The Deal.com, Jul-10-2007 :
The financing environment for leveraged buyouts got a lot tougher Tuesday, July 10, as a key index suffered what traders termed a "meltdown" and investors pulled back from leveraged loans as an asset class.
Standard & Poor's Leveraged Commentary & Data unit's composite index of the largest loans trading in the secondary market fell to 99.14 Tuesday morning, its lowest level in four years. Investors punished loans by such large issuers as Univision Communications Inc., whose loan was trading at 96, a 4% discount to par value, and broadly traded off recent loans used to fund high-profile leveraged buyouts of Michaels Stores Inc. and Celanese Corp.
"Traders are using words like 'meltdown' to describe the state of the market today," LCD wrote in a market report. "Hedge funds, they say, continue to sell loans to cover losses in other areas and because they think the loan market remains rich."
LCD added that, while things are "ugly out there," a looming glut of supply is causing the pullback, which indicates a technical, market issue as opposed to a more severe pullback driven by fundamental fears about the economy or the strength of the companies being funded.
Still, market participants say that the negative tone of recent weeks is increasing, which doesn't augur well for the $200 billion-plus of deals that are waiting to come to market over the next few weeks and months. A worst-case scenario, some say, could cause a freezing of buyout activity in general as investment banks pull back from funding deals.
Deals such as the $20 billion financing tied to the buyout of Chrysler Automotive by Cerberus Capital Management LP and the $24 billion financing to fund Kohlberg Kravis Roberts & Co.'s purchase of First Data Corp. will likely have trouble getting sold under current terms, several market participants say. That could cause the private equity firms to force their lending banks to fund bridge loans to finance the deals — as has happened to five deals in the past month — which could ultimately lead to a freezing up of the financing markets as banks with too much risk on their books are forced by their risk officers to step back.
Investment banks often back their private equity clients with committed financing packages on the assumption that the banks will be able to sell those commitments to hedge funds and collateralized loan obligation funds after the deal closes. If they can't do so, the banks are still contractually bound to provide the financings and swallow the losses associated with selling that debt in secondary markets at steep discounts. Failing that, the banks can also hold the loans on their books, which limits their ability to offer financing on future deals.