May 20, 2020 - The New York Federal Reserve tackled TALF again, expanding their FAQs and announcing that the first TALF subscription date will be June 17th. However, challenging interpretations remain and several new problematic FAQs emerged. We flag the issues below and, where appropriate, contrast TALF terms to the state of the private CLO market today.

Importantly, there do not appear to be changes in three gating issues we flagged in the TALF: Take Two Webcast last week. Specifically, there still is a limitation on redemption to three years after the TALF loan disbursement (colloquially known as the three-year non-call). Inasmuch as current financing is expensive, most equity would want to have the ability to call the CLO in less three years. And, indeed, LCD’s Global CLO Databank demonstrates that all their April private market CLOs have a one-year non-call period. 

Second, the TALF borrower still must attest that they cannot secure “adequate credit accommodations”. While this may simply mean that prices or conditions are not consistent with normal, well-functioning markets, most market participants appear uncomfortable with making such attestations.

Third, the CLOs remain static as we expected. (This may not be fatal; four of the 10 March/April CLOs tracked on Slide 62 of Refinitiv’s Leveraged Loan Monthly are static.) More problematic is the fact that the CLO manager can only sell assets that defaulted in interest and principal payments, but cannot sell credit risk assets. This could lead to underperformance for the equity.

In addition to these worrying conditions, the TALF FAQs added two others that may create consternation for would-be users. First, the New York Fed indicated that a certification will be required from the ABS issuer and “sponsor” of the transaction to the effect that (1) the ABS is “eligible collateral” and (2) there are no untrue statements or omission of material fact made in the offering document or in the information provided to the NRSROs.  The “sponsor”, which the FAQ explicitly defined as the collateral manager of the CLO, must indemnify the New York Fed for any losses it may suffer if such certifications are untrue.  CLO managers have limited liability in CLO transactions, and fees earned by CLO managers to service a portfolio of leveraged loans in a static CLO are not significant.  This requirement could place a burden on CLO managers that they may be unlikely to undertake.

Finally, an accounting firm retained by the CLO issuer must provide to the New York Fed either (1) an opinion on the assertion of management of the issuer and sponsor that the CLO securities are TALF eligible or (2) solely in the case of CLOs, a report on agreed upon procedures (AUP) with respect to factual matters related to various TALF eligibility requirements for leveraged loans.  This requirement may also prove problematic, as AUP reports typically are provided only to the party that engaged the accounting firm, and are not meant to be shared or relied upon by other persons absent specific permissions.

The additional provisions add additional complexity. We continue to review and analyze the FAQs and the TALF itself and will engage with the New York Fed as appropriate. Please contact lshaiman@lsta.org or mcoffey@lsta.org with any questions or comments.

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