Leveraged Loans - October 2017

categories: Risk Management Analytics, Risk Management, DEMOND Andrew

Leveraged loans have emerged in the last decade as an attractive alternative to the typical high yield bond allocation. In periods of low and rising interest rates, the floating coupon of a leveraged loan portfolio offers an appealing combination of income and low duration. Indeed, loans have outperformed high yield bonds on a risk-adjusted basis in the recent past. As senior, secured obligations of corporate borrowers, loans also typically exhibit a high recovery in the event of default, and thus have a measure of downside protection.

Yet loan investors face distinctive risks. Loans are distinguished by a wide variety of embedded optionality, most importantly by their American calls and coupon floors. Most loan investors rely on rules of thumb when calculating analytics, but these can obscure important asset-level dynamics. Furthermore, bond-based proxies of loan risk can have biased correlation and volatility estimates due to differing liquidity profiles and market technicals.

To address these shortcomings, the new MSCI leveraged loan model takes the next step beyond trader heuristics to provide quantitative insight into the risk and performance of loans. We have partnered with IHS Markit to obtain class-leading data and coupled it to a novel pricing model with loan-specific risk factors. In total, our new offering provides next-generation analytics, purpose-built for loans.


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