Of all the changes in the sub-investment grade capital markets over the last decade, the blurring of the boundary between loans and bonds might have the most lasting impact.
It has spurred consistent growth in multi-asset strategy funds on the buyside, through which leveraged loans and high-yield bonds are managed together in a single strategy. This has spurred demand for both. The traditionally very different instruments are increasingly being treated as one and the same.
To some degree, this has come about because of the convergence in investor protection that has taken place over 10 years of quantitative easing and a relentless search for yield. High-yield bonds have historically incorporated just incurrence covenants – covenants that are put in place at the time of the deal – while loans have also involved maintenance covenants as well, which must be complied with throughout the term of the loan.
This was because loans were traditionally held by banks on their balance sheets and bonds were sold into the market. The latter were seen as riskier and lower down the capital stack than loans.
Not so any more. The two instruments now often rank pari-passu in the capital structure, and the vast majority of leveraged loans now issued are covenant-lite, carrying just incurrence covenants (by May 31 last year, 77.4%
