Liquidations appear among euro CLO resets
As equity investors take a fresh look at old CLO vehicles that are out of their non-call periods, a reset is not the only option, as a spate of liquidations has recently shown.
There has been a surge in reset activity in the European CLO market in recent weeks. That is not surprising, as many deals issued two or three years ago have exited their non-call periods, making a refinancing possible, and the pricing on offer today is more favourable than it was then.
In the past week, resets have been priced for Trinitas Euro CLO V and Arini European CLO I, both of which were originally issued in 2023. Trinitas V has been resettable since April, while the non-call period for Arini I ended more recently, on July 15.
The economic rationale for the resets is clear. When collateral managers Whitestar Asset Management and Arini originally priced the two deals two years ago, the Class A margins came in at 175bp and 190bp, respectively. They were reset at 135bp and 134bp.
Who holds the equity?
The decision to reset deals issued in 2022 and 2023 is probably made even more straightforward by the fact that most deals issued in that period were underpinned entirely by manager-controlled, captive equity, rather than independent third-party equity investors.
At the time, CLO liability spreads had widened owing to the conflict in Ukraine and the global inflation crisis, eroding the arbitrage on which equity returns depend and making CLO equity less attractive to outside investors. In practice, the only way for a manager to issue a CLO during much of that time was to rely on captive equity funds.
That means the 2022–2023 vintage of CLOs is overwhelmingly controlled by the collateral managers, who are incentivised to reset their deals to push out reinvestment periods, maintain their assets under management and continue reaping fees.
If, on the other hand, the majority of the equity of a CLO is held by outside investors, the decision to reset may be less of a slam dunk.
"It depends who is the equity investor," said Cathy Price, head of Altum UK and senior trader at Altum Capital Management, which invests in equity tranches as well as the sub-investment-grade debt of CLOs. "If the majority equity investor is also the manager, you’re more likely to see deals reset than liquidated."
For outside equity investors, a more pressing concern than keeping the CLO vehicle alive is the state of the leveraged loan market and the potential proceeds from selling the loans.
“If you’re the majority equity investor and you’re an independent third party, you do a calculation: what proceeds will I get from liquidation?" said Price. "You can look at the percentage of the loan market trading above par."
"Loan prices have recovered a lot from their post-tariff announcement decline, but CLO liabilities haven’t tightened as much. You may be better off taking those liquidation proceeds now and waiting for a better opportunity.”
Amortising
That dynamic could be behind a flurry of liquidations of older CLO vehicles in the past few weeks. Two CLOs managed by BlackRock – BlackRock European CLOs V and IX – were redeemed through liquidation this month, as was Blackstone's Phoenix Park CLO, according to exchange notices. Other vehicles lined up for liquidation include Oak Hill Advisors' Oak Hill European Credit Partners IV and AXA Investment Managers' Adagio CLO VIII.
Unlike the CLOs that have recently been reset, those that are being liquidated are all out of their reinvestment period, meaning the collateral managers have limited ability to manage the portfolio and prevent the CLO notes from amortising as the loans in the pool are repaid.
In the case of Oak Hill European Credit Partners IV, the deal has been effectively static since January 2022 and the Class A debt has amortised down from €247m when the deal was last reset to about €82.4m, according to Fitch.
But with so many loans trading above par, there is a possibility that equity investors in more recently issued CLOs could also come out in favour of liquidation.
On July 16, investors in Blackstone's Fernhill Park CLO were informed that discussions were taking place between the collateral manager and the equity holders about a redemption through either liquidation or refinancing.
Fernhill Park was priced in April 2024. Its non-call period does not end until October 15 and its reinvestment period runs to January 2029.