Once shunned loans are now a market darling

Fixed-income investors that are “risk on” are benefiting from the global economy’s ongoing resilience, fueling appetite for leveraged loans in particular.

Total returns from the assets are about 10 per cent so far this year, according to a US leveraged loan index, and the average price of a leveraged loan in the secondary market is a bit less than 96 cents on the dollar, the highest since May 2022 after inflation exceeded expectations.

“Demand is strong,” Jeremy Burton, a portfolio manager at PineBridge Investments, said in an email. “This is driven by an improving macro outlook amongst investors, who are assigning higher probability weightings to the ‘soft landing’ scenario.”

Almost three-in-four fund managers now expect the economy to avoid recession at the very least, according to a global poll by Bank of America Corp., despite central bank efforts to slow growth and crimp inflation. Default expectations are falling as a result, Burton said, improving the credit market outlook. That’s despite the risk that higher interest rates could hurt heavily-indebted borrowers.

High benchmark rates can also make floating-rate products more popular, Burton said. Some money managers are selling longer-term bonds and buying floating-rate debt because of the protection they offer against further rises in the cost of borrowing, he said.

Hungry investors 

Debt sales launching against this backdrop are finding hungry investors. Restaurant Brands International Inc., which owns fast-food chains including Burger King and Popeyes, sold a $5.175 billion loan this week.

The size of the deal was increased twice and the issuer is paying less to borrow than initially discussed, highlighting the demand. It was both the largest loan sale since early 2022 and the largest refinancing deal this year, according to data compiled by Bloomberg.

Even lower-rated borrowers are benefiting from the rally. ProAmpac PG Borrower LLC, a maker of packaging materials rated six notches below investment grade, came to market Thursday with a $2.085 billion amend-and-extend transaction, suggesting growing confidence among lower-rated issuers.

It’s a signal that borrowers are seizing an opportunity to tap into renewed demand, a contrast with the first half of the year when the market was all but shut to lower-rated names.

Another sign that market sentiment has shifted: more than a quarter of loans are trading above par, the highest proportion since January 2022, according to a Thursday note from JPMorgan Chase & Co. strategist Nelson Jantzen. Usually when at least 30 per cent of loans trade above par, repricing volume begins to surge, hitting an average of $70 billion over the subsequent three months, he wrote.

Despite the turnaround, institutional loan issuance is down 25 per cent in the US this year compared with the same period last year. And if rates remain high “companies will have to deal with another maturity wall in the not-too-distant future,” Morgan Stanley strategists including Vishwas Patkar wrote in a note on Friday.

For now, demand will probably stay strong for the rest of the year, said Frank Ossino, a portfolio manager at Newfleet Asset Management, citing the supportive economy and high loan coupons.