals were pressured in December by heavy withdrawals from the asset class, including $9.9 billion of retail outflows.3 CLO issuance also slowed markedly amid declining loan prices and widening liability spreads. New CLO issuance is still expected to remain strong in 2019, however the pace of CLO creation will likely remain muted until the market stabilizes. Meanwhile, new loan supply slowed to a trickle in December as widening primary and secondary loan spreads discouraged opportunistic transactions from coming to market.

As loan spreads continued to widen, the percentage of loans trading above par declined to under 1% during December. Notwithstanding this price weakness, loans outperformed high yield during the volatile fourth quarter. Over that period, loan returns of -3.45% outpaced high yield returns of -4.63%.4 The largest 100 loans – which tend to be the most liquid - collectively underperformed the broader loan market by 62 basis points in December,5 highlighting the technical nature of the selloff. Overall, “CCCs” (-3.34%) succumbed to the prevailing risk aversion, underperforming higher quality deals. “BBs” (-2.56%) actually underperformed “Bs” (-2.52%) due to the aforementioned technical selling pressure in larger, liquid loans.5 The average price in the loan market was $94.16 at the end of December.5 At the current average price, senior secured loans are providing a 8.44% yield inclusive of the forward LIBOR curve.6

1 S&P 500 Index as of Dec. 31, 2018
2 S&P/LSTA Leveraged Loan Index as of Dec. 31, 2018
3 JP Morgan as of Dec. 31, 2018
4 S&P/LSTA Leveraged Loan Index and Bloomberg as of Dec. 31, 2018. High yield represented by BAML US High Yield Index; investment grade represented by the BAML Investment Grade Index.
5 S&P LCD as of Dec. 31, 2018
6 S&P LCD and Invesco as of Dec. 31, 2018

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