US Market Commentary: LMEs could allow struggling names to turn around but only with return to high growth, according to Capra Ibex

LevFin Insight Article:

Last year’s wave of LMEs may have bought time for struggling loan issuers to turn things around, but only if EBITDA growth rates return to 7%, according to the latest research from CLO investor Capra Ibex.

The white paper, written by Chief Credit Officer Daniel Miller, attempts to reconcile the drastically different perceptions of the credit quality of leveraged loan issuers between investors and the rating agencies.

The conflicting view is easily highlighted by CLO portfolio metrics, where average loan prices have risen to 97.3, with the number of tail-risk loans priced below 85 shrinking to 7% of CLO assets. But at the same time BSL CLOs also have growing CCC buckets and high WARF levels.

According to Miller, “Both investors and rating agencies are correct. The rating agencies are correctly highlighting alarming increases in leverage for a large subset of issuers. Investors believe that the large volume of restructurings (frequently labeled as LME’s by the market and labeled as defaults by Moody’s) has bought the troubled issuers enough runway (12-24 months) to improve their credit profiles via EBITDA growth and lower SOFR.”

The paper goes on to model a typical troubled CCC company, and calculates the SOFR rates and EBITDA growth required to bring it back to a healthy financial situation in the next few years. It found that a modest reduction in SOFR rates, combined with a return to EBITDA growth rates of around 7% will achieve that.

While 7% EBITDA growth is close to the long-term average since 2008, it is a long way above 2024 which saw median growth for leveraged loan issuers of just 3%, according to Bixby.

Miller sides with the investors at the moment, believing that higher growth levels are the most likely scenario. But he cautions that, “In the case of lower growth and muted rate reductions, we can expect either another round of LME’s or (more likely) a spike in defaults probably as soon as a year from now lasting into 2026. This round of defaults would inflict higher than average impairment because of the debt added on to the troubled issuers during the 2024 LME’s.

The full paper is available here: Outlook for Leveraged Loan Issuers in 2025 and Beyond