Here are some snips from a Bloomberg article this morning titled CLOs Are Packed With Loopholes that screams the risk we’ve been identifying herein for months in the corporate debt space.
Hard to fathom that a mere 12 years after the bursting of the greatest credit bubble in modern history we’re seeing similar shenanigans playing out once again:
“…tucked into the deal documentation were changes that let the managers of the CLOs swap one distressed loan for another without booking a loss. In other words, they could unload an asset trading at a mere 70 cents on the dollar, buy another troubled loan, and value it at 100.”
“Managers that assemble and oversee the securities are increasingly worried that a slowing global economy could spark a selloff in risky corporate debt, they say, and have been looking to give themselves more flexibility should things go south.”
““We’ve seen more documents incorporating looser requirements, and we’re not happy with several of them,” said Salas, a CLO specialist at DWS, the asset management unit of Deutsche Bank AG. “This goes against the nature of the structure.”
“…highlights the somewhat warped incentive system underpinning the CLO market, which buys more than half of all leveraged loans.”
“…over the past year more and more have been pushing the envelope. They’ve sought broad discretion to swap troubled loans, circumvent credit-quality limitations, and double down on risky wagers, largely in an effort to ensure they can pass crucial compliance tests, even if a large swath of a CLO’s underlying loans lose value.”