Volatility sweeps through the CLO market

Having staged a remarkable recovery post-COVID, global issuances in the $1.5 trillion collateralized loan obligation (CLO) market have since declined precipitously amid challenging macro conditions. The difficult headwinds facing CLOs today are likely to prove temporary, however.

According to data from CLO-i, CLO issuances in the U.S. so far this year have totaled $65.33 billion, down from 2022’s total of $140.72 billion, and very different from 2021, when volumes reached a staggering $382.04 billion.¹

Most analysts anticipate global CLO issuances will reach $100 billion this year, although Barclays is more conservative, forecasting $80-90 billion.²

What is behind the drop-off in activity? The spike in interest rates and inflation are both unwelcome news for CLO issuances. This is because CLOs generate returns by taking advantage of the arbitrage between their funding costs and the yields on the loans in which they invest. As rates increase, so too does the cost of financing, resulting in fewer arbitrage opportunities.³

Compounding matters further is that the leveraged loan market has been muted, and these make up the bulk of the CLO market.

Positive signals for CLOs

Despite recent challenges, there are glimmers of hope in the CLO market.

CLOs are cyclical in nature, and the record issuances witnessed in 2021 coincided with some of the lowest interest rates in recent memory. Today, interest rates are high, but may come down eventually once inflation (hopefully) stabilizes. Once this happens, the volume of CLO issuances will recover, potentially to 2017-2018 levels, when issuances totaled $258.78 billion and $261.25 billion respectively.⁴

Research also shows that middle market CLO issuances are booming, with $12.1 billion of new CLOs being issued in the first half of 2023, following a substantial rise in private credit lending activity.⁵

Deutsche Bank Research suggests that mid-market CLO issuances could even top $23 billion — a new record — by the end of the year.⁶

Another factor behind the drop off in CLO issuances has been the transition away from the London Interbank Offered Rate (LIBOR) benchmark to the Secured Overnight Financing Rate (SOFR), the impact of which has been felt widely across debt markets, including in the CLO world. As the CLO industry acclimatizes to SOFR, it is expected that issuance activity will normalize again.

Identifying The Right Technology

If CLO market participants are to navigate macro volatility, they need to utilize effective technology solutions to help them do so. Amid recent black swan events (COVID, the war in Ukraine, the regional banking crisis in the U.S., the failure of Credit Suisse, potential escalation of the crisis in the Middle East, to name a few), CLO managers need to have systems that can carry out extensive scenario and stress testing to help insulate themselves against major tail risks.

To mitigate inefficiencies and the risk of making critical decisions off the back of inaccurate data, CLO managers need a homogenized front-, middle-, and back-office that is interconnected through a singular system.

CLO managers are facing increasing pressure and scrutiny from investors, regulators, and ratings agencies. To meet these growing transparency requirements, managers need to have better insights into their investment composition and operational processes. These insights can be facilitated by making use of best-of-breed technologies, which can support all types of CLO assets; automate repetitive processes and data entry; simplify workflows; and support holistic operations.

Solutions that streamline the entire investment lifecycle

From portfolio management to research, trading, and compliance, Broadridge delivers a purpose-built and robust suite of solutions that help CLO managers make better investment decisions.

Designed to be adaptable to any process or workflow, the Broadridge CLO portfolio management platform, Sentry PM, aggregates data from internal and external data sources, empowering users with a single, award-winning, integrated solution. Our solutions support the entire investment life cycle and can be modeled for any workflow, store any data, and integrate with any system.

1. Naqvi, S. (n.d.). CLO-i: the inside track on CLO activity, pricing and performance
2. Pitchbook – July 17, 2023 –CLO mid-year outlook: Dry spell remains in forecasts for 2023 issuance
3. White & Case – June 22, 2023 – How CLOs are dealing with a post-SVB world
4. Naqvi, S. (n.d.). CLO-i: the inside track on CLO activity, pricing and performance
5. Structured Finance Association – July 20, 2023 – Private credit fuels middle market CLO issuance
6. Structured Finance Association – July 20, 2023 – Private credit fuels middle market CLO issuance