In this series, we bust the jargon and explain a popular investing term or theme. Here it’s hung debt.
What is this?
The hung debt market is worth about $3.2 trillion. It’s made up of a chunk of the risky loans that have been advanced by American and other banks to finance private equity group takeovers, company mergers, or leveraged management buyouts.
The banks aim to rapidly offload these loans to third-party buyers – usually fund managers – in the hope of making a profit. But they may have to sell at a discount. And, if there is little interest from buyers, the banks may have to hang onto the debt.
This is why it is described as ‘hung’.
What’s the biggest hung debt deal?
At the height of the global financial crisis, banks found themselves with about $300billion of hung debt that they could not sell.
Out to dry: If there is little interest from buyers, banks may have to hang onto debt
But Elon Musk’s $44billion takeover of Twitter, now known as X, is being called the biggest single hung debt event ever.
Bank of America, Barclays, BNP Paribas, Morgan Stanley, Societe Generale were involved in the deal. Together they lent Musk a total of $13billion.
It is said that Musk, who is also the boss of Tesla and Space X, promised them that they would not lose money on the deal which was put together in October 2022.
Is this why we’re reading about hung debt?
Yes. The changes made to X have led to advertiser boycotts, causing the value of the platform to slump. The business was estimated to be worth about $19billion late last year. This may have shrunk to $12.5billion, which has made the debt difficult to sell. Investors have far safer options thanks to the increase in interest rates. The banks, meanwhile, are looking at large losses.
Will the X debt ever find buyers?
Apparently the banks did receive some offers from hedge funds to sell the loans at a 35 per cent-40 per cent discount last year, but seem to have turned them down. The view, in some quarters, is that the X debt may be ‘uninvestable’. It is not clear by how much the loans have been written down in the books of the banks involved.
Does hung debt sometimes sell?
In 2022, Pimco, the US fund manager, is said to have snapped up a stack of hung debt from various deals that was for sale at deep discounts. The debt included loans advanced to fund the purchase of supermarket Morrisons by US private equity giant Clayton, Dubilier & Rice. Last year, Pimco was reported to be selling some of its hung debt stack, although it’s not clear whether the Morrisons debt was included.
What does this mean for the ordinary bank customer?
Advancing the kind of loans that could end up as hung debt made money for the banks during the good times. But there will be much less of such business in the wake of the collapse of Credit Suisse and Silicon Valley Bank, with regulators more concerned about the stability of all banks. The loss of revenue from this lucrative kind of lending could affect the availability of finance for ordinary customers.
So, no more loans that could end up as hung debt?
Private credit, that’s the lending operations set up by private equity groups, are moving into the area, competing with the banks for the lower risk opportunities on offer. Private credit seems to be winning these battles.
