Spotted written on the left hand of an investment banker at a recent gathering for the European syndicated loans market were the following letters: PUSH. Though the precise meaning of this scrawl will remain forever vague, perhaps given the anaemic state of the syndicated loans market at present, it might well have referred to the acronym, PUSH, or ‘pray until something happens’. But can parties in the credit markets realistically expect intervention from a higher authority to relieve them of their sorry predicament?
Syndications, where banks club together to provide jumbo loans, sharing both the fees and the risk that the lender might default, are reeling from the credit fallout which began about a year ago. Before then, credit spreads were low, the appetite for risk was strong, and market liquidity was ample and investors were very active.
During the second half of 2007, global credit market conditions deteriorated as spreads widened considerably, many markets experienced severe disruptions and appetite for risk was absent. Investors exited at breakneck speed and the rest is history.
“Everyday is like rehab [for the industry],” says Ian Gilday, head of European Loan Capital Markets, Goldman Sachs. “It’s not a pleasant place to be at the moment”.
A look at the figures supporting volume and issuance reveals the low level activity of the loans market globally. According to Dealogic, the data provider, total syndicated loan market volumes were $599bn (€385bn, £300bn), in the first quarter 2008, a 47 per cent fall compared to the same period last year. An important determinant of the upward movement in syndications is the value of M&A, which has had its least active quarter for four years, down 40 per cent to $652bn, on the same period last year.
In one week in March, the market for syndicated loans in the US (which is an accepted bellwether for future flows in Europe) had zero deals in the pipeline. "Normally, it would've been jam-packed with deals," reflects Anthony Castillo, an analyst at Dealogic.
Lending volumes in Europe, the Middle East and Africa plummeted 44 per cent in the first quarter to $168bn, with leveraged loans continuing to bear the brunt of the credit crunch with an 82 per cent decline. Investment grade deals are keeping the market afloat, contributing 77 per cent of total volume.
Money exits right
Underwriting and either sole or joint arranging syndicated lending has become a more problematic affair in recent months, believes Mr Gilday, who points to a changing institutional investor base as fuelling market volatility. Liquidity in special purpose vehicles (SPV), such as collateralised loan obligations (CLO), has dried up, leaving the market in the state it was in 1999-2000, bank-led but undernourished.
“The central problem behind what has happened in the market in the last 6-9 months is that the investors that supported market liquidity have, almost overnight, disappeared. In 2006, there were 240 active loan investment vehicles, mostly CLOs, by 2007 there were around 340 vehicles but when the curtain came down, the pipeline of deals stopped. There is no institutional cash anymore,” says Mr Gilday.
In his view, 2005 was when the market became a different, highly-leveraged, beast. “This was when, for the first time, institutional investors overtook banks as the biggest loan investors. This is the crux of the problem today,” he adds.
What is left to buy?
But if activity in the syndicated loans market is now shifting at glacial speed, what is there left for investors to buy and what deals can arrangers put out to tender, that won’t invoke prohibitive pricing?
Sean Malone, managing director, European Corporate Loan Origination, Royal Bank of Scotland, explains that banks are willing to lend to corporate borrowers, though at pricing which may mean banks taking hits early on.
LaFarge, the French-owned building materials group, recently tested the market with a €7.2bn syndicated loan to support the acquisition of Egypt's Orascom Cement. The jumbo deal had 29 participating banks, paying a margin of between 20 to 75 basis points over EURIBOR.
“The most important thing in this deal was that banks were prepared to take losses immediately because they needed to support the market and the relationships they had with LaFarge. They knew that, post credit crisis, relationships (between issuer and lender) are being scrutinised more closely,” adds Mr Malone. The deal was lead arranged by BNP Paribas, Calyon and Morgan Stanley with a 40 per cent oversubscription.
Goldman Sach’s Mr Gilday confirms that tighter pricing – but with tougher loan documentation – is where the climate for club deals is heading for now. “Issuers prefer club deals of around 6/7 banks. They get better pricing and greater flexibility. There is less market risk and they can beat the banks down on price…there are examples of this type of deal being done right now,” says Mr Gilday.
Back to basics
Mr Malone identifies stricter loan covenants as one of the signifiers that the syndicated loans market is making the journey “back to basics”. A Moody’s study found that covenant arrangements had been relaxed for many rated corporate leveraged loans between 2005 and 2007, however the frothy credit climate in the high yield markets during the study period – where there was ample market liquidity, robust M&A and high risk tolerance – resulted in a deterioration of the safeguards embedded in credit agreements (i.e. looser than historical financial covenants).
“The use of market-flex pricing is now an absolute requirement though it wasn’t a year ago,” explains Mr Malone, providing another example of how the market is beginning to resemble a cautious landscape, with banks calling the shots.
Through ‘flex’, the borrower shares part of the loan-pricing risk with the bank lenders by permitting the lead bank to vary the interest-rate margin (that is, the spread) by a certain amount as determined by market conditions at the time of closing.
“It’s difficult to price a loan today that will be taken to market in six weeks, given the increasingly volatile pricing environment,” says Mr Malone. “The market would be shut dead if it wasn’t for flex”.
But with institutional investor cash not forthcoming, the market has returned to being bank-led and this has raised a new set of issues. “I can count on one hand the number of sole underwriting deals done by banks this year,” adds Mr Gilday. “They don’t want the underwriting risk on their books anymore”.
CAPITAL FLOW
Most institutional investors have deserted the primary loans market in favour of finding better value in the secondary market. Figures from Reuters Loan Pricing finds the volume of leveraged loans sold to investors tumbled to $2.3bn in first quarter 2008, compared to $28.4bn in the same period 2007.
“Institutional money drove the leveraged market, but is now unwinding at speed,” says Greg Lomas, managing director, CIBC World Markets, the investment bank.
Ali Allahbachani, managing director, at Avoca, the €4bn credit investor finds “a challenging market”.
“The key issue for us is moving capital out, and this is happening very quickly,” he adds.
The dramatic reduction in buyside appetite has led to a new breed of smaller, better priced and structured leveraged loans, sold largely to bank investors. “The market belongs to the banks for the next 12 months,” says Mr Lomas.
But asking investors who were in thick of it when the market was in a state of abundant liquidity, it becomes evident that they may return once the conduits re-open. “Investors had such a good time with CLOs and issuers a good time with accessing cheap money, that the market will start up again,” forecasts Richard Samuel, executive director at Alcentra, the $18bn US debt investor. “We’ve all got short memories.”
Colin Atkins, managing director at Carlyle, the private equity house, believes opportunities for the investor are greater now because the market has gone through its painful but cathartic phase, and it is in better shape as a result. “No one forced me to buy second lien debt at 375 basis points and no one is to blame.”
Mr Lomas notes that there are some signs of liquidity in markets largely unaffected by the credit fallout in the US and Europe, such as Asia and Russia. “Behind the scenes there are efforts to restructure the institutional investor market. The market urgently needs capital, and substantial capital at that,” he adds.
BORROWING AT ANY COST?
Corporate borrowers have found light at the end of the credit tunnel, despite wider spreads and tougher loan documentation required before the deals are signed.
Continental, the German tyre maker, signed a €13.5bn revolving credit facility in October 2007, which included a sizeable 35 banks on the roster of lenders. “The timing was good and we felt we could rely on our banks in the market climate,” explains Stefan Scholz, head of treasury and finance.
Mr Scholz says negotiating with Continental’s relationship banks was crucial to getting the deal done on time and at the right price. “We had 10/15 core relationship banks, and I’m an ex-banker myself, so I knew the importance of relationship managers,” he adds.
Carlos Obeid, CFO at Mubadala, the development company owned by the Government of the Emirate of Abu Dhabi, in the United Arab Emirates, concurs that building up relationships with banks is the story this year. “We have 55 banks in our loans pool, from the US, the Middle East and China and they all provide significant liquidity,” he says.
During the days of cheap finance, when the power tilted towards the issuer and not the bank, relationships were sometimes tested. One borrower told FT Mandate of an occasion last year when German carmaker Porsche drew on €10bn from its bank facility, because pricing was so low. “If we did this, we would feel pressure to give an answer to the banks. I think it was very significant that in the second half of 2007, Porsche made more money from playing the market, than by making cars. This is worth noting,” he adds.
|
