Carlyle Group Inc., KKR & Co., and Oaktree Capital Management are considering buying US leveraged loans and packaging them into collateralized loan obligations. More than 90% of these loans recently traded at a discount, and fund managers have set up a near-record number of short-term credit lines to purchase loans for CLOs.
Major asset managers are positioning themselves to acquire US leveraged loans as prices drop across the $1.5 trillion market. Carlyle Group Inc., KKR & Co., and Oaktree Capital Management are considering buying loans and packaging them into collateralized loan obligations, or CLOs. Fund managers have set up a near-record number of short-term lines of credit, known as warehouse lines, to purchase loans for CLOs, with about 286 open as of last count.
Market Volatility and Broadening Selloffs
Loans are trading cheaply across the sector. More than 90% of leveraged loans traded at a discount to face value earlier in the week, marking the highest share in almost 18 months, according to JPMorgan Chase & Co. strategists. By later in the week, that figure adjusted closer to 85%, while debt spreads remain near their widest points of the past year.
Market participants note that early selling pressure in October concentrated on stressed and lower-rated loans before expanding into higher-tier companies. Ian Gilbertson, co-head of US CLOs at Invesco, pointed out that the broader selloff has created an appealing entry point for managers.
The weakness in October initially started in more stressed and lower-rated loans, but more recently we’ve seen the selloff broaden into higher-quality names, creating a more attractive opportunity for CLO managers to put capital to work.
Ian Gilbertson, co-head of US CLOs at Invesco
The Federal Reserve’s anticipated rate hikes and tightening funding conditions have heightened default concerns among vulnerable companies dealing with inflation and borrowing costs. Michael Levitin, portfolio manager at MidOcean Partners, observed a clear separation between businesses capable of sustaining current capital costs and those with structures built during different economic environments.
CLO Arbitrage and Equity Returns
The CLO arbitrage—representing the margin between loan earnings and payouts to bondholders—inched upward over recent weeks. JPMorgan strategists reported that the gap expanded to 1.41 percentage points, rising 0.07 percentage points from the prior week and above the 1.16 percentage point average for the past year.
At the same time, distributions for riskiest CLO securities known as equity averaged 2.8% for the current quarter, putting the asset class on track for its first quarterly uptick since 2024, per Deutsche Bank AG analysts. Purchasing loans below face value—such as acquiring debt at 97 cents on the dollar and realizing a full return at 100 cents—delivers leveraged returns to equity holders through higher interest yields and principal gains.
In the long run, we always view bouts of volatility like this to be beneficial for CLO equity.
Dan Ko, portfolio manager at Eagle Point Credit Management
Despite these rising returns, new issue CLO sales remain down overall. Approximately $139.2 billion in new issue CLOs have sold this year through Thursday’s close, reflecting a decline of more than 16% compared to the same period in the previous year. Representatives for Carlyle, Oaktree, and KKR declined to comment.
