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European leveraged finance: COVID-19 and the flight to quality

What's inside

The European leveraged finance market remains resilient after a year of unprecedented hardship, as lenders dissect credits to determine the best possible deals, from pricing to documentary terms


As we enter 2021, COVID-19 continues to weigh on every decision, from our health to our work and our long-term plans and yet, despite these concerns, European leveraged finance markets have weathered the storm and remain positive about the year ahead

In March 2020, as lockdown restrictions took hold, the European leveraged finance markets ground more or less to a halt. Many feared the worst, as leveraged loan issuance dropped significantly that month and high yield bonds saw virtually no activity at all. Borrowers and lenders alike held their breath, shoring up their finances and waiting to see what might come next. And then, just as quickly, investor sentiment began to improve. By the end of Q2 2020, leveraged loan activity had returned almost to pre-pandemic levels.

And while it slowed somewhat in the latter half of the year, as new waves of COVID-19 swept across the UK and Europe, the final tally was up 11% on the year before—a remarkable achievement, confirming the market’s long-term resilience.

The story in high yield bond markets was equally impressive, ending the year up 10% on 2019 figures, with every indication that it will retain a larger share of the market in the months ahead.

What does all of this mean for 2021?

First and foremost, the influence of COVID-19 will continue to be felt, even as vaccines are rolled out across Europe. Sectors hammered by the first wave—including entertainment and leisure, hospitality, retail, oil & gas and aviation—will struggle to secure financing, having already done what they can to survive. Within those sectors, those that require financing and are able to secure deals are likely to have to pay for the privilege, with leveraged debt either becoming more costly for those whose credit has taken a hit or only being made available on tighter terms.

Second, and in contrast, lenders will turn their attention to high-quality credits or sectors that have found new avenues for growth during COVID-19, such as technology and healthcare.

Third, loan supply will continue to open up—but primarily for those that meet the right criteria. For those well-positioned companies, this flight to quality will continue to offer favourable terms and pricing, and the light-touch covenant packages that were the norm pre-pandemic should remain in place.

At the same time, an anticipated recovery in mergers and acquisitions and leveraged buyout activity will provide an additional lift in the early months of 2021.

And finally, the issues that were front of mind pre-pandemic will continue to influence borrowing and lending decisions, especially environmental, social and governance (ESG) factors—investors will take a positive view of any credits that incorporate ESG criteria in a meaningful way. This will no doubt drive this trend in the months ahead as recovery takes hold and global debt markets return to growth.

Living dangerously: How has European leveraged finance fared in the pandemic?

  • European leveraged loan issuance is up 11% on the previous year to €227.1 billion
  • High yield bond issuance is up 10% on 2019 figures to €100.5 billion
  • Average yields to maturity on high yield bonds widened from 3.8% to 4.7% in 2020
  • Average margins on institutional leveraged loans increased from 338 bps in Q1 2020 to 401 bps in Q4
stock market

Five trends driving post- COVID-19 documentation

  • Terms will move back in favour of borrowers/issuers (for now)
  • Lenders will hold the line in key areas
  • Forecasting and structuring will be a post-COVID-19 challenge
  • Pricing will continue to bifurcate by sector and rating
  • Competition will encourage private debt and syndicated markets to converge

Buyout rebound reflects optimistic outlook

  • Private equity deal value in Europe totalled €26.5 billion in Q2 2020, the lowest quarterly figure since Q3 2013
  • High yield bond issuance for leveraged buyouts (LBOs) in Europe is up 39% year-on-year to €7.8 billion
  • European leveraged loan LBO issuance declined by 6% to €36.8 billion year-on-year
Financial stock display

Market reset could trigger restructurings in 2021

  • In March 2020, credit insurer Euler Hermes forecast a 43% increase in insolvencies in the UK in 2021, as well as a 26% uptick in France and 12% in Germany
  • By December 2020, ratings agency S&P was forecasting European defaults rising to as much as 8% by the end of 2021
Financial stock display

European CLOs: A mere flesh wound?

  • New issuance of European collateralised loan obligations (CLOs) peaked at just under €4 billion in October 2020 from 12 deals—the highest monthly level since October 2019
  • European CLO new issuance declined 26% year-on-year, with refinancing volumes falling from €6 billion in 2019 to zero in 2020
  • By the end of March 2020, credit ratings on an estimated 10% of loans held by CLO managers were downgraded or put on notice of downgrade—however, the rate of loan downgrades eased and stabilised in the second half of 2020
Financial stock display

Sector split: The very different impact of COVID-19

  • Weighted average bids for healthcare and telecoms credits both priced at approximately 99% of par by the end of 2020
  • Entertainment and leisure and retail loans, meanwhile, priced in the 90% to 93% of par range
  • Between March and September 2020, only the transport and automotive sectors suffered more ratings downgrades and negative outlook changes than the oil & gas industry
Financial stock display

Leveraged finance: The United States versus Europe

  • In the US, leveraged loan issuance for 2020 totalled US$861.7 billion, a 4% year-on-year decline
  • The high yield bond market in the US saw a 69% year-on-year increase to US$428.3 billion
  • The European leveraged loan market increased by 11% to €227.1 billion year-on-year
  • The region's high yield bond market was up 10% to €100.5 billion

European leveraged debt in focus

Selected European leveraged loan and high yield bond markets by volume and value

What is shaping sponsor debt decisions for 2021?

  • Leveraged loan issuance for European LBOs dropped 6% year-on-year
  • High yield LBO issuance, however, was up 39% year-on-year to €7.8 billion
  • European direct lending volumes fell from 189 deals in 2019 to 138 deals in 2020
  • Ares Management underwrote the largest unitranche on record with the provision of a £1.875 billion financing package for Ardonagh


After years of warnings about maturity walls, impending cliff edges, downturns
and interest rate hikes that failed to emerge, COVID-19 was the event that brought
everything to a temporary standstill—but there's every chance that the markets will
explode with activity in the months ahead


Leveraged finance: The United States versus Europe

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  • In the US, leveraged loan issuance for 2020 totalled US$861.7 billion, a 4% year-on-year decline
  • The high yield bond market in the US saw a 69% year-on-year increase to US$428.3 billion
  • The European leveraged loan market increased by 11% to €227.1 billion year-on-year
  • The region's high yield bond market was up 10% to €100.5 billion

Leveraged finance markets in the US and Europe reacted to the impact of COVID-19 in much the same way through the course of 2020. Both experienced a steep decline in activity when lockdown measures first came into effect but then saw combined high yield and leveraged loan issuance return to relatively healthy levels by year end. Despite the uncertainty and dislocation, both markets revived swiftly through the second half of the year, setting the stage for a busy 2021. Pricing in the secondary market has recovered, as has M&A activity.

As for COVID-19, infection rates in Europe remain a risk, with further lockdowns and restrictions being implemented. The rollout of vaccines, however, has given all markets confidence, with the Dow Jones and the MSCI Europe back in the black.

The increase in high yield issuance in the United States in 2020—in Europe, high yield bonds rose by 10%


Up and down and up again

After a volatile 2020, leveraged finance markets in the US and Europe are poised for a more stable year. Both experienced a rollercoaster of activity in 2020 before rebounding in the second half of the year, restoring a much-needed sense of normalcy to the markets and setting the stage for deals in 2021.

The leveraged loan market in the US, for example, was particularly robust at the start of 2020, with January issuance of US$125.1 billion—up 70% on the US$74.5 billion figure recorded for December 2019, according to Debtwire Par. This momentum carried into February, with issuance of US$139.2 billion, before activity more than halved in March to US$65.3 billion and then dropped further still in April to US$41.4 billion.

Institutional loan issuance in the US saw an even deeper decline, dropping from US$103.5 billion in February to US$27.8 billion in March and US$17.6 billion in April. 

Despite concerns about this extreme decline in activity, leveraged loan issuance in the US came back to hit US$65.6 billion in June and then climbed to US$73.3 billion in September before peaking at US$88 billion in December.

By year end, data from Debtwire Par shows leveraged loan issuance in the US totalled US$861.73 billion, a 4% year-on-year decline but still far healthier than many expected after such a turbulent year. Institutional loan issuance, meanwhile, climbed 11% year-on-year, despite the fall in activity during the spring.

The European leveraged loan market, similarly, had a steady January and February according to Debtwire Par, with leveraged loan issuance of €29.6 billion and €26.2 billion respectively, before COVID-19 uncertainty saw activity fall significantly in March 2020. In June and July, European leveraged loan issuance bounced back to €33.7 billion and €23.1 billion respectively, in line with figures earlier in 2020. By the end of the year, the European leveraged loan market was up by 11% year-on-year to €227.1 billion.


High yield surge

The patterns for high yield issuance in each region followed a similar path. In Europe, high yield activity more than halved in February, at €6.6 billion, down from €16.5 billion the month before, before completely shutting down in March with almost zero issuance, according to Debtwire Par. But by the end of Q4 2020, it was up 10% year-on-year to €100.5 billion.

This shift in fortunes was even more pronounced in the US high yield market, with issuance at US$34.8 billion in January before dropping to US$4.5 billion in March. By the end of 2020, however, a surge in activity meant the US high yield market posted a 69% year-on-year increase to US$428.3 billion.

What was behind these dramatic turns? Borrowers scrambling to secure liquidity as secondary market pricing was falling, with everyone assessing all available options to strengthen their balance sheets.

The vast government stimulus of the CARES Act in the US and various state-sponsored employment retention and rescue loan schemes in Europe gave a degree of stability to both economies. Initially, leverage tests and dividend restrictions limited the use of these packages for leveraged borrowers, although steps were taken subsequently to open up these support loans. Many borrowers turned to the US high yield bond market for liquidity, where issuance more than doubled, quarter-on-quarter, to US$151.1 billion in Q2 2020— its highest quarterly total in five years.

The US Federal Reserve's move to buy corporate bonds cemented the recovery of the US HY bond market. So too did its move to cut rates, which made fixed-rate bonds more attractive than floating-rate assets.

The rise in US high yield issuance was also partly a result of a slowdown in the leveraged loan market, where bank balance sheets were stretched following substantial drawdowns on revolving credit facilities. According to S&P, US borrowers drew down US$274.9 billion from credit revolvers between March and May.

With the loan market restricted, the appetite for deals among US high yield bond investors was strong, especially if issuers offered security. The market share of secured bond issuance climbed to around 45% in Q2 2020 from around 30% in Q1 2020.

The US high yield market was also supported by the Federal Reserve's decision to continue buying the bonds of 'fallen angels' (credits downgraded from investment-grade to 'junk'), which injected further liquidity into the US high yield space.

European high yield markets also reopened in Q2 2020, but took longer to rebound. Issuance in April and May was still in the low single digits— volumes only showed a noticeable increase in June, rising to €16.2 billion.

Unlike the US, the bond buying programme of the European Central Bank (ECB) did not include scope to invest in fallen angels, but the ECB did loosen rules to allow banks to offer fallen angel bonds as collateral when accessing ECB liquidity. Normally, collateral had to be investment-grade.


Markets recover and M&A returns

The pace of recovery has been swifter in the US, with GDP rebounding 33.1% in the third quarter of 202016 versus 12.7% for Europe17— and signs are that this will carry into 2021, which will give companies and investors alike cause for optimism.

M&A also revived in the US, with values climbing more than five-fold from Q2 to Q3 2020. In Western and Southern Europe, M&A values more that doubled over the same period. The US election provided some additional stimulus for M&A, with US dealmakers moving to clear pent-up demand and get deals done. European dealmakers were more cautious, with the risk of new waves of infection and further lockdowns moving onto the horizon earlier than in the US.

All in all, the signs of recovery in the debt markets in both the US and Europe far outweigh the negatives, with companies and investors alike eager to put 2020 behind them.


16 "U.S. economy grew at an unrevised 33.1% rate in the third quarter". Reuters staff. 25 Nov 2020. Reuters.
17 "GDP up by 12.7% in the euro area and by 12.1% in the EU". Press release. 30 Oct 2020. Eurostat (PDF download).



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