New CLO AAAs eligible for Fed program; possible rally eyed; CBO/CDO/CLO paper softens

By Cristal Cody

Tupelo, Miss., April 9 – The CLO market got a boost on Thursday when the Federal Reserve announced additional and expanded stimulus measures in response to the coronavirus impact.

The Federal Reserve announced that it will provide up to $2.3 trillion in loans to support the economy.

As part of the additional stimulus measures, the Fed will expand the size and scope of the primary and secondary market corporate credit facilities, as well as the term asset-backed securities loan facility to now support up to $850 billion in credit.

Under the TALF program, the Federal Reserve will broaden the range of assets as eligible collateral to now include the AAA-rated tranches of both outstanding commercial mortgage-backed securities and newly issued static CLOs.

“The size of the facility will remain $100 billion, and TALF will continue to support the issuance of asset-backed securities that fund a wide range of lending, including student loans, auto loans, and credit card loans,” the Federal Reserve said in the release.

The Fed will lend at 30-day SOFR plus 150 basis points at a 20% haircut for new issue static AAA CLOs with a rating from at least two rating agencies.

“The Fed provided an early Easter present for the CLO market, with its April 9 announcement that CLOs will be included in the Term Asset Backed Securities Loan Facility,” Wells Fargo Securities, LLC analysts said in a note.

However, the program comes with “fine print,” including that all or substantially all of the underlying assets must be originated by a U.S. company and the underlying credit exposures must be newly issued to be eligible collateral, the analysts note.

“While we think this is undoubtedly good news for the CLO market, we do highlight some significant limitations,” the analysts said. “If the collateral for the newly issued static CLOs must be newly issued loans, the program will likely have little effect on the estimated $15-$20 billion in existing warehouses.”

TALF could have more benefits for middle-market CLOs instead of broadly syndicated loan CLOs, “given the wider spread on MM CLOs,” the analysts said.

“We expect to see a slight rally in CLO tranches, single-A and above, and this could boost loans, if this program makes refinancing more likely,” the Wells Fargo analysts said. “Ultimately, we believe that the success of TALF’s effect on the CLO market will depend on the restriction on the underlying collateral. At the margins, this could provide some relief for issuers facing immediate pressures, but we would expect that the requirement for newly originated collateral would limit the program.”

Just one CLO, a static offering from GSO/Blackstone Debt Funds Management LLC, has priced since March 12.

Meanwhile, default concerns and CCC exposures for CLOs are growing.

S&P Global Ratings said in a report on Thursday that average CCC buckets increased to 10% at the start of April from 4% at the start of the year across its CLO Insights 2020 index.

“The increase in loans from CCC rated obligors, combined with a significant drop in loan prices, will likely reduce the cushion for U.S. CLO junior overcollateralization ratio tests as the April CLO trustee reports are issued in coming weeks,” S&P said.

The weighted average price of CLO portfolios improved to 83.11 on April 5 from a low of 79.53 on March 20. On Jan. 1 the weighted average price of CLO portfolios was 97.45, S&P said.

S&P said for the period from March 29 through April 5, there were negative rating actions on more than 80 issuers.

The hotel, restaurant and leisure sector has experienced the most negative actions on collateral held in U.S. BSL CLOs since March, according to the report.

As of April 5, 107 tranches across 74 S&P-rated U.S. BSL CLOs have ratings on CreditWatch negative.

Fitch Ratings said in a report released Thursday that it is assuming a global recession for the first half of 2020 in its baseline scenario, followed by a recovery that begins in the third quarter if the health crisis subsides.

“We expect asset performance to weaken across almost all structured finance sectors,” Fitch said. “We have already started to reflect that in our ratings and have taken actions in some of the most vulnerable sectors in our ratings portfolio. We placed more than 50 transactions on Rating Watch negative or negative outlook including U.S. hotel and retail concentrated CMBS and aircraft ABS. We downgraded 5 UK and 3 Italian retail CMBS this week and we are currently conducting sensitivity stress analysis on CLOs globally.”

Fitch placed tranches from numerous European CLOs on Rating Watch negative or negative outlook on Thursday.

Moody’s Investor Service said on Thursday that in its baseline forecast, the global default rate is expected to end 2020 at 10.6% and edge higher to 11.3% by the end of March 2021 from a March 2020 level of 3.5%.

“This forecast is underpinned by our expectation of recessions in many large economies,” Moody’s said.

Secondary prices decline

In other action, securitized secondary volume remains strong, though prices softened in mid-week trading ahead of the early market close on Thursday.

The financial markets will reopen on Monday following the Good Friday holiday.

On Wednesday, $678.58 million of high-grade CBO/CDO/CLO securities and $179.39 million of lower-rated paper traded, Trace data shows.

Secondary trading volume on Tuesday included $509.05 million of high-grade CBO/CDO/CLO paper and $126.21 million of lower-rated issues, while Monday’s session posted $666.03 million of high-grade trading volume and $127.1 million of non-high-grade volume.

Average prices for high-grade CBO/CDO/CLO paper softened to 89.60 from 90.40 on Tuesday but better than where the issues traded at 86.90 on Monday.

Non-high-grade issues declined to 55.40 on average in the prior session from a 61.10 average on Tuesday and 59.10 on Monday.

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