With the new year well underway, fixed-income investors are finding themselves in an interesting environment. Between the Federal Reserve cutting rates to avoid economic worries and keeping them steady or raising them to battle stubborn inflation, bond investors are torn as to what asset classes could suit them best.
The answer may be in senior loans.
All the rage during the era of rising rates, senior loans in the current environment have a lot to offer investors in terms of yield and staying power. With several tailwinds and attributes that could help investors realize quality returns, senior loans are a great play for the rest of 2025.
A Growing Bond Asset Class
Talk about being at the right place at the right time. Senior loans — which can also be called floating rate loans, bank loans, and even broadly syndicated loans — are a unique asset class within the world of fixed-income and have grown considerably over the last few years.
We tend to forget, but bonds are essentially loans made to an entity. Senior loans are no different — IOUs issued by banks, institutional investors, and other private lenders. These loans are securitized and syndicated to other investors. Typically, senior loans are issued to companies with credit ratings below investment-grade. And increasingly, those firms are private corporations — the preferred tool of so-called private credit managers and lenders.
Another factor supporting their growth has been their distinct attributes.
Senior loans feature coupons that float higher or lower in relation to changes in interest rates. Most senior loans are now tied to the SOFR (Secured Overnight Financing Rate). So, every 30 to 90 days, the interest rate a bank collects from the loan will change. When the Fed raised rates, senior loans were one of the best-performing bond asset classes.
With these factors in tow, senior loans have grown from a relatively small and ignored asset class into a $1.4 trillion behemoth
Why Bank Loans Today?
The surge higher is all well and good, but would-be investors may be asking themselves,
According to asset manager Nuveen, senior loans offer high returns no matter what the Fed does. This stems from a combination of factors.
For starters, senior loans provide one of the highest yields with some of the lowest sensitivities to interest rates. Because they are made to less-than-investment grade issuers, senior loans yield more than their investment-grade counterparts. These days, that’s over 8%. And while they reset their coupons frequently, their starting yields provide a layer of safety for investors. Typically, when the Fed starts cutting, investors don’t flee senior loans like they do cash.
Better still is that there’s more safety baked into senior loans. The “senior” in the name indicates that these bonds sit higher in the capital stack. Often they are tied to physical assets such as a pipeline, factory equipment, accounts receivable, or even intellectual property. This provides them with higher recovery rates (63.5%) than lower-yielding junk bonds (<40%). 1
This embedded safety and higher starting yields play out in terms of returns. According to Bloomberg data, the bank loan market has managed to produce positive returns in 28 of the last 31 years. Senior loans have had positive total returns in eight out of nine years when the Fed has cut rates. The only negative year was 2008 and the start of the Great Recession.
This chart from Nuveen compares the returns of the asset classes with the Fed Funds Rate.
Source: Nuveen
As for today, bank loans may be in a sweet spot. Today’s mixed and directionless economic picture is great for senior loans. On the one hand, economic data remains strong. This has helped to keep default rates low and cash flowing at firms that have taken out debt. On the other hand, high inflation has forced the Fed to pause and reduce its pace of cuts. The latest FedWatch tools now predict just two rate cuts this year.
This has some analysts predicting that the average coupon on senior loans will stay around 7.50% well into 2026 and help them generate strong positive returns. 2
Adding Senior Loans to a Bond Portfolio
With leveraged loans offering high yields, reduced duration risk, and lower default rates, investors may want to consider the asset class. Ultimately, senior loans can provide a high total return and great income in the current environment. No matter what the Fed does, bank loans should still offer a great return for fixed-income portfolios.
The best part is that getting access to senior loans is now a breeze. As the asset class has grown, so have trading and the number of loans issued. It’s also increased the number of funds — both active and passive that dabble in the sector. The asset class is no longer just for institutional investors, endowments, and insurance portfolios.
And this is one case where active management may work in investors’ favor. Manager driven credit research has historically led to better yields and returns than benchmark indices. And with expenses on ETFs low, investors have plenty of ability to outperform.
Senior Loan ETFs
These funds were selected based on their exposure to senior and leveraged loans. They are sorted by their YTD total return, which ranges from 0.4% to 0.8%. They have expense ratios between 0.45% and 0.87% and assets under management between $240M and $9.1B. They are currently yielding between 5.3% and 8.9%.
| Name | Ticker | Type | Actively Managed? | AUM | YTD Total Ret (%) | Yield | Expense |
|---|---|---|---|---|---|---|---|
| Pacer Pacific Asset Floating Rate High Income ETF | FLRT | ETF | Yes | $414M | 0.8% | 5.3% | 0.60% |
| Virtus Seix Senior Loan ETF | SEIX | ETF | Yes | $269M | 0.7% | 7.3% | 0.58% |
| SPDR Blackstone Senior Loan ETF | SRLN | ETF | Yes | $7.67B | 0.6% | 8.9% | 0.70% |
| First Trust Senior Loan Fund | FTSL | ETF | Yes | $2.2B | 0.6% | 6.9% | 0.87% |
| Franklin Senior Loan ETF | FLBL | ETF | Yes | $704M | 0.6% | 6.6% | 0.45% |
| iShares Floating Rate Loan Active ETF | BRLN | ETF | Yes | $244M | 0.6% | 6.5% | 0.55% |
| Invesco Senior Loan ETF | BKLN | ETF | No | $9.1B | 0.4% | 6.4% | 0.67% |
All in all, senior loans may appear risky and only seem like a good bet during periods of rising rates. However, that’s not true. Thanks to their attributes, these often ignored bonds can be great portfolio additions no matter what the rate environment is. And today, they offer a compelling yield and strong total return potential. Adding them to a fixed-income portfolio makes a ton of sense.
Bottom Line
Investors looking to play the current environment and score a top yield should consider senior loans for their portfolios. Offering a strong total return, lower credit risk, and reduced interest rate sensitivity, bank loans are a wonderful addition to any bond portfolio.
1 Nuveen (January 2025). Five reasons investors should consider allocating to U.S. senior loans
2 Invesco (January 2025). 2025 Investment Outlook – US Senior Loansa>
