The value of leveraged loan holdings at mutual and exchange-traded funds fell for a third consecutive month in July, though rebounding secondary prices and a slower pace of outflows tapered the decline.
According to data from LCD and Lipper FMI, assets at US retail funds fell by $1.5 billion, putting losses at nearly $19 billion since May’s global market selloff and shift in sentiment toward floating-rate loans.
The total value of assets under management at US prime funds at the end of July was $158.2 billion, or roughly 11% of the $1.4 trillion leveraged loan market.
While a turnaround in secondary performance was not enough to encourage investors to allocate funds to leveraged loans, it has lessened the severity of withdrawals.
On the price component of asset values, secondary loans, after five months of steady declines, joined other risk assets in a mid-summer rally as investors began to reprice the path of Fed rate hikes. The weighted average bid of the Morningstar LSTA US Leveraged Loan Index closed the month of July at 93.64, recovering 189 bps after dropping to 91.75 on July 6, a level that represented a nearly two-year low reading for the asset class.
The decline of assets under management in July, therefore, was entirely attributable to investor flows. According to Lipper, investors pulled $4 billion from loan funds in the four weeks ended July 27, though with the improving market tone, the pace of withdrawals moderated to less than $1 billion in each of the last two readings of the month.
Looking ahead, in a positive sign, investors are warming up to credit risk.
After the dramatic widening of credit spreads in recent months, investors saw an attractive entry point to plow $6.8 billion into high-yield bonds in July, according to Morningstar. Duration risk also found favor, with long government funds attracting $7.3 billion in July.
In a more cautious read (given that investors have shifted focus from the floating-rate benefits of loans in a rising rate environment to concerns over the credit impact of higher funding costs), minutes from the July FOMC meeting released on Aug. 17 showed a 75 bps hike in September remains on the table.
In a bid to combat red-hot inflation, the Fed has raised its target benchmark rate by 225 bps this year, including two consecutive 75 bps increases already in its last two meetings, to a range of 2.25–2.50%.
The FOMC minutes revealed all participants in July agreed that “it was appropriate to raise the target range for the federal funds rate 75 basis points,” even though “recent indicators of spending and production had softened” signaling the committee would keep increasing its benchmark lending rates until inflation came down substantially.
“Participants recognized that policy firming could slow the pace of economic growth, but they saw the return of inflation to 2 percent as critical to achieving maximum employment on a sustained basis,” the minutes read.
Outside of retail demand, the market continues to be supported by institutional investors — the main buying base for the asset class. According to LCD, roughly $90.94 billion of new CLOs have been issued in the US market this year through Aug. 22. Though that’s down nearly 17% from the record-breaking pace of 2021, the market is on track for another $100 billion year for CLO creation.
Featured image by Jurgis Mankauskas/Shutterstock
Learn about our editorial standards.
