Manager tiering collapses as US issuance picks up

In September, manager tiering in the US market for new CLOs fell to its lowest basis this year, encouraging debut managers and small existing managers back to the market.

Although new issuance continues to be dominated by top tier managers, the improving conditions seem to have tempted small managers back to the market. As well as debut CLOs from Katyma and Wellington Management, the month saw activity from managers with only a handful of US CLOs priced.

Although senior spreads for small and new managers are coming in rapidly, in tier one pricing gains have been limited. New deals for the largest managers are still pricing in the low to mid 170s, only a little tighter than the low 180s level that persisted through much of the first half of the year.

According to one senior investor, the lack of movement in tier one spreads reflects the continued reliance of the market on Japanese buyers for tighter prints. They also flagged this same issue as setting a likely floor on future spread tightening. “I’m hearing that the Japanese banks might not have any appetite to go below 165bp because of hedging costs,” they said.

Demand from other investors remains muted. The much discussed boost to appetites at mid-sized US banks from proposed capital charge adjustments won’t be seen for some time, and other senior investors remain unconvinced. Even if financially everything points to CLO paper, many intangible challenges remain, from investor education to access to the market.

Despite that, the general consensus seems to be cautiously positive. Several managers are expecting steady issuance for the rest of the year. They also noted that those numbers could be boosted if the growth in US refis and resets takes off.

Although currently limited almost entirely to short-dated 2022 vintage deals leaving their non-call periods, levels are starting to become tight enough to trigger activity in other vintages.

Elmwood, for instance, turned heads with the reset of its 2020 vintage Elmwood VII CLO. The new pricing was at best flat on the old spreads, but according to market sources the transaction was driven by an equity investor which saw an opportunity to boost its cashflows.

The deal had built up a considerable amount of excess par. This, combined with some restructuring of the debt stack, is expected to generate a considerable par flush. It remains to be seen whether other equity investors will follow this example (or how many 2020 deals have built enough par to make such a move viable).

It should be noted that although European debt costs are now similar to those in the US, issuance there remains sluggish for other reasons, especially challenges with loan supply.