CLO issuance has slowed dramatically in 2023, down 41% for the first half of the year versus 2022.1 This downshift reflects broader credit market conditions. Yet the slowdown in issuance tells only a part of the story of the CLO market. We also see a loan market trying to catch up to rapid changes in payment processing needs, data, reporting, and regulatory requirements, some of which have already come into force.
New and Emerging Needs
Increasingly, CLO managers require service providers that can accommodate needs such as complex excess calculations, virtual loan advance rates/contracts, various asset haircuts, waterfall diversions, or unique loan investment criteria reporting. In addition, European investors need to comply with European Securities and Markets Authority (ESMA) Article 7 due diligence reporting requirements. These apply to new non-EU securitizations such as U.S. CLOs including EU-affected investors as of October 2022. They institute compliance with EU Due Diligence Requirements.
European Securities and Markets Authority (ESMA) Article 7 (also known as Regulation (EU) No 2017/2402 or the "Securitization Regulation") outlines reporting requirements for issuers involved in securitization activities, including CLOs. CLO managers must report both to regulators and investors. Per Article 7, regulators must receive consistent details about the CLO transaction, its structural features, underlying loans, and risk retention details. Investors must receive information about a CLO’s performance, cash flows, and potential triggers or events that may impact the securitization.
Moreover, the prospect of additional regulatory changes and reporting requirements (e.g., in the U.S. and Switzerland) shines a spotlight on service provider flexibility and scalability. CLO transaction documents specify all reporting requirements. Regulatory regimes depend on the parties involved. Each has its specific data requirements, including those defined by ESMA, similar criteria established by the UK’s Financial Conduct Authority (FCA), and those of the Securities and Exchange Commission (SEC) in the U.S.
Working With Data Gaps
Often, the required data exceeds what CLO trustees have typically and historically provided. Trustees work with third-party reporting providers on timing, formatting, and data fields to supply transaction-related items including cash and par. In addition, the reports can include loan-level data such as EBITDA and debt coverage from other sources, including borrowers, lenders, and rating agencies.
For broadly syndicated loans, reporting information and underlying financial data are more widely available. In the middle market, with the dominance of private credit, such information is not widely published. Trustees handle overall global and portfolio level information and data from routine activities such as payments, purchases, sales, and notices. CLO managers own loan-level data, such as financial statements of underlying borrowers.
Potential Change Ahead
Proposed SEC rule change2 would further expand reporting requirements for Collateralized Loan Obligations (CLOs). If the rule is approved, CLO managers must provide detailed quarterly statements, including adviser compensation and fees, alongside additional disclosures on performance and consolidated reporting. The rule also calls for audited annual financial statements, potentially increasing costs. Finally, private funds could require third-party fairness opinions for certain transactions. The rule's impact on the CLO market increases compliance costs in the interest of transparency. It also would create new wrinkles in the role of the trustee as a consumer and provider of data. Separately, the SEC is considering whether and to what extent certain loans should be subject to securities laws.3 This issue has raised significant concerns among loan market participants.
Asset Managers use a wide array of systems to track and manage their portfolios resulting in non-standardized data sets. These variances require CLO managers, administrative providers, and reporting providers to collaborate and develop reliable mechanisms for delivering the required reports using various templates. A lot of coordination occurs during warehouse, pre- and post-closing, to address requirements not explicitly required or documented under the original transactional agreements.
Trustees’ ability to automate the ingestion and provision of data can help streamline the process. Furthermore, they need the flexibility and resources to reconcile data issues accurately and in a timely manner. Collectively, all parties need to come together to find ways to reduce the level of effort and the need for manual intervention in the data to deliver reports on time and at a lower cost.
Staying Ahead of Tight Cycles
It is also important to consider reporting data holistically. Each trustee processes a significant amount of data from agents, clients and rating agencies. CLO managers often have numerous service providers, including trustees and data/reporting providers. A lot of activity is compressed into the typical eight-day reporting window (reconciliation of global and portfolio information including cash, par and portfolio characteristics as well as full reconciliation of various compliance tests in order to deliver investor reports accurately and timely).
Our approach at Wilmington Trust has been to stay on top of this activity throughout the month rather than only at month end or quarter end. Consistent data communication creates the opportunity to reconcile more frequently, which has positive downstream impacts on report turnaround times. It allows time for follow-up communication and engagement between CLO managers, agents, and third-party service providers.
Conclusion: Staying Ahead of the Deal and the Data
Flexibility and open communication are crucial in today’s changing CLO landscape. We are already seeing the importance of these traits in the expanded adoption of ESMA reporting standards.
Moreover, regulatory requirements may well evolve, with active proposals on the table. CLO managers require adaptable service providers to meet complex reporting needs on three fronts:
- Collaborative efforts between CLO managers, administrative providers, and reporting providers are necessary to deliver accurate reports in various templates.
- Automation and data reconciliation by trustees can streamline processes.
- Regular engagement and proactive communication before and during the reporting cycle enhance efficiency.
In a market with shifting regulations and transparency demands, embracing flexibility and maintaining open communication will enable the CLO market to navigate changes and achieve sustained success. It also sets a high bar for what CLO managers should expect providers to offer.
By leveraging the power of technology, Wilmington Trust employs automation to enhance the accuracy and delivery of critical reporting and data to loan market participants. Our team consists of dynamic professionals with buyside, loan agency, system architecture and trustee experience working collaboratively to provide a customized approach to servicing the evolving needs of our clients.
Contact a Wilmington Trust Loan Market Specialist today.