Private Equity Firms May Gain After European CLO Rule Change

Collateralized loan obligation managers owned by private-equity companies may benefit from the European Banking Authority’s proposed risk retention rules as smaller rivals are likely to be squeezed out.

EBA’s proposal to prevent CLO managers from bringing in outside investors to retain 5 percent of a deal will make it more difficult for firms without ready access to capital to issue CLOs. Blackstone Group LP, the world’s biggest buyout firm, became the largest CLO manager in Europe in 2011, while Carlyle Group LP this week increased the size of its first CLO in the region in five years to 350 million euros ($464 million) from 300 million euros, according to data compiled by Bloomberg.

“Managers with wealthy parents such as private-equity firms are likely to benefit from this proposal because they are more likely to have access to the necessary capital,” Matthew Jones, senior director at Standard & Poor’s in London, said in a telephone interview. “They could face less competition for assets, which may in turn allow them to issue multiple vehicles over a shorter period of time.”

Private-equity companies have been acquiring CLOs and other types of credit managers in the past few years to reduce reliance on buyouts. Blackstone Group LP and 3i Group Plc are among the busiest consolidators in the European market, where the number of CLO managers dropped 25 percent due to difficulties raising new funds, Fitch Ratings said in a report April 22.

Biggest Managers

Blackstone’s GSO Capital Partners LP became Europe’s largest manager of CLOs in late 2011 when it bought Dublin-based Harbourmaster Capital Management Ltd. London-based 3i bought Mizuho Investment Management (UK) Ltd. in September 2010. Los Angeles-based Ares Management LLC agreed in 2011 to acquire Indicus Advisors, which oversees more than $2 billion in CLO assets and other credit funds.

About 2 billion euros of deals priced this year in Europe while at least 1.8 billion euros more are being marketed, Bloomberg data show. Pace of issuance may be hampered if the regulatory proposal goes through, denying the region riven by debt crises a tool to solve the funding problem for corporates.

“It could penalize managers who are typically thinly capitalized and not in a position to take on large pieces of equity and could put a constraint to the size and the numbers of European CLOs,” said Galen Moloney, senior director at Fitch Ratings in London. “Insisting managers have direct equity exposure in a deal is somewhat severe.”

CLO Equity

CLOs pool high-yield loans and slice them into debt securities of varying risk and return, typically from AAA ratings down to B. The lowest portion, known as the equity tranche, offers the highest potential returns and the greatest risk because investors are the first to see their interest payouts reduced when the loans backing the CLOs default.

EBA, the London-based regulatory agency of the European Union, doesn’t bar credit managers from issuing CLOs which aren’t compliant with the rules, according to Matthew Cahill, a London-based partner at law firm Sidley Austin LLP.

GoldenTree Asset Management LP, the U.S. hedge fund manager, increased the size of a European CLO that doesn’t comply with the risk retention rules this week to 303 million euros, according to data compiled by Bloomberg.

More than half of the European CLOs priced this year have been backed by private-equity companies. These deals include ALME Loan Funding 2013-1 Ltd., managed by the credit arm of Apollo Global Management LLC, and Grand Harbour I BV, from Blackstone’s credit investment unit.

“As the proposals stand their effect will likely be to reduce market liquidity, which is regrettable given the need to provide credit to stimulate growth at a time when many banks are deleveraging,” said Nicholas Voisey, a director for London-based Loan Market Association.

Grandfather Clauses

The LMA said it will continue dialogue with EBA and seek clarity as soon as possible on issues about “grandfathering.”

Grandfather clauses are provisions where old rules continue to apply for transactions entered into before the new regulations take effect. The EBA proposal doesn’t provide guidance on whether the clause will apply to securitization deals created before 2014, according to Ashurst.

“Bureaucrats and politicians have long been the biggest threat to the market ,” said Mark Hale, chief investment officer at Prytania Investment Advisors LLP in London. “It would be far better if the official sector would recognize the strength of the arguments put forward by the private sector and allow secularization to fulfill its potential as an engine to power a cyclical recovery across Europe.”

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