Resilient CLOs Demonstrate Transatlantic Appeal
After successive years of strong growth, the CLO market has once again proven resilient to global economic turbulence with the recent performance reflective of manager desire to issue this highly-popular product on both sides of the Atlantic. While remaining somewhat cautious over the outlook for the remainder of the year, there are some key insights to be drawn from this activity in European CLOs, especially in the context of the record growth achieved in recent years.
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Despite an uncertain economic outlook, geopolitical concerns and a deteriorating credit environment, the CLO market in Europe got off to a positive start in 2023. While expectations of a slowdown and potentially higher interest rates permeated, particularly amid stubborn inflationary pressure, the deal flow that emerged in the key European centres of Dublin (for EU deals) and Jersey (for EU-compliant US deals) indicated demand remained strong. While remaining somewhat cautious over the outlook for the remainder of the year, there are some key insights to be drawn from this activity in European CLOs, especially in the context of the record growth achieved in recent years.
Growth in Perspective
Taking a step back over the past five years, we can see how the European CLO market first achieved a series of post crisis highs1 , to regain poise, before eclipsing the 2006 record high of €32.9 billion2 , late in 2021. Resilience following the financial crisis, helped by structural improvements in the asset class from lessons learned after 2008, was also mirrored by the post-pandemic experience. In fact, while recovery from the financial crisis took a number years to gather pace, the bounceback from COVID for European CLOs could be seen in a matter of months.
From this perspective, the headwinds flagged at the end of 2022 for the market in Europe can be seen as precautionary but not stifling. With pricing key to ensure profitability and attract investors, deals are still being done, with some managers taking a bigger slice of equity than perhaps would have previously been the case. This trend has underpinned the new issue activity we have seen in both Dublin and Jersey for each segment of the market. Although sentiment has improved as a result of this dealflow, concerns still persist over how credit deterioration may impact borrowers. At the same time, while rising interest rates have perhaps caused a slowdown in the rate of incline, we have seen warehouses extending to reprice deals and benefit from the widening arbitrage.
From a manager’s standpoint right now, one of the key issues in the market is the sheer number of warehouses currently open, resulting in difficulty sourcing loans in a market that remains highly competitive. Without the same allocations that managers had been used to, the market has adapted and some have reduced deal size. While there is interest from Japanese investors, for example, it is clear that a degree of flexibility can be required in the current situation, whether that is through taking a larger equity piece or scaling back transactions.
Transatlantic Deal Flow
Notwithstanding concerns over the current economic outlook, the flurry of CLOs in Europe this year highlighted a key dynamic of the global market, reaffirming the desire and conviction of managers to issue deals on both sides of the Atlantic. This activity has also emphasised how the European market is now dominated by its twin centres of Dublin and Jersey. While Dublin has been the traditional domicile for EU CLO issuance, Jersey has more recently emerged as an option for US managers looking to issue EU risk-retention compliant US CLOs or as an alternative jurisdiction to the Cayman Islands for other transactions involving certain EU institutional investors. Although US CLOs have been exempt from risk retention rules since 2018, some managers have been including voluntary risk retention features which provide comfort to investors higher in the capital structure. Notwithstanding the re-emergence of economic concerns last year, investor demand for CLOs has remained robust, with frenzied warehousing activity further underlining the resilience of the asset class. As US managers have continued to access European capital through CLO issuance, it is notable that in a recent survey of Maples Group US CLO closings, some 54% had Special Purpose Vehicles (SPVs) domiciled in Jersey.
European CLO Expertise
The Maples Group is renowned globally for the depth of our expertise, innovative structuring capability and comprehensive range of fiduciary and entity management services, to help our clients successfully traverse the complexities of the European regulatory environment. Complementing our long-standing presence in Dublin where we are the longest-established international firm representing about one-third of the EU market by manager, the Maples Group is also now the market leader for CLOs in Jersey. Our United Kingdom (UK) offering complements our global CLO practice, in particular bringing valued expertise and seamless service to UK retention structures popular in the market. In Luxembourg, the centre for mainland Europe structured finance deals – which is primarily driven by the German market – we have seen some interesting renewable energy transactions recently, as well as more familiar loan receivables deals. In the Netherlands, our Fiduciary Services teams continue to provide services on all asset classes and strategies that utilise Dutch SPVs.
The resilience of the CLO asset class itself is reflected in the depth of expertise of the professionals in our teams, many of which have experience of navigating prior challenging situations for our clients. Our fiduciary and legal teams were central to the improvements in CLO structures post-credit crisis, including innovative changes to documentation that remain hard-wired into key provisions across the global market. Through this perspective, with the depth of our bench and footprint, the Maples Group’s offering is unparalleled. As an institution, the Maples Group has largely unrivalled longevity and expertise in the financial services industry. Established in 1962 to now operating from 16 offices worldwide, our procedures were tested further through the post-COVID market turmoil, while our track record extends back to Black Monday and the Japanese banking crisis. For the CLO industry, what that means is that we have worked through any conceivable strategic pivot a manager may require, including innumerable distressed scenarios. We are truly agnostic towards jurisdiction and proactively assist with the right course of action for our clients and the issues at hand.
Such an approach is highly beneficial in the current economic climate, where occasional volatility may present issuers with a limited window of opportunity. CLOs have been demonstrated as robust in troubled times and this is evidenced in Europe, as the average E-note in CLOs has performed between 8% and 9%, even where deals have three tranches, having previously been close to zero.
Going forward, as the global CLO market has firmly settled on Ireland and Jersey as its European jurisdictions of choice, with its dominant presence in these centres and across the continent, the Maples Group is uniquely positioned to provide a full range of services to CLO managers from a legal and fiduciary standpoint.