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Understanding S&P Global Ratings' Request for Comment on Proposed Changes to its CLO and Corporate CDO Criteria

Apr. 11 2019 — S&P Global Ratings published a request for comment (RFC) today in relation to proposed changes to the criteria we use to rate collateralized loan obligations (CLOs) and collateralized debt obligations (CDOs) backed by corporate assets, including loans, bonds, and synthetic assets (see "Request For Comment: Global Methodology And Assumptions For CLOs And Corporate CDOs"). We are publishing this credit FAQ to provide answers to questions we anticipate some market participants may have regarding the RFC, and to help them better understand the updated framework proposal.

Frequently Asked Questions

Why are we updating our CLO rating methodology? Why now?

The proposed changes to our criteria incorporate recent performance data while maintaining the criteria's consistency with our ratings definitions; they also take into account the evolution of the CLO market over the past decade. As part of our criteria policies, we review our existing criteria periodically and may make changes when we have accumulated enough new data. We now have 10 years of additional data on corporate ratings performance since we introduced our current CLO rating framework in 2009, which was created using data up to 2008. Furthermore, with CLO 1.0 transactions (CLOs issued before the global financial crisis) almost all fully redeemed, we now have a more representative picture of global CLO performance over the last 20-plus years, a period that spanned multiple economic downturns. In addition to reflecting the new data and the market's evolution, the proposed changes detailed in the RFC aim to provide an update and simplification of our rating approach.

We note that our criteria are calibrated against economic scenarios in line with our rating definitions (see ""Understanding S&P Global Ratings' Rating Definitions," published June 3, 2009). For example, under our criteria, a typical S&P Global Ratings-rated 'AAA' tranche from a recently securitized broadly syndicated loan (BSL) CLO with a five-year reinvestment period would be expected to withstand an average of 65%-70% of its collateral pool defaulting, with recovery rates in the high-30s to mid-40s, without the 'AAA' rated CLO tranche missing required interest or principal payments.

What does our data over the last decade show about CLO 1.0 performance? What could it portend for CLO 2.0s?

Ten years on from the global financial crisis, we now have more visibility on the performance of the CLO 1.0 transactions through the most recent stress period. Even after withstanding an economic downturn, these CLOs saw few tranches default (see table 1). Because the CLO 2.0 transactions (CLOs issued after the crisis) generally have more par subordination than their pre-crisis CLO 1.0 siblings, all else being equal, we would expect these transactions to see even fewer tranches defaulting under a global financial crisis-type downturn.

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