Growth in leveraged loan issuance outpaced junk three-to-one in 2006, says Fitch

By Paul A. Harris

St. Louis, May 7 - The growth of leveraged loans outpaced that of junk bonds three-to-one in 2006, according to Fitch Ratings.

From year-end 2005 to year-end 2006, the dollar volume of loans grew by 28%, more than triple the 9% growth in the dollar volume of bonds, the agency claimed in a report titled "Loans in the Capital Structure," released on Monday.

Overall leveraged loan issuance for 2006 was $612 billion, more than four times as large as high-yield bond issuance of $142 billion, according to Fitch.

For its study Fitch used a sample of the 80 non-financial corporations that had at least $500 million in junk bonds outstanding at the end of 2005, had tapped the loan market in 2006, and still had junk bonds outstanding at the end of 2006.

"The disparity between the growth of loans and bonds in the capital structure of these firms is striking," Fitch asserted.

While a shift toward a more loan-heavy capital structure did not occur in every firm, loan growth outpaced bond growth in 64% of firms.

Since leveraged loans are typically secured obligations, backed by all or a significant portion of the assets of the borrower, while junk bonds are generally unsecured claims, the growth of loans is resulting in a worse recovery scenario for bondholders in the event of default, according to Fitch.

In a December 2006 survey of senior institutional fixed-income investors, Fitch found that borrowers' shifting to more loan-heavy capital structures was identified as the No. 2 leading risk associated with the leveraged loan market, behind weak economic activity.

As the volume of loans in the capital structure expands, unsecured bonds are pushed further down in the capital structure. All else being equal, this should exert downward pressure on the recovery prospects of the unsecured bonds as they move lower in the payment priority ordering of debt obligations that would occur in a bankruptcy.

According to Fitch's recovery analysis, unsecured recovery values could fall by as much as 10% relative to levels prior to the capital structure shifts.

The firms in the Fitch study had $154 billion in unsecured bonds outstanding at the end of 2005, representing about one-fifth of all outstanding junk bonds at the time.

Because of their strong presence in the junk market, these borrowers were considered susceptible to the impact of greater amounts of leveraged loans in their capital structures.

© 2015 Prospect News.
All content on this website is protected by copyright law in the U.S. and elsewhere. For the use of the person downloading only.
Redistribution and copying are prohibited by law without written permission in advance from Prospect News.
Redistribution or copying includes e-mailing, printing multiple copies or any other form of reproduction.