• Exposure to slumping commodities-related companies grows
  • Divergence in spreads near crisis levels, Wells Fargo says

Investors in funds that are the biggest buyers of leveraged loans are signaling concern that some managers may have taken on too much risk as the commodities slump persists.

To own the BB rated portion of collateralized loan obligations in the secondary market, investors are demanding 7 percentage points to 9 percentage points more than a benchmark rate, according to Wells Fargo & Co. analyst Dave Preston. The gap probably hasn’t been that wide since the financial crisis, he said.

The $411 billion U.S. CLO market’s exposure to commodities-related companies has risen this year, even as crude prices have dropped about 60 percent from last year’s high, increasing concerns about the potential for downgrades and defaults. Leveraged-loan prices fell last month to a more than three-year low, with some energy debt being particularly hard hit.

“There are specific concerns if a portfolio is overexposed to loans trading below 85 cents on the dollar -- most notably those in the oil-and-gas or metals-and-mining sectors,” Preston said. “What you’re seeing is a tiering based on collateral, specifically based on the price of the underlying loans.”

Commodity Exposure

While the energy sector accounts for just 4 percent of all loans, it makes up 20 percent of the riskier second-lien market, according to an Aug. 21 Barclays Plc report. The bank said in the note that first-lien energy loans were trading near 80 cents on the dollar, and junior ranking second-lien loans were around 50 cents.

The median commodity exposure of CLOs raised after the financial crisis rose to 6.6 percent in June from 6.3 percent in January, with about 14.6 percent of those created after 2009 having at least 10 percent of their assets in the oil-and-gas or metals-and-mining industries, according to Moody’s Investors Service. The top 20 individual funds with the largest exposures ranged from 14.4 percent to 21.3 percent as of June.

Moody’s said Aug. 24 that it was reviewing 11 offshore drillers for downgrade because of an "extremely challenging operating environment through at least 2017" and the expectation that cash flows will fade amid sustained weak crude prices.

Seadrill Partners LLC, Ocean Rig UDW Inc., Paragon Offshore Plc and Pacific Drilling SA are on Moody’s list. All have loans held in outstanding U.S. CLOs, according to a Wells Fargo report last month.

Ocean Rig’s $1.87 billion first-lien term loan has fallen to about 72 cents on the dollar from above par a year ago, quotes compiled by Bloomberg show.

Wells Fargo is expecting $105 billion of CLOs will be raised in the U.S. this year, up from an earlier forecast of $90 billion, and compared to a record $124 billion in 2014, according to a Sept. 11 research note from the bank. The $74.6 billion created so far is 86 percent of the comparable period last year.

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