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Why Invesco thinks now is the time for senior secured loans
Investors have shied away from private credit assets like senior secured loans against an uncertain macro backdrop, but there are still three “compelling” reasons to consider investing in them according to Invesco’s private credit team.
The first is the high level of current income on offer; coupon income for bank loans is around nine per cent, the highest since 2009. The second is the floating rate feature, which leaves them with “virtually no duration risk”, and the third is their compelling relative value.
“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,” the Invesco team wrote in a note titled The Case for Senior Loans.
“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 as we enter a recessionary period.”
Invesco, like other asset managers, also anticipates that central banks are almost at peak rates. A pause will lower borrowing costs, potentially stimulating demand for new issuance, improve debt serviceability and lead to increased investor demand.
Even though retail demand for loans softened through the broader risk-off sentiment gripping markets, there is still a flow of new collateralised loan obligation creations through 2023, indicating a strong institutional appetite for loans. And while technicals are still finding equilibrium, market fundamentals for underlying issuers remain “relatively strong”.
Defaults are low relative to historical levels, and while macro concerns around a potential recession grow, the team believes the risk of defaults will remain low – the in-house forecast is around the 4-4.5 per cent range. It’s still the largest risk for investors, but they’re being “well compensated on a risk-adjusted basis”.
“We believe there is likely still ample opportunity in the loan asset class to generate higher than historical average returns… following the four periods since the Global Financial Crisis, when loan yields exceeded eight per cent (they are currently around 10 per cent), the loan market has delivered very strong outperformance over the ensuing 6-12 months (with a 10.69 per cent average 12 month forward return). We believe this may present a compelling entry point and opportunity for long term investors.”
