The US CLO market has continued to boom in the second quarter against a backdrop of broadly stable liability spreads and robust leveraged loan supply.
While the $10.30 billion of CLO issuance in June is shy of the $13.83 billion priced in April and $13.04 billion in May, the cumulative second-quarter blitz of $37.1 billion across 76 deals has added to a record $39.8 billion in CLO activity during the first quarter.
As such, the $76.9 billion of new issue volume in the first half is a new record. Should managers continue to post new-issue CLO deals at their current pace, the full-year record of $128.9 billion from 2018 will be shattered.
With the market continuing to absorb the uptick in paper and loan issuance continuing at a breakneck pace, any hindrance to CLO deal-printing may lie only within structural limits of the market itself.
"Yes, I think issuance volume can remain strong into the third quarter and potentially through the end of the year," said Michael Herzig, the head of alternative credit business at New York-based First Eagle Investment Management. "There is demand to build forward pipelines into 2022. It feels fine — it just doesn't feel like the market is about to run out of gas."
Overall, 88 managers have come to market this year, eclipsing the 54 that printed deals in the same period in 2020. While the manager count is similar to the more normalized market year in 2019 (86), the percentage of managers with three or more deals (24%) is far higher this year than January-June 2019 (14%).
Indeed, a significant amount of issuance has been driven by managers pouncing on current sanguine conditions to swiftly increase their assets under management. As of writing, $38.9 billion of new-issue volume has priced from 21 managers who have printed three or more vehicles since the beginning of the year.
At the most active end of the scale is Blackstone, which has printed six new-issue deals totaling nearly $3 billion. As of June 24, eight other managers had at least four deals printed.
While tight liability spreads and booming leveraged loan activity ($326.6 billion of institutional issuance in the year to June 24) have fed the CLO engine, leading CLO managers have also spent the year unloading pent-up warehouse supply from the sluggish, pandemic-riven 2020 market.
"The simple answer is, some of these people are making up for lost time," said Herzig. "They didn't get their budgeted three or four deals last year, maybe they had a few warehouses open, and they’re just going to try to power through it in 2021."
As has been the case since the beginning of the year, new-issue activity only reflects part of the story of the U.S. CLO market in 2021, with resets in particular contributing to the uptick in the supply of paper.
After tallying $60.6 billion so far this quarter — split between $33.9 billion of resets and $26.6 billion of refinancing — reset and refinancing activity is on a record-setting trajectory, particularly as a large stash of deals with coupons wider than current averages reach the end of their respective non-call periods.
Year-to-date, more than $131 billion in reset and refinancing volume (split between $66.5 billion and $64.9 billion, respectively) has come to market this year. According to Deutsche Bank research, another $111 billion in deals is expected to be repriced by the end of the year as issuers seek to compress spreads on 2017, 2019 and 2020-vintage portfolios.
"Ultimately while the pace of activity may slow somewhat in the short term, the larger cohort of deals with expensively priced debt — 2020 in particular — the need for documentation 'fixes,' and the natural bias towards rolling over existing deals should act as supportive for issuance activity," according to a June 23 Deutsche report.
Deutsche Bank estimates 69 deals issued or refinanced/reset since 2016 will exit current non-call periods in July alone; another 91 will expire in October.
Underpinning CLO issuance is a backdrop of liability spreads that have remained broadly stable despite the heavy supply of paper. "The U.S. hasn't widened all that much — for quality paper it's still 110-113 basis points, which isn't far off tights," commented one CLO manager.
However, there has been a shift in the bid at the tightest end of the spectrum. The current triple-A, COVID-19-era tight for a deal with a five-year reinvestment period remains 98 bps, as achieved on Symphony CLO XXV in March.
Through May and June, however, the tightest triple-A spread for a new-issue deal with a five-year reinvestment period was 108 bps, on the $457.3 million Point Au Roche Park CLO for Blackstone, while no other deals priced below 110 bps during those two months.
Overall, LCD data shows that triple-A spreads have held up in the second quarter, on par with the first quarter average at 116 bps. Offsetting this somewhat is leakage further down the stack, which has nudged the average weighted average cost of capital up by 4 bps, to 167 bps from the first quarter, which remains 74 bps inside the second-quarter 2020 level of 241 bps.
CLOs this year have largely been issued with a traditional two-year non-call and five-year reinvestment period structure. During the second quarter, only 10 new-issue deals were sold with reinvestment periods of three or four years, and one portfolio was offered as a static vehicle with no reinvestment period (as of June 24).
In 2020, in contrast, 160 broadly syndicated loan, or BSL, and middle-market CLOs were structured with one-year non-calls, reflecting investor and market caution over the potential economic impact of the coronavirus outbreak on corporate loan payments and default activity.
It is these deals that are expected to make up a healthy chunk of activity going forward. LCD counts 118 BSL CLOs totaling $47.6 billion that have yet to be reset or refinanced under more favorable 2021 conditions.
The leveraged loan market has continued to soak up strong demand from investors seeking higher yields in the speculative-grade realm, amid a recovering economy aided by COVID-19 vaccination rollouts. Loan volume vaulted to $54.7 billion in June, after falling to a five-month low of $34.8 billion in May.
New-issue loan volume in the second-quarter has clocked in at $142.1 billion, which is the second-highest quarterly volume of loans over the last four years, according to LCD, behind only the $184.5 billion in the first quarter. The $326.6 billion in year-to-date 2021 institutional volume is nearly two-and-a-half times last year’s comparable figure ($133.3 billion).
Buyouts and strategic acquisitions accounted for $81.9 billion, or 58% of total quarterly loan volume. The $76.4 billion in total loan supply from buyouts in the first half of the year is the second highest for any comparable six-month period since 2007, according to LCD data. Corporate M&A reached a three-year high of $25.2 billion.
Average new-issue yields on both double-B and single-B rated loans continued to decline from post-COVID-19 highs, as corporate borrowers refinance into lower rates. For June, loans to issuers rated BB- or BB were yielding 3.23%, roughly on par with March and wider than the 2.71% intra-year low in January. However, current levels are more than two points tighter than they were a year ago. Loans to issuers rated B or B+, which a year ago were yielding 5.89%, are now priced to yield 4.67%. Although current levels have widened from the 4.3% area in January and February, they are tighter than any point in 2020.
The average bid price for leveraged loans rose to 98.35 cents on the dollar as of June 25, with 26% of outstanding loans pricing at par or above — a level that still leaves a sizeable chunk of loans pricing at discounts favorable to CLO manager arbitrage levels.
In addition, repricing activity, which took a big bite out of the coupons on existing portfolios, retreated in the second quarter, to just $33.9 billion, from $148.4 billion in the first quarter. Nonetheless, some borrowers, particularly those at the riskier end of the spectrum, still found opportunities to lower spreads on their existing loans.