Retail investors are edging back to the leveraged loan market, interrupting a record streak of withdrawals from funds that buy the debt. But the absence of mom and pop didn't weigh on the market much anyway.
Mutual and exchange-traded funds that purchase leveraged loans had $46 million of inflows from Sept. 5 through the 10th, according to JPMorgan Chase & Co. If it continues through Wednesday, it may break a 42-week streak of outflows totaling almost a third of leveraged loan mutual funds' assets under management. Despite the exodus, loans to speculative-grade companies have still returned more than 6.4% this year.
It underscores the power of the biggest buyer of the loans, collateralized loan obligations that package debt into interest paying bonds. CLOs have helped offset the shrinking base of retail investors, who mainly view leveraged loans as a hedge against rising interest rates because they benefit from hikes, according to Frank Ossino, a senior portfolio manager at Newfleet Asset Management. Since rates have fallen, that has taken the shine off the debt.
"The institutional investor, broadly defined as the CLO market, views the loan market with a fuller view, in that it provides good income relative to the risk and it's senior and secured," said Ossino, who runs Newfleet's Floating Rate Bank Loan vehicle. "If they looked at the entire package that the loan gives you they would not be selling. But they're not seeing the forest for the trees."
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Loan retail funds now hold about 8%, or $106 billion of outstanding loans, versus about $154 billion in October and compared to a peak of 20% in 2013, according to JPMorgan.
Another factor in the market's resilience to outflows is dwindling supply, with volume priced less than half than in the same period in 2018, according to Ossino. That dynamic is helping a number of borrowers currently in the market. Dell Technologies Inc. was able to expedite its $4.75 billion loan, while hotel operator Extended Stay tightened pricing on a $631 million deal.
That's not to say the market has fully shrugged off the exodus.
The proportion of the loan market trading at or below 80 cents, a level indicating a degree of stress, has increased by more than $15.6 billion to hit a 38-month high of $54.9 billion, or 4.5% of the outstanding market, according to JPMorgan's research. That lifts the level of risk in a market which has already attracted scrutiny for deteriorating loan terms.
And while the retail investor base was only ever a smaller portion of the $1.2 trillion or so market, its vanishing also hasn't helped returns. The 6.4% gains -- mostly obtained in the first four months of the year -- significantly lag the 11.5% returns from junk-rated bonds.