Collateralized Loan Obligations Explained in Detail

Collateralized loan obligations, or CLOs, are complex financial instruments that can be difficult to understand. A CLO is essentially a type of debt security backed by a pool of loans.

These loans can be from various sources, including corporate, commercial, or even consumer loans. The pool is typically divided into different tranches, each with its own risk level and return potential.

The process of creating a CLO involves a special purpose entity, known as a collateral manager, which collects and manages the underlying loans. This entity is responsible for ensuring the loans are performing well and making payments to the CLO investors.

The credit rating of a CLO is determined by the quality of the underlying loans and the creditworthiness of the collateral manager.

A collateralized loan obligation, or CLO, is a single security backed by a pool of debt, typically corporate loans with low credit ratings or loans taken out by private equity firms. This process of pooling assets into a marketable security is called securitization.

CLOs are managed portfolios of bank loans that have been securitized into new instruments of varying credit ratings. They have increasingly become the link between the financing needs of smaller companies and investors seeking higher yields.

CLOs are similar to collateralized mortgage obligations (CMOs), but they're based on debts owed by corporations, whereas CMOs are based on mortgage loans.

A collateralized loan obligation, or CLO, is a single security backed by a pool of debt. This debt can include corporate loans with low credit ratings or loans taken out by private equity firms.

The underlying debt of a CLO is typically of a different type and character than a mortgage, which is often used in a collateralized mortgage obligation. A CLO is similar to a CMO in that it's a marketable security created through securitization.

A CLO is managed portfolio of bank loans that have been securitized into new instruments of varying credit ratings. This allows for a link between the financing needs of smaller companies and investors seeking higher yields.

The creation of CLOs aimed to increase the supply of willing business lenders, thereby lowering the price of loans to businesses. This was achieved through a 'tranche' structure, which divides loan payments among different classes, or tranches, of owners.

A Collateralized Mortgage Obligation, or CMO, is similar to a CLO in that it's based on a large portfolio of underlying debt instruments. CMOs are specifically based on mortgage loans, making them a type of credit derivative.

CMOs and CLOs share some similarities, but they differ in the type of debt they're based on. CMOs are based on mortgage loans, while CLOs are based on debts owed by corporations.

CMOs are a type of credit derivative that's based on mortgage loans, making them a key player in the world of finance.

Getting started with Collateralized Loan Obligations (CLOs) can be a great way to diversify your investment portfolio. Our first Diversified CLO Portfolio offers exposure to three CLOs, including two BBB CLOs and one BB CLO.

Each CLO in the portfolio provides exposure to a large pool of underlying loans, with some offering exposure to 200+ loans. This can be a significant advantage for investors looking to spread their risk.

By investing in a CLO, you can gain access to a large and diversified portfolio of loans with a relatively low investment amount. In our case, the total number of underlying loans is over 600.

It's worth noting that the specific details of each CLO can vary, but our Diversified CLO Portfolio provides a solid starting point for investors looking to get started with CLOs.

CLOs are a type of investment that's gaining popularity, but what exactly are they? CLOs are managed portfolios of bank loans that have been securitized into new instruments of varying credit ratings.

CLOs are similar to Collateralized Mortgage Obligations (CMOs), but they're based on corporate debts rather than mortgage loans. In fact, CLOs are a type of credit derivative, just like CMOs.

The CLO structure is designed to increase the supply of willing business lenders, making it easier for companies to borrow money at a lower cost. By pooling multiple loans and dividing them into tranches, CLOs create a more efficient way for lenders to manage risk.

CLOs have a strong track record of credit quality, with approximately 80% of securities rated between AAA and A. This is impressive, especially considering that no AAA rated CLO has ever defaulted in the asset class's 30+ year history.

Here's a breakdown of the different tranches in a CLO:

CLOs have proven to be resilient through multiple market cycles, with near-zero default rates. This makes them an attractive option for investors looking for a relatively safe and stable investment.

Collateralized loan obligations (CLOs) offer several benefits to investors, including portfolio diversification and higher yields. By investing in a CLO, you can gain exposure to a diversified pool of loans made to non-investment grade borrowers.

CLOs can provide higher yields than other fixed-income investments, such as government bonds or investment-grade corporate bonds. This is because the loans underlying the CLOs are made to non-investment grade borrowers and are therefore considered to be riskier.

One of the key benefits of CLOs is credit enhancement, which provides additional protection to investors in the senior tranches against losses due to defaults in the underlying loans. CLO securities are typically more liquid than the underlying loans, making it easier for investors to manage their portfolios and exit their positions when needed.

The collateral manager is responsible for managing the loan pool that backs the CLO securities, providing investors with access to professional management and expertise in the credit markets.

CLOs have a structure that honors credit quality, with cash flows for lower tranches rerouted to higher tranches in times of market stress. This means that the credit quality of the higher-rated tranches generally improves, providing additional protection to investors.

Here are some key benefits of CLOs:

However, CLOs also have inherent risks, including the risk of default by the underlying borrowers. The underlying loans are issued to below-investment grade corporations whose revenues and cash flows may be affected by economic shifts, potentially impairing their ability to make loan payments.

Borrowers have the ability to pay off their loans early, making CLOs subject to prepayment risk, which could lead to lower reinvestment interest rates for investors.

A CLO consists of several debt tranches, ranked according to the creditworthiness of the underlying loans, with the lowest tier being the equity tranche, representing ownership of the underlying collateral.

The structure of a CLO typically includes AAA, AA, A, BBB, BB, and equity tranches, with investors in higher-ranked tranches being paid first in the repayment phase.

Here is a breakdown of the CLO process:

The CLO process involves seven steps, from establishing the capital structure to termination, with each step building on the previous one to create a secure and efficient financial instrument.

A CLO consists of several debt tranches, ranked according to the creditworthiness of the underlying loans. The lowest tier is the equity tranche, representing ownership of the underlying collateral.

The structure of a CLO typically has several tranches, including AAA, AA, A, BBB, BB, and equity tranches. In times of market stress, the credit quality of the higher-rated tranches generally improves, as cash flows from lower tranches are rerouted to higher tranches, beginning with AAA.

Here's a breakdown of the typical CLO tranches:

In a CLO, investors in higher-ranked tranches are paid first, followed by lower tranches. Lower-ranked tranches have higher risk profiles, but also higher potential returns.

Floating interest rates are a key feature of CLOs, making them less sensitive to interest rate changes than most fixed-rate bonds. This is because their yields adjust with benchmark rates.

In the U.S., high-quality floating-rate options are scarce, which is why investors often settle for lower credit-quality direct bank loans. CLOs offer an alternative, providing floating-rate exposure through investment-grade assets.

Floating-rate CLOs have exhibited relatively low correlations to major asset classes, including fixed-rate bonds. This is not surprising, given their floating-rate yields.

Leveraging is a key aspect of Collateralized Loan Obligations, where each class of owner may receive larger yields in exchange for being the first in line to risk losing money if the businesses fail to repay the loans.

The actual loans used are multimillion-dollar loans to either privately or publicly owned enterprises, known as syndicated loans. These loans are originated by a lead bank with the intention of the majority of the loans being immediately syndicated, or sold, to the CLO owners.

The lead bank retains a minority amount of the highest quality tranche of the loan, while usually maintaining agent responsibilities representing the interests of the syndicate of CLOs. This means they service the loan payments to the syndicate, though they can designate another bank to assume this role upon syndication closing.

Loans used in CLOs are usually termed "high risk", "high yield", or "leveraged", meaning they're loans to companies that owe an above-average amount of money for their size and kind of business. This is often due to a new business owner borrowing funds to purchase the business, or the business borrowing funds to buy another company.

The CLO market has grown impressively, reaching about $1.0 trillion in assets, with over $100 billion in new issuances annually in 2022 and 2023.

This growth demonstrates the CLO market's emerging significance and liquidity, making it a compelling option for investors seeking diversification and growth. CLOs now make up a significant portion of the $14 trillion U.S. securitized market.

Liquidity in the CLO market has improved, with trading volumes surging in March 2020, even as bond market volatility peaked and volumes fell precipitously in other fixed income markets.

The CLO market has been around since the late 1980s, with most deals privately sold to large institutional investors.

Historically, CLOs have grown significantly, reaching a staggering $1.0 trillion in assets.

The CLO market has become a major player in the U.S. securitized products market, with over $100 billion in new issuances annually in 2022 and 2023.

CLOs make up a substantial portion of the $14 trillion U.S. securitized market.

The demand for CLOs almost ground to a halt during the subprime mortgage crisis, with negligible issuance in 2008 and 2009.

However, the market for U.S. collateralized loan obligations was reborn in 2012, with new-issue CLO volume quadrupling from the previous year.

CLO issuance has since soared, culminating in a record $81.9 billion in U.S. full-year 2013 CLO issuance.

The US CLO market continued to gain momentum in 2014, with $124.1 billion in issuance, easily surpassing the prior record of $97 billion in 2006.

CLOs have offered attractive yields relative to other fixed income asset classes, with BBB rated CLOs yielding closer to sub-investment grade bank loans and high-yield corporate bonds.

One explanation for these higher yields is the relative newness of the market, including investors' lack of familiarity with CLOs.

BBB rated CLOs tended to offer yields around the same level as sub-investment grade bank loans and high-yield corporate bonds, according to Bloomberg and JP Morgan data.

AAA tranches of CLOs offered yields comparable to corporate bonds, despite their higher average credit quality.

The average yield to worst for BBB CLOs was around the same level as the high-yield corporate bond market, as of December 29, 2023.

Liquidity is a major concern for investors, and the CLO market has seen significant improvements in this area.

In March 2020, trading volume in CLOs surged as bond market volatility peaked and volumes in many fixed income markets fell.

This increased trading volume has improved liquidity in the CLO market.

The number of CLO managers has grown steadily, increasing both liquidity in the secondary market and willingness on the part of broker/dealers to transact and hold the products.

This growth has made it easier for investors to buy and sell CLOs.

The net issuance of CLOs has been impressive, reaching about $100 billion annually in 2022 and 2023. This growth demonstrates the CLO market's emerging significance and liquidity.

CLO securities are issued by special-purpose vehicles (SPVs) established to hold diversified portfolios of leveraged loans. Investors in rated CLO debt tranches receive principal and interest payments, and investors in unrated subordinated tranches receive any residual cash flows after deal fees and the principal and interest payments to debt tranches are paid.

The CLO market has grown to reach about $1.0 trillion in assets, quickly approaching the size of the $1.4 trillion corporate high yield bond market. This growth highlights CLOs as a compelling option for investors seeking diversification and growth.

In 2019:Q2, Cayman CLO issuers held $501.4 billion of U.S. leveraged loans. This estimate, combined with the estimate of loans held by domestic CLO issuers, indicates that together, domestic and foreign issuers of CLO securities held a total of $664.5 billion of leveraged loans in 2019:Q2.