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Opinion CLOs
CLO equity has an 11-year track record of consistent mid-to-high teen returns
by Randy Schwimmer
Randy Schwimmer
Vice chairman
Churchill Asset Management
Distributions by MM CLOs are based on underlying loan performance, not market sentiment
It’s rare for this columnist to stray into CLO territory, particularly given the wealth of Creditflux contributors weighing in every month. A bit like a non-outdoorsy person offering an opinion piece for Field & Stream.
Our venture into structured finance — CLO equity, specifically — is backed by 40 years watching how CLO structures weathered multiple rate and economic cycles. And how tranches across those structures developed in a market-sensitive fashion to provide investors with protection and returns over decades.
These variations, most marked by the post-GFC focus on sub-prime mortgages, assured debt investors that the value preservation they had experienced at the highest rated liabilities in the capital stack would continue. For CLO equity investors, returns are driven by a diverse pool of primarily first-lien assets, attractive non-mark-to-market term structural leverage, attractive quarterly cashflows driven by an asset-liability arbitrage, and an actively managed structure, with embedded call optionality.
A recent JPM research piece showed CLO equity averaged 15.8% in annualised distributions for broadly syndicated CLOs and 19.9% for middle market CLOs since 2015. These returns persisted through dramatic market shifts: asset spread tightening (>10%), liability spread surges (~80%), base rate collapses (>90%), and subsequent rate spikes (2022).
Returns are well above fixed income
Today equity investors target mid-to-high teen returns, well above those for a typical fixed income investor. These yields are consistent with trends we see in the leveraged loan and private credit market, where costs of capital are coming down from their Fed hike peaks in the summer of 2023.
Of course, the high-yield environment we’ve experienced is changing. With tightening loan spreads and stable senior debt pricing come concerns that the attractiveness of CLO equity returns are diminished. However, historical data shows CLO equity consistently delivers strong returns across varying market conditions. Indeed, unlike publicly traded securities, CLO equity has key structural advantages.
CLO equity generates quarterly cash distributions based on underlying loan performance, not market sentiment. These distributions are diversified across hundreds of primarily first-lien loans, reducing concentration risk. CLO equity also shows low correlation relative to public equity and bond markets. This cashflow-focused financing structure also insulates CLO equity from market timing concerns and daily volatility from a re-margining perspective.
Another key benefit of CLO structures is the common four-to-five-year reinvestment period that allows managers to invest through different cycles, especially if they can lock in attractive term financing (such as is available in today’s market). CLO equity investors also have call optionality, which lets them reset and reprice transactions after the non-call period, which typically lasts two years. Managers can price shorter reinvestment periods (two to three years) for shorter non-calls in elevated pricing environments. CLOs may also offer attractive static financing in end-of-life vehicles, providing additional optionality to equity investors.
Advantages of middle market CLOs
Middle market CLOs currently offer a 232bp yield premium over large corporate loans. In Q3 2025, MM loan spreads tightened only 26bp versus 57bp for syndicated loans, providing MM CLO equity with enhanced return potential. MM CLO NAV is less volatile given quarterly financial reporting on the underlying asset collateral. Fair market values are also more stable than marked-to-market BSL. That can be beneficial on liquidation value for the pool. MM CLO equity is also less levered than BSL equity (~6-7x vs ~10x), so there is also less impact per percentage of loss should those occur.
To be sure, BSL managers can ramp and aggregate collateral quickly, offering meaningful value in episodic market dislocations. MM CLOs can take longer, depending on market and origination strategy. Reinvestment periods allow managers to invest through cycles, and trade assets to build par, or protect a portfolio from loss.
CLO equity has an 11-year track record showing consistent mid-to-high-teen returns regardless of spread environments and rate cycles. With quarterly distributions, diversified portfolios, active management and proven resilience, it remains compelling for investors seeking attractive risk-adjusted returns.
