Two new CLO deals were marketed in Europe last week, and one deal closed on the public market. However, market sources said that the activity of the past weeks still doesn't offer a definitive direction as to where pricing will settle.

The new CLOs, Avoca 9 and Harbourmaster II, are worth a combined 704 million ($1.08 billion) and are believed to be the first arbitrage deals to have hit the market since the credit crisis erupted last summer.

All the other European CLOs that have priced since the crisis started have been designed to shift a pool of unwanted leveraged loans off of banks' books.

"While we've seen a continuing trickle of CLO deals this year, many of these recent CLOs have not been the "normal" arbitrage CLOs - instead, they have been composed of balance-sheet deals to reduce banks' regulatory capital requirements or swap for funding from central banks," said one London-based CLO manager. "These new launches are the more regular arbitrage funds."

Credit Suisse and Avoca Capital's Avoca 9 deal cleared at market levels. Though it featured discount margins, this was simply to give investors call protection based on their concern that deals are increasingly being called.

The deal's 218.4 million class A was rated triple-A by Moody's Investors Service and Standard & Poor's. The A tranche, which has an 8.4-year weighted average life, priced at six-month Euribor plus 125 basis points. The 14.5 million class B, which is rated Aa2' and AA' by Moody's Investors Service and Standard & Poor's, respectively, has a 10.1-year weighted average life, priced at 350 basis points. The 15 million class C, which is rated A2' and A' by Moody's and S&P, respectively, and has a 10.1-year weighted average life, priced at 400 basis points.

According to market reports, the Avoca deal has a single equity sponsor. The unrated equity piece represents 17.36% of the capital structure, or 52.1 million, which compares with around 10% for pre-crisis trades.

The main issue right now, sources say, is getting these deals done at a sensible cost and including an equity piece that is easier to sell because the buyer can take a total-return view. "Avoca priced its deal at 150 basis points - if new deals are coming at the 350- and 400-basis-point margin, then maybe you can afford to pay 150 basis points for your triple-A," the London-based CLO manager said. Dresdner Kleinwort has also begun marketing its Harbourmaster II deal. The 485.15 million CLO of leveraged loans is expected to price soon.

However, the CLO manager said that the market is likely to see more deals that take exposure off banks' balance sheets unlike these two arbitrage vehicles.

"We've mainly been seeing these types of deals where you are taking exposure off banks' balance sheets," he said. "These are static deals where you don't really shift the assets and typically the bank holds the triple-A piece on-balance sheet."

Despite the positive trickle of activity, the market environment is far from benign. S&P reported 17 global defaults in the first quarter, up from just six during the same period last year and just below the total 2007 figure of 22. The end of April saw five defaults, highlighting the very real risk that credit problems could escalate rapidly.

One issue that remains for all but the most experienced managers is the risk of warehousing pools of loans before a CLO is sold. "Because you need to ramp up portfolios, these deals take time," the CLO manager said. "We have a situation where you have bank loans and secondary activity, but banks have to ultimately be willing to help with warehousing capacity, and right now it's the hardest thing in the world for managers to achieve because banks don't see it as profitable."

In Europe, another major concern is the disappearance of shadow ratings. As the markets restructure, it is uncertain whether the rating agencies will be as willing to provide the shadow ratings on which many of these deals are structured.

S&P has suggested that it would not shadow rate a deal less than a certain size. "And private equity sponsors don't want their companies subject to public ratings on an ongoing basis," said the CLO manager.

(c) 2008 Asset Securitization Report and SourceMedia, Inc. All Rights Reserved.

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