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The $3.6 Trillion Leveraged Loan Wall of Debt
Courtesy of MishThe Deal Magazine has an interesting discussion about That Worrying Wall Of Debt.
The leveraged loan market got accustomed to big numbers over the past decade. There’s $3.6 trillion, the amount of leveraged loans made since 2000, according to Thomson Reuters’ Loan Pricing Corp. There’s 735-fold, the amount of growth between 2003 and 2007 in the volume of collateralized loan obligations — the funds that helped fuel the loan market’s surge after the tech and telecom bust of 2001. And there’s $375 billion, the amount of bank debt used to fund leveraged buyouts completed between 2005 and 2007.
But right now, the leveraged loan market is fixated on one number: $430 billion, the amount in leveraged loans due to mature between 2012 and 2014. Despite the big numbers of the past, this might be simply too big. Indeed, the $430 billion figure is already worrying lenders, borrowers and loan-market investors alike as they struggle with the possibility that a large portion of those loans will neither be repaid nor refinanced, raising the specter of a wave of defaults among the debt-fueled LBO borrowers of 2005 through 2007.
As one executive at a private equity firm describes it, the availability of so much cheap debt profoundly affected how sponsors did business because it encouraged them to change their focus. "The PE firms were not investing in specific industries," he says. "They were investing in the capital markets."
This strategy was predicated on faith that loans could be continually refinanced, that exit options in the form of the equity markets or mergers and acquisitions fueled by more financing would be easily available and lead to profits that justified the outsized risk the sponsors were taking. There was also the belief that an ever-expanding economy would allow companies to keep increasing their Ebitda and pay down debt. The strategy had more than a few similarities with the one used by people who borrowed in increasing amounts to finance home purchases and hoped for either a quick flip or continually rising prices that would make debt more manageable.
The article discusses various ways that this debt can be paid back, but I am inclined to go with what The Deal calls the nuclear option: bankruptcies.
Recent examples include General Growth Properties, owner of some of the nation’s most prominent malls, including Chicago’s Water Tower Place (See Major mall operator here files for bankruptcy) and the June 14th filing of Six Flags one of the largest regional amusement-park companies in the country (See Six Flags Files Chapter 11).
Casinos are also at risk. On May 5th 2008 Tropicana casino group files for bankruptcy and on June 10th 2009the lavish Fontainebleau was another Las Vegas Wheel of Misfortune.
Fortunately, the appetite for new leveraged loans has ceased. Equity piranhas can no longer come in, strip companies of their assets, load them up with debt, pay themselves huge salaries, and watch the bones slowly go bankrupt, unable to make debt payments.
For now, Wall Street is unconcerned about the $430 billion in leveraged loans due to mature between 2012 and 2014. 2012 is simply too far away.
However, the clock is ticking on many things at once: Leveraged loans, boomer retirements and subsequent downsizing, Pay Option ARMs recasts, Alt-A recasts, and last but certainly not least, a jobless recovery that ensures massive credit card defaults. Such structural problems in conjunction with changing consumer attitudes towards debt all but guarantee an L-Shaped Recession. The recession will end, but don’t count on a recovery.
