Global credit funds & CLO's
August 2020 | Issue 226
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August 2020 | Issue 226
Analysis CLOs
Managers weigh up matters of principal
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Charlie Dinning
Data journalist
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Tanvi Gupta
Head of data journalism
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CLO managers that were able to avoid OC traps made double-digit equity distributions in Q2, despite the headwinds. But these firms tended not to be among those that built the most par
  • Data includes CLOs that went effective in 2018 and 2019, that have made at least one payment.
  • Bond-flex, middle market and static CLOs were excluded.
  • Manager change in WAS: average change in WAS from January trustee reporting date to April.
  • Manager change in OC: average change in junior-most OC test result in deals from January trustee reporting date to April.
  • All data from CLO-i and Moody’s Analytics
Methodology
April loan downgrades could not have come at a worse time for most CLO managers, which were given little time to address the fallout heading into CLO payment season (which is usually the first month of a quarter). Compounding the problem, some corporates switched their Libor benchmarks to preserve liquidity and squeezed the gap between CLO assets and liabilities, which will hit third quarter CLO distributions. Throughout Q2, managers also had to contend with OC test failures putting equity distributions at risk.
However, Daniel Ko, portfolio manager at Eagle Point Credit Management, believes that the true value of the asset class is shown during challenging periods like these. “A collateral manager’s performance during these times of volatility is what leads to the outperformance against the rest of the market,” he says.
GoldenTree lights the way
On average, for deals that went effective in 2018 or 2019, US CLO managers made an annualised distribution of 12.78% in the second quarter of this year. In Europe, the average distribution was 11.05%. But some managers stood out. GoldenTree Asset Management achieved an average annualised payment of 21.23% on its four US CLOs and 19.27% on its three European CLOs that went effective in 2018 and 2019. Both averages topped the tables for their respective markets.
The New York-based manager was also able to achieve the highest annualised Q2 euro payment for a European CLO that went effective in 2018 or 2019, as it distributed just under €2 million to the equity investors of GoldenTree EUR 1. This equates to 24.86% annualised. But despite the strong quarter, GoldenTree did not achieve the highest annualised Q2 dollar payment for a US CLO that went effective in 2018 or 2019.
610 Funding 3, a CLO that Anchorage Group acquired from Garrison Investment Group in March, paid over $2.5 million to its subordinated notes in April, resulting in a 32.26% annualised figure. This is the highest amount the CLO has ever distributed to the equity tranche, besting a $1.38 million payment from January.
21.2%
GoldenTree’s market-leading average payment on its US CLOs
Part of the reason GoldenTree was so successful last quarter was because it had only 6.4% of its entire February US CLO portfolio downgraded to triple C in March and April, according to a Creditflux analysis last month, which looked at CLO manager trading behaviour. That is the second lowest figure for a US CLO manager behind newcomer AGL Credit Management.
2018/19 US CLOs: annualised payments to equity vs change in par
In the right position at the right time
One reason for GoldenTree’s success, according to Lee Kruter, partner and head of North American bonds and loans at the firm, is that the manager had been “positioning its portfolios for the late stages of the economic cycle as well as trade-war related effects of tariffs and supply chain disruptions” before covid-19 struck.

This defensive positioning paid off for GoldenTree as it was able to take advantage of low prices in the loan market. Kruter says: “Throughout March we were adding to single B or single B-plus rated issuers on average at prices in the mid-80s to low 90s.”
Avoiding the mass downgrade wave also allowed GoldenTree to pass all OC tests on its 2018 and 2019 CLOs. But this came at the expense of the manager’s par build in Europe. GoldenTree’s European CLOs averaged a 2.3% loss on their junior-most OC result between January and April, the highest average loss of European CLOs (although its OC ratios were high to begin with ­— they sat at 111.5% in January).
Cairn Loan Investments averaged the best annualised figure on its equity payments in Q2 for any European CLO manager that built par in this period. The manager averaged 17.29% annualised (third best for European CLO managers behind GoldenTree and Spire Partners), while building 0.06% of par on its European CLOs that went effective in 2018 and 2019.
Only 16 European CLO managers averaged a positive par build between January and April. In the US CLO market, only seven managers built par. American Money Management averaged the best equity payments of these at 14.81% annualised.
2018/19 European CLOs: annualised payments to equity vs change in par
*Diverted payments
Tripping over CLO tests
Not all US CLO managers were so well positioned as GoldenTree. Zais Group is known for having an aggressive portfolio and weighted average spread, and this did not pay off for the Q2 equity payment period. Three of the manager’s four eligible US CLOs failed at least their junior-most OC tests, leading to equity payments being cut off. However, the manager was able to pay 17.23% annualised on Zais 13.
Canaras Capital Management, Medalist Partners and Tall Tree Investment Management all had only one US CLO that went effective in 2018 and 2019: Saranac VI, JMP V and Monarch Grove 2018, respectively. All three CLOs failed their junior-most OC test around their payment date meaning equity payments were cut off. Saranac VI’s payment date in Q2 was in June, however, which means the volatility had a greater effect on it.
“In March we added to single B or single B-plus rated issuers at prices in the mid-80s to low 90s”
Lee Kruter, Partner and head of North American bonds and loans | GoldenTree
No European CLO that went effective in 2018 or 2019 tripped its junior-most OC test between January and April.
It was not only OC tests that US CLO managers had to be wary of. The interest diversion test was also a factor for some. Apex Credit Partners had three CLOs go effective in 2018 or 2019; both 2018 deals triggered interest diversion tests.
Apex 2018-1 only failed its interest diversion test, causing 50% of the would-be equity payment to be put back into the deal. Apex 2018-II failed both its interest diversion test and its junior-most OC test, resulting in nothing being paid to its equity investors. However Apex 2019-I stayed clear of trouble and paid 22.02% annualised in April.
Pay today or prefer to defer
In order to avoid tripping collateral tests, CLO managers had to get creative, which led to four opting to defer Q2 payments. Fortress Investment Group in the US, PGIM and Barings in Europe and Redding Ridge Asset Management in both markets, chose to defer equity payments and instead redeploy cash into the CLO in order to have firepower to buy discounted loans.
Fortress was able to increase its junior OC ratio on Fortress V by 33bp from January to April, but the deal paid only 1.57% annualised to its equity holders in April. Redding Ridge opted to defer 50% of its scheduled equity payments in Q2 on its longer-dated US CLOs. This resulted in the manager averaging a payment of 9.21% annualised in Q2 on its US CLOs that went effective in 2018 and 2019, and 4% on its European CLOs. Redding Ridge was able to build par on its European CLOs by 0.2% on average thanks to this strategy, but averaged a 2.09% loss of par on its US deals in the data set.
Barings also chose to defer 50% of equity payments on its longer-dated European CLOs in Q2. The manager averaged a 9.02% annualised figure on its 2018 and 2019 deals, but it was also unable to improve its junior-most OC result for its European deals as it reduced by 1.89% from January to April on average.
PGIM opted to defer 100% of its scheduled Q2 equity payments on four of its European CLOs but paid just over €57,000 on Dryden 56 and over €1 million on Dryden 57 to the equity investors for annualised figures of 0.36% and 8.56%, respectively. PGIM averaged a loss of 0.45% on the junior OC ratios of its European CLOs.
Payment deferral divides CLO investors. Daniel Ko points out that third party equity investors are not tied to a single CLO manager and therefore Eagle Point would prefer to receive the scheduled payment. “We believe that we can deploy that capital better than just investing back within the CLO,” he says. “CLO equity was trading at much higher yields at that time, so we would rather buy a piece in the CLO secondary market than earn what is effectively an unlevered return on loans.”
“We believe we can deploy that capital better than just investing back within the CLO”
Daniel Ko, Portfolio Manager | Eagle Point
*Deferred payments
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