TCW is seeking investors for what is the first collateralized loan obligation that predominantly invests in pro rata bank debt--the revolver/term loan mix that has been shunned by banks and has typically held limited appeal for funds and CLOs. One banker described the potential CLO, being structured by Citibank, as a groundbreaker and a CDO structurer and a portfolio manager concurred the structure has never been attempted before. A banker familiar with the structure said TCW is in a roadshow to raise equity for the $500 million fund that will then invest in revolvers and "A" loans, possibly this quarter. The name of the vehicle could not be determined, but a portfolio manager said it will target large syndicated loans, and there are plenty of assets available.
Banks over the last few years have grown increasingly cool to pro rata pieces because they do not pay much. Paltry return and the prospect of having to fund revolvers if they are tapped has always made pro rata paper an unattractive investment for most institutional investors. "When buying pro rata you are dealing with funding issues and that does not suit your conventional CLO," said one portfolio manager.
One rating agency analyst said typically revolvers can only account for up to 10% of the CLO. But times are changing. "Look at where pro rata is priced," said the manager, explaining that the economics make sense as pricing has increased. "There is a lack of banks doing pro rata, and it is an obvious arbitrage structure. It has not been done before though because it needs the right structure."
TCW and Citi have been working on this structure for over a year to resolve the structural limitations, said a structurer. A special purpose entity will issue several classes of securities including credit-linked notes, he added. Citi will acquire assets for TCW, selected by the manager and the SPE will write credit protection to Citi, hedging against possible losses in the portfolio, explained the banker. The exact mechanics of how the funding issue is resolved could not be determined. TCW is said to be talking to investors who have bought into the bank loan asset class previously. Officials at Citi and TCW declined comment.