LSTA panel: Loan defaults stabilize, bankruptcy filings to rise in coming years, distressed market recovering

By Andrea Heisinger

New York, Oct. 30 - Loan defaults have stabilized and are now predicted to be lower than previously forecast for 2010, panelists said at the Loan Syndications and Trading Association conference on Thursday in New York City.

One panelist, Michael Zupon of Sound Harbor Partners, called it a "new era of capital market techniques," and added that defaults have stabilized.

"Projections for 2010 are 4% to 6%, and that caught a lot of people by surprise," he said.

Edward Altman, professor of finance at the Stern School of Business at New York University, said that "capital market innovations will impact the real economy. They will define default rates. Any forecast is going to have a divergence of opinion."

He said his forecast for 2010 and 2011, "if we don't go into recession," is a 6.7% default rate in the next 12 months. The negative scenario would mean a 9.4% default rate.

James Ferguson of Octagon Credit predicted a 5% default rate, plus or minus 1%.

Another panelist, Bill Chew of Standard & Poor's Ratings, said in a negative scenario the rate would be 9%, and the optimistic view would be 5.5%.

Altman then spoke about defaults and recovery.

"I don't believe the bond market can bail out the loan market forever," he said. "Loan rates are going to increase."

Many loans have maturities in 2013 and 2014, Ferguson of Octagon Credit said.

"We're going to see a lot of amend and extends, refinancing, bankruptcy filings. The B2, CCC [rated companies] are going to have the bankruptcies. There aren't so many rising stars in there. There are a lot of weak companies."

Michael Zupon of Sound Harbor Partners said that there are several billion "below IG-rated bonds coming due in the next five years. It's setting the stage for a dramatic period in 2012, 2013, 2014."

Altman said that there have been 34 distressed bond exchanges year-to-date.

"Of the '09 crop, half [of distressed bonds and loans] at least will go bankrupt in 2011, '12, '13," he said.

There are signs of a recovery in the loan market.

Trading levels are up, Ferguson said, adding that "it's possible the lowest rated stuff has traded up. I still believe recoveries will be poor - well below average."

Chew said that excessive leverage will result in recoveries below average.

On the bond front, the default recovery rate was 26% for the past year, Altman said, adding that "it's not the lowest it's ever been, but close." That number is 15 to 20 points higher for loans, he said.

He used CIT Group as an example, saying that it will have extremely high bond recovery rates, but that could skew the results for 2009.

The distressed debt market is a good market for the right buyer, the panelist said.

"A lot of the market is really cheap," Ferguson said. "It's going to be a buyer's market for an extended period."

Zupon of Sound Harbor said that "it's a picker's market. There's a chance to make a lot of money."

"Returns are so fantastic on the high-yield and leveraged loans because there's not much else to put your money in," Altman said.

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