The days when a guy with two dogs and a Bloomberg terminal could make it in the collateralized loan obligation market are long gone, and that’s not a bad thing, said James Galowski, partner at Stone Tower Capital. “Manager selection is the most important [factor for buyers],” Galowski, an investor in CLOs, said in Monday’s Lessons Learned in the CLO Market and the Way Forward panel at ABS East. “A lot of crap managers were allowed to issue CLOs in the height of the market.”
Another investor, Aashh Parekh, director at TIAA-CREF, agreed the market is healthier now. ”There are things in the new documentation that have been cleaned up,” he said. “Now [there is also] enough data to see how styles of different managers work over time.”
But strong managers and better structures aren’t the only positives – there are more new deals than there have been in the past three years. Jian Hu, managing director at Moody’s Investors Service, which rated a bulk of the post-crisis vehicles, expects the year to wrap with about $12 billion in 30 deals. “It’s a reflection of the strong performance of CLOs,” he said, ticking off more transparency and greater investments in loan-level analytics in the sector compared to the wider securitization market.
He said the new structures are also expected to suffer lower default rates of up to 9% in a worst-case economic scenario, which compares to a 14.5% default rate in 2009.
But not everything is better than before. John Timperio, partner at Dechert, said CLOs in the market reboot are still largely club-type transactions where investors lay out in advance what part of the CLO structure they are willing to take down.
He also mentioned banks cutting back on warehouse lines of credit to managers looking to raise new vehicles after spreads widened on Europe’s sovereign debt concerns. That has led to so-called “drive-by” structures, where a portfolio manager has a shortened period to ramp a new vehicle, close a loan portfolio and offer the CLO securities.
Justin Pauley, CLO strategist at the Royal Bank of Scotland, also pointed to the potential of note cancellations by aggressive CLO managers as a current point of contention. ”It’s definitely something investors need to be aware of,” he said.