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US leveraged loan default volume jumps to $2.7B in October

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Banking Essentials Newsletter - November Edition

US leveraged loan default volume jumps to $2.7B in October

U.S. leveraged loan defaults climbed anew in October after a brief respite from a spike of payment misses and bankruptcies seen in April through July. October's $2.7 billion of defaults in the U.S. leveraged loan asset class, a 93% increase on the previous month, puts the trailing-12-month rate 205% ahead of the comparable 2019 period.

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Nevertheless, the default rate of the S&P/LSTA Leveraged Loan Index, by amount, dipped slightly in October, to 4.11% from 4.17% in September, after $3.4 billion of 2019 defaults left the rolling 12-month calculation.

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More broadly, the rate by amount has climbed 272 basis points from where it stood at the end of 2019. By issuer count, it fell to 4.48%, from 4.64% in September, which was the highest it had been since August 2010.

While the comparable period of 2019 brought eight facilities into default, via four issuers, October's default activity was less granular. Pharmaceutical concern Mallinckrodt PLC, across two facilities, defaulted on $1.9 billion of term loans and power plant Frontera Generation Holdings LLC added $758 million to the trailing volumes.

Mallinckrodt filed for bankruptcy protection on Oct. 12 to reduce its debt load in the face of opioid-related claims against the company and various Medicaid-related legal disputes in connection with its multipurpose drug, Acthar Gel.

The company's Chapter 11 petition listed total assets of about $9.6 billion and total debt of about $8.6 billion, which includes a first-lien term loan due September 2024 (L+275, 0.75% Libor floor) in the amount of approximately $1.5 billion; a first-lien term loan due February 2025 (L+300, 0.75% Libor floor) in the amount of $397.4 million; first-lien senior secured notes due 2025 in the amount of $495 million; second-lien notes due 2025 in the amount of about $322.9 million; and four issues of unsecured senior notes with various maturity dates in the amount of about $1.65 billion.

Frontera Generation Holdings, the rated subsidiary of Alamo Portfolio (Viva Alamo), was downgraded to D by S&P Global Ratings after it failed to make an Oct. 20 interest payment due on its term loan B due 2025 (L+425, 1% floor).

When breaking down the sectors, Oil & Gas continues to significantly out-trend, making up more than a quarter of all defaulted leveraged loan amounts this year, at 26.8%. Retail follows at 12%, and Telecommunications at 11.4%.

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Leisure, which currently accounts for 6.1% of defaults in the loan market this year, could see a sizable jump from this level with a number of large loans being held by troubled cinema and fitness chains. At the sector level, Leisure had a default rate of 5.83% in October. LCD's shadow default calculation* suggests this could rise to as much as 20.5% should all issuers on the shadow calendar trigger a default.

Distress is less
In other forward-looking indicators, the share of index loans priced at discounted, or distressed levels, has eased further toward pre-pandemic levels after staging a dramatic rebound from the March 23 peak.

As of Oct. 30, 4.85% of loans were priced below 80. And 2.6% below 70.

For loans below 80, this compares to the March 23 peak of 57% and a 2019 average of 3.25%.

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Industries exhibiting the highest levels of distress include Oil & Gas, which despite the outsized share of defaulted loans having already exited the calculation, continues to lead with a sector-level distress ratio of 18.8%.

Among industries with a more meaningful index share of the U.S. leveraged loan market of above 1%, Air Transport, coming in third at 17.2%, has seen distress fall from 55.8% in April. This sector had no loans in distress at the end of 2019.

Leisure and Retail, taking the second and sixth spots, have seen distress levels come down from the end of April. Again, this is largely on account of recent default activity than lower distress levels. Leisure, in particular, saw a big jump from minimal sector level distress at the end of last year.

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In terms of loans actually needing to be repaid, thanks in part to actions by the Fed during a decadelong bull run that allowed companies to stretch out their maturity profiles, the more formidable maturity wall in leveraged loans will not hit until 2024, when $264 billion will come due.

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More recently, companies have been able to avert potential default scenarios with covenant relief and amendment activity, which, at a staggering 169 covenant-relief transactions through the first nine months of 2020, has already topped the record from 2009 during the Great Recession.

* LCD's shadow default rate is a measure of performing S&P/LSTA Index issuers that have (1) missed a bond payment, (2) missed a loan payment but remain in the cure period, (3) entered a forbearance agreement, (4) received a D rating on at least one debt facility, (5) publicly stated they are contemplating bankruptcy or an out-of-court restructuring or are reported to have hired restructuring counsel, or (6) received a going-concern qualification from their auditors.