The Collateralized Loan Obligation (CLO) market
CLOs are special-purpose vehicles (SPV) set up to hold and manage pools of leveraged bank loans, allowing banks to implement the originate-to-distribute model and thus to manage their risk exposure in the lending market. On one hand, banks arrange syndicated loans and compose their corporate loan portfolios. On the other hand, they act as underwriters and collateral managers for CLOs, whose role is to acquire mainly syndicated term loans to create new off-balance sheet loan portfolios for securitization.
Gallo and Park find that direct access to the CLO market as a collateral manager or underwriter allows banks to better absorb shocks on their corporate loan portfolio and enable them to continue their lending to corporations.
CLO Market and Corporate Lending
Authors: Angela Gallo, Min Park
From: Cass Business School, University of Exeter
An echo from 2008?
U.S. nonfinancial corporate debt as a percentage of GDP is now higher than the prior peak reached at the end of 2008.
The U.S. CLO market has grown from roughly $300 billion at the end of 2008 to $615 billion at the end of 2018. However, CLO loan-credit quality today is estimated to be somewhat weaker than 10 years ago. S&P estimates that in 2018, CLOs and loan mutual funds purchased approximately 60 percent and 20 percent, respectively, of syndicated leveraged loan volumes. It is estimated that less than 10 percent of new issuance was purchased by banks in the U.S. The remaining volumes were purchased by insurance companies, finance companies and others.
Because CLOs are today the largest buyer of these syndicated leveraged loans, disruptions to CLO creation could increase the likelihood that leveraged loans remain on bank balance sheets, which could, in turn, limit the ability of affected banks to extend credit during periods of stress.
Corporate Debt as a Potential Amplifier in a Slowdown
By: Robert S. Kaplan – Federal Reserve Bank of Dallas