By David Graubard, LevFin Insights
Also available at https://v2.creditsights.com/articles/10411956
In an exclusive interview with LevFin Insights, Michael Kurinets, chief investment officer and portfolio manager at Capra Ibex Advisors, explained several key takeaways from 2023 and opportunities in the first quarter. Capra Ibex offers fixed-income advisory services as well as CLO mezzanine and equity investment programs.
1. What are some key takeaways from the CLO market on your mind?
It’s amazing to see how some large CLO managers are successfully raising large captive capital funds and facilitating a robust year in CLO issuance despite the challenging conditions for new-issue CLO equity. It’s encouraging to see that many CLO managers have focused on par-building trades in 2023.
2. What opportunities do you see for Q1?
Depending on the way the market goes, there should be interesting opportunities in the first quarter. If the market continues on its current path (in which it believes a soft landing is likely and anticipates that the Fed will reverse its “higher for longer” stance), there should be ample opportunities to rotate out of the most risky positions into the strong BID in the market. Also, it is possible that equity in the new issue market will begin to attract independent third-party investors. If there is another pivot in the market and volatility increases, there should be opportunities to add quality risk at higher yields. Finally, if the market trades in its current range, there should be significant traded volumes and liquidity for all participants.
3. Where is Capra Ibex finding value?
Even though there has been a significant rally since about the middle of October, we continue to find value in CLO debt tranches, particularly in the BBB and BB levels in both the new-issue and secondary markets. Also, there are interesting opportunities to source CLO equity in the secondary market.
4. What CLO investment risks concern you most? In your July newsletter, you wrote about concerns over the percentage of CCC rated loans in CLOs?
Higher rates are a cause for concern for below-IG issuers. Downgrades can become an issue for CLOs, particularly CLO equity, if the oversized CCC buckets begin to significantly chip away at the remaining OC cushions above CLO equity. However, there are plenty of CCCs trading at “high” prices and therefore many CLO managers have significant capacity to manage their CCC buckets and therefore their OC cushions. In addition to CCCs, we think that defaults will remain elevated, partially driven by higher rates. But as with CCCs there is a mitigant to defaults. The maturity wall in the pool of leveraged loans has been significantly pushed out and the amount of debt scheduled to mature in the near term has significantly shrunk.
5. How much do the triple-As need to tighten to make CLO equity attractive to opportunistic investors?
Assuming that (1) the price at which CLO collateral can be sourced in the new-issue market stays at roughly current levels, (2) spreads on leveraged loans don’t compress, and (3) CLO managers will continue to have flexibility in management fees, I think new-issue CLO equity will become interesting if the CLO capital structure tightens by another 30 to 40 basis points.
6. What events could make CLO secondary volume surge?
I take the term surge, by definition, to be a temporary event. That’s typically associated with either significant and unexpected events (like Covid) or sudden and significant changes in the market’s perception of the economy (like a reversal on inflation or recession). On the economic side, if the Fed signals that inflation will remain above target levels and rate easing will be delayed, the market will reprice. Similarly, if CLO managers begin to lose the battle between CCC/defaults and par building, the CLO market will reprice. On the macro side, wars could become an issue. The Middle East is a powder keg, and Russia might make gains in Ukraine, which could in turn give China additional encouragement to invade Taiwan.
(Note: See "CLO Insight: Capra Ibex Advisors CIO/PM Michael Kurinets discusses manager tiering, recoveries and volume" for further discussion.)