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: Renewed technical footing in the senior loan market has been on display for three weeks and counting. Following an unprecedented purge, the weak spot of retail redemptions has again given way to net subscriptions. Modest as the inflows may be at present, accounts flush with cash have translated to a strong demand-surplus condition. With new-issue supply broadly at bay — only a few new deals have materialized post-selloff — ready cash stores are being deployed in the deeply discounted secondary market. That's had the effect of shooting prices sharply higher from their late-March lows.
Though the market has regained much ground — the S&P/LSTA Leveraged Loan Index sits at an average price of 86.4 on April 15, more than 10 points higher than the low of 76.2 on March 23 — current levels still rank among the absolute lowest in the long history of the asset class, outdone only during the financial crisis. The first quarter of 2020 made history as the second-worst calendar quarter ever (behind only the fourth quarter of 2008), yet April's more than 4.5% return to date (in just two weeks) has set up the second quarter of 2020 with one of the best quarterly starts ever.
What we are doing: We remain squarely focused on value determination. We have dry powder to deploy, but it's not as simple as throwing money at the market. Compared with the indiscriminate selling that characterized late February and most of March, discernment has increasingly returned to the market. This is good to see. As is the typical form, high-quality and large liquid credits have led the rebound: the BB-only and top-100 buckets sport average prices of 93 and 91, respectively. Elsewhere, managers must now sort through the nearly 60% of the market in the B-ratings tiers, which together have an average price around 87, and with significant variance around this figure. As we look to put money to work, we're asking ourselves good but hard questions. Should we buy this relatively "safe" BB-rated credit at 98, or this high-conviction B-rated name at 88? One entails less risk, one entails more opportunity. In short, we're looking to strike the right balance between offense and defense, and that, put simply, is what's at the heart of our effort to optimize risk and return for our loan strategy clients.
What we are watching: Dislocations like this indeed provide ample opportunity, but we're proceeding with a measured approach as we always do. There will continue to be much to think about in the weeks ahead. At the intersection of today's low prices are a wave of credit downgrades unfolding by the day, but also the Federal Reserve's many support programs and the growing number of governors beginning to talk cautiously but optimistically about the reopening of the economy. Levels of distress have declined sharply in the last few weeks, and we expect more of this should the demand picture remain strong. The easy pickings will be harder to come by as the market rebounds but plenty of opportunity runway remains for now. We believe that an emphasis on quality and diversification never goes out of style.
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 to justify current pricing levels. Upside potential remains.