October 26, 2021 - by Ted Basta. LSTA secondary loan trading volume dipped 13% during the third quarter to $175.4B. Year-over-year though, third quarter trade activity did rise 12% alongside an 8% increase in S&P/LSTA Leveraged Loan Index (LLI) outstandings, which recently hit a record $1.3T. In September, trading volume fell 9% to a 10-month low of $54.4B. And that was after consecutive declines during July and August. The same trend was seen in monthly market breadth, where the average number of loans traded each month during the third quarter dipped below 1,500 for the first time since last December. All this demonstrates that there was quite the shift away from the secondary over the past three months. Indeed, monthly volumes averaged just $58.5B, as compared to the $68.6B across the first six months of the year. As a result, the LSTA substantially decreased its projected trading volumes for full-year 2021 to around $790B, or roughly 3% ahead of last year’s record total. In turn, the market’s annualized turnover ratio is expected to remain in the 65% range, as it has for the past two years.
As one prominent buy-side trader put it, “Third quarter was all about accumulating loans, not necessarily trading them”. And that made sense from a number of vantage points. First, while year-to-date institutional leveraged lending activity has already set a new annual record, visible demand levels have simply been off the charts. By September’s end, 2021 CLO creation ($127B) and Loan Mutual Fund/ETF inflows ($36B) combined to total a record $163B in new demand. All told, CLOs and Loan Mutual Funds/ETFs hold an approximate $976B share of institutional loans outstanding or roughly 75% of the market. Clearly the skew here is towards CLOs which hold $840B or 65% of outstandings. Second, there just isn’t a lot of “juice” left to be had in a secondary market that continues to trade at seven-year highs; indeed, the yield-to-maturity (YTM) on the LLI stands at an all-time low of 4.2%, after tightening 50 basis points since year-end.
While there was a slight pullback in prices during August, where traders quickly bought the dip, secondary levels remained range bound across most of the third quarter. The average trade price level hovered in a 98.75 context while the median trade price stabilized around 99.75, or a mere 25 basis points shy of par. Similarly, the median bid-ask spread has stubbornly sat in a low 40-basis points context for the better part of the past four months. Despite the onslaught of new money needing to be put to work, traders have mostly been shying away from buying loans north of par value in the secondary. In September, just 22% of trade activity transacted in the par-plus range. From that point of view, the secondary appears well bid, but not necessarily overbought as we saw back in the first half of 2018, when par-plus market share averaged almost 60% of trade activity.