Loan market draws more U.S. managers

LONDON — U.S. money managers are muscling their way into the European leveraged loans market, drawn to what they believe is a source of fixed-income returns with plenty of opportunity.

The sector, once the domain of banks, has been swelling with cash inflows from institutional investors — primarily Europeans — looking to diversify in a low-yield environment for bonds, sources said.

Leveraged loans, or secured loans, fall below investment grade and generally track the London interbank offered rate. Because of their floating-rate structure, some investors prefer them over bonds if they think that long-term interest rates will eventually rise and drive down bond prices. In addition, leveraged loans are uncorrelated with other asset classes and has low volatility compared to other debt instruments.

New-issue leveraged loan volume for Europe totaled $148 billion in 2005, tripling the 2003 figures, with institutional investors holding about $69 billion, according to statistics from S&P. In comparison, new issues in the U.S. totaled $295 billion in 2005.

The market now is dominated by London-based managers such as Prudential M&G, AXA Investment Managers, European Credit Management Ltd., Intermediate Capital Group PLC and Henderson Global Investors Ltd. But an increasing number of American players are setting up shop in the U.K. capital for a piece of the action.

In June 2005, New York-based GoldenTree Asset Management LP opened a London office to capitalize on the returns potential of European credit-related investments. Eaton Vance Management, Boston, also opened a branch last year.

One way for Americans to have a stake in the leveraged loans sector is simply to buy it. In 2005, The Bank of New York Co. Inc., New York, acquired 80% of Alcentra, a specialist in subinvestment-grade debt and structured credit with offices in Los Angeles and London. Also in the last year, Dallas-based Highland Capital Management LP bought ING Capital Management, ING Group NV's London-based European loan business. In 2004, Babson Capital Management LLC, Boston, acquired Duke Street Capital Debt Management Ltd, London.

Instead of purchasing an entire group, Aladdin Capital Management LLC, Stamford, Conn., in March hired Peter Allan, former head of acquisition finance at NIB Capital Bank NV, London, as senior managing director. His experience with collateralized loan obligations will help to kick-start the company's entrance into the European leveraged loan market, principal George Marshman said in an interview.

"We really feel that we've reached the size and scale of our U.S. operations and (Europe) is a natural evolution for us," said Mr. Marshman, whose company manages $3.1 billion in leveraged loans strategies for a global client base. "The market itself is more efficient, and we hope proves itself to be willing to accept new institutional involvement. We believe there's still room for growth."

Oak Hill Advisors LP, New York, recruited Richard Munn, former London-based managing director and head of European loan syndications at Deutsche Bank AG as managing director and co-head of European investments. He will work with Oak Hill's managing director, Ty Wallach, to expand the company's European business.

Oak Hill's European assets under management as related to leveraged loans total about €1 billion ($1.23 billion), the majority of which is invested in strategies that combine European and U.S. bank loans, Mr. Munn said. But later this year, the company will launch a European-only leveraged loans fund.

"I wouldn't say there's a stampede, but we are seeing more sophisticated, larger pension funds interested in this asset class," said Margaret Frost, London-based senior research analyst and head of fixed-income manager research for Watson Wyatt Worldwide. "One of the reasons is that (leveraged loans) have the same credit characteristics as high-yield, but there's a fair amount of spread left."

"We're seeing very strong demand from institutional investors," said Ruth Yang, director of market data for Standard & Poor's Leveraged Commentary & Data, a New York-based unit that reports on loans and high-yield bonds sectors. European leveraged loans "have the right kind of spread."

Fiona Hagdrup, Prudential M&G's director of the leveraged finance group, said the company won its first segregated mandate from a Dutch pension fund in 2003. The original €50 million portfolio has more than doubled, and many U.K. pension funds have since decided to invest in European leveraged loans. Ms. Hagdrup declined to name the pension funds. Overall, Prudential M&G manages about €3 billion in leveraged loans strategies.

Compared to the U.S. leveraged loans market, which is more established and more regulated, Europe offers more growth opportunities and better pricing, said Julian Green, director of loans at Henderson, which manages about €1.2 billion ($1.5 billion) in secured loan strategies, mostly for European pension plans.

"We've seen more (U.S. players) entering the market, mainly through acquisitions and hiring individuals," Mr. Green said. "If you can get access to this asset class and manage it well, it can provide an attractive liquidity premium."