Collateralized loan obligation managers are not likely losing much sleep over the potential technical default announced Tuesday by Valeant Pharmaceuticals.
Although Valeant is expected to report disappointing fourth-quarter 2015 revenue – and could be in potential technical default of its debt from a delayed annual report filing – the company is not likely to lose its standing as the No.1 obligor in U.S. CLOs anytime soon.
According to Thomson Reuters’ year-end 2015 data, Valeant had $3.8 billion in loan assets spread among 781 actively managed CLOs, with an average exposure of around 1% (maximum exposure is between 2 and 3 percent for any one particular CLO).
“From our view, any negative impact on CLOs will be contained,” said Oktay Veliev, a vice president and structured finance analyst at Moody’s Investors Service. Not only is the exposure contained from any potential default, Veliev said, but the company’s corporate and debt ratings still remain comfortably above levels that might stress the overcollateratization cushions for CLOs, even following Moody’s downgrade actions Tuesday that pushed Valeant down to a ‘B1’ corporate grade and a ‘Ba2’ senior secured debt rating.
“What it means for CLOs is that it is not captured in the so-called coverage haircuts,” said Veliev. “Typically credits that are rated ‘Caa’ are captured in coverage haircuts at which they are carried at their market prices, and that affects obviously coverage for CLOs.”
Valeant remained rated ‘B+’ by Standard & Poor’s, and a ‘1’ recovery rating for the senior secured debt of the company. “I’d say there’s limited impact right now despite the CLO” collateral exposure, said Stephen Anderberg, managing director on S&P’s structured finance team. “It could turn into a real impact if the [loan trading] price drops a lot more, but probably unlikely due to the high recovery prospects.”
Valeant remains on a downgrade review with both agencies. A technical default would lead to a C- or D-rating if Valeant does not file the 10-K by April or May and does not obtain a waiver from lenders. But both Moody's and Citigroup analysts have called that a low likelihood.
In the last three months, according to data from Thomson Reuters, CLO managers have been net buyers of Valeant debt. Managers bought $96 million of Valeant CLO holdings and sold $20 million in December, and have followed up by buying $63 million in Valeant assets and selling $30 million in the first two months of the year. The weighted average buy price was $96.42 per $100, and sell price was $96.35.
Late Tuesday, Citigroup released a survey indicating some CLO managers have mixed feelings on the Valeant risk. "While some are more hesitant to hold or add Valeant risk in low 90s when the stock is so volatile, others are taking advantage of the loan sell-off and buying to build par in the deal," a bank report stated.
One in four CLO 2.0 managers have increased exposure to Valeant since December and 10 have sold off their holdings, Citigroup's survey found. Citi itself maintains buy ratings on Valeant's loans and high-yield bonds maturing through 2022, and points out the company's term loan B series F offers a 5.2% yield despite being priced in the low 90s, compared to other healthcare credits yielding 4-4.5%.
Valeant’s debt holdings on Tuesday were the most heavily traded in secondary leveraged-loan and high-yield markets, where the company already holds a significant percentage market share of tradable assets.
Four of Valeant Pharmaceutical’s leveraged loans were among the top 10 decliners of loans rated on the JPMorgan Leveraged Loan Index. The term loans’ bid prices all lost between (-)2.17 and (-)2.92 to fall further below par on trading prices that range from 91.81 cents on the dollar and 93.13.
The company is the third-largest issuer of leveraged loans, accounting for 1.03% of the JPMorgan index. At the end of the fourth quarter is was also the 6th largest holder for loan mutual funds.
It’s most widely held loan a $4.1 billion loan originally priced at Libor plus 325 bps due 2022 with a Libor floor of 0.75%, fell (-)2.74 5o 92.05, and is down (-)3.93 on the year.
An estimated $1.7 billion in Valeant high-yield bonds traded Tuesday. The company is the fifth-largest issuer of U.S. high yield bonds at $17.8 billion, accounting for 15% of the $120 billion outstanding in the market.
According to KDP Investment Advisors, the delay in the 10-K annual report affects the release of the company’s cash-flow statement, providing an update to the guidance on the company’s plans for using free cash flow for debt reduction for the remainder of the year.