This week, we continue with our third and final educational piece on high yield bonds and bank loans. In the first two parts of this blog series, we discussed where each type of debt typically sits in a company’s capital structure; the size and growth of the bank loan market; useful statistics with respect to each asset class (such as volatility measures); and why the flexibility to invest in both asset classes can enhance the long-term risk-adjusted returns of a high yield portfolio. Links to these blog posts are available at the bottom of this page.
High yield bonds and bank loans are two asset classes that are more alike than many investors realize. In the first part of this blog series, we discussed where each type of debt typically sits in a company’s capital structure, and why the flexibility to invest in both bonds and bank loans in a high yield portfolio can enhance the risk-adjusted returns of such a portfolio over time.
This week, we will be discussing the size and growth of the bank loan (aka leveraged loan) market, as well as other useful statistics, such as volatility measures, of loans as compared with high yield bonds.
High yield bonds and bank loans are more alike than many investors realize. Although there are meaningful differences between the two types of securities, from an investment perspective, we believe that these two asset classes should be viewed through the same lense. As we will expand on, we believe an investment manager that focuses on both segments together can create considerable value for a high yield portfolio. Furthermore, having one analyst team that focuses on both asset classes is the way to go instead of having separate specialists.
Total institutional leveraged loan new issuance in the first nine months of 2017 has already surpassed the previous calendar year record set in 2013. However, with refinancing and repricing transactions accounting for over 70% of such volume, on a net basis, new issuance volume is less extreme. Examining second-lien loans specifically, issuance has increased significantly this year, more than doubling calendar year 2016 total volume during the first three quarters.
“If you fall, I’ll be there” — a floor
Like a lot of jokes, good or bad, truth is at the core of the statement above, whether with respect to gravity or the protective financial mechanism launched in the loan market following the financial crisis of 2008 — the LIBOR floor (herein referenced simply as the “floor”). Instead of relating to a falling object, however, we apply the quote to short-term interest rates (e.g., LIBOR) and a derivative instrument (the floor) that is conditionally declaring its presence should rates drop.