Loans now offer significant potential for price appreciation.

Senior loan prices traded off notably in 2015, and are now available at a discount to their par value, with potential for attractive price appreciation. Starting in late February 2016, we have begun to see signs of stabilization in the market, as flows have improved for senior loans, and spreads have started to tighten. We believe this trend can continue as market fundamentals appear stable.

The senior loan market has remained liquid, despite challenging conditions.

The senior loan market has grown over 300% to over $800 billion the past 10 years, and that growth has led to a greater breadth and depth of investors. This has led to higher trading volumes and lower bid/ask spreads. Settlement times for loans remain long relative to bonds but have historically not been an issue for liquidity in senior loan strategies. Among participants in the loan market, Mutual funds and ETFs are the two vehicles with the greatest need for daily liquidity. While both have experienced outflows over the past 18 months, they have been able to satisfy all redemption requests for that period.

New SEC regulations can potentially help the market.

The Securities and Exchange Commission has recently proposed a number of initiatives in an effort to protect investors. These efforts include:

  • Improving liquidity risk management across open-ended mutual funds and ETFs.
  • Requiring Collateralized Loan Obligation (CLO) managers to invest in their CLOs.
  • Providing guidance to issuers to cap leverage at six times earnings.
    If executed correctly, these efforts can help senior loan investors.

The environment for investing in senior loans appears favorable.

We believe senior loans belong as a dedicated allocation in fixed income portfolios with a variety of investment objectives because of senior loans’ unique attributes. In a growing economy, as interest rates rise, senior loans will generally benefit from improving issuer fundamentals, and would be expected to outperform traditional fixed income asset classes. In a deteriorating economy allocations to senior loans carry the potential for loss, but they are somewhat insulated from weakening credit conditions because of their senior, secured position in companies’ capital structure.

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