Floating-rate loans have rallied, but we still see value

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The views expressed in these posts are those of the authors and are current only through the date stated. These views are subject to change at any time based upon market or other conditions, and Eaton Vance disclaims any responsibility to update such views. These views may not be relied upon as investment advice and, because investment decisions for Eaton Vance are based on many factors, may not be relied upon as an indication of trading intent on behalf of any Eaton Vance strategy. The discussion herein is general in nature and is provided for informational purposes only. There is no guarantee as to its accuracy or completeness.

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      By Andrew Sveen, CFACo-Director of Floating-Rate Loans, Eaton Vance Management and Craig P. RussCo-Director of Floating-Rate Loans, Eaton Vance Management

      Boston - Eaton Vance and its affiliates seek to actively capitalize on opportunities presented by volatile investor sentiment, while ensuring that the portfolio risk profile remains appropriate for the specific strategy. The following are excerpts from a recent conversation with Andrew Sveen, CFA, and Craig P. Russ, Portfolio Managers, Co-Directors of Floating-Rate Loans for Eaton Vance Management.

      What we are seeing: We're witnessing significant interest from clients, both in terms of inquiries into March's historic price drop but increasingly on conversations related to opportunistic allocations into the asset class. In no small part related to the latter, we've also begun to see the market regain some of its technical footing, and subsequently the late-March rally has now carried into early April. We would describe the turnaround as nascent, as it's only been two weeks and loans remain still at deep discounts. To be sure, the average price for the S&P/LSTA Leveraged Loan Index closed at 83.9 on April 7, up from the low of 76.2 on March 23 but well below the 95.2 level where the Index opened the month.

      What we are doing: We're focused on our loan holdings and their underlying credits, and we remain engaged with our clients. As the quarter began to unfold, we began taking stock of the myriad implications of the spread of coronavirus and its potential knock-on effects for the global economy and financial markets. Though the speed and degree of the loan market sell-off were anything but expected, the experience for clients may have been more unnerving than in our seats as professional investors in bank loans. We're guided by a consistently applied investment philosophy and process, and of course the comfort of experience that comes only from many years investing in this asset class.

      While every cycle is different in its own unique ways, there are common themes that tend to resonate through time. One of them is that the technical factors have tended to overshoot in periods of great uncertainty. Another is that sell-offs have tended to precede fundamental fallout. For these reasons, it can and has occurred that some of the worst default levels ever recorded happened to coincide with some of the best absolute performance in this asset class. Few issuers defaulted amid 2008's sharp technical downturn, yet the best-ever calendar year, in 2009, also delivered an all-time peak in the default rate. As long-term investors, our job is to look through this apparent irony, cutting through the short-term technical noise in search of longer-term fundamental value for our clients. That's how we're spending our days.

      What we are watching: In the near term, the virus situation and its implications cloud the outlook. The depth and duration of the recession at hand will be a major variable, as a shorter and shallower contraction should produce fewer defaults than a deep or prolonged one. Though the path remains unknowable, reasons for optimism have begun to present themselves. Major retail redemptions have retreated, and new-issue supply remains virtually nonexistent. Meantime the picture is beginning to clear on the track of the virus, globally but importantly in the US as well. These factors notwithstanding, the economy will struggle this quarter and markets will likely remain uneven and choppy at times. As we await a clearer read on the macro picture we've re-underwritten the limited share of credits we believe fall within the most severely impacted areas with the greatest immediate virus fallout, and we estimate these to roundly account for some 10-15% of our exposures.

      Final word: The recent rally notwithstanding, we continue to see significant value in this asset class. However we run the numbers at present, in our view it would take an incredibly draconian scenario (and we would go so far as to say far-fetched) to justify current pricing levels.