German corporate insolvencies in the small and medium sized business (SME) sectors are on the rise as predicted earlier this year (see ASR 4/22). In the face of this deteriorating situation, SME CLOs exhibit encouraging immunity to the side effects.

The consistent resilience demonstrated by these structures up against the most recent challenge - German Floods (see ASR 9/16) - was noted at the CDO conference in Berlin earlier this month. According to Dresdner Kleinwort Wasserstein, the rising insolvency figures reflect the increasingly difficult operating environment for German corporates, such as Kirchmedia and Philip Holzman, as well as companies in the SME sector. While most of the afflicted companies are largely from the west, it's likely that the recent floods will threaten companies in the east as well. Nonetheless, analysts expect the impact on SME CLOs to be limited.

But according to figures reported by the Borsenzeitung, out of the 1,497 companies surveyed, half of them expect to undershoot revenue targets this year, though results may be less detrimental than expected. In fact, the companies surveyed said that plans are on track to boost equity within their capital structures through retained earnings or capital injections. "This should prove credit positive for the 12 German SME CLOs outstanding, including the seven deals from the KFW-sponsored Promise program," reported Deutsche Bank.

Despite the fact that defaults are indeed on the rise, they are still being recorded at relatively low levels. "In most cases, defaulted loans are still being worked out and have yet to translate into realized losses," said Dresdner. To date Promise-1 2000-1, at 1.17%, has recorded the highest level of cumulative defaults. On the other hand it has also recorded 100% recoveries of its five defaulted loans which recently prompted Fitch Ratings to affirm the transaction. Nonetheless, as CLO pools continue to meet downtrend economic pressure, it will be important to continue monitoring them for further signs of deterioration, said Dresdner.

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