CLOs: Yes, Let's Panic

Sam Jones has a good report on the CLO situation over at Alphaville. It's bad: "80 is the new 90," he says, in terms of loan prices - which is bringing the triple-A tranches of market-value CLOs down into liquidation territory. And the effect on that is essentially as much as $35 billion of new supply hitting the market just as banks are in the middle of trying to offload the leveraged loans on their own books. All of which can't help but keep loan prices pressured downwards.

And it gets worse. Banks never really sold the triple-A tranches of CLOs, preferring to keep them on their own balance sheets. So when those CLOs are liquidated, banks - rather than buy-side investors - will take the brunt of the losses.

Why haven't the banks warned about this? You almost couldn't make it up:

Hitherto, banks haven't really mentioned their CLO exposures, because they have been, in net terms, erased from balance sheets using negative basis trades. So while banks may have huge gross exposures to CLO paper, it hasn't been an issue, because these positions were, from the outset, fully hedged.
Hedges with monolines.

So, yes, we probably should be worried.