Despite a universal tightening of lending conditions for leveraged companies, and an uptick in downgrade activity, the tally of LCD’s European loan Weakest Links decreased slightly in the first quarter of 2023.
The Weakest Links are defined as issuers rated B- or lower by S&P Global Ratings that either have a negative credit outlook or are on negative watch. LCD tracked 19 Weakest Link credits in its most recent analysis, representing 6.3% of the Morningstar European Leveraged Loan Index (ELLI).
This total is down from 21 at the end of 2022, which marked the highest level on this measure since the third quarter of 2021.
Diebold Nixdorf (after its rating was changed from Selective Default to CCC) and Genesis Care entered the cohort, while IGM Resins and PortAventura Entertainment Barcelona exited on account of outlook changes.
Exit door
Credits also exited the Weakest Links cohort due to default. These included Flint Group, which had its rating slashed from CCC+ to Selective Default on its distressed exchange, and Technicolor Creative Studios, which was cut to D after it reached an agreement in principle on a financial restructuring plan with creditors and shareholders.
This 'exit by default' grouping represents 11% of the overall Weakest Links cohort, down from 19% at the end of 2022.
With the pace of downgrades to upgrades intensifying in the second half of 2022, 58% of the current outstanding European Weakest Links transitioned to the Weakest Link category across the third and fourth quarters of 2022 combined
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Technical talk
For the second-straight quarter, the European Weakest Links were most concentrated in the Computers & Electronics segment (LCD’s designation for the Technology sector). While the share of these firms increased in Q1, the Entertainment & Leisure Industry saw its representation decline further from the pandemic peak, and now sits equal with the Food & Beverage segment in terms of count.
Looking at LCD's metrics more broadly, stress indicators eased in the first quarter, even as borrowing costs remained elevated, and amid a reduced appetite for risk. At the end of March, the percentage of facilities in the ELLI by count that were distressed (i.e. those priced below 80) fell to 5.95%, from a post-Covid high of 9.05% at the end of 2022. The percentage fell further, to 5.45%, at the end of April. As for ratings — another forward indicator for potential future default activity — the number of downgrades among ELLI credits on a rolling three-month basis increased slightly, to 19 in March. At the pandemic-driven peak of June 2020, this measure hit a high of 78, against just four upgrades.