Ted Gooden, partner at Berkshire Global Advisors, says that CLO sales often don’t take place in the midst of a downturn. “It takes a reasonable amount of frustration for smaller managers to capitulate and realise that it’s going to be tougher in the near term on their own. They usually get creative and look for capital sources, talk to dealers and assess the situation over time.” However, he says that, in this cycle, managers might make decisions earlier because margins are leaner. “Many managers have partnered with third-party CLO equity providers requiring them to share management fees to secure CLO equity capital in CMVs and CMOAs,” says New York-based Gooden. “As these sub-fees turn off, these managers have less margin for patience — literally.” One lawyer disagrees that M&A will be as high as some people believe. He argues that consolidation following the financial crisis was driven by managers who couldn’t raise capital to comply with risk retention rules. But these rules no longer apply in the US.

According to a poll taken during a Creditflux CLO webinar last month, most market participants believe that six to 10 firms will exit the business this year (see page 10). According to CLO-i, 126 managers issued US CLOs in 2018 and 2019. Around 18% of US CLOs failed over-collateralisation tests in April. Subordinated fee deferrals were outlined during Q1 earnings calls to pay down principal and interest on those CLOs. Large managers, such as Carlyle Group and Sculptor Capital Management, disclosed that they had each deferred around $4 million in the quarter. If downgrades continue and OC tests are not resolved, deferrals will hamper small CLO managers. “If we find ourselves in an environment where it’s going to be a year before CLO managers receive fees, you will see a lot of consolidation,” said New York-based Gretchen Lam, portfolio manager at Octagon Credit Investors, on the webinar. She highlighted that 56% of deals tripped their OC test in 2008-09 for at least one period. Ujjaval Desai, head of structured credit investing at Sound Point Capital Management, added that managers today have to cope with lower fees, which have shrunk from around 50-60 basis points in 2008-09 to 20-40bp.