Risk Management & Analytics: New webinar discusses challenges in CLO valuations

New webinar discusses challenges in CLO valuations

In recent years, credit loan obligation (CLO) market watchers observed continued bullishness with new deal supply and refinancing volume running strong, the number of new issuers growing, and more investors participating. According to Bloomberg, leveraged loans outperformed other credit markets by 3.8%. While CLO fundamentals continue to perform strongly, volatility in the global markets is prompting some market participants to ask, “What will CLO valuations look like in 2019?”

It is a valid question. There are signs of asset performance weakening based on the deteriorating credit of companies with loans that are widely held in CLO asset pools. Additionally, liquidity on the secondary market activity is spotty, interest rates continue to rise, and the credit market is showing deeper cracks. In a 30-minute webinar, MountainView Financial Solutions, a Situs company, will explore how this outlook will affect CLO valuations in 2019.

The webinar, which takes place on Wednesday, December 12 at 1 p.m. EST, will provide insights about the following:

  • Impact of increased demand on floating-rate debt due to rising interest rates;
  • Deterioration in credit quality of assets, compressed margins on leveraged loans, and impact of CLO debt spreads;
  • Reset/refi risks;
  • Concentration risk in CLOs.

JPMorgan says leveraged loans to remain top 2019 performer

Cracks may be visible in U.S. leveraged loans as volatility takes its toll on one of the best performing debt markets of the year. But investor concerns about credit are “somewhat overblown,” according to JPMorgan Chase, which is predicting that 2019 will turn out to be an even better year for loans.

The second-biggest arranger of U.S. institutional loans so far this year sees recent equity volatility as just noise, and “declines in Treasury yields and tempered Fed funds expectations” to reverse. Based on that view, JPMorgan predicts leveraged loans will return 6 percent next year, a performance that would beat the 3.5 percent gain notched this year so far and would keep loans as a leader in the credit asset class.

Sure, investors are increasingly concerned that the economic cycle is showing its age and that markets are flashing signs of a looming recession. But that worry isn’t for 2019, says JPMorgan, since the bank believes growth will continue — albeit at a lower rate than before — and the Federal Reserve will hike rates five more time before next year ends. And default rates are forecast to stay at historically low levels of 1.5 percent for sub-investment-grade debt.

Read more: American Banker

Corporate debt credit standards ‘deteriorating,’ Federal Reserve warns

While most financial institutions and markets are strong and show little sign of systemic risk, the amount of debt owed by businesses and the valuations of corporations are elevated and could be a source of concern, the Federal Reserve said Wednesday.

In its financial stability report, the Federal Reserve said that of the four broad areas it examined — elevated valuation pressures, excessive borrowing, excessive leverage within the financial sector and funding risks — the biggest worries were around borrowing levels by businesses and historically high equity valuations and investor appetite for risk.

“Valuation pressures are generally elevated, with investors appearing to exhibit a high tolerance for risk-taking, particularly with respect to assets linked to business debt,” the report said. “Borrowing by households has risen roughly in line with household incomes. However, debt owed by businesses relative to gross domestic product is historically high, and there are signs of deteriorating credit standards.”

Read more: American Banker

MBA asks delay of credit loss accounting standard implementation

The Mortgage Bankers Association (MBA) asked Treasury Secretary Steven Mnuchin to delay implementation of the Current Expected Credit Loss (CECL) accounting standard, saying the standard would have “adverse impact” on single-family, commercial and multifamily mortgages.

In the Nov. 19 letter, MBA President and CEO Robert Broeksmit, CMB, asked Mnuchin – in his capacity as chairman of the Financial Stability Oversight Council, which oversees the CECL standard issued by the Financial Accounting Standards Board – to delay the 2020 implementation pending completion of an MBA-recommended transparent quantitative impact study, to be conducted by the FSOC, to analyze the standard’s impact.

“MBA believes that the requirements of the CECL standard, which is effective for SEC registrants in 2020, and for all other companies in 2021, will adversely impact the availability, structure and price of credit, with a larger proportion of such impact landing on longer-term loans, such as 30-year single-family residential mortgages, commercial and multifamily mortgages, student and business loans,” Broeksmit wrote.

Read more: Mortgage Bankers Association

U.K. banks pass stress test and can handle no-deal Brexit, BOE says

The U.K.’s seven largest lenders all passed the Bank of England’s (BOE) latest stress test, showing they’re strong enough to continue lending even during a no-deal Brexit that could send the economy into a tailspin.

The central bank stress test is tougher than the dire disorderly Brexit scenario, which the BOE also released Wednesday. That analysis includes an 8 percent drop in economic output within a year, a 25 percent drop in the pound and a 30 percent plunge in house prices.

In the stress test, two lenders – Barclays Plc and Lloyds Banking Group Plc – triggered the conversion of some subordinated debt to equity to replenish their capital. Lloyds’ exposure to U.K. housing and Barclays’ large consumer focus make them more vulnerable to disruptions in the economy. The others didn’t see any such conversion.

“The results are positive overall,” according to Vanguard Asset Services senior analyst Samuel Lopez-Briceno. However, investors in some risky bonds and equity could be “significantly hit,” he said. That is because some banks will have to stop coupon and dividend payments in a stressed scenario.

Read more: Bloomberg

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