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CLOInterest - June 2015 Edition Summary

Core Content

This document provides an in-depth analysis of the US and European CLO markets as of Q1 2015, focusing on credit trends, rating methodologies, and structural features of CLO transactions. It highlights the performance of CLOs, the impact of A&E provisions, and the role of bank disintermediation in European SME financing.

Main Views

US CLO Credit Trends

• Market Performance: The US CLO and corporate markets showed strength in line with long-term trends in Q1 2015.
• Credit Indicators: Key credit indicators such as equity, bond, and loan market volatility decreased, and high-yield credit spreads tightened after a spike in December 2014.
• Default Rate: The speculative-grade default rate is expected to rise to 2.7% by year-end 2015, but remains below the historical average.
• Collateral Quality: Exposures to Caa and SGL-4 credits remained at historical lows, and collateral defaults were minimal.
• Loss Given Default (LGD): LGD for CLO collateral increased, indicating potential risks for future recovery rates.

CLO 2.0 A&E Provisions

• Credit Impact: A&E provisions in CLO 2.0s can be credit negative if they allow for excessive extensions, increasing WAL and LDA exposure.
• Constraints: Most CLO 2.0s include constraints to limit A&E activity, such as WAL tests and prohibitions on extending maturity past the CLO's.
• Structural Features: Some CLOs have introduced credit-positive features, such as treating A&E fees and coupon increases as principal proceeds to pay down liabilities.

European SME CLOs and Bank Disintermediation

• GIAC OLT II Example: GIAC Gestion SAS' cash flow CLO transaction is a model for European SME CLOs, using bank disintermediation to finance SMEs and mid-caps.
• Structure and Features:
  • Portfolio size: €150 million with less than 100 borrowers.
  • Product type: 10-year bonds with a 5-year pre-amortization phase.
  • Unique features: No over-collateralization or interest coverage tests, zero excess spread, and costs borne by borrowers.
• Performance: GIAC's past transactions have performed in line with expectations, even during the French recession.
• Disintermediation Support: France has implemented initiatives to support bank disintermediation, including private placements and SME debt funds, which are expected to lead to more similar transactions in the future.

Key Information

• Credit Quality of Retail Exposure in European CLO 2.0s: Retail credits in European CLO 2.0s are of higher quality than the overall retail sector, with exposure concentrated in economically stable countries like the UK, Germany, and the Netherlands.
• Issuer Weighted Rating Factor: The issuer weighted rating factor for CLO 2.0s' retail exposure is 3000, which is better than the 3345 factor for the retail industry (consistent with a B3 rating).
• Rating Outlooks: Most retail names held by CLOs have stable or positive outlooks, with ratings ranging from Ba1 to B2.
• CLO Rating Surveillance: Moody's provides regular updates on CLO ratings and credit conditions, with a focus on monitoring market trends and structural risks.

Summary Table

Conclusion

The June 2015 edition of CLOInterest outlines a generally stable credit environment in the US and highlights the potential of bank disintermediation in European SME CLOs. While some credit risks persist, particularly in high-yield corporate credit and A&E provisions, the overall outlook for CLOs remains positive. Moody's continues to provide detailed analysis and ratings to support investors in understanding the risks and opportunities in the structured credit market.