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Moody's shake-up: Hundreds of CLO notes placed on downgrade review

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Moody’s Investors Service has placed hundreds of non-senior U.S. CLO tranches under review for downgrade, affecting 358 broadly syndicated loan-backed portfolios as Moody’s measures the ongoing economic shocks of the coronavirus outbreak.

The action late Friday stemmed largely from the deteriorating credit quality conditions of the underlying loans, many from corporate borrowers whose debt ratings were downgraded. An increasing number have been placed into triple-C status, putting many CLO deals at risk of breaching the limits on the percentage of near-default rated debt holdings allowed in a portfolio under investor agreements. (Many so-called triple-C "buckets" within CLOs are capped at 7.5% but currently exceed 10%, versus just 3.1% in March, according to Wells Fargo Securities research.)

Also driving the review is the projected “par” loss managers suffered on the valuation of their portfolios.

S&P Global Ratings and Fitch Ratings also placed CLO tranches under review Friday, but were much more “benign,” according to a research report from Wells Fargo Securities, with S&P placing 155 CLO tranches on a negative watch and Fitch placing 19 tranches from 12 U.S. CLOs under review,

The average ratings factor of a Moody’s-rated CLO (measuring the collective ratings of obligors within a portfolio) suffered a 14% decline in credit quality between March and April, according to the agency.

The Moody’s actions involves 859 junior and mezzanine tranches of those CLOs, as well as 25 CLO “combo” notes, secured notes and repackaged securities, representing approximately $22 billion in notes. The potential downgrades are affecting 13 single-A rated notes, 355 of Baa1-Baa3 rated notes (the Moody’s equivalent of triple-B), and 122 single-B notes (rated between B1 and B3).

The notes represent about 19% of the tranche count of U.S.-rated broadly syndicated CLO securities, and 5% of the notional value, of CLO deals rated by Moody's. The lower-rated tranche notes in CLOs typically make up a much smaller portion of CLO portfolios that primarily consists of triple-A securities to institutional investors such as banks, insurance companies and pension funds.

Those lower-rated notes, while carrying higher premiums for private investors, are secondary in the receivables stream from corporate loan payments but are in a first-loss position when the waterfall payments are inadequate to cover all principal and interest obligations for the notes.

Moody’s is also reviewing 117 securities from 39 European CLOs for potential downgrades.

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