The resilience of CLO-rated debt is well-publicised. This resilient performance is partly due to their long-term non-recourse capital structure – a valuable source of funding for the collateral pool. The long-term capital structure allows managers to navigate through longer-term market volatility.
From the equity standpoint, if the underlying collateral spreads improve while the cost of funding remains largely the same, then the improved excess spread could help mitigate credit losses due to trading or defaults. Then in the longer term, potentially give an extra boost to the final CLO equity IRR. That said, it seems that the volatility in 2022 has yet to translate into any meaningful improvement (if any) in collateral spreads – so this is not great for CLO equity investors. This also means that for a post-2012 CLO deal to deliver a decent equity IRR, the final NAV realisation would continue to play a key role. By comparison, 1.0 CLOs relied on high cash-on-cash distributions.
2023 is key for CLO managers to prove that the optionality embedded in the long-term non-recourse nature of the CLO capital structure is indeed valuable for CLO equity investors.
Impressive AUM growth
US CLO Managers such as Blackstone, Elmwood, Golub, PGIM, Ares, KKR, Palmer Square and Neuberger Berman grew their US CLO AUM organically by $3bn or more in 2022.
Generally speaking, AAA pricing does not really reflect managers’ credit skills (as measured by total and MV investment return alpha).
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