Agencies out of the driving seat for CLO revival
* Rating reports only emerge as deals are about to price
* Specialist investor base eases marketing process
By Owen Sanderson
LONDON, July 18 (IFR) - Rating agencies are no longer the arbiters of success or failure in structured finance, as demonstrated by the revival of the European market for collateralised loan obligations where investors now rely more heavily on their own research.
CLOs, packages of bank loans turned into bond-like securities, have made a strong comeback this year with 10 deals, amounting to more than EUR3bn, printing since the market reopened in February with Cairn CLO III.
In most of these issues, the arranging investment bank has conducted long, detailed syndications away from the public gaze - and rating agency reports have come out only as the investors are already lined up and the deal is about to price.
"Syndication of a CLO is a much more involved conversation," said Bob Paterson, head of ABS syndicate at Lloyds, who was responsible for the distribution of ICG's St Paul's CLO II EUR400m issue, on which Fitch and S&P only released the "presale" report after the deal priced on Monday morning.
Similarly, Moody's presale assessment on another CLO from Ares Management's was released on Thursday, a day after Ares European CLO VI priced, while S&P, which also rates the deal, is yet to publish its report.
This shows a market which is a far cry from the blind ratings-based bets of pre-crisis regulatory myth-making. Investors buying CLOs today are going through deal documents with a fine-tooth comb.
"Investors will come back to ask for changes to the documents, and there will be much more negotiation and discussion. Each clause in each deal has its own nuances, and you need to balance investor requirements up and down the capital stack," said Paterson.
SMALL IS BEAUTIFUL
One of the reasons for the changing dynamics in the post-crisis world, is that the CLO investor base is smaller and more specialist. True asset class believers, many of whom are CLO managers themselves, have come to dominate the space.
This means faster syndications, but with more individual credit work.
"The more specialist investor base actually makes the marketing process easier - it is much more straightforward for a specialist CLO liability fund to get approvals in place than for a generalist," said the head of leveraged finance and CLOs at one investment firm.
"Disclosure from our perspective is basically the same pre and post crisis, but now the investor base takes its own view on the portfolio."
Deal materials given to investors include not only a "red herring" draft prospectus, but a "CDI" file, which can be loaded into the market-standard Intex software. This allows investors to easily model deal performance under certain assumptions or with tweaks to collateral.
Not everyone shares those views though. The head of structured credit at another CLO management and investment firm emphasised how similar the pre- and post- crisis market were.
"CLO 2.0 is a nonsense," he said. "The deals aren't so different, the people aren't so different, and the same factors are at play in marketing a deal."
He explained that despite most investors having their own modelling and stressing capabilities, the main factors in getting a deal done were still the manager's track record, the subordination in the structure and whether investors were getting paid for it.
However, some new structural features have been introduced in post-crisis deals, including repricing options which allow the debt liabilities to be reset.
STILL A ROLE FOR RATINGS
Rating agencies cannot be dismissed altogether, however. They no longer define the market, but the stresses that they apply to portfolios make it easier for CLO investors to report the rating composition of their portfolios.
That can be crucial for some banks that can only buy Triple A rated paper at the top of the capital structure. One Japanese bank is said to require two Triple A ratings to make a CLO investment, specifying, furthermore, that these come from Moody's and S&P.
Banks such as Wells Fargo or JPMorgan, meanwhile, often report exposure to Triple A assets, though these will probably not be used to calculate capital requirements.