April 27, 2021 - written by Ellen Hefferan. The LSTA Ops Conference ended on a high note last week as Mark Bennett, (IHSMarkit), Thomas Gough (CIFC), Tracey Luttenegger (IHSMarkit), Allison McDevitt (Shenkman Capital) and Lauren Schultz (AIG) offered ways to address the challenges of CLO Compliance through operational and technological advancements.

The spike in restructurings and refinancings has added an increased level of complexity and reporting demands, particularly around payment dates, to an already manual product.  Panelists noted that receiving new CUSIPs, ratings and marks on the allocation date is immensely challenging.  However, if one can provide a comprehensive email to custodians and trustees for each corporate action, it would facilitate faster tie-outs and streamline reporting processes.

The LIBOR transition highlighted many of the CLO operational challenges. LIBOR transition was compared to pulling a thread of a sweater – pull and you will see the complex changes needed for systems, calculations, and processes.  (And soon you might just have a big pile of thread.) With LIBOR set to cease for existing contracts on June 30, 2023, CLO practitioners have some decisions to make. As deals are refinanced, CLO managers must ascertain if benchmark language for the LIBOR transition is included in indentures or if language needs to be added.  If a deal is close to the end of reinvestment and may wind down within months, it may or may not be worth the effort to get the language included.  If changes cannot be made to an indenture, it must be determined if existing fallback language is sufficient to go forward.

Because the LIBOR transition requires modifications to underlying applications, there are significant dependencies on vendors who must be capable of meeting deadlines and deliverables.  The first steps for a CLO manager are to engage with vendors and upgrade all the systems that must be able to consume the new non-LIBOR rates and disseminate data to custodians and trustees.  The custodians and trustees, in turn, must also purchase new system releases to be able to accept the data.  Managers must know their exposure to non-LIBOR loans within their funds.  It is critical for all market participants to have common standards for interpreting language and perform calculations according to the same methodology.  Paydown and rollover notices should (must!) produce the same results across agents and lenders.

The technology cadence must keep up with this rapidly changing market therefore it is better to have smaller, more frequent technology deliverables, rather than large multi-year upgrades.  The resource cost to test and provide feedback on a smaller upgrade is comparatively lower than for larger releases.  The user is typically more confident about moving a smaller upgrade into production quickly.

Access to timely and correct information provided in a hub would eliminate much of the back and forth that occurs with asset restructurings, loan activity and unscheduled paydowns.  This will only be magnified as the market transitions from LIBOR to a multi-rate world, where different types of risk-free rates (in different currencies) may coexist with credit sensitive rates.  Automation and straight thru processing is critical.  Data transparency and user-friendly workflows would allow CLO managers to meet tight(er) timeframes as they perform detailed compliance test calculations, model deals, and build out shells for release.

Several years ago, industry participants were not comfortable or confident with data leaving their four walls.  Today there has been a shift to the cloud in the belief that the benefits outweigh the risks.  Utilizing cloud technologies offers scalability for applications, cheaper storage, less complex IT and infrastructure requirements and allows for the use of APIs that replace heavy batched processes.

Vendors strive to give their clients the capabilities they need to drive the success of their businesses.  As loan market participants adapt to the ever-changing needs of the market, they should provide much needed feedback to their vendors.  All look forward to two things in particular: the evolution of automation and, perhaps more importantly, a SOFR term rate!

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