Three days ago in “Canary, Meet Coal Mine: These Are The Tranches Where The CLO 2.0 Meltdown Begins,” we revealed precisely where the rot is starting to show in the CLO market which, you’re reminded, is starting to unravel amid a string of downgrades in HY energy and a general aversion to junk as the US heads into a default cycle.
Certain buckets have been hit harder than others with the single-Bs plunging nearly 21% and the BBs dropping 9.2%. Broadly speaking, new issue spreads for BBs and Bs have blown out by 225 bps and 350 bps, respectively over the past 12 months and both S&P and Moody’s recently announced their first downgrades of post-crisis US CLO tranches.
In the crosshairs are deals from Silvermine that have double-digit exposure to US O&G.
As we noted on Thursday, there are other factors pressuring the market including the 5% risk retention rule, which requires managers to retain a stake in the first-loss tranche. That could be a game changer for managers without extremely deep pockets and could well weigh further on supply, which is already collapsing.
Of course if you think you’ve got a nose for picking credits there may be an opportunity for you in the equity tranche, Morgan Stanley thinks. “We reiterate our view that the levels of distress in the US market may create ‘option-like’ payoffs in CLO equity in the secondary market, especially in deals by managers who are better 'credit pickers,’” the bank wrote.
Well now, Citi is out with a fresh look at the space and apparently, they too think there may be some opportunities amid the turmoil. There are some useful observations in Citi's note about forced Mezz selling amid margin calls in 2.0 BBs and we'll profile that later this evening, but for now consider the following screengrab from the title of Citi's new note and the excerpt from a Retuers piece out last month.
From Reuters: "Citigroup retained its market-leading position at the top of the US Collateralized Loan Obligation (CLO) arranger league table in 2015 for volume and deal count."
In case the implication there isn't clear enough, allow us to spell it out. First, have a look at CLO 2.0 mezz performance:
Clearly, that's the absolute last place you want to be right now and yet the biggest CLO arranger on Wall Street is apparently suggesting that these tranches are so enticing, that the bank's structured credit team is having a hard time coming to terms with the fact that they are about to get "even more attractive."
Trading accordingly.