Key 3Q 2023 takeaways from the ABS & CLO market
ABS market
ABS issuance in the third quarter roared, pulling year-to-date issuance ahead of 2022 levels as macroeconomic headlines turned more optimistic and expectations of an oncoming recession continued to moderate. Issuance was bolstered by continued robust issuance in the auto loan and lease space as well as a jump in equipment ABS issuance.
Consumer ABS performance continued to weaken in the summer months, with auto losses and delinquencies exceeding pre-pandemic levels and unsecured consumer losses and delinquencies in their high range of their (limited) history. The upcoming resumption of student loan payments will further test performance in the months ahead, particularly for the unsecured consumer space.
Secondary ABS spreads steadily fell through the spring/summer after a spike during the regional banking crisis, though they have begun to tick upward in recent weeks as primary issuance picked up. Funding costs in the primary market have been relatively stable, however, as primary spread tightening helped offset rising benchmark rates. Investors continue to monitor the health of indebted consumers’ finances and have shown increasing scrutiny over lenders’ own financial health.
CLO market
Lower funding costs in the third quarter led more managers to tap the CLO market than last quarter, though light new loan supply and still- elevated benchmark rates have kept CLO issuance from reaching the highs seen in 2021 and 2022.
Year-to-date new issuance is down 21.5% as of the third quarter, but interest in the private credit space is holding on stronger than ever. Year-to-date middle market CLO issuance stands at $18.0 billion, nearly doubling last year’s 1Q-3Q total of $9.4 billion and representing a 22% share of total new issuance compared to 8%-12% in 1Q-3Q 2016-2022.
Spreads are at their tightest since mid-2022, as macroeconomic headlines grew more constructive, expectations of soft landing over a recession grew among market participants, and credit metrics improved.
Leveraged loan credit metrics improved in the third quarter, with the Morningstar/LSTA Leveraged Loan Index’s 12-month default rate falling to 1.73% compared to 2.37% last quarter and 2.28% last September. Additionally, the percentage of distressed leveraged loans is falling, and the pace of downgrades versus upgrades is declining.