Asset-Backed Securities and CLOs: Capturing the Information Premium
Supply weighs on CLO markets, but opportunities abound in commercial ABS.
CLO spreads sagged in the second quarter as a torrent of primary market supply exhausted market participants. Year-to-date CLO issuance is trending at 1.3 times the volume of 2017, itself the second largest year of post-crisis CLO issuance. This overwhelming supply has empowered CLO debt investors to push back on weakening documentation terms that proliferated in the first quarter and created technical pricing distortions within the term structure of the CLO market. Despite this pressure in broadly syndicated CLO markets, middle-market CLOs continue to find favor with investors hungry for yield, causing spreads to tighten significantly. Spread concessions at these tight levels do not offer sufficient compensation to investors for the limited collateral transparency and lower liquidity profile.
Esoteric commercial ABS issuance was particularly strong in the second quarter. Franchise finance, aircraft, cell tower, data center, insurance receivables, and university trademark licensing financing all offered new ABS issuance in the second quarter. Dominant franchise systems continue to take market share from smaller competitors, global aircraft travel has increased at a compound annual growth rate of 5.5 percent over the last 10 years, cellular data usage continues to explode with smart phones and mobile video, and other negotiated ABS transactions all offer uniquely strong credit profiles for credit investors. Our work in these sectors continues to uncover considerable value, fueling higher yields by capturing information premiums, as opposed to taking additional credit or leverage-based risk.
Per the JPM CLOIE indexes, the post-crisis index returns in the second quarter were 0.49 percent for AAA-rated securities, 0.63 percent for AA, 0.78 percent for A, 0.80 percent for BBB, 2.06 percent for BB, and 0.65 percent for B grades.
We currently find value in short-tenor CLOs, AA CLOs, and select esoteric ABS. CLO supply pressures have flattened the term curve for CLOs to the point where defensive short-spread duration CLOs are now comparably priced to riskier longer-spread duration CLOs. We also believe AA CLOs are mispriced and represent compelling value. Esoteric commercial ABS will remain a focus in the third quarter.
Strong Issuance Keeps ABS Whole Business Supply Growing
Whole business securitization, which finances franchised restaurant businesses, has enjoyed robust new issuance, increased investor sponsorship and growing outstanding market size since the financial crisis.
Source: Asset-Backed Alert, Bloomberg, Guggenheim Investments. Data as of 7.20.2018.
Relative Spread Movement Spells Opportunity and Caution
The recent basis widening between broadly syndicated AAA and AA loan tranches has caused AA to look very compelling on a risk-adjusted basis. However, investors’ recent appetite for middle-market CLOs has caused the basis between middle-market CLOs and broadly syndicated loan CLOs to collapse. Middle-market CLOs do not currently offer investors sufficient compensation relative to broadly syndicated loan alternatives, considering their lower data transparency and liquidity.
Source: Wells Fargo, Guggenheim Investments. Data as of 7.20.2018.
—Peter Van Gelderen, Managing Director; Michelle Liu, CFA, Director; Josip Zdrilic, CFA, Director
Important Notices and Disclosures
This article is distributed for informational purposes only and should not be considered as investing advice or a recommendation of any particular security, strategy or investment product. It contains opinions of the authors but not necessarily those of Guggenheim Partners or its subsidiaries. The authors’ opinions are subject to change without notice. Information contained herein has been obtained from sources believed to be reliable, but are not assured as to accuracy. Past performance is no guarantee of future results.
Investing involves risk. In general, the value of fixed-income securities fall when interest rates rise. High-yield securities present more liquidity and credit risk than investment grade bonds and may be subject to greater volatility. Asset-backed securities, including mortgage-backed securities, may have structures that make their reaction to interest rates and other factors difficult to predict, making their prices volatile and they are subject to liquidity risk. Investments in floating rate senior secured syndicated bank loans and other floating rate securities involve special types of risks, including credit risk, interest rate risk, liquidity risk and prepayment risk. Guggenheim Investments represents the following affiliated investment management businesses of Guggenheim Partners, LLC: Guggenheim Partners Investment Management, LLC, Security Investors, LLC, Guggenheim Funds Investment Advisors, LLC, Guggenheim Funds Distributors, LLC, Guggenheim Real Estate, LLC, GS GAMMA Advisors, LLC, Guggenheim Partners Europe Limited, and Guggenheim Partners India Management. ©2018, Guggenheim Partners, LLC. No part of this article may be reproduced in any form, or referred to in any other publication, without express written permission of Guggenheim Partners, LLC.
Portfolio Manager Adam Bloch and Matt Bush, a Director in the Macroeconomic and Investment Research Group, share insights from the third quarter 2019 Fixed-Income Outlook.
Anne Walsh, Chief Investment Officer for Fixed Income, shares insights on the fixed-income market and explains the Guggenheim approach to solving the Core Conundrum.
Guggenheim Investments represents the investment management businesses of Guggenheim Partners, LLC ("Guggenheim"). Guggenheim Funds Distributors, LLC is an affiliate of Guggenheim.
Read a prospectus and summary prospectus (if available) carefully before investing. It contains the investment objective, risks charges, expenses and the other information, which should be considered carefully before investing. To obtain a prospectus and summary prospectus (if available) click here or call 800.820.0888.
Investing involves risk, including the possible loss of principal.
*Assets under management is as of 09.30.2019 and includes leverage of $11.8bn. Guggenheim Investments represents the following affiliated investment management businesses of Guggenheim Partners, LLC: Guggenheim Partners Investment Management, LLC, Security Investors, LLC, Guggenheim Funds Investment Advisors, LLC, Guggenheim Funds Distributors, LLC, GS GAMMA Advisors, LLC, Guggenheim Partners Europe Limited and Guggenheim Partners India Management. Securities offered through Guggenheim Funds Distributors, LLC, an affiliate of Guggenheim, SI, GFIA and GPIM.
Guggenheim Investments. All rights reserved.
Research our firm with FINRA Broker Check.
• Not FDIC Insured • No Bank Guarantee • May Lose Value
This website is directed to and intended for use by citizens or residents of the United States of America only. The material provided on this website is not intended as a recommendation or as investment advice of any kind, including in connection with rollovers, transfers, and distributions. Such material is not provided in a fiduciary capacity, may not be relied upon for or in connection with the making of investment decisions, and does not constitute a solicitation of an offer to buy or sell securities. All content has been provided for informational or educational purposes only and is not intended to be and should not be construed as legal or tax advice and/or a legal opinion. Always consult a financial, tax and/or legal professional regarding your specific situation. Investing involves risk, including the possible loss of principal.