As pricing finally begins to rise on institutional loans, CLO managers are frenetically scrambling to issue larger funds in order to invest in and take advantage of these juicier spreads. Jumping on board with one such new fund is The Carlyle Group, which announced the close of its eighth US high yield fund, Carlyle High Yield Partners VIII (CHYP VIII), last Wednesday. The new $525 million fund, which utilizes a traditional CLO structure, will invest a minimum of 95% of its assets in bank loans with a maximum of 5% in high yield bonds. Carlyle's leveraged finance group now manages $5.6 billion in assets.
Carlyle combined assets from a previous CLO at the end of its reinvestment period to seed funding for CHYP VIII, and rounded it out with new assets from the loan market, noted Linda Pace, Carlyle managing director and leveraged loan portfolio manager.
Indeed, Pace noted a swell in funding for the new CLO. "This is a good size for us," she said, noting that this CLO is almost $100 million larger than the firm's average size.
And going forward, Pace expects robust CLO funding conditions to lead to even more larger-than-usual CLO vehicles. "The size of our CLOs is both driven by investor interest and our ability to buy attractive assets. As long as we can source the assets and the investors are interested in participating in these deals, we will do somewhat larger than historical [sized] CLOs."
The market certainly seems to be gearing up for more healthy CLO issuance activity, especially as more funds materialize in response to the attractive spreads on available loan packages. "We think it's a good time to be ramping CLOs and we are continuing to receive some reverse inquiry from equity investors," Pace noted. "We are at a point in time where spreads in the loan market are coming our way and we are more fairly paid for the risks we are taking. In the meantime, the liability spreads have remained very attractive, thereby enhancing the CLO arbitrage," she said.
Of course, the institutional loan market is still not entirely leaning in favor of the buy-side. "It is not all rosy," Pace said. "The good thing is that we have a lot to choose from. There is a lot of new issue flow right now and the yields on the paper are higher than they have been." And going forward, investment discretion is key. "The catch is that not everything is a good credit and not everything is structured properly, so you do have to be somewhat selective, but I would rather have a lot to choose from that is well priced than have another type of scenario," said Pace.
Ultimately, investing prudently now could pay off later, when the looming default cycle finally materializes. "You should always be bracing for a default cycle," Pace said. "One of the characteristics about CLOs and investing in loans is that you really are managing the downside - the default risk and the principal loss potential."
Despite this constant attentiveness to defaults, Pace said she is confident in Carlyle's ability to manage through such credit events. "We have been around for seven years so we have managed through a credit cycle already and came out of that credit cycle well. We don't change our underwriting standards, and we look for as much value in our picks as we can to help us maximize the yields in our portfolio," she said. "We strive not to do bad deals, regardless of the credit cycle."
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