Neuberger and Seix Join Rush to Shed Skin-in-the-Game CLO Debt

(Bloomberg) -- Managers of collateralized loan obligations are shedding chunks of their deals after a rule requiring them to hold on to a portion of their own transactions was repealed by a U.S. appeals court this year.

Neuberger Berman, Seix Investment Advisors, BlueMountain Capital Management and Credit Suisse Asset Management have either sold or are marketing almost $800 million of bonds they had to retain under the rule known as risk retention, according to people familiar with the matter, who asked not to be identified discussing a private matter. There are around $7 billion of a common type of these securities outstanding, a figure the market should be able absorb over time, according to Bank of America Corp strategists.

Managers of CLOs won an exemption to the risk-retention provision in February. The rule requires sellers of repackaged debt like mortgage bonds to own a chunk of the bonds they assemble and sell. Known as the “skin-in-the-game,” it was designed to prevent a repeat of the subprime crisis, where lenders made bad loans and sold them off to investors that bore the losses when the debt soured. Ending the requirement has added fire to an already hot market for CLOs as investors thirsty for yield fuel a record pace of sales.

“Most of these managers borrowed to own these securities and that cost of financing is more expensive than the coupons so it is a negative carry position,” said Michael Herzig, head of business development for THL Credit. “If they can unwind this financing and sell these lower yielding assets, it is sensible that they would and have.”

Representatives at BlueMountain, Neuberger Berman and Seix declined to comment.

Legal Battle

The risk retention rule came into force for many forms of securities in December 2016. At the same time, the Loan Syndications & Trading Association, an industry group, had been fighting the regulations for years, and said that risk retention shouldn’t apply to CLOs.

The LSTA argued that CLO managers don’t own or make the loans they bundle and sell, and so they don’t fall into the category of securitizer that the rule was designed to regulate. The U.S. Court of Appeals for the District of Columbia Circuit ruled in favor of the LSTA’s argument on Feb. 9, in a decision that went unappealed by regulators.

Under risk retention rules, a manager had to hold the chunk of their deals either by buying up 5 percent of the deal in the junior-most portion, known as the equity tranche, or by purchasing a piece of each CLO tranche -- the so-called vertical strip -- to make up the 5 percent holding.

Sales Flurry

Neuberger Berman offered about $111 million of risk retention bonds relating to its CLOs via a private auction, known as a “bid wanted in competition.” Seix marketed almost $40 million of securities pertaining to two of its Mountain View CLOs, the people familiar with the matter said.

BlueMountain last week sold almost almost $20 million of the securities to banks including Societe Generale SA and Deutsche Bank AG, said the people. Credit Suisse Asset Management sold about $600 million of the notes earlier this month. In each case, the bonds for sale were the vertical strip, the people said.

“Risk retention has rolled off and you have people who wouldn’t naturally own investment-grade rated CLO bonds owning these bonds without a need to,” Herzig said.

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