CLO market players will be more discerning about transactions in the second half of this year, according to panelists at a Loan Syndications and Trading Association seminar held in New York last Wednesday. The participants highlighted the recent slowdown after $57 billion in CLOs were issued in the first half of 2007.
After the first news of the subprime blowup in February, the credit markets were lulled into a sense of security only to wake up several months later to discover it was worse than expected, panelists said. The subprime fallout has even affected some investors with portfolios that are tied to the leveraged loan market.
The panel attributed part of the lull in issuance to a reduction in buyers of mezzanine paper. "CLOs have been taking a breather over the past few weeks, partially as a result of the liability side, and in particular, mezzanine liability," said Greg Stoeckle, co-chief investment officer at INVESCO. The triple-B and double-B paper is typically gobbled up by alternative investors such as hedge funds and CDO squared, which have pulled back from the market, taking away demand and causing liability spreads to widen, Stoeckle said.
Other panelists were optimistic about the current spread widening, suggesting that it was healthy for the market to realize that risk needed to be repriced, especially sooner rather than later into next year, when the effects could be increasingly dramatic.
For now, the market will need to work through inventory on dealer books on the liability side, Stoeckle said, potentially resizing to reduce leverage, taking out some of the single-B' tranches and driving the cost of capital down. "CLOs represent 60% of the market, and that is long-term, locked-up money that is not going anywhere," said Jon Calder, managing director and head of loan sales, trading and research at Citigroup.
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