Amid High-Yield Market Flight, US CLO Parade Marches On

Investors continued to flock to the leveraged loan asset class in March, with a steadily rising base rate – LIBOR – and expectations of additional Fed rate hikes in 2018 drawing ever-more cash into the floating rate environment.

One of the biggest sources of demand for leveraged loans – collateralized loan obligations – just wrapped up another banner quarter, with $32.1 billion of new CLOs issued, according to LCD. That’s nearly twice the amount seen during the same period a year ago. During all of 2017, U.S. CLO issuance totaled an impressive $118 billion, easily surpassing expectations at the start of the year and nearing the record $124 billion in 2014.

One reason the leveraged loan market is seeing sustained institutional investor interest now: three-month LIBOR, the rate on which these credits traditionally have been based, has risen some 62 bps since the start of year, buoying yields in the segment, even as the spread over LIBOR has decreased, due to the amount of cash flooding into the market. (Issuers today also can have the option to switch to one-month LIBOR, which has risen less markedly than the three-month rate.)

Indeed, while U.S. loan funds and ETFs have seen a net inflow of roughly $3 billion in 2018, investors have withdrawn roughly $15.5 billion from high yield bond funds this year, according to Lipper. High yield bonds, of course, over investors a fixed rate of return, as opposed to leveraged loans, which are priced at a spread over LIBOR.

CLOs are special-purpose vehicles set up to hold and manage pools of leveraged loans. Since the financial crisis their prominence in the U.S. leveraged loan market has grown, with CLOs accounting for roughly 65% of all loans syndicated during 2018’s first quarter, according to LCD.

At the end of March U.S. leveraged loan market outstandings totaled $994 billion, according to the S&P/LSTA Loan Index. – Tim Cross

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