The Case for Continued Investment in Senior Secured Loans

Traditionally, many investors have viewed senior secured loans as a tactical, rate-based trade. However, more are now recognizing the resilient attributes of the asset class.

Loans are now becoming a strategic core holding in a variety of investor portfolios. This shift is being driven by a deeper understanding of how the asset class performs across different interest rate and economic environments. An important piece of analysis that many retail investors have underappreciated is the 30+ years of data which demonstrates that senior secured loans have historically enhanced fixed-income portfolios and reduced overall portfolio volatility (Chart 1). While fixed-rate bonds may slightly outperform during periods of intensely falling rates, the long-term benefits of loans should not be overlooked.

In the following charts, we outline the combined returns of the Bloomberg U.S. Aggregate Bond Index (represented by the percentage of the left) and the Credit Suisse Leveraged Loan Index (represented by the percentage on the right) to showcase how adding a percentage of this asset class has historically helped investors.

Chart 1: Allocating to Loans Has Historically Increased Returns and Reduced Risk (Shown as % of Bonds/% of Loans)

Source: Catalyst Capital Advisors LLC., Bloomberg LP, and Credit Suisse. Based on monthly return data from 12/31/1993 to 6/30/2024. “90%/10% Portfolio” composed of a 90% allocation to the Bloomberg U.S. Aggregate Bond Index and a 10% allocation to the Credit Suisse Leveraged Loan Index. Remaining portfolio descriptions refer to %Agg / %Leveraged Loan described in the “90%/10%” portfolio. Past performance does not guarantee future results.

Chart 2: Bonds Only Slightly Outperformed Loans During the Longest Falling Rate Period Since 1994

Source: Bloomberg LP & Credit Suisse. Total return based on monthly return data from 2/28/2001 to 05/31/2004. Falling Rate period indicated by a decrease of more than 50 bps and reflects Federal Funds Target Rate rolling 12-month periods from 12/31/1993 to 6/30/2024. Past performance is not a guarantee of future results.

Chart 3: Loans Outperformed Bonds During the Longest Flat Rate Environment Since 1994

Source: Bloomberg LP & Credit Suisse. Total return based on monthly return data from 12/31/2009 to 11/30/2015. Flat rate period indicated by a decrease of less than 50 bps or an increase of less than 50 bps and reflects Federal Funds Target Rate rolling 12-month periods from 12/31/1993 to 6/30/2024. Past performance is not a guarantee of future results.

Chart 4: Loans Outperformed Bonds During the Longest Rising Rate Environment Since 1994

Source: Bloomberg LP & Credit Suisse. Total return based on monthly return data from 12/31/2015 to 08/31/2019. Rising Rate period indicated by an increase of more than 50 bps and reflects Federal Funds Target Rate rolling 12-month periods from 12/31/1993 to 6/30/2024. Past performance is not a guarantee of future results.

While we understand the impulse to move assets to fixed-rate bonds as rates fall, we remind investors that senior secured loans have demonstrated resiliency in rising, falling and flat interest rate environments. We therefore encourage investors to look at the past 30+ years of data and take a long-term approach to constructing their portfolios.

Summary

Fixed-income portfolios that utilize senior secured loans alongside traditional bonds have seen greater annualized returns with lower volatility since 1994. This has been consistent through numerous rate environments and bear markets investors have faced in the past 30+
During the longest continuous falling rate environment since 1994, a bond only fixed-income portfolio only slightly outperformed a fixed income portfolio with a 40% allocation to In our view, the performance difference of ~170 bps was offset by the reduced volatility profile of the portfolio that employed loans.
During the longest continuous flat and rising rate environments, the portfolio that employed a 40% loan allocation outperformed the bond only portfolio by over 300 bps and 200 bps,
While fixed-rate bonds slightly outperform loans when rates are falling, this effect does not outweigh the outperformance of senior secured loans demonstrated in flat and rising rate
We believe investors should maintain loan allocations as they evaluate the long-term risk / reward performance prospects of their portfolios.

Definitions:

Bloomberg US Aggregate Bond Index: A market capitalization-weighted index that is designed to measure the performance of the U.S. investment grade bond market with maturities of more than one year.

Credit Suisse Leveraged Loan Index: An index that tracks the investable market of the U.S. dollar denominated leveraged loan market.

Volatility: A statistical measure of the dispersion of returns for a given security or market index.