Leveraged loans or senior loans are a high-yield asset class, but the above-average yields come with some risk, which can be augmented with active strategies such as the SPDR Blackstone/GSO Senior Loan ETF (NYSEArca: SRLN).

SRLN invests in senior loans given to businesses operating in North America and outside of North America. The Portfolio may invest in senior loans through the loans directly via the primary or secondary market or via participation in senior loans, which are contractual relationships with an existing lender in a loan facility where the loan portfolio purchases the right to receive principal and interest payments.

All assets under the fund are funneled into the Blackstone / GSO Senior Loan Portfolio, and SRLN’s main objective is to outperform a primary and secondary index–the Markit iBoxx USD Liquid Leveraged Loan Index and the S&P/LSTA U.S. Leveraged Loan 100 Index through its investment in senior loans.

In the current environment, SRLN’s status as an actively managed fund is exceedingly relevant.

SRLN YTD Performance

“U.S. leveraged loan defaults climbed anew in October after a brief respite from a spike of payment misses and bankruptcies seen in April through July,” according to S&P Global Market Intelligence. “October’s $2.7 billion of defaults in the U.S. leveraged loan asset class, a 93% increase on the previous month, puts the trailing 12-month rate 205% ahead of the comparable 2019 period.”

Sizing Up SRLN

Leveraged loans usually attract investors who are looking to generate income in a rising interest rate environment due to their floating rate component. However, central banks and agencies like the International Monetary Fund warned that credit quality is declining – bank loans are usually for highly leveraged companies and are rated speculative-grade.

“In terms of loans actually needing to be repaid, thanks in part to actions by the Fed during a decade-long bull-run that allowed companies to stretch out their maturity profiles, the more formidable maturity wall in leveraged loans will not hit until 2024, when $264 billion will come due,” according to S&P Global.

By including senior loans in SRLN’s portfolio, the loans first lien priority, meaning in the event of a borrower default, the senior loans are paid first. Higher payment priority assists liquidity in terms of the defaulting borrower having to sell assets in order to pay off creditors–in this case, senior loans within the SRLN portfolio are given higher priority–a viable option, especially during a market downturn.

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The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.