Investors in CLO equity face challenging market conditions. A weak equity arbitrage and limited opportunities for building par are squashing returns.
Research from Bank of America shows that cash-on-cash distributions are at just 2.4% in July — the lowest level since CLOs were reinvented after the 2008 financial crisis.
Matthew Layton, a partner at Pearl Diver Capital, spoke to GlobalCapital’s European CLO reporter Thomas Hopkins about the outlook for the CLO equity asset class.
Layton discussed how CLO equity is a long-term investment that you often need to view over the life of CLOs, rather than in terms of the day-one equity arbitrage. He also mentioned that CLO managers can often capitalise on moments of market volatility to boost equity returns for investors.
The interview also touched on the opportunities available to investors in the secondary market for CLO equity.
Investors can sometimes pick up CLO equity at a discount in the secondary market, which is particularly attractive when returns in the primary market are flat.
Wider leveraged loan spreads are crucial to improving primary market returns. But as repricing waves continue to tighten loan spreads and compress the arbitrage, perhaps a market correction for CLO equity is long overdue.