1Q 2023 ABS & CLO market key takeaways
ABS market
Despite volatility in the banking sector and ongoing concerns over credit performance and inflation, ABS issuance in 1Q 2023 rebounded from a slow end of 2022 on the back of strong issuance in the auto, equipment and “other” ABS sectors.
Performance in consumer ABS pools has largely returned to pre-pandemic levels, with near-prime and subprime borrowers showing more of the impact of inflationary pressures. While February’s performance benefited from a seasonal downtick in losses and delinquencies as tax refunds aided consumers, the full seasonal impact may be muted this year, which could further strain consumer ABS performance. Thus far, the performance of 2021-2022 vintage unsecured consumer and subprime auto loans has led to limited downgrades in subordinate tranches of recently issued ABS.
Secondary ABS spreads contracted from late 2022 wide levels through February, though the March banking crisis led secondary spreads to jump back to levels last seen in December (particularly as benchmark yields significantly tightened). Funding costs for issuers continue to rise, though at a slower pace than seen through 2022.
CLO market
Despite light new loan supply and broader market volatility, including the banking sector crisis and inflationary/recessionary concerns, CLO new issuance held strong in the first quarter, ending the quarter with $33.5 billion of new issuance across 61 managers.
After a slow fourth quarter, more managers tapped the market as returned investor demand brought declining funding costs to the space. As interest in the private credit space continues to grow, 1Q 2023 saw a flurry of middle market CLO new issuance, with $6.1 billion of middle market transactions pricing in the first quarter.
Some early signs of weakening leveraged loan credit are surfacing, however, with the Morningstar/LSTA Leveraged Loan Index’s twelve-month default rate ticking up to 1.32%, compared with 0.72% last quarter. Loan downgrades continue to outpace upgrades, although the pace has slowed from year-end 2022’s elevated levels.
Looking at broader investor appetite for institutional loans that feed CLO formation, middle market direct lending fundraising regained momentum in the first quarter of 2023, raising $41 billion of capital during the period, compared with only $16.9 billion in 4Q 2022. While fundraising in private debt is expected to remain strong in 2023, investors are becoming more selective, favoring larger managers.
