Leveraged debt issuance continued to flounder in 2Q22, as market conditions deteriorated, with the total volume of syndicated institutional loans and high-yield (HY) bonds across the US and Europe diving 76.5% year-on-year (YoY) and 50.6% quarter-on-quarter (QoQ) to USD 102bn.
Primary deal supply retreated, as heightened volatility rocked leveraged finance (LevFin) markets on both sides of the Atlantic, buffeted by a long list of macroeconomic concerns: rising inflation, surging interest rates, the easing of central bank support, slowing economic growth, supply-chain issues, and Russia’s ongoing war in Ukraine. Spreads continued to widen, keeping total year-to-date (YTD) loan and bond returns in negative territory, while investor demand weakened, as fund outflows persisted and new collateralised loan obligation (CLO) formations lost momentum in the second quarter.
In the US, institutional loan and HY bond issuance in 2Q22 stood at USD 88bn, plunging 73.9% YoY and falling 48.8% QoQ from USD 172bn in 1Q22. In total, USD 261bn was raised during the first half of the year, a far cry from USD 785bn transacted in 1H21.
Total issuance in Europe shrunk to USD 47bn in 1H22, down from USD 198bn in 1H21, with 2Q22 volumes plummeting 85.8% YoY and 60% QoQ to only USD 13bn.Source: Dealogic; data correct as at 24 June 2022
Ebbing away: loans tumble to COVID-lows, as quarterly HY volume resembles 2018
Given their floating-rate feature, leveraged loans are more appealing than fixed-rate instruments during a period of rising interest rates. However, the deteriorating macroeconomic backdrop manifests in volatility spikes and widening spreads in secondary markets, creating challenging conditions for primary issuers.
In the US, institutional loan issuance halved in 2Q22 to USD 64bn across 96 deals from USD 127bn raised across 174 transactions in the previous quarter, and down 68.6% from USD 203bn in 2Q21. Lending activity picked up pace in April, but contracted on the back of secondary market sell-offs in May and June. The prospect of paying high margins and steep new-issue discounts deterred those borrowers that did not have immediate financing needs from accessing the market, while others opted to issue pro rata facilities that avoid the cash flow and trading risk of traditional institutional tranches.
European institutional loan issuance reached only USD 7.4bn across 13 transactions in 2Q22, representing a 62.5% decline from USD 20bn in the previous quarter and an 85.6% YoY drop from USD 51bn across 62 deals in 2Q21. After more than a month of virtually no activity since the onset of war in Ukraine, the primary market sprang back into action in April. Pent-up investor demand led to oversubscriptions and price tightening for the pioneers testing the waters. However, the revival was short-lived, as market conditions deteriorated, leading to thin primary loan supply in May and June. Aside from borrowers having to clear at deep discounts, the recent lack of liquidity in the market made it difficult to syndicate larger deals, especially for maiden borrowers.
The impact of rising interest rates has been harder on HY bond markets, while mounting investor concerns that a more hawkish monetary policy could stifle growth and lead to recession exacerbated volatility and further spread-widening.
In the US, HY bond volume tumbled 46% QoQ to USD 25bn across 33 deals in 2Q22 from USD 46bn across 63 transactions in 1Q22, posting an 81.9% YoY decrease compared with USD 135bn raised from 187 transactions in 2Q21. HY volumes were severely depressed in April and May, while June accounted for half of the quarterly issuance as activity resumed.
Similarly, European HY bond issuance shrank 86.2% YoY to USD 6bn across 12 transactions, marking a 56.3% slide from USD 14bn across 26 deals in 1Q22. Signs of life emerged in the latter part of March, with mostly higher-rated/crossover credits stirring into action. However, the initial excitement died down in April, as issuers postponed deals in light of choppier market conditions. The swell of activity occurred in May, but fund outflows and cheapening secondary did not provide calm waters for primary issuance to take off, with a low-key ending to June volume.
Rising up: US and European cost of debt surges
The cost of issuing debt has risen to its highest point since the pandemic-induced spikes of 2020, as investors demand higher yields to compensate for wider macroeconomic volatility. The weighted average margin on institutional loans in the US primary market climbed to 420 basis points (bps) in 2Q22 from 407bps in the previous quarter, while in Europe, this crept up to 437bps from 420bps in 1Q22. However, borrowers have also had to offer increasingly steeper original issue discounts (OIDs) to make relative value on primary deals more compelling versus an ever-cheapening existing secondary market.
In the US HY bond market, weighted average yields hit 8.6% for primary issues in 2Q22 from 5.9% in 1Q22. The yield on US senior secured and senior unsecured issues averaged 8.5% and 9.5%, respectively, at the end of 2Q22.
Similarly, weighted average yields in the primary European HY market rose to 7% in 2Q22 from 5.3% in the previous quarter. The average yield on senior secured and senior unsecured notes reached 6.4% and 7.3%, respectively, in the second quarter. OIDs have also been common on primary HY deals in recent months.
Choppy conditions: loan bids dip, as bond yields take off
Secondary markets endured a rough ride over the second quarter, with leveraged loans and HY bonds seeing significant slides in pricing on outstanding debt. Weighted average bids on loans in the US secondary market ebbed to 92.9 in June from 94.3 at the end of May and 96.8 at end-April. In the European secondary market, average bids on loans lost further ground, slumping in June to 89.5 from 94 at the end of May and 94.2 at the end of April.
Secondary US and European HY bond prices also headed south, as yields crept up before ending the quarter at 8.3% and 6.9%, respectively, from 5.9% and 4.2% at the beginning of April.Source: Markit and BofA HY Index; data correct as at 24 June 2022
Riding the wave: M&A dominates in Europe, while US remains open to refinancing
M&A and buyout-related financing in the US accounted for 55% of total volume, with a total of USD 48bn raised in 2Q22. However, this figure almost halved from USD 90bn in 1Q22 and fell well short of USD 134bn in 2Q21. Refinancing and recaps totalled USD 34bn, coming in from USD 61bn in the previous quarter, but down a chunky 80% from USD 166bn in the second quarter of last year.
In Europe, M&A and buyout issuance dominated the seas, with a total of USD 9.3bn raised in 2Q22. Although the figure accounted for 72% of LevFin volume, it fell 39% QoQ and 73% YoY. At only USD 1.6bn, refinancing and recaps collapsed 87% from the 1Q22 figure of USD 12.6bn, dwarfed by USD 49bn raised in 2Q22. As the cost of raising new debt rocketed, those borrowers with no immediate refinancing needs abstained from diving into markets.
Running dry: CLO issuance is losing steam
CLO printing machines are winding down on both sides of the Atlantic amid widening spreads on AAA tranches and diminishing demand for equity tranches. This slowdown has in turn created a weaker technical for primary loan issuance. Many European CLO funds have been facing allocation issues and have had to sell paper in secondary before buying loans in primary. Meanwhile, retail fund outflows in the US have also contributed to lower demand for primary paper.
US new money CLO issues amounted to USD 65bn YTD, with reissues totalling only USD 910m this quarter, while refinancing/resets stood at USD 16.2bn. In Europe, new CLO issuance tallied EUR 13.7bn YTD, although most of the volume comes from the first quarter. Reissues have been absent thus far this year, and refinancing/resets registered EUR 5.9bn.
Bubbling along: computers & electronics lead in US, as healthcare heads European sectors
The computers & electronics sector topped the charts in the US in 2Q22, with a total of USD 28bn raised. The oil & gas sector also featured heavily during the period, hauling in USD 22bn. The telecommunications and healthcare sectors trailed behind, each raising USD 18bn, followed by the real estate/property sector bagging USD 17bn. In Europe, healthcare trumped the sector chart, generating USD 3bn in 2Q22, followed by USD 2.1bn raised in the professional services sector. Food & beverage also featured heavily at USD 2bn, with retail and real estate/property accounting for USD 1.8bn and USD 1bn, respectively.
All data is correct as at 24 June 2022
