Investors in Corporate Bank Loans to see Higher Default Rates
Investors in bank loans to corporate issuers cannot count on a “soft landing” as they have in the past when corporate default rates have risen and should expect to see lower recovery rates on such loans, according to Moody’s Investors Service.
Moody’s estimates that investors could see average recovery rates of 60 cents on the dollar or lower during the current upswing in corporate defaults, compared with an average 81 cents on the dollar over the past 20 years.
While we see no reason that company-level recovery rates will be worse than the historic average for default cycles, we do not feel the same way about bank debt recovery rates. Given the lack of debt cushion in the current vintage of leveraged companies, bank-debt recoveries may be substantially less than average.
By 2007, more than 70 percent of new corporate issuers rated by Moody’s were going to market with loan-only deals, as opposed to a more traditional debt structure that included a mix of bank debt and unsecured bonds. Layers of subordinated debt absorb losses first and serve to cushion investors from losses in bank loans.
Recovery rates are also impacted by the kind of default cycle facing corporate investors, Moody’s said. In times of heavy speculative-grade defaults over the past 20 years, recovery rates were as much as 10 percent lower than the average.
Moody’s analysis was based on the ultimate recovery results for more than 4,000 instruments taken from 800 companies that defaulted between 1987 and 2008.
For details, see “Heavy Bank Loan Issuance May Cut Recoveries as US Corporate Defaults Rise.”
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