Banks support triple As as insurers and asset managers step away

Tom Davidson

Managing editor

While attention is focused on what the proposed risk-weighted asset (RWA) implementation of Basel 3 will mean for US banks, European banks have already become the dominate buyers of CLO triple A paper.

According to research from Citi in its latest CLO outlook: “Banks make up 93% of the primary EUR CLO AAA investor base in 2023 compared to just 44% in 2022. Asset managers and insurers were both less active in AAAs in 2023 compared to 2022, likely because asset managers and insurers have been able to achieve their target returns in other flow products in 2023.”

This result ties in with an increase of activity by European banks as co-placement agents. NatWest has been active in that role on seven deals in November, according to our data. Those are mainly US BSL or MM CLOs, but include the European deal AB Carval EURO CLO I-C. Santander joined them in using the co-placement agent approach in November, again on a US deal, Madison Park Funding LXI.

Whichever banks are stepping in to take down European triple As, they are increasingly unlikely to be Japanese. For them, FX hedging costs favour US triple As instead of European triple As. But Barclays analysts Powell Eddins and Pranava Boyidapu caution that Japanese investment shouldn’t be taken for granted going forward.

They say: “While we believe it is common for Japanese bank investors to assess CLO valuations based on absolute hedged spread levels, and we believe that these levels justify some level of continued participation in the CLO market, there is risk that some CLO investment gets crowded out by a steeper Japanese government bond yield curve, which makes the static yields of floating-rate assets appear somewhat less attractive.”

Returning to the US, the RWA proposal in the US would remove the use of internal models, as well as revise the current standardized approach, reducing the risk-weight for CLO triple As from 20% to 15%. It would also increase risk-weight significantly for CLO mezz tranches, although banks don’t typically buy them anyway.

According to one investor, the RWA change will be most impactful for US regional banks, but anecdotally some large US banks have already paused their buying programs until the final regulations are confirmed.

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Global credit funds & CLO's

January 2024 | Issue 260

Published in London & New York.