By Katy Burne
Blackstone Group (BX) unit GSO Capital Partners has filed paperwork to launch the first actively managed exchange-traded fund dedicated to high-yield corporate loans, apparently sensing demand for floating-rate loans secured on company assets amid exaggerated price swings in fixed-rate "junk" bonds.
GSO, based in New York, filed preliminary registration papers for the "leveraged" loan ETF and is waiting for the Securities and Exchange Commission to approve the project. The manager of $51 billion in credit assets is acting as a sub-adviser to giant ETF provider State Street Global Advisors.
Peter Rose, a spokesman for GSO, declined to comment. Marie McGehee, a spokeswoman for State Street, also declined to comment.
According to an April 20 filing, the investment objective of the SPDR Blackstone/GSO Senior Loan ETF is to outperform a commonly used loan index, the S&P/LSTA U.S. Leveraged Loan 100, by "normally investing at least 80% of its net assets ... in senior loans."
Leveraged loans are increasingly popular with investors. Loan default rates are well below historical averages, loans rank above bonds in the capital structure and they offer yields above those on super-safe Treasurys and higher-quality corporate debt.
Many investors also have been looking to allocate money into loans because they offer a hedge against future interest-rate hikes, even though rates are forecast to stay low through 2014. Since loans are priced off a floating benchmark, which rises as absolute rates do, they are less likely to hurt investors as rates ramp up, something that--while far off--could happen quickly.
New deal supply also may foreshadow a gradual shift into loans. Junk-bond issuance so far in the second quarter stands at $46.9 billion, about half of the issuance from the first quarter, according to data provider Dealogic. Leveraged loan deal volume, by comparison, has reached $82 billion this quarter, 72% of the first quarter's supply, according to S&P Capital IQ.
Some recent junk bond deals have been shelved or cancelled. So far in the second quarter of 2012, high-yield mutual funds and ETFs had $2.8 billion of outflows, but there have been $1.3 billion of inflows into loan funds, albeit with the last three weeks seeing outflows, according to fund tracker Lipper.
What is stopping a rush into leveraged loans is their inferior returns. Junk bonds yield more and have performed better this year on a total-return basis. As of June 15, junk bonds yielded 7.82% versus 6.81% for leveraged loans, index data from Credit Suisse show.
However, junk bonds are deemed riskier and investors have started to worry that bondholders are not being paid enough to take on that additional risk in below-investment-grade debt.
The trailing 12-month U.S. high-yield default rate rose to 2.2% in May, topping 2% for the first time since October 2010, Fitch Ratings said on Thursday.
Leveraged loan prices are expected to be propped up thanks to a resurgence in collateralized loan obligations, or CLOs, whose backers acquire loans and package them up so they can be sold on to investors. CLOs issuance so far this year is already at $16.2 billion and many of those deals still need to be filled with loans.
For the full year 2011, mutual funds focusing on loans took in $13.3 billion and junk-bond mutual funds took in only $8.2 billion, according to Lipper. There were outflows from loan funds in the second half of last year because the CLO market comeback was not in full swing at that point.
Lipper says there are currently only two loan ETFs: the PowerShares Senior Loan (BKLN) and the iShares Floating Rate Note (FLOT).
The market for loan ETFs is $704 million, less than 3% of the size of the junk-bond ETF market, meaning loans in theory should be more stable in the face of jittery individual investors fleeing risky assets and demanding redemptions from bond ETFs.
Write to Katy Burne at firstname.lastname@example.org