Over $1 Trillion Universe of Custom Cash Flows and Credit Exposure

CLOs represent a $1 trillion universe of custom cash flows and credit exposures built on floating rate, senior secured bank loans to major corporations.

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A Proprietary Approach to CLO Equity

As an opportunistic manager, Clarion Capital focuses on CLO equity, mezzanine, and warehouse investing. We allocate primarily to CLO equity on a long-term basis, applying deep qualitative and quantitative analysis to select what we believe are the most promising investments in both the primary and secondary CLO markets. We believe our deep domain expertise and network of relationships add value to the selection process.

Periodically, we will invest in CLO mezzanine tranches, typically during periods of market volatility. At such times, CLO mezzanine bondholders may sell at low prices to obtain liquidity. As long-term investors, we seek to “buy low” at such times in expectation of “selling high” later.

As long-term investors in the CLO asset class, we are also able to access CLO warehouses, providing capital to managers seeking to construct and issue new CLO offerings.

Investment Grade CLOs: Quality and Income

CLO debt tranches receive interest payments and principal based on a priority of payments. Senior tranches carry investment grade ratings (AAA through BBB) and appeal to institutional investors such as pension funds, banks, and insurance companies.  The most senior AAA tranche in a CLO has the lowest coupon rate, which increases as we go down the ratings spectrum.

The most senior AAA tranche, which has the most subordination, and thus a lower risk profile, also has the lowest coupon rate.  Coupon rates increase at each tranche level as subordination decreases.  However, these yields are typically higher than other comparably rated instruments.

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Higher Yields with Mezzanine and Equity CLO Tranches

Mezzanine and equity CLO tranches receive higher rates of interest and distributions compared to investment grade CLO tranches to compensate for their lower subordination in the CLO structure.

CLO mezzanine tranches with a rating of BB and B are higher-yielding instruments that have historically been popular with hedge funds and opportunistic credit investors.

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Attractive Risk-Adjusted Returns and High Cash-on-Cash Yields: CLO Equity

CLO equity offers the highest yields of all CLO tranches. They are often called “arbitrage” CLOs since they earn the difference between the total interest received from the underlying loan portfolio and interest payments to other CLO tranches (also known as a net interest margin).

CLO equity investors include CLO managers and opportunistic credit investors. The potential returns to CLO equity are high, but are subject to first loss in case of any defaults in underlying loans.

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CLO Warehouses: The Precursor to a CLO

Prior to CLO creation, CLO managers build portfolios of senior bank loans through financing facilities known as CLO “warehouses”  Investors can provide capital to the CLO warehouse so the facility can begin to accumulate loans with the goal of a CLO term out.

Warehouse investors lend money with the expectation of repayment when the CLO is issued.  In doing so, warehouse investors access opportunities for enhanced yield on the term out CLO.

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Resources and Insights

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