February Wrap: Volatility hits mortgage market, dragging YTD returns into the purple

Russia’s invasion of Ukraine roiled danger markets within the last week of February, heightening geopolitical uncertainty that had already solid a shadow over exercise in current weeks. Though loans outperformed high-yield bonds and equities for a second month in a row, all asset courses suffered from dramatic volatility and closed out February deep within the purple.

The S&P/LSTA Leveraged Mortgage Index posted the largest loss in practically two years, falling 0.51% in February, whereas the LL100 Index, which tracks the biggest, most liquid names, misplaced 0.54%. For each indexes, it was the worst efficiency because the pandemic-induced sell-off in March 2020.

In opposition to this backdrop and amid an anxious buildup to the invasion final week, major exercise within the leveraged mortgage market remained subdued relative to the supercharged tempo within the first month of 2022. January’s $72.8 billion of new-issue quantity was the third-highest studying on document, whereas February’s $24.7 billion was decrease than any month of 2021 apart from the sometimes quiet August and December.

The market upheaval final month was apparent. No new offers have been launched after Feb. 23. And on Feb. 24 alone, the S&P/LSTA Index declined 0.45% as traders digested the information of the invasion. The decline was practically twice as extreme because the 0.23% slide Feb. 14, and it marked the biggest day by day drop for the index since June 11, 2020. Costs partially recovered Feb. 25, nevertheless, with the index rising 0.28%, marking the biggest day by day achieve since June 16, 2020.

In consequence, secondary market volatility spiked to its highest stage in over a yr. The rolling 30-day customary deviation of day by day returns surged to 0.11% on Feb. 25 from 0.06% at midmonth and a 0.02%-0.06% vary all through 2021.

One other metric pointing to the severity of the February sell-off was the ratio of day by day decliners to advancers. On Feb. 24, 33.5 loans declined for every that superior, the best ratio because the pandemic-induced fall in March 2020. On Feb. 14, this ratio stood at 31 to at least one.

February’s loss worn out January’s achieve, leaving the year-to-date return at adverse 0.15%, behind the 1.78% achieve at the moment in 2021 however forward of the 0.77% loss within the first two months of 2020.

The weighted common bid of the index misplaced practically half some extent Feb. 24 alone, falling to 97.58, the bottom studying since April 2021. By month-end, nevertheless, the bid settled at 97.88, under the Jan. 31 studying of 98.69. The present stage is 120 foundation factors under the pandemic excessive of 99.08 reached lower than two months earlier on Jan. 21.

February’s secondary value rout was felt throughout the credit score high quality spectrum. all rankings buckets, excluding defaulted loans, the typical bid fell by 71 bps, to 97.79. The broad single-B class accounts for the majority of excellent loans (71% by excellent). Zooming in on the slim rankings bucket inside this class reveals related declines, with loans to B-minus debtors dropping 80 bps to 98.24, loans to B-flat issuers 73 bps to 98.55 and people within the B+ bucket dropping 78 bps to 98.78.

Nonetheless, the three cohorts stay in a good vary—simply 55 bps separates the typical bid of B-minus and B+ rated debtors. Though the hole widened from roughly 30 bps within the fourth quarter of 2021, it stays significantly tighter than the 96 bps a yr in the past or the 273 bps two years in the past.

Turning again to the general universe tracked by the index, the sharp decline in mortgage costs just about erased the share of loans priced at par or greater. Only one.5% of performing loans fell into this class Feb. 28. This was a 16-month low, down from 13% on the finish of January. As lately as October 2021, 1 / 4 of the index sat within the par-or-higher bucket, and the pandemic excessive was reached a yr in the past, at 35%. As well as, the share of loans priced between 99 and par declined to 42% by Feb. 28 from round 60% within the previous three months.

Many of those loans migrated to the 98-99 cohort, which accounted for 38% of the index, the best studying since November 2018 when it was 35%, versus 15% in January and December. Some loans moved into the 97-98 bucket, which grew to eight% of the index from round 3% within the previous two months.

As secondary costs declined, the typical yield-to-maturity on excellent leveraged loans rose sharply after touching document lows only a month earlier, to 4.43% on the finish of February, the second-highest month-end studying because the begin of 2021. That is 32 bps wider than the document low recorded Jan. 21 at 4.11%. For reference, this metric stood at 4.70% on the finish of 2020 and at 6.13% on the finish of 2019. On the similar time, the discounted spread-to-maturity, which takes under consideration the bid value and nominal unfold on a credit score, widened to 429 bps on Feb. 28, the best studying in over a yr, from a pandemic low of L+399 on Jan. 20.

Technicals

Market technicals moved nearer to equilibrium in February, though demand continued to outstrip provide for 2022 general.

LCD measures web mortgage provide because the change in outstandings, per the S&P/LSTA Index, or newly issued loans becoming a member of the index, minus loans being repaid. LCD defines investor demand as CLO issuance mixed with money inflows/outflows at retail investor mortgage funds.

About that provide: The par quantity excellent tracked by the index rose by $23.8 billion final month to $1.378 trillion, probably the most ever. The mortgage market’s development spurt has now prolonged to 12 months, totaling $190 billion, the best studying for any comparable interval since March 2019. This interprets right into a rolling 12-month development price of 16%, forward of the 12% price in all of 2021.

Though the amount of transactions launching into syndication declined drastically in February, the index constituency grew as a number of giant January transactions closed and entered the secondary market. For instance, a $5.9 billion time period mortgage B and $1 billion delayed-draw first-lien time period mortgage for athenahealth Group Inc. joined the index final month. The mortgage is a part of the financing package deal backing the $17 billion acquisition of the corporate by Bain Capital and Hellman & Friedman. Athenahealth is the eighth-biggest issuer tracked by the index. Different examples embody a $2.81 billion first-lien time period mortgage for Quest Software program and a $3.19 billion time period mortgage B for Intelsat Jackson Holdings.

On the similar time, repayments rose to $21.5 billion in February from the 16-month low of $14.5 billion in January. The present stage is under the trailing 12-month common, at $27.9 billion. A few of final month’s largest repayments stemmed from refinancing exercise for debtors equivalent to Fertitta Leisure LLC (Golden Nugget LLC) and Alight Options (Tempo Acquisition LLC).

Turning to demand, which LCD defines as CLO issuance mixed with retail money flows to U.S. mortgage funds, LCD tracked 27 new-issue CLOs in February, totaling $13.8 billion, after a sluggish begin in January of 9 autos totaling $4.9 billion. To place the just-completed month’s exercise into perspective, the month-to-month common in the course of the record-breaking 2021 stood at $15.6 billion, however that common didn’t exceed $11 billion in some other yr. For 2022 to-date, LCD has tracked $18.7 billion of CLO new-issues, 26% under the identical interval in 2021 however forward of the 2020 and 2019 paces.

On the similar time, expectations of price hikes proceed to show retail traders towards the floating-rate asset class, and at a document tempo. Within the 4 weeks ended Feb. 23, U.S. mortgage funds recorded $6.3 billion of inflows, in accordance with Lipper’s weekly reporters. Certainly, U.S. mortgage funds have added $13.2 billion to date in 2022, the best studying for any comparable post-global monetary disaster interval. For context, for 2021 general, investments into mortgage retail funds totaled $33.9 billion, based mostly on Lipper weekly reporters.

By the top of January, assets under management at mutual funds and exchange-traded funds investing in leveraged loans have grown to $162.6 billion, probably the most since November 2018, in accordance with Lipper and LCD. The heady asset development got here regardless of a comparatively tepid mortgage secondary, which means AUM obtained little assist from rising costs within the buying and selling market.

Extra broadly, LCD estimates $8.9 billion of inflows into retail mortgage funds in February, together with month-to-month reporters. This was the third-highest month-to-month studying ever and adopted January’s $9.8 billion document. Including February’s retail mortgage fund investments of $8.9 billion to CLO issuance ($13.8 billion) leads to a complete measurable demand of $22.6 billion, up from about $14 billion in every of the prior two months. Measurable demand averaged $19.7 billion during the last 12 months and $19.5 billion in 2021.

Combining the $23.8 billion improve in outstandings in February, the proxy for provide, with $22.6 billion of measurable demand leaves the market with a $1.2 billion provide surplus, after a $11.2 billion scarcity in January. For 2022 general, measurable demand exceeds provide by $10 billion.

Asset courses

Though all danger belongings retreated in February, leveraged loans outperformed all different asset courses LCD tracks for this evaluation besides 10-year Treasurys. Equities, based mostly on S&P 500, posted the largest loss, down 2.99% in February, extending the year-to-date losses to eight.01%. Excessive-yield bonds declined 0.90% final month, bringing the year-to-date return to adverse 3.62%. Whereas loans are within the purple for each February and to date in 2022, they continue to be on the prime of the pack within the year-to-date.

Largest movers

The biggest decliners in February spanned a variety of debt points in what was a tricky month for the secondary mortgage market amid market volatility as a result of invasion of Ukraine together with heavy inflationary pressures. Whereas the triple-C portion of the index carried out the worst in February, the largest decliners had a mixture of rankings. Amongst them was Sinclair Broadcast Group, which dropped after the corporate reported disappointing outcomes for its fourth quarter. Sinclair reported adjusted EBITDA of $234 million on income of $1.476 billion, in comparison with the consensus estimates compiled by S&P Capital IQ of $244 million and $1.56 billion.

Shifting the opposite approach, AMC Leisure was among the many prime advancers final month because the issuer’s time period mortgage superior following earnings outcomes that shocked to the upside. The time period mortgage ended the month at 90.5/91.5, from 88.75/89.75 on the finish of January. The issuer additionally positioned a $500 million subject of seven-year bonds earlier in February to refinance excellent notes due 2025. Tenneco was additionally among the many largest advancers because the issuer’s time period mortgage jumped following the announcement that Apollo World Administration will purchase the corporate for $20 per share in money.

Sector returns

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