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CLO Milestones & Millstones

November 16, 2017 - Last week, new U.S. CLO issuance climbed past $100 billion and this week, it’s aiming for $105 billion.  And this understates actual activity as there also has been $95 billion of refinancing activity and $45 billion of resets, according to Deutsche Bank stats.  According to LCD, the market is up 80% relative to 2016. And, with about four weeks of actual worktime remaining, 2017 is not that far off from 2014’s record $124 billion. But will we get there? Probably not, say CLO analysts.  BAML, Deutsche Bank and Nomura all have their updated 2017 CLO forecasts in the $110 billion context. 

While likely not a record year, it is nonetheless impressive how CLOs have recovered from the risk retention shock. Still, the “brain damage” is reputed to be considerable and the recovery has not been equally shared.  A glance at slide 70 of ThomsonReuters LPCs’ September 2017 Leveraged Loan Monthly shows that the top 10 CLO managers enjoyed a 35% new issue market share in the first three quarters of 2017. For 2016, the Big Ten held less than 29% of the new issue market. Thus, as has been anecdotally reported, CLO management is becoming more concentrated. 

What happens if risk retention is scaled back? Managers we speak with evidence great interest in this. Managers are happy that more permanent capital has entered the space and a number say they might continue to technically retain risk even if the rules were rolled back. However, most note that accessing risk retention capital is very expensive; moreover, there is extensive “brain damage” involved in complying with all the nuances of the risk retention rule, including disclosure and fair value calculations. Even if they retained, managers wouldn’t miss jumping through these hoops.

Citi notes that were risk retention rolled back, more managers might re-enter the space, CLO equity – which has become scarce following risk retention – would become more widely available, and the world might split into “dual-compliant” and “non-compliant” CLOs (with bifurcated pricing).

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