Citibank is reportedly working on a pro rata collateralized loan obligation for Highland Capital Management that mimics a structure created for TCW at the beginning of this year. The move is timely considering the scarcity of institutional term debt and the fact that so many assets are trading above par, said a source. Pro rata loans offer a vast pool of potential supply, often trade at a discount and offer some of the best value in the market, said a banker.
Citi is also working on an identical deal for PIMCO called Silver Creek (LMW, 10/5) and one source said Citi is busy pitching the pro rate structure to multiple asset management firms. Another source said the notes for Silver Creek were set to be priced last Friday. An official at Highland, the world's second largest leveraged loan asset management firm, declined comment while a Citi spokeswoman could not provide comment by press time.
Generally, there are two problems with investing in pro rata loans. The spread on unfunded revolvers is too small to cover the costs of issuing liabilities and it is not guaranteed that the issuers will provide consent. GoldenTree Asset Management was possibly the first loan manager to invest in this part of the capital structure within structured vehicles. On the liability side, the firm has revolving credits that fund the vehicles so the cost of capital is reduced. But GoldenTree rarely invests in new issue and buying revolvers is only a part of the overall vehicles (12/1).
Citi came up with a hybrid cash/derivative structure for TCW. The partially funded synthetic structure reduces the weighted average cost of the liabilities. Citi uses its balance sheet to buy the loans, thereby bypassing the need for issuer consent.