S&P report discusses how Covid-19 could affect European CLOs

The European CLO market, like most other sectors, is not completely resistant to the effects of the Covid-19 pandemic, S&P Global Ratings says in a new report.

The company writes: "In the short term, we do not expect rated European CLO transactions to experience significant downgrades. Key transaction indicators such as the level of 'CCC' category rated assets, the proportion of defaulted assets, and over-collateralisation cushions, suggest transactions are protected from a degree of deterioration in portfolio credit quality.

"However, an extended period of stress may put downward pressure on our CLO ratings, initially affecting speculative-grade tranches. We expect a surge in the European speculative-grade corporate default rate to the high single digits over the next 12 months, although the severity will vary significantly by sector and individual credit characteristics. As a result, there could also be an impact on CLOs, which are securities backed by a portfolio of corporate debt, typically senior secured loans made to speculative-grade companies, whose average credit rating is in the 'B' ('B+', 'B', and 'B-') category.

"S&P Global Ratings acknowledges a high degree of uncertainty about the rate of spread and peak of the coronavirus outbreak. Some government authorities estimate the pandemic will peak between June and August, and we are using this assumption in assessing the economic and credit implications. We believe measures to contain COVID-19 have pushed the global economy into recession, and could hurt employment levels and housing markets. As the situation evolves, we will update our assumptions and estimates accordingly."