August is a good month to reflect on issuance over the course of the past year, ahead of the September push through to the holiday season and the advent of the new year. While syndicated leveraged loan and high-yield (HY) bond markets have endured a challenging time during the past eight months, sentiment is far from rock-bottom thanks to softening expectations of a US recession, leveraged yields stabilising, and defaults merely trickling upward. There may yet be further bumps in the road; however, the market appears ready to spring back into action as and when the shackles are loosened.

The subdued performance in the loan market has been supported by amend-and-extend (A&E) activity, as issuers look to shore up balance sheets ahead of the most telegraphed downturn in recent history. Refinancing has taken center stage in 2023, propping up issuance at over 80% of the total. Not pulling its weight this year is new-money institutional activity, which has seen an eye-watering 70% year-on-year (YoY) collapse on the back of a continuing lack of supply from M&A auction processes.

The ongoing reliance on refinancing activity via A&E transactions suggests issuers are in a holding pattern, continuing to push out debt that is due to mature in the near term, while future macroeconomic predictions remain unreliable.

Within the debt that has been raised, 2023 has seen a shift towards higher-rated firms, with 39% of leveraged loans rated BB or above this year, up from 32% in 2022 and 30% in 2021, indicating a market actively pursuing the safety of higher-rated credits. This adjustment, while notable, falls within historical patterns and represents a calculated adaptation rather than a drastic departure from established norms.

In line with this move, total and net leverage on new issuance has continued to decline, as average EBITDA rises in the aftermath of the pandemic and debts are simply rolled over, with new-money issues few and far between. Gross leverage in July fell to 3.9x, well down from 5.5x at end-2020.

Also in July, defaults hit 3% for leveraged loans, according to Fitch Ratings, having increased steadily from 0.4% in February 2022. Healthcare and pharmaceutical firms continue to lead the wave of defaults, with almost USD 14bn worth of loans within the past 12 months.

In the bond market, issuers are also preparing for harsher times ahead, electing to use secured structures over unsecured facilities. Secured notes had risen to 50% of senior issuance last quarter from 25% in 1Q21, providing further evidence of issuers’ emphasis on risk mitigation.

One positive takeaway is the relative stability of yields in both the loan and bond markets in recent months, rising 0.8% and 0.5%, respectively, over the course of the year. With hatches seemingly fully battened down, this stability could represent a calm before a storm or a continued softening of the once-likely cataclysm.

In a challenging macroeconomic environment, where rising interest rates stress debt on balance sheets, the leverage ratios of direct lending deals in Europe have continued to rise over the past 10 quarters, as Debtwire’s direct lending database shows.

The average ratio in Europe climbed to 4.6x in 2Q23 from 3.5x in 1Q21, a trend seen across all major regions. France recorded the smallest increase, as the leverage ratio inched up to 4.4x from 4.2x, whereas the UK’s average has rocketed to 5.4x from 2.9x.

Looking at the leading sectors in the market, leverage has been more volatile, but each shows a consistent upward trend, with all the main sectors demonstrating higher levels than in 2021. Leverage for deals in the services sector has escalated to 4.6x from 3x, while for firms in the TMT industry it jumped to 5x from 3x. Healthcare deal leverage hit 5.1x in 2Q23.

Margin resilience

By contrast, average direct lending margins have remained relatively stable since 2021. This stability is surprising given the leverage increase and higher-risk macro environment.

The average margin on direct lending deals has moved to 791 basis points (bps) from around 800 bps in 1Q21, peaking at 807bps in 1Q23 following a trough of 718bps in 2Q22.

Data also shows that stability is evenly spread among the main sectors, with healthcare, services and TMT deals pricing on average between 600bps and 800bps since the start of 2021. The exception is financial services, which has seen outlier deals boost the average figure in three of the previous six quarters, but with little impact on the general trend.

The data for specific regions has been more volatile. In the UK, one of the leading jurisdictions in direct lending, margins have only recently peaked in 2Q23 at 930bps. However, widening has been compensated by developments in other regions such as France and the DACH countries, where spreads have contracted since last year.

These numbers contrast with the large-cap loans space, which is also heavily linked to the Euribor inter-bank lending rate, but where margins have increased to 457bps from 398bps over the same period.

All this is happening in an environment in which direct lenders have been pushing into and challenging players in the syndicated loan space, showing an appetite to close deals with high leverage ratios.

On the other hand, while challenging syndicated loan players, direct lenders also face increasing competition in their own field.

Direct lending fundraising has seen exceptionally large executions over the past quarter, with Bridgepoint’s EUR 3.4bn fund closing last month and Permira’s EUR 4.2bn fund closing in mid-June. These add to the huge funds raised last year including a EUR 7bn offering from Barings, EUR 6.3bn from CVC and EUR 5bn from Ardian, among a plethora of others.

With more money to be invested in direct lending, borrowers are better positioned to fight for cheaper money, and therefore lower margins. This helps to explain the margin stability even when lenders face deal opportunities at levels of higher leverage.

Since its creation, the euro has been the most relevant currency in the European leveraged loan market. The most obvious choice for companies based in countries such as Germany and France has had a substantial comparative advantage, which can easily explain its preponderance.

Nevertheless, euro-denominated syndicated loans have expanded their dominance in recent years, leaving little to no room for other currencies in the European leveraged market.

According to Debtwire data, the share of the European leveraged loan syndication market denominated in the EU common currency jumped from 80% in 2015 to levels closer to 95% since 2019.

Source: Debtwire

The growth in the EU’s official currency dominance happened in parallel with the expansion of the European CLO market, which is predominantly based on euro-denominated loans. It has meant that European issuers seeking to issue loans in currencies other than the euro face limited demand and risk alienating an essential group of investors.

On the other hand, the CLO managers have created significant demand and an incentive to issue in euros. The amount analysis shows that the volume issued in non-euro currencies has fluctuated from EUR 4.5bn-equivalent and EUR 15.6bn-equivalent between 2014 and 2021, indicating a smaller but continuous market for this paper. The non-euro issuance share was squeezed by the impressive growth the euro-denominated market experienced during the timespan. Then, in the past year and a half, when the interest rates rose, issuance fell across different currencies.

Source: Debtwire / Creditflux 

Little room for local currencies

An analysis of the two main non-eurozone regions in Western Europe, the Nordic countries and the UK, shows clearly where and when the euro-denominated paper has gained decisive room.

In the pre-Brexit period, sterling-denominated loans comprised around 70% of the UK-based syndicated loan market. But the share has continuously decreased since 2015, plummeting to less than 10% in 2022.

Source: Debtwire

In the Nordic countries, the decrease in local currency denominated loans issued in Norwegian, Swedish, and Danish is less linear but still palpable. Issuers from Norway, Sweden and Denmark used to print 50% to 60% of their deals in their local currencies up to 2016, a figure that has dropped significantly during the pandemic.

In 2022, companies such as SSI, BoConcept and Carousel Logistics issued a combined EUR 300m-equivalent loans denominated in DKK, causing a jump in the local currency share to 26% of the total market. However, it appears to have been a temporary outlier, as thus far, in 2023, no Nordic institutional loans denominated in krone have come to the syndicated European market.

Source: Debtwire

Leveraged loan investors favour euro-denominated instruments in the current environment due to a decrease in both currency and liquidity risk caused by a deeper investor base. This move has cemented the gradual domination of the euro, which was spurred on over the years by the maturation of the CLO market and the weakening of the sterling investor base.

The number of debt-restructuring-advisor appointments in APAC (ex-Japan) mushroomed in 2Q23 compared to the previous quarter, though this sharp increase wasn’t due to a spike in new distressed situations, but rather to additional appointments being made on restructuring processes that had begun before the quarter.

A total of 72 mandates were awarded in APAC (ex-Japan) in 2Q23 compared with 40 in 1Q23 and 70 in 2Q22. Of the 72 mandates, 51 came from situations in which a debtor had defaulted for the first time or where advisors were appointed prior to this year. The advisory roles awarded in 2Q23 were for situations that involved a total USD 50.1bn debt, up significantly from USD 18.1bn in 1Q23 but down slightly from USD 59.8bn in 2Q22.

The 2Q23 numbers bring the total number of mandates awarded in the first half of the year to 112 roles in situations involving an aggregate USD 66.9bn debt. By comparison, there were 174 mandates involving USD 172.9bn debt in 1H22 (see page 7 of the attached report for a detailed breakdown of mandates by quarter).

‘Legacy’ Chinese Property workouts provide significant restructuring work

As was the case in 2022, most of the mandates in 1H23 were PRC situations related to the real-estate sector. In 2Q23, Chinese real estate sector roles accounted for 35 of the total APAC (ex-Japan) mandates and involved debt of USD 34bn, or 67.9%, of the total debt for which roles were awarded in the region in the quarter. As a result, the number of mandates related to Chinese real-estate situations in 1H23 totaled 48 on USD 40.3bn of debt versus 85 roles in 1H22 on an aggregate debt of USD 121.3bn.

Almost all the 35 China property sector mandates in 2Q23 were those that arose out of situations in which the debtor had defaulted or where restructuring advisors had been appointed prior to the April-June quarter. Thus, out of the 35 mandates arising from situations involving 18 developers or property managers, only one — Guangzhou Fineland Real Estate’s appointment of China CITIC in June for a potential liability management exercise for its 340m due-27 July 2023 bonds – was a mandate involving a new stressed or distressed situation. (Click here to view these cases on Debtwire’s Restructuring Database).

Five of these ‘legacy’ (i.e., situations where mandates or defaults had occurred prior to 2Q23) situations involved Chinese property companies that were each seeking to restructure more than USD 2bn in debt. The cohort included four developers – China Aoyuan Group, KWG Group, Jiayuan International Group and Powerlong Real Estate – as well as financial services and real estate conglomerate Oceanwide Holdings. 

• Aoyuan, which had by far the most mandated debt in this report, appointed PwC in mid-June as a monitoring accountant to ensure it remained in compliance with a standstill agreement. The developer on 2 July announced a holistic offshore restructuring plan, slightly more than 18 months after it first appointed restructuring advisors in November 2021 (see Debtwire‘s breakdown of the restructuring plan and Debtwire’s Legal Analysis of Aoyuan’s two distinct but inter-conditional schemes of arrangement).
• Oceanwide Holdings, which first defaulted on its offshore bonds in April 2021, finally provided some advisory work, with the company on 29 May this year announcing that Zhong Lun Law Firm had the same day been appointed by a Beijing Court as its provisional administrator. Prior to that announcement, Oceanwide had never announced the appointment of restructuring advisors, nor a proposal to restructure its debt.
• KWG announced on 14 May this year that it hired Sidley Austin to explore holistic solutions for its offshore debt. The developer completed a distressed exchange for three offshore bonds in September 2022.
• Jiayuan was ordered into liquidation in May this year, with the Hong Kong High Court appointing Hong Kong’s Official Receiver as the developer’s provisional liquidator.  The developer is seeking to have the Hong Kong court’s winding up order overturned. In August 2022, Jiayuan launched an exchange offer with a concurrent scheme restructuring support agreement (RSA) for its six offshore straight bonds, with the developer extending the process 11 times but ultimately abandoning the exchange offer on 26 April this year and instead opting to proceed with the scheme plan. However, that has so far failed too because of the Hong Kong court’s decision to have the developer wound up.
• Powerlong appointed numerous advisors for both an exchange offer and a separate term-out consent solicitation launched in June this year that collectively extended the maturity of five offshore bond tranches. The developer announced the success of the deal on 5 July. Almost exactly a year earlier, Powerlong completed an exchange offer for two of its due-2022 offshore bond tranches.

New restructuring situations

Only five restructurings processes began during 2Q23 – the two largest of which were Indonesian state-controlled construction company Wijaya Karya (Persero) Tbk and Indian budget airline operator GoAirlines (India) Pvt Ltd, both of which are seeking to recast over USD 1bn of debt.

Country breakdown

Including the 35 property-related mandates, Chinese companies from all sectors accounted for a total of 45 mandates on USD 43.5bn debt, or 62.5% and 86.9% of the respective 2Q23 totals. As the chart below shows, Chinese companies have provided a huge chunk of the work handed out to APAC restructuring professionals since about mid-2021, when the property sector began to collapse.

After PRC-related situations, the second highest number of mandates awarded in 2Q23 arose from just one Australian-related insolvency: cancer care provider GenesisCare Pty Ltd’s Chapter 11 process, which began on 2 June and generated nine mandates.  The Sydney-headquartered company had pre-petition debt of 1.7bn.

Top advisors

Alvarez & Marsal – which was awarded five mandates in 2Q23 involving USD 4.1bn of debt – won the most roles of any financial advisory firm during the quarter. By amount of debt, PwC appears to have towered above other financial advisors with the Big Four firm advising on situations involving USD 18.2bn debt. However, USD 16.83bn of the USD 18.2bn amount came from PwC’s role as Aoyuan’s monitoring accountant.

Sidley Austin won the most mandates of any law firm with seven roles involving USD 7.8bn of debt.

International bond placements in Central and Eastern Europe (CEE) reached a record USD 30.5bn in 1Q23, surpassing the previous high of USD 29.3bn set in 2Q20 in the midst of the coronavirus (COVID‑19) pandemic. Sovereigns had been seizing the opportunity when US Treasuries declined at the start of the year, as the Federal Reserve slowed on interest-rate hikes. However, 2Q23 opened at a snail’s pace, as the European Central Bank raised three key interest rates by 50 basis points (bps) in mid-March against a backdrop of instability in the global financial sector caused by the collapse of Silicon Valley Bank, First Republic Bank and Signature Bank, as well as the controversial rescue of Credit Suisse by UBS. Turbulent events in the global banking sector hit volumes, with only two EUR- and USD-denominated bonds totalling shy of USD 200m priced between April and May vs 11 hard-currency bonds for around USD 7bn priced in April and May 2022.

When to expect new deals

Between 2017 and 2019, Russia and Ukraine accounted for around 30% of Eurobonds placed in the region. Sanctions imposed on Russia and financial strain on Ukraine arising from the war manifest in zero issuances from these countries in 2022 and 2023 year-to-date (YTD). While we do not expect any primary activity from Russia on international markets for the foreseeable future, Ukraine is also unlikely to tap the market for new debt. The country’s distressed debt was restructured last year, and Ukraine is more likely to go through another round of restructuring as soon as the war is over.

Romania and Poland drove the slew of placements in 1Q23, with Poland printing around USD 8.8bn-worth of EUR- and USD-denominated bonds in the first three months, and Romania placing around USD 6.5bn of Eurobonds since the start of the year. Poland budgeted a PLN 68bn (around USD 16bn) deficit for 2023, therefore we do not expect the sovereign to tap the market before 3Q23. Romania’s government deficit was forecast to decrease year-on-year in 2023, but the disbursement of European funds totalling RON 9.35bn (around USD 2bn) was less than half of the budgeted amount, which heightened the strain on the economy. Given that 80% of budget expenses already go towards pensions, government salaries and debt servicing, we anticipated considerable strain on the pricing for new debt if the sovereign were to tap the market again before the end of the year.

Is there any demand?

Sovereign Eurobonds issued in 1Q23 saw strong demand from investors because of scarce supply in the CEE corporate space. Average coupons on USD-denominated bonds placed in the first quarter were around 6.61%, with yield to maturity averaging 6.72%, while EUR-denominated bonds had an average coupon of 3.56%, with yields averaging 3.91%. Spreads widened to an average of 310 basis points (bps) on USD-denominated bonds, reaching 385bps for Romania’s USD 1.25bn 7.625% 30-year bond placed in January. Spreads averaged 207bps on EUR-denominated bonds, reaching 375.3bps for Romania’s EUR 1.4bn tap on its EUR 850m 6.625% 2029s priced at the end of January.

Demand for sovereign bonds is consistent, and the abundance of offerings in the first quarter of the year suggests that CEE countries are likely to come to the market next in the third quarter to finance the remainder of their budgets for the year.

All data as of 29 May, 2023