September 22, 2020 - On Thursday September 17th, the LSTA and Fitch Ratings held the second lunch and learn of a three-part series, “Demystifying the ratings process and credit research”. Kenny Riaz of the LSTA was joined by LSTA Executive Director Lee Shaiman and Fitch Ratings Head of US Leveraged Finance Mike Paladino to share with participants a cross sectional view of how ratings are derived and used by portfolio managers.

Mr. Paladino covered the ratings side and Mr. Shaiman the portfolio management side of the session. On ratings process and approach, participants enjoyed a behind-the-scenes look at the multiple steps deployed by Fitch Ratings to provide an issuer with a credit rating. This multi-step approach was credited for allowing for headroom for rating stability as we entered the present Covid-19 pandemic. Mr. Shaiman noted that other rating agencies took a more aggressive approach as we entered the pandemic forcing CLO managers to adjust holdings due to rating downgrades.  The discussion then shifted to the portfolio management side, where Mr. Shaiman used his 40 years of Wall Street experience to explain what portfolio managers expect from a credit rating, reliability and dependability.

Headroom vs. headwinds around defaults and recoveries was the theme of the final topic. On the headroom front, liquidity for a borrower was noted as being paramount, allowing for the borrower to have enough room to navigate economic downturns. Yet, it was noted that as loan market participants continue to deploy tactics that undermine collateral protections – and thus the benefit of being senior and secured – recoveries would continue to face headwinds. The bottom line?  While no one has a crystal ball to see where defaults and recoveries will end up post Covid-19, we now know some of the key attributes that will determine how defaults and recoveries will fare this go-around.

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