Subscribe
Share
Share
Embed
In Mizuho | Greenhill’s Beyond The Obvious podcast channel, we uncover the value that others miss.
Our podcast is a source for the latest discussions on topics related to capital markets, dealmaking activity, business leadership and more.
Delve into insights from our investment & corporate banking thought leaders to hear their unique perspectives on current trends and market influences.
Learn how industry icons and influential figures began their journeys, overcame adversity and rose to success.
Discover insights that look deeper.
Podcast and Video Recording Disclaimer
This podcast or video recording is for informational purposes only and should not be copied, distributed, published, or reproduced in whole or in part without permission. The information contained in this podcast or video recording does not constitute research or recommendation from any Mizuho entity to the listener or viewer. Neither Mizuho nor any of its affiliates make any representation or warranty as to the accuracy or the completeness of the statements or any of the information contained in this podcast, and any liability therefor, including in respect of direct or indirect or consequential losses or damage, is expressly disclaimed.
The views expressed in this podcast or video recording are not necessarily those of Mizuho, and Mizuho is not providing any financial, economic, legal, accounting, or tax advice, or recommendations in this podcast. In addition, the receipt of the podcast by any listener is not to be taken as the giving of investment advice by Mizuho, nor to constitute that person a client of any Mizuho entity.
For additional disclaimers and regulatory disclosures, please visit Mizuhogroup.com/americas.
00:00:23:14 - 00:00:25:08
Thank you for joining us today.
00:00:25:08 - 00:00:30:02
Given the market environment, we thought
it was a very opportune time to hold another
00:00:30:02 - 00:00:33:22
Leveraged Finance Mizuho
Market Mindset discussion.
00:00:33:22 - 00:00:39:09
I have with us Jim Boland, who's my partner and runs Capital Markets, and Stefan Kullberg,
00:00:39:09 - 00:00:41:22
who helps run our CLO business.
00:00:41:22 - 00:00:43:07
So thank you for joining me, gentlemen.
00:00:43:07 - 00:00:49:18
The impact of AI on the software sector has
left a big void in the market, and we've all
00:00:49:18 - 00:00:54:15
read endless articles about the impact on
the term loan B market, the private credit
00:00:54:15 - 00:00:59:01
market, and to a lesser degree, the high yield market, but it really has spilled over throughout
00:00:59:01 - 00:01:01:01
the whole market.
00:01:01:01 - 00:01:06:03
What I want to talk about today is something that isn't covered as much, and that's the impact
00:01:06:03 - 00:01:07:15
on the CLO asset space.
00:01:07:15 - 00:01:12:21
And so, Stefan, can you talk to us about your market a little bit and how this is impacting
00:01:12:21 - 00:01:13:21
your investors?
00:01:14:03 - 00:01:15:00
Yeah, of course.
00:01:15:00 - 00:01:21:10
I would say software started
becoming a concern Q4 of last year.
00:01:21:10 - 00:01:26:07
The CLO market from a primary perspective and a secondary perspective was largely business
00:01:26:07 - 00:01:28:14
as usual over the first two months of the year.
00:01:28:14 - 00:01:35:10
So the primary side, since February, did
slow down a little bit as software became less
00:01:35:10 - 00:01:39:12
of a focus in terms of managers to be able to
ramp into new issue CLOs, whereas liabilities
00:01:39:12 - 00:01:40:03
widen out.
00:01:40:03 - 00:01:44:12
Now, it's not perfectly correlated in terms
of why do liabilities widen out, because we
00:01:44:12 - 00:01:47:06
did have the Iran war in the background
as well over the last month.
00:01:47:06 - 00:01:51:17
But the reality is, on the new issue
side, liabilities widened out.
00:01:51:17 - 00:01:57:18
Managers have decided to ramp into a smaller software bucket today, which has made the
00:01:57:18 - 00:01:59:04
arbitrage a little bit worse off.
00:01:59:04 - 00:02:02:15
And so that slowed down primary
volumes over the last month or so.
00:02:02:18 - 00:02:04:14
What do you think turns that around?
00:02:05:14 - 00:02:10:15
So I think that managers are still going to be focused, at least in the near term, on issuing
00:02:10:15 - 00:02:11:01
So I think that managers are still going to be focused, at least in the near term, on issuing
00:02:11:01 - 00:02:13:21
new CLOs with a smaller software allocation.
00:02:13:21 - 00:02:20:12
So whereas pre-headlines in February, managers were comfortable ramping anywhere from a 10%
00:02:20:12 - 00:02:27:18
to 15% software bucket, new issue CLOs today are ramping with about a 5% to 8% software bucket.
00:02:27:18 - 00:02:31:15
What that means is there's probably
a smaller universe of loans to buy.
00:02:31:15 - 00:02:34:10
It does make the asset side
a little bit more difficult.
00:02:34:10 - 00:02:39:18
And since liabilities did widen out, largely
because of the Iran conflict, a little bit
00:02:39:18 - 00:02:42:18
due to software, the arbitrage
has been more challenged.
00:02:42:18 - 00:02:44:06
That has started to clear.
00:02:44:06 - 00:02:47:07
The Iran war risk premium has dissipated a bit.
00:02:47:07 - 00:02:50:12
So we are seeing AAAs as
well as MSBs come tighter.
00:02:50:12 - 00:02:53:10
And we are seeing the new issue
market start to open up again.
00:02:53:10 - 00:02:59:08
Jim, on our side of the fence, we've been in a
very bifurcated market for some time
00:02:59:08 - 00:03:01:09
where there's have and have-nots.
00:03:01:09 - 00:03:05:12
And that's both on the industry
as well as specific credits.
00:03:05:12 - 00:03:10:05
When you think about the wave of acquisition finance that came through over the last four
00:03:10:05 - 00:03:13:02
to six weeks, there was one very common theme.
00:03:13:02 - 00:03:21:03
Issuers saw a very muted term loan, new issue demand, but yet a very strong high yield bid.
00:03:21:03 - 00:03:27:02
As a result, those structures flipped from bank-to-bond for many of those transactions.
00:03:27:02 - 00:03:28:14
Is this the new normal?
00:03:28:14 - 00:03:31:22
I don't know if it's the new normal, but in the
high yield market, you are definitely
00:03:31:22 - 00:03:35:18
on firmer footing relative to the
CLO term loan B market.
00:03:35:18 - 00:03:37:19
And then you got a large portion —
00:03:37:19 - 00:03:42:16
a large dynamic of there is just the
CLO market has been the
00:03:42:16 - 00:03:47:03
bigger investor in legacy LBOs in the software sector, more so than the high yield market.
00:03:47:03 - 00:03:51:07
It's probably up to a factor of,
let's say, three to one.
00:03:51:07 - 00:03:58:00
And as a result, you see a lot more selectivity in that loan market, in the CLO market, largely
00:03:58:00 - 00:04:00:10
because it's just they're
trying to afford mistakes.
00:04:00:10 - 00:04:06:03
And it's starting to spread outside of software into adjacent sectors that could also be exposed
00:04:06:03 - 00:04:08:01
to displacement from AI.
00:04:08:01 - 00:04:13:23
The high yield market has been sort of a savior, especially on a few transactions we were involved
00:04:13:23 - 00:04:19:01
with in the last couple of quarters around
the ability to resize that transaction into
00:04:19:01 - 00:04:20:22
the better demand in the high yield market.
00:04:20:22 - 00:04:22:03
the better demand in the high yield market.
00:04:22:03 - 00:04:26:07
And again, it's TBD how long
this is going to play out.
00:04:26:07 - 00:04:33:19
It probably really came to the forefront, I'd
say late February, early March, when AI
00:04:33:19 - 00:04:38:13
started to become a big focus as a risk to displacing some of these software names.
00:04:38:13 - 00:04:44:18
And as a result, you've got perfectly performing credits that have traded into the 70s.
00:04:44:18 - 00:04:51:04
So if you're a CLO owner, historically, you haven't been the rescue money in the market.
00:04:51:04 - 00:04:57:06
So and if you're looking to mitigate exposure, you've got, again, a credit that's performing
00:04:57:06 - 00:04:58:17
by all metrics.
00:04:58:17 - 00:05:04:02
Do you really want to monetize that hit in the 70s or the 80s, even if that bid is really there?
00:05:04:02 - 00:05:09:04
Because my sense is if you try to show up with
any type of size into that market to
00:05:09:04 - 00:05:12:06
sell, it's going to gap down from there.
00:05:12:06 - 00:05:18:12
So the quandary is, do you just sort of play
this out and try to figure it out over time?
00:05:18:12 - 00:05:22:19
But right now, there's definitely greater strength
in the high yield market than there
00:05:22:19 - 00:05:24:05
is in the CLO market.
00:05:24:05 - 00:05:28:17
And then obviously, you also have the
private credit market, over there, which
00:05:28:17 - 00:05:36:13
is also over indexed to software assets, and
at the same time is facing redemptions.
00:05:36:13 - 00:05:41:20
So for the last six to eight quarters, we've seen a lot of private credit deals refinance
00:05:41:20 - 00:05:46:11
into the term loan market, mainly because the interest savings is very attractive.
00:05:46:11 - 00:05:48:19
Do you think that's sustainable?
00:05:48:19 - 00:05:51:08
And where does that paper get refinanced?
00:05:51:12 - 00:05:57:05
I think the trend of, especially on the software
side, of refinancing private credit into
00:05:57:05 - 00:06:00:20
the term loan B market is effectively dead.
00:06:00:20 - 00:06:05:16
That was, I think, there was a decent
amount of migration, I think, in 2025.
00:06:05:16 - 00:06:09:16
But there's also, at the same time, direct
credit was still very much alive in a lot
00:06:09:16 - 00:06:13:02
of these M&A processes and very competitive.
00:06:13:02 - 00:06:17:17
And we found, as of late, especially with the redemptions that's going on in the private
00:06:17:17 - 00:06:21:03
credit side, that they seem to be less—
00:06:21:03 - 00:06:25:11
you run into them less in M&A
processes as a competitor
00:06:25:11 - 00:06:28:13
for financing, especially on
the larger transactions.
00:06:28:13 - 00:06:33:07
They still seem to be somewhat active in
some of the smaller transactions, especially in
00:06:33:07 - 00:06:34:10
the middle market.
00:06:34:10 - 00:06:40:14
But as a whole, I think the damper on both sides, both in the CLO market and the private
00:06:40:14 - 00:06:45:22
credit market, has effectively brought
M&A in software to a lull.
00:06:45:22 - 00:06:46:22
credit market, has effectively brought
M&A in software to a lull.
00:06:46:22 - 00:06:50:22
So you've got a lot of existing stuff that I'm
sure some of these sponsors would love
00:06:50:22 - 00:06:55:20
to sell in this market, but they're going to have to take a decent haircut around valuation
00:06:55:20 - 00:06:57:13
just because I don't think the
leverage is there
00:06:57:13 - 00:07:00:02
to support those transactions
in this environment.
00:07:00:02 - 00:07:04:20
It's very much a risk off, the sentiment in both private credit and the CLO side.
00:07:04:20 - 00:07:10:14
Now, the difference here is the beauty of the CLO market versus a lot of these private
00:07:10:14 - 00:07:15:03
credit structures, which are set up as private BDCs, is they're obviously subject to these
00:07:15:03 - 00:07:20:21
redemptions, which you see obviously in the newspapers and on all the business channels
00:07:20:21 - 00:07:24:11
around the issues they're running
into there with excess redemptions.
00:07:24:11 - 00:07:28:23
The CLO market is most of these vehicles, and Stefan, correct me here if I'm wrong,
00:07:28:23 - 00:07:32:21
but most of them are set up as
12-year locked up money.
00:07:32:21 - 00:07:35:06
You've got a lot more flexibility.
00:07:35:06 - 00:07:38:06
You're not subject to quarterly
redemptions in that market.
00:07:38:06 - 00:07:43:08
So you can sort of play the string out a little bit on the risk side on a lot of these software
00:07:43:08 - 00:07:48:03
names, whereas on the private credit side, you're much more under the gun just to manage
00:07:48:03 - 00:07:49:01
these redemptions.
00:07:49:04 - 00:07:49:19
That's correct, Jim.
00:07:49:19 - 00:07:53:06
CLOs are essentially a long-term
00:07:53:06 - 00:07:56:13
non-mark-to-market vehicle, and so
there is no forced
00:07:56:13 - 00:08:01:05
selling pressure from managers on
underwater, underperforming software loans.
00:08:01:05 - 00:08:06:16
Now, while there are some metrics within the
CLO structure that do limit things such as
00:08:06:16 - 00:08:11:06
CCC migration, defaults, etc., that may
catalyze a manager to act sooner than
00:08:11:06 - 00:08:13:10
later, as of right now, managers have been
00:08:13:10 - 00:08:15:20
patient on the software
exposure in their portfolios.
00:08:16:00 - 00:08:21:06
Do you think that they can play through this, or do you anticipate LMEs and other ways that
00:08:21:06 - 00:08:25:04
they have to kind of fix some of these
problem spots in their portfolios?
00:08:25:04 - 00:08:31:11
I think the takeaway right now is maybe manage your exposure on the margin.
00:08:31:11 - 00:08:35:10
So there has been a little bit of lightening up on software exposure, particularly for
00:08:35:10 - 00:08:40:08
managers that have been overweight in that
asset class, but the reduction in exposure
00:08:40:08 - 00:08:44:07
has been pretty small, about 50 basis
points only across their portfolios.
00:08:44:07 - 00:08:46:20
Other managers have been taking a
little bit of an advantage.
00:08:46:20 - 00:08:50:11
They've been bringing an underweight a little bit up, but again, it's been a pretty small
00:08:50:11 - 00:08:53:20
percentage of the overall portfolio size in
terms of what they're moving.
00:08:53:20 - 00:08:58:14
Most managers right now are largely focused on managing the market values of portfolios.
00:08:58:14 - 00:09:05:10
So, willing to do swaps as in I can sell this loan at 95 and maybe buy another loan that
00:09:05:10 - 00:09:09:17
I like a little bit better at 95 as well to keep the market value in line with what was
00:09:09:17 - 00:09:12:05
existing before the software loans went down.
00:09:12:12 - 00:09:17:10
And the jet fuel for our market is really
the new CLO creation.
00:09:17:10 - 00:09:22:23
You know, the last couple of weeks we've
seen very anemic volumes.
00:09:22:23 - 00:09:27:20
How's the health and stability of the AAA bid,
both from a cost to capital perspective
00:09:27:20 - 00:09:28:22
as well as from a demand?
00:09:29:04 - 00:09:30:09
AAA bid's very strong.
00:09:30:09 - 00:09:35:11
You know, I would actually say that largely the move that we saw over the last month in
00:09:35:11 - 00:09:41:10
change has been driven more due to Iran headlines and just general repricing of relative value
00:09:41:10 - 00:09:45:01
across both securitized products as
well as credit asset classes.
00:09:45:01 - 00:09:47:13
And so CLO just moving out in kind with that.
00:09:47:13 - 00:09:53:08
Maybe on the small margin, there's been a
little bit of a reshuffling of manager tiering.
00:09:53:08 - 00:09:58:14
But I think in terms of overall CLO spreads, that was reacting more to macro factors rather
00:09:58:14 - 00:10:01:06
than micro factors, i.e. the software market.
00:10:01:11 - 00:10:07:14
And by managing tiering, do you mean top tier managers versus maybe smaller new entrants?
00:10:07:14 - 00:10:11:14
The gap of cost to capital
has increased over time?
00:10:11:19 - 00:10:12:13
Definitely.
00:10:12:13 - 00:10:18:15
It's definitely an opportunity for smaller
managers to show their performance.
00:10:18:15 - 00:10:21:03
Either they're lower exposed to software.
00:10:21:03 - 00:10:23:04
Some are starting to ramp new issue
CLOs or come to market today.
00:10:23:04 - 00:10:24:17
Some are starting to ramp new issue
CLOs or come to market today.
00:10:24:17 - 00:10:28:00
It's definitely an opportunity for them to
grab market share and grow faster than
00:10:28:00 - 00:10:28:03
It's definitely an opportunity for them to
grab market share and grow faster than
00:10:28:03 - 00:10:29:06
they were expecting.
00:10:29:06 - 00:10:29:12
they were expecting.
00:10:29:12 - 00:10:36:16
Whereas existing managers with higher software exposure, they're more or less managing their
00:10:36:16 - 00:10:40:08
existing client base, explaining their portfolios, etc.
00:10:40:08 - 00:10:46:22
I don't think there's going to be a large move
away from the large tier one managers
00:10:46:22 - 00:10:49:13
just because they're so embedded in the market.
00:10:49:13 - 00:10:50:16
These are large institutions.
00:10:50:16 - 00:10:52:23
People have faith in terms
of their credit abilities.
00:10:52:23 - 00:10:55:07
And so guys will still stick with
them over the long run.
00:10:55:15 - 00:11:01:11
And Jim, from a new issue perspective in the secondary, it's super interesting because
00:11:01:11 - 00:11:08:16
absent a few sectors that are very challenged, other parts of the market, deals are getting
00:11:08:16 - 00:11:12:23
printed at tighter credit spreads than we saw
in Q1 or even Q4 last year.
00:11:12:23 - 00:11:17:14
And so again, it's that bifurcation
that we're seeing.
00:11:17:14 - 00:11:26:02
How do we leg out of this market and what
is your guess of the trajectory as we begin
00:11:26:02 - 00:11:28:19
to cure these more problem spots in the market?
00:11:29:03 - 00:11:29:11
You know Jeb, you're absolutely right.
00:11:29:11 - 00:11:30:22
You know Jeb, you're absolutely right.
00:11:30:22 - 00:11:37:01
Away from software and some tangential sectors to that, you are definitely seeing old economy
00:11:37:01 - 00:11:40:14
names embraced in part of this market.
00:11:40:14 - 00:11:44:08
And some of them are, from a pricing
standpoint, as good as it was last year
00:11:44:08 - 00:11:48:01
pre this shake out in the software sector.
00:11:48:01 - 00:11:55:00
What sort of solves this is historically when you look at some of these cycles where you've
00:11:55:00 - 00:11:57:18
gotten credit as a whole
has gotten disintermediated,
00:11:57:18 - 00:12:01:05
it's usually been an opportunistic new money
00:12:01:05 - 00:12:04:10
investor or an existing manager bringing up a new side pool of capital to take advantage
00:12:04:10 - 00:12:07:17
investor or an existing manager bringing up a new side pool of capital to take advantage
00:12:07:17 - 00:12:09:17
of the dislocation.
00:12:09:17 - 00:12:16:07
I think since this has really been a so far
two-month play or sell-off in the software
00:12:16:07 - 00:12:21:07
sector, you haven't seen that
opportunistic capital arrive yet.
00:12:21:07 - 00:12:25:09
But at some point, it's just going to get so cheap that it's going to get really interesting.
00:12:25:09 - 00:12:30:21
There's a lot of talk around high yield sort of stepping in to pick up some of these
00:12:30:21 - 00:12:38:15
discounted assets or for new money deals since they're less impacted by the software exposure
00:12:38:15 - 00:12:44:09
you're seeing in the CLO market as being a
place to go in terms of selling some of this
00:12:44:09 - 00:12:45:18
risk into.
00:12:45:18 - 00:12:47:19
It just feels early.
00:12:47:19 - 00:12:51:02
It feels like a lot of these credits that are
performing should not be trading where
00:12:51:02 - 00:12:55:16
they are, but it's just a fundamental
of the current marketplace.
00:12:55:16 - 00:12:57:14
So I'd say only time will tell.
00:12:57:14 - 00:13:02:08
But usually what sort of steps in here is
there's new money that's sort of targeted
00:13:02:08 - 00:13:03:13
at this dislocation.
00:13:03:13 - 00:13:05:01
We just haven't seen that in size yet.
00:13:05:04 - 00:13:07:12
Yeah, and look, it puts into perspective.
00:13:07:12 - 00:13:09:08
It is a quarter-plus that we've seen this.
00:13:09:08 - 00:13:12:16
It just feels a lot longer that we've
been in this market environment.
00:13:12:16 - 00:13:18:02
And I would just add, I think the dearth of
M&A and the lack of pipeline that's across
00:13:18:02 - 00:13:22:19
the street will help carry the market as well because people will have to eventually look
00:13:22:19 - 00:13:24:10
for ways to put money to work.
00:13:24:16 - 00:13:26:07
I would completely agree.
00:13:26:07 - 00:13:30:22
You're definitely, especially after the
latest larger transactions that just went
00:13:30:22 - 00:13:37:17
through the market, there is definitely a
drop-off in the backlog in terms of near-term
00:13:37:17 - 00:13:41:20
M&A volumes or new money
volumes coming to this market.
00:13:41:20 - 00:13:46:06
We're starting to see a little bit of a pickup
on that on the M&A side, but there's
00:13:46:06 - 00:13:52:11
definitely going to be a supply drop-off
where some of this existing paper that's trading
00:13:52:11 - 00:13:57:07
at deeper discounts, you may see a little bit of upside or a little bit more interest
00:13:57:07 - 00:13:58:12
in picking up some of that exposure.
00:13:58:17 - 00:14:04:09
And one last question, what KPI are you watching that you think is important for investors
00:14:04:09 - 00:14:06:15
and issuers to keep an eye on?
00:14:07:00 - 00:14:11:03
I think for individual software loans, earnings are going to be closely watched because largely
00:14:11:03 - 00:14:11:21
I think for individual software loans, earnings are going to be closely watched because largely
00:14:11:21 - 00:14:15:06
we've had this price migration
despite earnings staying
00:14:15:06 - 00:14:18:19
relatively decent across the entire sector.
00:14:18:19 - 00:14:20:13
We've seen this big move in price.
00:14:20:13 - 00:14:23:18
Rating agencies said, “look, there's been a
move in price, but there hasn't been any
00:14:23:18 - 00:14:26:21
catalyst for us to actually think about
downgrading these ratings.”
00:14:26:21 - 00:14:32:18
Obviously, if the software sector starts becoming more at risk of downgrades, there could be
00:14:32:18 - 00:14:36:21
more price pressure there as managers do
start to think about CCC migration within
00:14:36:21 - 00:14:38:01
their portfolios.
00:14:38:01 - 00:14:42:23
Absent of that, one catalyst to the
upside is definitely loan inflows.
00:14:42:23 - 00:14:48:00
I do think that one of the bigger drivers of
the price action that we saw in February
00:14:48:00 - 00:14:52:07
was more ETF loan outflows, retail
loan fund outflows as well.
00:14:52:07 - 00:14:57:00
Because like I said, CLOs were not the seller of BSL software loans back in February.
00:14:57:00 - 00:14:59:00
They sold on the margin in small amounts.
00:14:59:00 - 00:15:05:16
It was largely just loan outflows and more of a repricing of what bid do these loans clear at.
00:15:05:22 - 00:15:08:01
Well, look, never a dull moment.
00:15:08:01 - 00:15:10:12
There's always curveballs thrown at us.
00:15:10:12 - 00:15:15:08
And as Jim said appropriately, we're in the early innings of this market and it's balanced
00:15:15:08 - 00:15:18:16
with a very constructive market for
the vast majority of issuers.
00:15:18:16 - 00:15:21:07
So we look forward to smoother
market environments
00:15:21:07 - 00:15:23:23
and continuing discussions on the market.
00:15:23:23 - 00:15:24:23
Thank you for your time today.