ECB rules ‘won’t have much impact’ on leverage market

A new report from S&P Global is not expecting dramatic change as a result of the European Central Bank’s draft guidance on leveraged deals.

Draft guidance from the European Central Bank on leveraged transactions will not have a material impact on leverage levels in the European leveraged finance market, according to a report from S&P Global Ratings.

The report points out that the guidance, detailed here in our Friday Letter, will not hugely impact leverage levels as the US regulator’s guidance has already applied to much of the European market since 2013.

The guidance said that leverage ratios of 6x “should remain exceptional” and be immediately referred to the highest internal body on credit decisions.

However, the report does identify the ECB’s unadjusted definition of EBITDA as more contentious. “The market bases most structures on adjusted EBITDA and spends considerable time analysing what adjustments are acceptable,” said S&P Global Ratings analyst Tom Ewing. “It remains to be seen whether this term makes the final guidance.”

The report – entitled “The European Leveraged Finance Market In 2017: High Demand, Stable Leverage, And A Lot Of Uncertainty” – predicts that senior and total leverage levels in Europe will remain fairly static this year.

In line with recent years, demand for leveraged loans is expected to outstrip supply, with favourable issuance conditions in the first half of the year at least. “However, we expect this pressure to result in continued reductions in margin pricing, and weakening of legal agreement terms, rather than increased leverage,” said Ewing.

S&P said it expects the European default rate to remain low in 2017 thanks to benign economies and low interest rates combined with the use of covenant-lite issuance and all-bullet structures in recent years.

The report notes that defaults rose significantly in 2016 on a global basis, but that over half of these were in the energy and natural resources sector and more than two-thirds were US corporates.