Only a few short months ago, leveraged finance bankers were adamant in their belief that raising new capital through new collateralised loan obligations (CLOs) in Europe was an impossible task. Liability costs, skin-in-the-game requirements of the EU’s Capital Requirements Directive and the restrictions of ramp-up periods were all insurmountable hurdles, they said.
They looked on the €250bn of leveraged loans set to mature in Europe by 2017 (as of the beginning of 2012), and at the existing European CLOs coming out of their reinvestment periods by the end of 2015, and they shuddered.
So the three European CLOs successfully priced so far this year —from Pramerica Investment Management, Cairn Capital and Apollo Global Managers — have proved to be a big relief for leveraged finance bankers.
With the recent CLO spread rally, the asset-liability arbitrage has started to work again, paving the way for new vehicles. The low yield environment across the rest of the markets means that there is plenty of investor interest in the new CLOs, and managers have discovered that as long as they can find a willing equity investor and a way to retain 5% of the deal, the new CLOs are back in business.
Although the new CLOs — at around €300m each — will not provide a huge amount of liquidity on their own, their very existence has given a much needed boost of confidence that the creation of new European vehicles is still possible. And with up to seven or eight other managers also thought to be considering new CLOs, bankers are hopeful that the market will see around one new product a month being priced for the rest of the year, providing up to €4bn of new capital in the market.
Combined with the growing levels of interest from managed funds in the leveraged finance market, bankers have, arguably for the first time since the beginning of the crisis in 2008, real cause for optimism about market liquidity.
This boost in liquidity comes just in time. Around 75% of funds in their reinvestment periods are expected to have run off by July, with some 80% disappearing by the end of the year. This drop-off in available capital will mean the market undergoes a sea change from the liquidity-rich financing environment seen over the first two quarters of the year. But at least now bankers know that the creation of new European CLO funds is not impossible.