The uncertain US macroeconomic backdrop with inflation pressures, interest rate hikes, and a potential recession was a significant focus throughout 2023. Despite these challenges, we see three compelling reasons to consider investing in senior secured loans now. (This is an excerpt from our latest whitepaper, The case for senior loans. For a deep-dive into the sector and our outlook, read the complete paper.
Current income is comprised of two key components—base interest rates (which are expected to stay higher for longer) and credit spreads (which continue to remain wide). Coupon income for bank loans today is ~9.25%, which is near its highest since 20091. Market expectations are for rates to remain higher for longer, well above pre-2022 levels. Loans have proven to provide consistent, stable income through varying market cycles, including recessionary periods and periods of falling rates.
Loans have virtually no duration risk (average ~45 days). The forward SOFR curve currently implies an average 3-month SOFR rate of approximately 5% over the course of 2024. This reflects the broadly adopted market view that the US Federal Reserve (Fed) will pivot to easing interest rates late in 2024 and will lower interest rates cautiously. Recent economic data has been more supportive of a higher for longer interest rate environment, benefiting higher loan coupons.
Loans have offered one of the best yields in fixed income, while providing downside risk mitigation by being senior in the capital structure and being secured by the assets of the company. Loans have offered these high yields with no duration risk. In a recessionary environment, loans offer downside risk mitigation by being senior which means they are the highest priority to be repaid in the event of default. Senior secured assets may offer added risk mitigation throughout recessionary periods.
Read the complete whitepaper, The case for senior loans.
Source: Credit Suisse as of March 31, 2024.
Current market dislocations in private credit: Distressed debt
Rising interest rates and higher inflation set the stage for distressed investors to focus on solid, operationally sound companies in stable industries.
Current market dislocations in private credit: Direct lending
Direct lending has three components to yield: base rate, an upfront fee, and a spread component. On the supply side, there are over 200,000 middle market companies with a consistent demand.
The role of bank loans in a diversified portfolio
Important information
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Investment risks
Many senior loans are illiquid, meaning that the investors may not be able to sell them quickly at a fair price and/or that the redemptions may be delayed due to illiquidity of the senior loans. The market for illiquid securities is more volatile than the market for liquid securities.
The market for senior loans could be disrupted in the event of an economic downturn or a substantial increase or decrease in interest rates. Senior loans, like most other debt obligations, are subject to the risk of default. The market for senior loans remains less developed in Europe than in the U.S. Accordingly, and despite the development of this market in Europe, the European Senior Loans secondary market is usually not considered as liquid as in the U.S.
The value of investments, and any income from them, will fluctuate. This may partly be the result of changes in exchange rates. Investors may not get back the full amount invested.
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