Middle market CLOs continue to comprise a small part of primary volumes, driven by CLO mezzanine investors that are attracted to the wider spreads these deals offer.

According to Fitch Ratings’ Oct. 30 U.S. CLO newsletter, over 3Q12, four middle market CLO transactions priced, bringing issuance volumes of $1.4 billion that matched 2Q12 activity for this sector.

Citigroup Global Markets analysts said in a report that one recent deal brought to market by Cerberus Capital Management reached its spread targets with “higher-rated collateral than the constraints allow.”

The offering, called Cerberus Offshore Levered I L.P., is Cerberus' second deal of the year. In April, the private equity firm raised $833 million for its A5 funding CLO. The $300 million top-rated term note priced at 250 basis points over the three-month Libor, the New York-based firm said in a statement.

The triple-A bonds of this latest Cerberus deal, according to the Citi report, have higher subordination and a coupon of 250-275 basis points over Libor, which analysts noted, is well above pricing for a broadly syndicated loan deal.

“Middle market deals have created interest with some CLO mezz investors because of their wider spreads,” said Citi analysts in the report. “Many such investors find it difficult to simultaneously meet their yield and rating targets. “

Fitch said in its report that since January 2009, Fitch-rated middle market CLO portfolios have experienced default levels ranging from 5% to over 35% with an approximate average of 20%.

However, analysts noted that most middle market CLOs contain excess spread trapping features that help to divert the significant available excess spread to amortize senior notes and maintain credit enhancement for noteholders.  

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