Asian balance sheet CLOs have tweaked default definitions, finds Moody's

Balance sheet CLOs launched in Asia this year have provided investors with greater protection, according to Moody’s. Three such transactions have closed in 2011, typically with short maturities, and the trend has been for adjusting the treatment of defaulted securities which the rating agency says has benefited investors.

In previous transactions, assumed recoveries were taken into account when looking at defaulted assets which in some cases would understate the loss to a CLO. This would then result in the CLO by-passing its stop-replenishment trigger enabling it to continue reinvesting. Newer deals have tightened the language to take this assumption out of the equation.

Newer deals also feature an extended tail period of three years compared to one year in earlier balance sheet CLOs. This allows a longer workout period for the defaulted assets and as an earlier Moody’s report pointed out, managers who held to defaulted assets for longer realised a higher recovery.

Finally, these new CLOs have also incorporated loan-loss provisions if a workout is not completed on a defaulted asset 60 days before its maturity date. This is said to be an improvement on obtaining market quotes as some assets are particularly illiquid.