capital markets insights - q4 2016
TRANSCRIPT
Capital Markets Insights Q 4 2 0 1 6 R e v i e w
Capital Markets Insights | Q4 2016
Highlights
Following the quarter-point
December rate hike and
hawkish Fed statement, U.S.
monetary policy lessened as a
source of market volatility.
A surge in demand for new credit
issuance contributed to increasingly
competitive pricing and, in
particular, structural terms for
middle-market issuers.
Energy-related issuance surged in
recent months as commodity markets
reacted to increased demand and
OPEC-led supply discipline.
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Investors enjoyed a strong rally in equities, energy and the dollar in the
final quarter of 2016, while Treasurys and precious metals largely traded
downward. A newly hawkish Federal Reserve policy, combined with an
incoming administration biased to fiscal stimulus and tax reduction,
accounted for much of the reaction of the capital markets.
Corporate credit costs for middle-market (non-investment grade) issuers
held roughly constant. The sharp Treasury sell-off was largely offset by a
tightening of corporate spreads. And while we attribute most of the
spread tightening to improving fundamental conditions, increasingly
issuer friendly technical conditions contributed as well. We observed
robust fundraising, especially among capital pools oriented toward
floating rate loan strategies.
Energy bond issuance, having been moribund for much of the year,
increased dramatically - a 17% increase in volume over the third quarter
of 2016 and over 450% increase over the fourth quarter of 2015 - as oil
reached its highest price since July 2015.
Dividend recap issuance surged prior to the election due to concerns
about a potential slowdown in growth under the broadly anticipated new
Democratic administration. Upon the election’s outcome, recap activity
significantly diminished.
Finally, we note that the 90-day LIBOR rate pierced 1%, the floor
oftentimes incorporated into corporate loans, for the first time since the
Great Recession. Consequently, floating rate loan costs have become
directly linked to monetary policy changes for the first time in more than
seven years.
Capital Markets Insights | Q4 2016
Executive Summary Market conditions at the fourth quarter’s outset largely reflected expectations of
continued (albeit modest) economic growth and accommodative monetary policy.
At mid quarter, the presidential election results portended a period of fiscal
stimulus and tightening monetary policy. Further, the first significant OPEC-led oil
supply contraction in eight years triggered a firming of energy prices. Overall, the
quarter witnessed a sharp rally in equities, tightening credit spreads, a downturn in
Treasury prices and a strengthening of the U.S. dollar.
The broad S&P 500 index rallied 3.0% in the quarter (4.8% since the election),
while the Nasdaq rallied 1.3% (4.0% since the election). Much of the post-election
rally was attributable to the market’s anticipating a period of regulatory relief, fiscal
stimulus and tax cuts under the new administration. In parallel, the Treasury
market sold off, as the combination of more restrictive monetary policy and inflation
concerns surfaced. The 10 year yield, having reached a trough of 1.37% in July,
rose from 1.60% to 2.45% over the quarter.
As interest rates began to correct, spurred upward in no small part by the Fed’s
announcing plans to raise the Fed funds rate by 75 basis points in 2017, asset
managers are revisiting their asset allocation strategies. In recent weeks, we have
observed numerous middle-market credit managers announcing the launch and/or
closure of new funds, as well as the reallocating of assets among pension funds,
multi-strategy managers and life insurance companies.
Anecdotally, Duff & Phelps has observed a significant broadening of the universe
of bidders for our recent middle-market credit offerings as a result of new entrant
participation. The competition for new issues has empowered agents to negotiate
aggressively with respect to cost of capital and, at least as important, unusually
favorable structural terms.
Dividend recapitalizations accelerated into the election on anticipated changes to
tax policy and slow growth assumptions, with October volume alone exceeding
that of the third quarter. Post-election recaps subsided as macroeconomic
concerns abated.
The relevance of interest rate floors in floating rate loans has begun to wane in
recent weeks. The 90-day LIBOR rate rose above the 1% floor typical of non-bank
loans during the quarter. Consequently, lenders are enjoying direct linkage to base
rate increases for the first time since the financial crisis in 2009.
We believe prevailing credit market conditions are compelling for prospective
middle-market issuers. Technical conditions are unusually favorable, with a flurry of
new vehicles coming to market and asset managers increasing allocations to fixed
income. And, while base interest rates and, to a lesser degree, credit spreads are
expected to correct, currently prevailing all-in rates are largely unchanged from the
beginning of the quarter. Finally, favorable market conditions have garnered
issuers exceptionally flexible structural terms.
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Capital Markets Insights | Q4 2016
LEVERAGE MULTIPLES
SENIOR EBITDA OF $10MM — $20MM
2.50x — 3.50x
EBITDA OF $20MM — $50MM
3.00x — 4.00x
TOTAL DEBT EBITDA OF $10MM — $20MM
3.50x — 4.50x
EBITDA OF $20MM — $50MM
4.00x — 5.50x
Indicative Middle-Market Credit Parameters
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Capital Markets Insights | Q4 2016
SECOND LIEN LIBOR + 6.50% — 9.50% LIBOR + 6.00% — 9.00%
SUBORDINATED
DEBT
11.50% — 13.50%
11.00% — 13.00%
10.50% — 12.50%
10.00% — 12.00%
UNITRANCHE LIBOR + 6.50% — 9.00% LIBOR + 6.00% — 8.50%
Indicative Middle-Market Credit Parameters
FIRST LIEN LIBOR + 2.75% — 3.50% (bank)
LIBOR + 4.00% — 6.00% (non-bank)
LIBOR + 2.50% — 3.25% (bank)
LIBOR + 4.00% — 6.00% (non-bank) FIRST LIEN
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PRICING EBITDA OF $10MM — $20MM EBITDA OF $20MM — $50MM
INFORMATION IN RED REPRESENTS PRIOR QUARTER VIEW
Capital Markets Insights | Q4 2016
High-yield volume declined for the third consecutive quarter, with dollar volume falling
by 25% and deal volume declining by 17% versus the third quarter. Uncertainty around
the election outcome and monetary policy muted issuance in October and November; a
meaningful uptick followed in December (highest December since 2013) as issuers
changed course and sought to lock in rates. A significant increase in new energy
issuance, largely due to OPEC’s decision to reduce production, accounted for the
highest issuance by any sector in the quarter and totaled 35% of 2016 issuance. Total High-Yield Bond Issuance
Source: LCD Comps
83.9 82.5 82.1
68.6 74.9
105.1
68.9 64.5
91.3 94.1
39.8 36.3 36.1
83.4
62.7
47.1
166 176 155
146 146
178
123 112
129
163
61 53 55
112 107
89
0
50
100
150
200
250
300
1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15 4Q15 1Q16 2Q16 3Q16 4Q16
$0
$25
$50
$75
$100
$125
TH
OU
SA
ND
S
Total Bond Volume ($B) Number of Tranches
New Issuance
6
Capital Markets Insights | Q4 2016
506.4
596.4
547.8
606.9
480.5
621.7
507.5
672.1
436.9
662.5
605.0 604.5
398.0
692.6
499.4
706.9
888
1,104
1,054
1,210
1,026
1,216
1,142
1,192
897
1,248
1,029
1,148
879
1,149
1,006
1,106
500
1,000
1,500
2,000
1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15 4Q15 1Q16 2Q16 3Q16 4Q16
$0
$200
$400
$600
$800
TH
OU
SA
ND
S
Total Loan Volume ($B) Number of Deals
Dollar volume of new loan issuance reached the highest mark we have seen in recent
quarters, while number of transactions reverted toward the mean. Refinancings
constituted the largest share of uses of proceeds, followed by M&A activity and
leveraged recaps.
Total Loan Issuance
New Issuance
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Source: SDC Platinum
Volume data includes deals reported as of 1/15/2017
Capital Markets Insights | Q4 2016
Total middle-market loan issuance rebounded strongly in the fourth quarter.
Total Loan Issuance (EBITDA < $50MM)
254.8
294.6
217.0
277.1 265.8
307.2
231.1
256.6
174.3
304.3
244.9
269.8
170.6
323.5
262.9
335.2
664
856
796
916
799
954
896
897
675
939
806
885
686
903
815
891
500
750
1,000
1,250
1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15 4Q15 1Q16 2Q16 3Q16 4Q16
$0
$70
$140
$210
$280
$350
TH
OU
SA
ND
S
Total Loan Volume ($B) Number of Deals
New Issuance
8
Source: SDC Platinum
Volume data includes deals reported as of 1/15/2017
Capital Markets Insights | Q4 2016
Fund Flows
Collateralized loan obligation (CLO) issuance increased for the fourth consecutive
quarter, as managers and investors prepared for stricter risk retention rules under
Dodd-Frank.
Total CLO Issuance
Source: LCD Comps
26.3
16.0 17.0
24.6 22.6
38.3
32.4 30.7 30.8
28.6
18.9 19.6
8.2
18.0 19.9
25.6
52
34 36
53
45
69
58
63
57 55
36 40
20
42 41
52
0
20
40
60
80
1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15 4Q15 1Q16 2Q16 3Q16 4Q16
$0
$10
$20
$30
$40
$50
$60
Total Fund Flows ($B) Number of Deals
9
Capital Markets Insights | Q4 2016
Leveraged loan funds in the fourth quarter enjoyed inflows at the highest rate since the
first quarter of 2014 as mutual fund investors positioned themselves for a rising yield
environment. Given relative uncertainty around interest rates prior to the December Fed
meeting, high-yield bond fund flows fluctuated before sharply increasing at quarter’s
end.
Mutual Fund Flows
Source: Investment Company Institute; Lipper FMI
Jan-13 Jul-13 Jan-14 Jul-14 Jan-15 Jul-15 Jan-16 Jul-16 Jan-17
($20)
($15)
($10)
($5)
$0
$5
$10
$15
MIL
LIO
NS
High-Yield Bond Fund Flows Leveraged Loan Fund FlowsTotal Fund Flows ($B)
Fund Flows
10
Capital Markets Insights | Q4 2016
Leverage Mean total leverage multiples for middle-market financings tightened slightly this quarter.
Second lien debt represented a significantly larger portion of capital structures than in the
third quarter. While commercial banks continued to demonstrate modest risk appetite,
credit funds and BDCs, among others, filled the void with unitranche solutions.
Leverage Multiple (EBITDA < $50MM)
Source: LCD Comps
4.9x 4.7x
5.3x
4.5x 4.7x
5.1x 5.2x
4.8x 4.8x
4.4x
5.6x 5.7x
4.9x 5.0x 5.0x 4.8x
1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15 4Q15 1Q16 2Q16 3Q16 4Q16
0.0x
1.0x
2.0x
3.0x
4.0x
5.0x
6.0x
First Lien Second Lien SubordinatedDebt / EBITDA Multiple
11
Capital Markets Insights | Q4 2016
Middle-market M&A activity continued at the robust pace of the prior two quarters.
Middle-Market M&A Volume (Target EBITDA < $50M)
130.7
113.3
264.0
181.5
150.6
206.8 199.4
165.5
192.1
158.2
258.0
171.2
126.5
208.1 208.1 217.1
2.2 2.1
2.5 2.6 2.5 2.6 2.6 2.7 2.6 2.7
2.6 2.4
2.6
2.8
2.7 2.9
1.0
1.8
2.6
3.4
4.2
5.0
1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15 4Q15 1Q16 2Q16 3Q16 4Q16
$0
$50
$100
$150
$200
$250
$300
TH
OU
SA
ND
S
TH
OU
SA
ND
S
Total M&A Volume ($B) Number of Deals
(thousands)
Transaction Volume
12
Source: SDC Platinum
Volume data includes deals reported as of 1/15/2017
Capital Markets Insights | Q4 2016
Dividend recapitalization activity increased to a three-year high this quarter. Prior to the
election, recap volume was largely driven by concerns around unfavorable tax and growth
policy. Upon President Trump’s election, recap volume subsided as macroeconomic
concerns abated.
Loan Issuance for Dividend Recapitalizations
Source: LCD Comps
$17.8
$27.3
$14.0
$10.7
$17.0 $18.3
$13.4
$4.1
$6.5
$15.2
$12.8
$3.1
$0.2
$14.2
$11.9
$21.6
1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15 4Q15 1Q16 2Q16 3Q16 4Q16
$0
$5
$10
$15
$20
$25
$30
Total Loan Volume ($B)
Transaction Volume
13
Capital Markets Insights | Q4 2016
Yields Yields on widely traded leveraged loans fell approximately 35bps this quarter while
yields on high-yield bonds ended the quarter essentially flat. Despite the announcement
of a Fed rate hike in December, the continued improvement in energy market conditions
kept yields in check.
U.S. Corporate High-Yield Bonds and Leveraged Loans
Source: SDC Platinum
Jan-13 Jul-13 Jan-14 Jul-14 Jan-15 Jul-15 Jan-16 Jul-16 Jan-17
4.5%
5.5%
6.5%
7.5%
8.5%
9.5%
10.5%
HU
ND
RE
DS
Barclays U.S. Corporate High-Yield S&P/LSDA U.S. Leveraged Loan 100 All LoansYields (%)
14
Capital Markets Insights | Q4 2016
Spreads between U.S. corporate high-yield bonds and the 10-year Treasury decreased
by approximately 90bps during the quarter, reflecting an overall increase in perceived
fundamental credit quality across sectors. This rally in credit spreads largely offset rising
base rates to keep bond yields essentially flat for the quarter.
Source: Bloomberg; LCD Comps
Jan-13 Jul-13 Jan-14 Jul-14 Jan-15 Jul-15 Jan-16 Jul-16 Jan-17
0
200
400
600
800
1,000
U.S. Corporate High-Yield Bond vs. 10-Year Treasury Spread
Spread (bps)
Yields
15
Capital Markets Insights | Q4 2016
Treasury yields increased significantly in the fourth quarter, driven almost entirely by
monetary policy, with 10-year yields increasing approximately 85bps. The combination
of the announcement of the Fed rate hike and the associated guidance to three more
25bps rate hikes in 2017 pushed yields higher.
Source: Bloomberg
2-, 5- and 10-Year Treasury Yields
Jan-13 Jul-13 Jan-14 Jul-14 Jan-15 Jul-15 Jan-16 Jul-16 Jan-17
0.0%
1.0%
2.0%
3.0%
4.0%
2-Year 5-Year 10-YearYield (%)
Yields
16
Capital Markets Insights | Q4 2016
Spreads between long-term and short-term Treasury yields increased by approximately
40bps during the quarter.
Source: Bloomberg
Jan-13 Jul-13 Jan-14 Jul-14 Jan-15 Jul-15 Jan-16 Jul-16 Jan-17
0
50
100
150
200
250
300
2-Year vs. 10-Year Treasury Spread
Spread (bps)
Yields
17
Capital Markets Insights | Q4 2016
Macroeconomic Update
Macroeconomic conditions in the U.S. continued to strengthen in the
quarter. Positive employment reports, the U.S. election outcome and
strong GDP growth projections contributed to the market rally in equities.
The unemployment fell to 4.7% as the labor force participation rate rose to
62.7% in December.
U.S. Real GDP Growth
GDP Chart Source: Federal Reserve
Labor Statistics Source: U.S. Bureau of Labor Statistics
Fourth quarter data represents Atlanta Fed GDPNow Projection as of 1/15/2017
Jan-13 Jul-13 Jan-14 Jul-14 Jan-15 Jul-15 Jan-16 Jul-16 Jan-17
0.0%
0.5%
1.0%
1.5%
2.0%
2.5%
3.0%
3.5%
4.0%
GDP Growth Rate
18
Capital Markets Insights | Q4 2016
Macroeconomic Update
In recent months, we have seen a significant strengthening of the U.S.
dollar compared to other major benchmark currencies. The primary drivers
of the rally are a strengthening U.S. economy and a tightening of U.S.
monetary policy.
U.S. Dollar Foreign
Exchange Rates
Source: Federal Reserve
Jan-13 Jul-13 Jan-14 Jul-14 Jan-15 Jul-15 Jan-16 Jul-16 Jan-17
-35.0%
-30.0%
-25.0%
-20.0%
-15.0%
-10.0%
-5.0%
0.0%
5.0%
10.0%
EURUSD GBPUSD USDJPYForeign Currencies vs. USD
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Capital Markets Insights | Q4 2016
Contact Us
Michael Brill Head of U.S. Private Capital Markets
+1 212 871 5179
Bob Bartell, CFA Global Head of Corporate Finance
+1 312 697 4654
Steve Burt Global Head of M&A
+1 312 697 4620
Dave Althoff Global Co-head of Industrials M&A
+1 312 697 4625
Josh Benn Global Head of Consumer, Retail,
Food & Restaurants
+1 212 450 2840
Brian Cullen Head of U.S. Restructuring
+1 424 249 1645
Brooks Dexter Global Head of Healthcare M&A
+1 424 249 1646
Ken Goldsbrough Managing Director, European Debt Advisory
+44 (0)20 7089 4890
Ross Fletcher Managing Director, Canada M&A
+1 416 361 2588
Howard Johnson Managing Director, Canada M&A
+1 416 597 4500
Kevin Iudicello Managing Director, Technology M&A
+1 650 354 4065
Jon Melzer Global Co-head of Industrials M&A
+1 212 450 2866
Brian Pawluck Managing Director, Canada Restructuring
+1 416 364 9756
Jim Rebello Global Head of Energy M&A
+1 713 986 9318
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Capital Markets Insights | Q4 2016
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