Pro-rata collateralized loan obligations are starting to take off in Europe as the growing pool of managers look for new ways to invest. Harbourmaster Capital Management recently priced its second pro-rata CLO after rolling out Europe's first pro-rata CLO in May. Galen Moloney, director in European structured finance at Fitch Ratings, said the ratings agency has received a number of inquires about pro rata CLOs and said a new round could come next month.
The structure has been around in the U.S. since 2003, but is picking up in Europe because competition among managers is driving them to seek better allocations and quick returns.
Tosh Burns, co-head European origination and structuring at Bank of America, which arranged the e602 million Harbourmaster Pro Rata CLO 2, explained that the structures offer a variety of advantages to managers. First it offers them a better access to allocations in the future because it allows an institutional investor into the bank syndicate. "By buying pro-rata strips, the manager is put in a stronger seat at the table in terms of allocations because the syndicating bank will value the manager's ability to take down some of the revolver and the "A" term loan," Burns said.
There is also the economic factor. Pro rata pieces in Europe can often be obtained in the primary at 99, which makes them a nice target for investors. "As of right now the risk return of buying pro rata and institutional [term loans] is similar," explained Mark Moffat, senior managing director and head of European CDOs at Bear Stearns, who worked with Harbourmaster on its first pro-rata CLO. "Pro-rata tranches generally come with fees of between 0.25% to 2%; the size of the fee depends upon the size of the ticket. If [an investor] is committing to a big ticket in the pro rata, he can buy the risk at a discount. If bought at 99 today and it is due to mature in four years at par, but matures in one year at par, you've made that one point quicker, which gives you a pick up in yield."
The senior triple As and revolvers of Harbourmaster Pro Rata CLO 2 are priced at 20; a level of leveraged triple As that sit below the seniors are priced at 36. The notes are issued in euros, but the assets are in Sterling and euros and also in other currencies, and the revolvers can be drawn in a variety of those. The structure allows the portfolio to hold up to 25% of revolvers, but if the firm choses to just buy term loans it can. Calls to Alan Kerr, portfolio manager at Harbourmaster, were not returned.
ABN AMRO and Bear Stearns priced that first pro-rata CLO for Harbourmaster, called Harbourmaster Pro-Rata CLO1. The e850 million CLO was upsized from e700 million due to investor demand. ABN AMRO funds the loans for Harbourmaster for the life of the portfolio and the risk and return of the portfolio is transferred synthetically to investors by two portfolio credit default swaps. If it no longer wants to invest in the pro rata, like its second CLO, Harbourmaster has the flexibility to just invest in institutional loans. The Irish asset manager with more than e4 billion of European senior secured loans across seven CLOs as of May, does not invest in mezzanine debt, high-yield bonds or second-lien debt.
Bear Stearns had structured two products previously for Harbourmaster and had been talking with the firm about how it could get access to more deals. ABN AMRO was selling a bit of its leveraged loan portfolio, which Bear bought, so Bear and Harbourmaster teamed up for that first pro-rata CLO.