Liquidations emerge as speed bump to $1 trillion CLO market

Sayed Kadiri

Editor

CLOs are now a $1 trillion global industry, but liquidations are picking up and could hamper growth — as well as providing welcome relief to an engine that’s running somewhat hot.

The advent of CLO refinancings and resets (which took off in 2015) has given extra optionality to CLO equity investors and has meant that CLOs no longer follow a linear path to liquidation within a 12-year timeframe (a typical CLO maturity).

This year, for instance, US CLO reset volumes have reached $60.81 billion. There have been $71.95 billion of refis.

However, research by Morgan Stanley shows that US CLO liquidations increased in April and are likely to do so again on subsequent quarterly payment dates.

The bank’s research reasons that equity NAVs are high and that CLO pipelines are becoming clogged.

“As opposed to waiting in line, CLO equity investors are crystallising IRRs,” says Marcus White, senior CLO analyst at Prytania Asset Management.

White points out that, although CLO resets have advantages, they can be expensive and sometimes require equity investors to inject more capital.

“CLO equity investors are crystallising IRRs”

Marcus White, Senior CLO analyst | Prytania Asset Management

The liquidation theme is more prevalent in the US. London-based White says: “Risk retention does not apply in the US, so there’s a greater proportion of CLOs that are sold to third-party equity investors. These investors are much more likely to push for a liquidation.”

Morgan Stanley has identified CLOs with high equity NAVs and the lowest coupons as the most likely liquidation candidates. Short-dated CLOs, such as static CLOs, fall squarely into this category.

If net CLO issuance drops then it could cause new issue spreads to compress again. It would also release loans into the market, alleviating CLO managers’ loan supply fears.

Nuveen’s head of structured credit Himani Trivedi and WhiteStar Asset Management’s Brandon Davis cited CLO assets as one of their biggest concerns in Creditflux’s Credit Rendezvous report last month.

Davis said that the loan pipeline was $40 billion, but that there are $43 billion of loan repayments expected.

CLO managers that have to liquidate could be at an advantage, as they could buy back loans and recycle them into new CLOs.

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Global credit funds & CLO's

August 2021 | Issue 237

Published in London & New York.