CLO managers have long lobbied against proposed rules requiring them to keep “skin in the game” of these deals, arguing that such a requirement would increase the cost of financing for U.S. companies.
Now they can say exactly how much more this financing would cost.
The Loan Syndication and Trading Association, a trade group, has commissioned a study by consulting firm Oliver Wyman showing that, as proposed, risk retention rules would likely reduce CLO formation by $170 billion to $250 billion.
This forecast is based on the LSTA’s calculation that just 10 of the 30 largest CLO managers could feasibly hold 5% of their existing CLO assets under management on their own balance sheets. These would primarily be those affiliated with a large insurer and or a very large alternative asset manager. The trade group estimates that these 10 managers represent approximately 27% of the current CLO assets under management. It uses this estimate to anchor our baseline scenario as involving a 75% reduction in credit provided by CLOs over the long term.
Companies seeking to replace this source of financing would be forced to rely on more expensive sources of credit. To replace CLOs, borrowers would likely see financing margins increase by more than one-third, an increase in annual interest costs equivalent to $3.2 billion in today’s market.
“CLOs are an integral source of financing for U.S. companies and provide real economic value to investors,” Bram Smith, the LSTA’s executive director, said in a press release issued today. “As proposed, risk retention will impede the availability of CLOs which will severely limit the availability of credit for American companies and force corporate borrowers to rely on more expensive sources of funding if the other funding is available at all.”
The $280 billion of loans in CLOs represent roughly 45% of the non-investment grade term loans to U.S. companies. Other investors include hedge funds and high yield funds, which hold $116 billion; loan mutual funds, which hold $151 billion; insurance companies holding $71 billion and non-bank finance companies with $19 billion, according to the LSTA. It arrived at these figures using data from S&P Capital IQ/Leveraged Commentary & Data; Thomson Reutes LPC; estimaes from Citi and analysis by Oliver Wyman.
