Vigorous lending driven by the desire for yield created a banner year for loan markets in 2021. Per S&P Global Leveraged Commentary and Data (LCD), the “U.S. leveraged loan market is on a record pace for issuance in 2021,” with total institutional loan volume at $487 billion as of the end of Q3 2021.1 As a result, the U.S. loan markets have drawn in $25.9 billion in investor inflows, while the volume of primary Collateralized Loan Obligation (CLO) issuance reached $46.7 billion in the same period.1 Separate data from Citi Research expects U.S. CLO issuance to reach $160 billion for the year.2 Globally, total loan volume reached $749 billion in the first three quarters of this year, also breaking records.1
The increasing availability of loans as an asset class, alongside the interest of both experienced asset managers and those new to loans, has also led to a spike in demand for high-quality loan data. In turn, this increased demand raises the bar for what providers of loan market solutions must deliver to add relevant value. Yet, due to the private nature of bank loans, particularly middle market loans, availability of market data from major industry providers may be incomplete or in some cases unavailable.
Market segments and needs
Among asset managers, there are three core segments of consumers of loan market data: 1) alternative asset managers in the private debt markets (including private equity firms and hedge funds), 2) traditional institutional asset managers looking to diversify either directly or via CLOs, and 3) insurance companies and pension funds. Asset managers within each segment come to loan markets with their own investment strategies and risk appetites, as well as unique requirements for reporting to their end investors.
As more asset managers turn to loan markets for yield and diversity, these segments require expertise to track and maintain underlying company credit statistics for portfolio management, in addition to the ability to handle loan accounting and other operational components. It is widely understood that managing loan portfolios requires a complex infrastructure of skills, people, and technology. In addition, many managers recognize that building those capabilities in-house can be cost prohibitive, and, in today’s job market, they also must contend with a highly competitive talent market.
As a result, outsourcing plays a crucial role in asset managers’ ability to participate in loan markets. The markets are an ecosystem where new entrants, small to mid-size asset managers, and even long-standing asset management firms looking to optimize their operations will actively seek out strategic partners among originators, custody managers, data providers, named agents, sub-agents, middle office, and/or fund accounting providers.
A network of providers and challenges
While a loan data and servicing network allows each participant to focus on what they do best, it also creates multiple exchange points for information about loans. When information moves from one party to another, it risks degrading in quality and timeliness. The complexity and private nature of loans makes it more likely for asset managers to wrestle with challenges in four main areas:
- Facility register integrity in areas such as global amounts, spreads, and maturity dates
- Accurate and timely cash availability data to optimize returns
- Aggregation and integration of data into meaningful reports and formats that ultimately benefit the end investor
- Buy-side breaks and reconciliations in areas such as loan data and characteristics between internal asset management systems, custodians and trustees, agent banks, rating agencies, and other third parties
Many in the industry look forward to a future where loan data is centralized, accessible in one platform (e.g., on the blockchain) to help address the data aspects of these challenges. However, it is important to be realistic about the constraining factors. First, loans present a high degree of customization. While trade organizations such as the LSTA and LMA help provide a level of preferred standards and best practices, no governing regulation forces the adoption of such standardization. Second, and perhaps more critical, communication and processes rather than the data itself can create steeper challenges to overcome.
This second cluster of factors bears further analysis. It ties back to key elements of the role of loan market service providers such as agents and administrators. Even automated reconciliation data, for example, still requires an asset manager to act on it to have accurate data on positions and cash. No technology solution by itself would change the need for information exchange, follow-up on the part of the agent, and efforts to resolve discrepancies within the dataset.
Even one of the loan industry’s leading reconciliation platforms requires parties to log in and research and reconcile identified breaks—it provides the foundation for the reconciliation, but it doesn’t provide the “why” behind the breaks. Technology is foundational, but people who are experts with syndicated loans are essential to the smooth, uninterrupted operation of loan markets.
The role of loan service providers
Future technological promises aside, paper, document images, email, and fax still plague today’s loan markets. While all market participants would likely prefer more efficient information exchange, today’s reality imposes a high degree of manual processing.
The ability of loan market solutions providers such as agents and administrators to absorb those challenges plays a vital role for asset managers in several ways. Asset managers should expect the following from their service providers and probe deeply to ensure they can deliver:
- The infrastructure needed to source, aggregate, and deliver loan data to meet the needs of asset managers and end investors
- The expertise and scale needed to handle the unique aspects of loans
- Responsiveness and timeliness in processing wires, settling trades, responding to inquiries, proactively communicating issues, and diligently pursuing issues to resolution
- Significant investment in data management and automation to provide more easily usable output to their stakeholders
- Leadership on challenging market and regulatory issues such as reporting templates, capital requirements, and LIBOR cessation
- Understanding of local lending regulations, documentation requirements, and bankruptcy laws needed to manage specific loans from those jurisdictions
In short, agents and administrators provide vital connective tissue in the broader loan markets. Providing an essential layer of skills, capabilities, data, and services makes it easier for asset managers to invest and trade in loans. They also help the asset class grow in attractiveness by making it viable for CLO managers and loan syndicates to offer instruments to an investment climate that is always searching for higher yield and diversification opportunities. While innovation in loan market solutions may seem to happen behind the scenes, it ultimately plays a fundamental role in the greater maturity and expansion of loans as an investment vehicle.
1 “LCD Quarterly Review, Third Quarter 2021,” S&P Global, October 2021 (PDF newsletter)
2 As cited in “CLOs: More Money, More Problems? We Think Not,” Payden & Rygel, 29 September 2021 (email newsletter)
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