BREAKINGVIEWS-First Brands exposes loan markets stuck in slo-mo

By Stephen Gandel

NEW YORK, Oct 10 (Reuters Breakingviews) - For anyone in the $1.4 trillion U.S. corporate loan market, the waiting is the hardest part. The spectacular bankruptcy of auto parts maker First Brands embroils $12 billion of liabilities, questions about $2 billion of “missing” assets, and financial giants from UBS UBSG.S to Jefferies JEF.N. Along the way, buyout shop Apollo Global Management APO.N pulled off a crafty bet against the company’s debt. Underlying it all is the murky world of trading IOUs, where settlement can take months. Sunlight would be a handy first fix.

Stock-market traders might be taken aback by the loan market. In recent months, investors in First Brands paper had to wait weeks for settlement, or the final transfer of a chunk of debt into a buyer’s account, according to one market participant.

This delay is more or less the norm. Industry associations and data providers provide insight into average settlement times for the entire loan market, where the target is for trades to clear in seven days. The actual average is much higher in U.S. secondary trading, at 19.5 days, according to a study last year from S&P Market Intelligence.

The figure masks massive variance throughout the system. No one knows for sure when any single trade will settle. Traders and dealers closely guard any information that could give them an edge.

There was plenty more opacity in First Brands’ case, with a scramble now on to sort through the wreckage as funds at UBS and Jefferies grapple with more than $500 million and $715 million of exposure, respectively. Extra murkiness for loans that ended up suddenly plunging in value was just one more pitfall.

Not everyone was caught out, however. Apollo, led by Marc Rowan, and firms including Diameter Capital Partners put on short sales against the First Brands loans, Bloomberg reported. Apollo's maneuver required finding a counterparty that would buy and sell IOUs without actually settling the trades, according to the report.

It’s unclear how Apollo structured its trades. The loan market's slow-motion pace may well have helped. This is all more than academic, since accurate pricing depends on liquidity and reliable execution. As money from everyday investors pours in and the scope of assets that can be stuffed into pension plans expands, such oddities are cause for concern. Shortening settlement by fiat is tough, but a simple fix would be to force sharing of live data on settlement times, which tend to stretch out as loan distress rises. Better information should help buyers and issuers by improving pricing. It won’t stop a First Brands from imploding, but might just help others avoid the blast.

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CONTEXT NEWS

First Brands, a U.S. manufacturer of windshield wipers and other auto parts, filed for bankruptcy on September 28. The company has $11.6 billion in liabilities, according to court documents.

Private equity and credit firm Apollo Global Management took out a short position against First Brands' debt despite being listed as a disqualified lender, through an arrangement that meant it did not have to directly hold the loans, Bloomberg reported.