Global Insights: Current Leveraged Loan Market Trends and Outlook


The obvious assertion that 2020 has been a year of unprecedented challenges needs no explanation. Much like other industries, the leveraged loan market felt the impact of the Covid-19 outbreaks and lockdowns (particularly in the first and second quarters), as global travel ceased and businesses of certain sectors have come to a standstill, making due diligence, valuation and private equity trading nearly impossible. This suppressed activity in 2020 has caused pent-up demand which, coupled with cheap funding costs, has led to forecasts of a busier year for sponsor-backed mergers and acquisitions in 2021.

Below, we examine the current trends and market outlook for the leveraged lending business in each of the Asia-Pacific, Europe, and North America regions. With market-leading banking and finance lawyers working from nine offices in these regions, Ogier is well placed to provide expert advice on the laws of the British Virgin Islands, Cayman Islands, Guernsey, Jersey and Luxembourg. with regard to leveraged finance transactions.

Asia Pacific

After a slow start to the first and second quarters (for the reasons mentioned above), while the second half of 2020 did not quite see a return to pre-pandemic transaction volumes, the Asian fixed income loan market leverage has shown its resilience during this period. Indeed, some large event financings, particularly in Southeast Asia, helped keep the overall overall deal value in line with 2019 levels. Other contributors to leveraged lending activity in the region Asia in 2020 were the financings for private equity backed private equity from Chinese companies on public stock exchanges and the real estate sector in China.

Market participants were anticipating a stronger start to 2021 with the start of Covid-19 vaccine deployments, a more optimistic view of the prevailing geopolitical backdrop and lending rates remaining low. So far, M&A activity in Asia-Pacific in 2021 has met these expectations and, according to an EY press release dated August 23, 2021, “M&A activity in Asia-Pacific Pacific hit an all-time high in the first six months of 2021. M&A stocks targeting the region rose to $535 billion from $284 billion in the same period last year.”[1]

There have been a number of sponsor-backed acquisition processes in Asia so far this year. High liquidity in both the private equity and banking sectors means that these have been very competitive, with sponsors often paying historically higher multiples for assets and, at the same time, demanding leverage ratios higher of their financials and an increase in the debt share of their consideration acquisition.

An improved exit environment, which has been difficult for private equity in recent years, means that some of these deals have been linked to sponsor divestments. However, sectors such as technology, fintech and healthcare, which are seen as Covid-proof and future-proof, are among those attracting interest from private equity firms looking for new targets.

The general feeling is that (apart from the slowdown in the Chinese real estate sector) leveraged lending activity in Asia-Pacific will remain buoyant until the end of the year.

Europe

Leveraged loan market activity in Europe rebounded strongly in 2021 from the challenges of 2020. A combination of pent-up demand caused by the stalling of trading activity due to the well-documented Covid-19 pandemic. 19, coupled with still low interest rates, are driving private equity activity in the region and with this demand for leveraged loans continues to grow.

The low interest rate cycle we currently find ourselves in is worth considering. It appears to be stimulating activity on two fronts. First, by pushing institutional investors to seek higher yields, and second, by making borrowing as attractive as it may ever have been. It will be interesting to see how inflation fears in Europe, and particularly the UK, are dealt with by central banks in the months ahead, with some believing that key rate hikes are inevitable.

It also appears that the continued development of the private credit market could stimulate activity in the European leveraged loan market. A growing amount of “non-traditional” debt is available, including some through established private equity funds with an investment strategy of challenging traditional debt providers, which adds price competition and further increases expected returns for leveraged buyout transactions.

The perception that the share prices of many listed companies were depressed also fueled the fire, at least in the first half of 2021, making them attractive propositions for private equity managers. In the UK, particular attention has been paid to supermarket chains, particularly given their typically large property footprints and opportunities to create efficiencies in their supply chains. Both Asda and Morrisons are high profile examples. Although specific to the UK, there is still a perception that asset values ​​are attractive due to Brexit and a relatively affordable pound, which may lead private equity managers to deploy capital in the UK market rather than the US or Asia.

As a result, redemptions in the UK increased by around 60% in the first half of 2021 compared to the same period in 2019, and by 14% in the EU as a whole.[2]. It remains to be seen whether these levels of activity are sustainable, both economically and politically. As for the latter, there seems to be little appetite to temper activity with political intervention at this time.

For now, the European leveraged loan market continues to be driven by activity and a strong end to 2021 is expected.

North America

When the pandemic first took hold in March 2020, the US leveraged finance market felt the immediate impact, sectors such as airlines, accommodation and leisure, gaming, non-food retail and automotive supplies being hit hard. As the year progressed, the market experienced a steady recovery. The CARES Act (Coronavirus Aid, Relief and Economic Security Act) has been passed, protecting many businesses from the immediate impact of the pandemic and a number of companies have also strengthened their finances, taking on debt to provide liquidity given the uncertainty encountered.

The start of 2021 has seen this recovery gain momentum. Leveraged loan issuance increased by 60% in the first half of 2021 compared to the same period in 2020. Much of the market activity in the first quarter of 2021 involved repricing and repricing operations. refinancing which Fitch said accounted for 74% of total first quarter issuance.[3]. Activity was down slightly in the second quarter, but the market saw a noticeable increase in new silver deals (a 42% increase from the previous quarter).

In terms of sectors, technology, media, telecommunications and healthcare have performed relatively well during the pandemic. Even initially hard-hit sectors, such as those described above, have shown signs of recovery. The deployment of vaccines and the opening up of the economy have undoubtedly moved things forward. Furthermore, it appears that the drawbridge has been lowered and banks have moved away from downside protection to offer competitive pricing. This change occurred in a low interest rate environment and led borrowers to take advantage of favorable market conditions.

Other factors are contributing to the recovery of the US leveraged loan market in 2021. Institutional investors’ appetite for stable return is high in this long period of low interest rates. This was seen in the secured loan obligation (CLO) market, which itself has rallied since it was initially hit by the pandemic. For the first half of 2021, new CLO issuance in the United States totaled $82.35 billion (compared to $91.76 billion for the full year 2020)[4]. This is important because CLOs have a large share of the leveraged loan market and it is clear that one market leads to another.

The market outlook for the last quarter of 2021 remains positive. At its September meeting, the US Federal Reserve kept benchmark interest rates near zero, but it indicated that rate hikes could come sooner than expected and the cut could begin as early as November this year. . This could lead to a year-end rush into leveraged finance as companies seek to hedge against rising interest rates. Another important consideration heading into next year is the rising rate of inflation. Most commentators agree that this is likely due to pandemic-related factors and should subside over time, but the extent of this remains to be seen.

Finally, an interesting development in the leveraged loan market to watch in 2022 is the impact of the Biden administration’s focus on climate change. Most market participants agree that we will see an increase in the inclusion of so-called “ESG” clauses in debt documentation. Over the past two years, ESG has become embedded in the strategic business plans and priorities of lenders and borrowers. This is a trend that will become increasingly important as we move forward.

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