CLO markets quiet after flurry earlier in month; middle market demand remains strong

By Rebecca Melvin

New York, Aug. 15 – The CLO market remained quiet on Tuesday in line with the generally anemic tone of both the secondary and primary markets over the last several weeks due to the summer activity lull.

The burst of activity in the first week of August and last week’s trickle of new issuance has yet to be repeated as markets round the corner into the second half of August.

There was strong investor demand across all tranches of the new TCW Group $408.6 million CLO transaction last week, and five new deals priced in the first week of August, including one middle-market deal, the TCP Whitney CLO.

Pricing of the TCP Whitney CLO speaks to increasing middle-market demand. Its AAA tranche discount margin of 168 basis points was the tightest print since August 2013, and the levels of the AA and single A tranches were also at year-to-date tights, according to BofA Merrill Lynch analysts Chris Flanagan and Mao Ding.

Looking ahead, Flanagan and Ding expect monetary policy will remain accommodative for the near term, and that makes the carry trade provided by mezzanine U.S. CLOs and single-As attractive for their relative value, they said.

Following the announcement in late July that the Libor benchmark is being phased out, new deals have incorporated language that gives the manager discretion to replace the base rate subject to rating agency confirmations if the alternate rate is inconsistent with the new base rate adopted by 50% of the floating-rate collateral assets and if a majority of the controlling class believes there is inconsistency.

Meanwhile spreads on new investment-grade CLOs moved 2 basis points to 5 bps tighter in July from June, while primary BB and B CLOs moved 10 bps to 15 bps wider, according to Wells Fargo CLO analyst David Preston.

The fundamentals were generally stable from June to July with a drop ongoing in U.S. CLO equity distributions, and secondary market CLO spreads were generally flat.

Data show CLO equity distributions across all vintages for the third quarter are down by about 3 points, which is a drop of 0.5 to 1 point quarter over quarter.

Equity distributions have fallen for 18 months on the loss of the asset Libor floor benefit and asset spread compression. However second-quarter distributions were roughly flat, Wells Fargo analysts Preston, Geoff Horton and Mackenzie Miller wrote in a note published Aug. 3.

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