It’s not unusual for investors to toggle between the US and Europe depending on pricing and terms

Randy Schwimmer

Head of capital markets and origination Churchill Asset Management

The accents may be different, but US and European direct lending markets have a lot in common

In early July we tuned into a conference originating from London on European leveraged finance. The discussion — covering the economy, ratings, covenants and structures — was virtually indistinguishable from a June US market conference held in New York, apart from the panellists’ accents.

Leveraged loan activity in Europe, for example, has generally returned to pre-covid levels. The pendulum for terms, which had swung investor-friendly a year ago, is more issuer-friendly. The asset recovery from last year’s downturn is also so complete there’s hardly an element of caution remaining.

The similarity in market conditions is impressive given the UK’s relative economic cratering last March. Not since the great frost of 1709 had that nation suffered such a dramatic slump.

But then Europe and the UK began to recover (just like the US), along with their debt capital markets — from the initial panicky revolver draw-downs to separating ‘have’ borrowers from ‘have-nots’, to the commercial upswing and deal snap-back in the fall, and the wild big-bang of closings at year end.

European leveraged lending has historically been dominated by commercial banks, in part due to the nationalistic character of its banking system, which draws strong support from community banks for middle market businesses.

As in the US, direct lending blossomed in Europe after the global financial crisis as regulated lenders were discouraged from holding leveraged loans. That gave rise to a slew of direct lenders — Arcmont, Hayfin, Permira and Tikehau, to name but a few — who built pan-European teams to source deals from private equity firms.

Legal frameworks create differences

But not all countries are created equal. Besides cultural wine-drinking versus beer-drinking variations, there are significant differences among legal jurisdictions. Even filing for security interests in certain geographies can be a challenge. And as one lender notes, “country-specific funds are compelled to follow the credit cycle of that country”. Or, they might have added, the covid cycle.

One fund of fund manager estimated that, of the more than 200 borrowers in its funds, 23% were “highly-impacted” by the pandemic compared to 17% in its private equity portfolios. These companies were found mostly in the retail, hospitality and travel sectors.

Number of deals breaks record

In our next article we’ll look at what it takes to be competitive in post-covid European private credit.

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But the rebound has been dramatic. Deloitte’s Alternative Lender Deal Tracker highlighted a “record-breaking run of deals in Q4 2020 [that] continued into Q1 2021, with 160 alternative lending deals closing in Europe, the highest ever recorded number of deals in a single quarter.

“70% of the quarter’s 160 deals were unitranche facilities,” the report continued, “compared to only 59% in Q4 2020, with the majority of the increase coming at the expense of senior facilities, which fell from 26% of deals in Q4 2020 to only 17% this quarter.”

S&P data showed Q1 European leveraged finance activity, combining both loans and bonds, at just under €80 billion — more than double Q4’s tally. New-issue institutional loan volume for Q1 was even stronger, up to more than €35 billion from under €10 billion from the previous quarter.

On the pricing front, average term loan B yields have slipped to just under 4%, having gapped out at the onset of covid last year to about 5%. A Credit Suisse research piece echoed this development. While all-loan spreads spiked to 750 basis points last May, they bottomed to new tights this June. Conversely, loan prices have reached new highs (98.7bp).

Yet it speaks to the stability of the asset class that Euro yields (and spreads) have otherwise remained range-bound since 2016. It’s therefore not unusual for investors to toggle between the US and Europe, depending on conditions for pricing and terms.

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Global credit funds & CLO's

August 2021 | Issue 237

Published in London & New York.