CLO managers are finding creative ways to restructure their portfolios. Following Morgan Stanley’s announcement last week that it would repackage downgraded CDO tranches backed by leveraged loans into new triple-A-rated securities—the first strategy of its kind — Egret Capital has also come up with a new restructuring tactic.
Egret earlier this week said it had bought back some of the debt in one of its portfolios, also a first for a CLO manager, according to Moody’s Investors Service. The London-based CLO manager and unit of Societe Generale said it used the interest proceeds from its Egret Funding CLO I Plc portfolio, which should have been paid to class M subordinate note holders, to retire €1.4 million ($1.98 million) of its class E deferrable floating-rate notes at 25% of the principal, Moody’s said. The purchased class E notes will be cancelled.
Moody’s considers the buyback a distressed exchange because it was made at a discount to the debt’s face value. However, this rationale typically applies to borrowers who are looking to avoid a bankruptcy filing or default, which Egret was not. The firm has joined the growing group of market players that have been taking advantage of the deeply discounted debt trading on the secondary by buying back their own debt.
Egret’s CLO portfolio consists of European senior secured loans, second-lien loans and mezzanine loans. Moody’s downgraded the €12.25 million of class E notes to C from Caa1, but then upgraded the notes back to Caa1 after the buyback was completed.
Egret’s buyback came just a week after Morgan Stanley began making plans to repackage downgraded debt into a new tranche of triple-A-rated securities (LFN, July 9, 2009). This was greeted with “huzzahs from market watchers looking for signs of life in the structured finance world,” Randy Schwimmer, the head of capital markets at Churchill Financial, said in a weekly email to clients. New CLOs have been nearly nonexistent since mid-2007 due to fears that top-rated debt will suffer further mark-to-market losses and ratings downgrades. “Then out came this repackaged CLO,” said Schwimmer.
Morgan Stanley is packaging $87 million in securities that it expects to be rated triple-A and $42.9 million in notes rated Baa2 by Moody’s. The securities come from Greywolf CLO I, a CDO that Goldman Sachs arranged in January 2007, which is currently managed by Greywolf Capital Management. Morgan Stanley is buying the debt on the secondary and carving it into two tranches—a larger super triple-A-rated tranche to give buyers more rating and price protection and a smaller B-rated tranche.
“The recalibrated super triple-A should trade higher than its former incarnation, given its enhanced cushion to default,” said Schwimmer. “If more of these repacks are sold, it could boost CLO prices generally. If triple-A-rated CLO investors are ever coming back, that would be a good way to start.”