CDO managers target leveraged loans, says S&P

S&P expects the bulk of European cashflow CDOs this year to be backed by European leveraged loans, with new managers entering this asset class. In 2003, CDO managers are expected to target mezzanine loans as assets in portfolios of leveraged loans in place of senior secured leveraged loans.

"As the CLO (collateralised loan obligation) market matures and more tailored structures are sought, there is growing interest in structuring transactions that offer a much higher mezzanine loan component," said Stroma Finston, a director at Standard & Poor's European structured finance ratings group, in London. "Standard & Poor's expects that at least one CLO backed only by mezzanine loans will be brought to market in 2003." But the agency added that the number of CDO transactions brought to market in 2003 will depend on the availability of the collateral.

"During 2002, the proportion of leveraged loans in the portfolios increased at the expense of bonds, demonstrating European CDO managers' growing interest in leveraged loans," said Finston.

In 2002, S&P rated a total of six CDOs backed by leveraged loans, with an aggregate pool size of €1.9 billion. In the six related portfolios, leveraged loans made up anywhere from 63% to 100% of the total portfolio, with a weighted-average proportion of leveraged loans of about 88%.

The agency took a rating action on only one transaction: the long-term ratings on Concerto I BV's class A and B notes were lowered in the quarter due to some deterioration in the credit quality of the pool, and because a number of coverage tests were not met. However, the deterioration in credit quality and par erosion of the portfolio was due more to the performance of the bonds than the loans.

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