25 January 2019

Bloomberg: Banks boost protections for sterling loans in Brexit shadow

The intensification of Brexit woes hasn’t entirely deterred banks from drawing up sterling deals in Europe’s leveraged loan market, but arrangers are cushioning themselves with additional protection.

Transactions in the U.K. currency have become difficult as lenders sharpen their focus on credit quality due to the uncertainty around Britain’s future in the European Union, reducing the pool of liquidity. Still, banks are cautiously moving ahead with some deals.

Arrangers have walked away from some sterling deals deeming them just too risky right now, but some are still working with private equity sponsors that want to raise sterling financing.

To underwrite a sterling deal now, arrangers need to be highly confident in the credit story and how Brexit will impact the business. Banks may particularly prefer companies that are insulated from any possible change to trade laws in case of an exit from EU, and those that aren’t exposed to U.K. consumers.

Aside from credit comfort, good flex provisions are key and arrangers may hold preliminary discussions with lenders to gauge appetite and pre-place blocks of paper before formally launching, a tactic used on Independent Vetcare.

Another option that may be open to underwriters is switching currencies to include more euro debt if sterling funds prove hard to raise. Swaps and other types of price and structural flex can be very useful in terms of mitigating a bank’s syndication risk. But, an arranger cautions, swaps are not a "magic bullet" if the credit is weak.

Sterling liquidity has always been thin compared with euros, and institutional investors have become even more selective on credit and are quicker to reject a deal in syndication, said a London-based banker with a mandate for a U.K.-based borrower. By comparison, on a euro-denominated credit lenders are more willing to commit at the right price.

For a "first-quartile" credit in sterling there will be buyers, but the appetite doesn’t currently go much further down the spectrum, the London-based banker said, adding that this attitude became more entrenched during the fourth quarter of 2018 as the reality of the U.K.’s departure kicked in. At the same time, investors including CLOs that might previously have committed small sterling tickets and swapped to euros backed off.

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