European collateral loan obligations (CLOs) typically benefit from portfolio diversification, from both an issuer and a sector perspective. CLO managers maintain portfolios of leveraged loans that have an average exposure to 165 different corporate issuers operating across 39 different industry categories.

In this publication, we examine the aggregate asset quality held by European CLOs, observed through key credit metrics and consolidated by S&P Global Ratings' CLO industry sectors. Specifically, this edition of sector average metrics for European CLO assets focuses on loans issued by 634 corporate issuers, which represents over 95% of the assets under management (AUM) held in reinvesting European CLOs rated by S&P Global Ratings as reported up to March 31, 2024, in the second quarter of 2024. We calculated the average metrics for all floating-rate assets with both an S&P Global Ratings' credit rating and an S&P Global Ratings' recovery rating (the S&P Global Ratings-rated CLO assets), weighted by the euro notional exposure to each asset.

European CLO Credit Stabilizes: Key Changes To Credit Metrics

Based on our review of first-quarter (Q1) 2024 data and comparing it against Q4 2024, the average reinvesting European CLO portfolio rated by S&P Global Ratings exhibited the following changes:

• S&P Global Ratings' weighted-average rating factor (SPWARF) decreased to 2,893 in Q1 2024 from 2,905 in Q4 2023. At the same time, underlying CLO loan prices continue to increase, up just slightly to 97.14 in Q1 2024 compared with 95.89 in Q4 2023 (see chart 1).
• Cash flow pressures continue at the asset level across sectors, combining weaker operating results in certain sectors and higher cost of financing. Median EBITDA interest coverage for European CLO obligors has continued to decline to the low 2.7x. The average unstressed recovery rating is predominantly '3' (50%-70%), constituting 86% of CLO portfolio assets held.
• Obligors on negative outlook, or on CreditWatch negative, increased slightly to comprise 11% of the overall portfolio holdings, as downside risks on cash flow generation increased in Europe, driven by a combination of inflation-driven margin compression, softening demand in certain sectors, and rising interest rates.

Chart 1

European CLOs Have Been Making Moves In Their Portfolios

Between July 2023 and July 2024 European CLOs have continued to modify their portfolios (both in and out of their reinvesting periods) after the price volatility and global concerns from key international events during 2022 and early 2023.

The key movers and shakers:

• Altice Europe N.V. losing second spot to Ineos Ltd.
• Peer Holding III B.V. swapping with Nidda German Topco GmbH for the number seven spot.
• IVC Acquisition Topco Ltd. moving up seven spots into the top ten.
• Big movers into the top twenty includes Cooper Consumer Health, Inspired Education Holdings Ltd., and CD&R Firefly 4 Ltd. (Motor Fuel Group).
• An increase in 'BB' rated assets and recovery rates between 55%-65%
• Increases in industries such as software and health care providers and services, while decreases in specialty retail and pharmaceuticals.
• Increases in countries such as the U.S. and Sweden, while there were decreases in Germany and Canada.

The top 50 parents of obligors in European CLOs have seen some movement and developments. The number one spot remains Liberty Global PLC, increasing its exposure to 2.85% in 339 CLO, with over €3,250 million of exposure. Ineos Ltd. has moved up to second with 1.85% in 348 CLOs, with just under €2,120 million of exposure. The big mover is Altice Europe N.V., which moved down to third (from second) as concerns grow for the Altice France S.A. and Altice France Holding S.A. (together, Altice France) part of the business being downgraded to 'CCC+/Developing' on weaker cash flow prospects and sustainability concerns, leading to many managers leaving their positions, while the Altice International S.a.r.l. part of the business has remained at 'B-/Negative', the overall exposure decreased by 0.33 percentage points to 1.65% from 1.98% in the past 12 months.

Table 1

Obligors currently rated 'B-' have seen an overall decrease of 0.67% in exposure, while those rated 'B+' and above saw an overall increase of 1.01% in exposure as different management styles play out

Looking at how ratings (based on CDO evaluator rating input) and recovery rate distribution has changed over the past year, an increase in overall credit quality is evident.

Chart 2 shows overall a slight increase in non-performing assets, a decrease of 'CCC' category and 'B-' rated assets (riskier assets) and an uptake of 'BB' assets.

Chart 2

Chart 3 shows an overall increase in recovery rates on a weighted-average basis with a migration of recoveries to 55%-70% rates from 40%-50% rates.

Chart 3

We have observed an increase in the concentration of both industry and country exposure over the past year.

Chart 4 shows that health care providers And services has continued to grow its exposure at the top spot, increasing by 0.75 percentage points to 9.42%. Software increased by 1.39 percentage points to 8.49%, and is still in second place, while the third placed diversified telecommunication services has decreased by 0.35 percentage points to 6.54%. Noticeable changes are IT services increasing by 0.33 percentage points to 2.81%, pharmaceuticals decreasing by 0.68 percentage points to 3.60%, and the biggest fall coming from specialty retail, which decreased by 1.04 percentage points to 2.59%.

Chart 4

The top 20 industries made up 88.88% of exposures in July 2024 compared with 79.82% in July 2023, a 9.06 percentage point increase. The remaining exposure comprised 40 industries in July 2024 compared with 45 in July 2023. The major movers outside the top 20 were an increase in insurance to 1.58% from 0.85% and a decrease for construction materials to 0.27% from 0.98% over the same period.

Chart 5 shows that France has reduced its exposure at the top spot, decreasing by 0.27% percentage points to 19.65%. The Netherlands' exposure increased by 0.17 percentage points to 15.16% and is still in second place, while at third place the United Kingdom's exposure increased by 0.24 percentage points to 14.86%. Noticeable changes are exposure for the U.S. increasing by 1.85 percentage points to 11.29% (going to fourth from sixth) with an increase in euro assets being issued, Germany decreasing by 0.82 percentage points to 9.49% (going to sixth from fourth), Sweden increasing by 0.45 percentage points to 6.32%, and Canada decreasing by 0.53 percentage points to just 0.26%.

Chart 5

The top 20 countries comprised 99.91% of exposures in July 2024 compared with 99.74% in July 2023, a 0.17 percentage point increase, with seven countries making up the rest of the countries in July 2024 compared with eight in July 2023.

Average European CLO 'CCC' Exposure Increases

Average European CLO 'CCC' exposure increased in Q1 2024 to 5.15% compared with 4.45% in Q4 2023. Over 26% of all European CLOs comprised on aggregate more than 7.5% exposure to 'CCC' rated obligors at the end of Q1 2024 (see chart 6).

Chart 6

However, CLO portfolio exposure to obligors on CreditWatch negative has reduced as rating actions occur. To put this into context, the average exposure levels to obligors on CreditWatch negative remains well below 1% (see chart 7).

Chart 7

Sector Averages Of Reinvesting European CLO Assets

Before diving deeper into the results of our analysis, it is worth highlighting the following caveats.

We calculated the average metrics for all floating-rate assets with both an S&P Global Ratings' credit rating and an S&P Global Ratings' recovery rating (the S&P Global Ratings-rated CLO assets), weighted by the euro notional exposure to each asset.

Our analysis of reinvesting European CLO portfolios at the end of each quarter exposure includes average values over time for key credit metrics (see table 2, as well as the Appendix for calculation specifics). Those metrics are:

• Issuer count: The obligor count across all European CLO transactions.
• SPWARF: The S&P Global Ratings' weighted-average rating factor for the CLO collateral, with a higher value indicating a lower average rating across transactions.
• WARR: The weighted-average recovery rate for the loans in the portfolios, as implied by the corporate recovery rating we have assigned to each loan.
• WAS: The weighted-average spread over Euro Interbank Offered Rate (EURIBOR) of the loans in each CLO portfolio.
• WAP: The weighted-average price of the loans in each CLO portfolio based on market sources.

Table 2

CLO Assets Weighted By Exposure

Weighted-average metrics

Our analysis focuses on a pool of loans issued by 634 corporate issuers, representing over 95% of the AUM currently held in reinvesting European CLOs that we rate. For each sector, we calculated the average metrics for all the assets that we rate, weighted by the euro notional exposure to each asset. These metrics include the SPWARF, WARR, WAS, and WAP (see table 2 and the Appendix).

Average metrics per industry

The corporate issuers operating within various industries have different credit profiles, and the loans they issue also have different characteristics. Using CLO exposures for these CLO assets, we calculated the average metrics described in the Appendix, weighted by par, across the various Global Industry Classification Standard (GICS) sectors.

Table 3

Ratings bias per GICS sector

At the end of Q1 2024, 9.47% of S&P Global Ratings-rated CLO assets had a negative rating bias (i.e., ratings from issuers with a negative outlook, or on CreditWatch negative), down from 9.93% at the end of 2023. We also examined the breakdown between negative bias, positive bias, and stable for 24 GICS sectors, each weighted by euro notional exposure (see chart 8). The bias breakdown per GICS sector can be sensitive to the rating bias of the issuers with higher CLO exposure, particularly the GICS sectors with fewer obligors.

European CLO key metrics

Our "Weekly European CLO Update," covers all currently S&P Global Ratings' rated European CLOs, including those that are in their reinvestment period. We refresh the rating actions and benchmarks weekly to provide an update of the European CLO market.

Our EMEA CLO Collateral Managers Dashboard is a single snapshot view of CLO-critical credit risk factors where you can examine, compare, and benchmark individual S&P Global Ratings' rated European CLOs.

https://www.spglobal.com/ratings/en/research-insights/topics/powerbinew

Appendix

The scope: S&P Global Ratings-rated CLO assets, representing 95% of AUM in reinvesting European CLOs

The information is based on the aggregation of CLO exposures to corporate issuers as reported in the Q1 2024 trustee reports of reinvesting European CLOs.

S&P Global Ratings' corporate group issues and maintains credit ratings for most companies that issue the loans held in CLOs. As part of our credit rating process, we capture various ratios of the issuer at the time of the rating. We also issue and maintain recovery ratings for most loans held in CLOs.

Almost all the companies that issue loans held in European CLOs are classified within the GICS. These industry classifications are utilized within the CDO Evaluator credit model, which we use as part of our rating process for CLOs.

We aggregate CLO exposures reported in trustee reports available as of the end of Q1 2024 and calculate various metrics, weighted by the outstanding par amount of exposures and stratified by the GICS classification of the issuer of the loans. Our analysis focuses on those assets with an S&P Global Ratings' credit rating and an S&P Global Ratings' recovery rating. These CLO assets were issued by 634 corporate issuers operating across various GICS industries and represent over 95% of the total par of the CLOs aggregated in this Q1 2024 update. We used the credit rating, recovery rating, spread, price, and leverage ratio values of these floating-rate CLO assets to calculate the averages outlined in tables 1 and 2.

The seven metrics we use in our analysis are listed below.

Weighted-average life (WAL)

For a subset of assets, the WAL is the sum product of each asset's term to maturity and the asset's par exposure as a percentage of the sum of the par of the subset of assets.

S&P Global Ratings' weighted-average rating factor (SPWARF)

The SPWARF of a CLO portfolio provides an indication of the portfolio's overall credit rating distribution, weighted by each asset's par balance. The rating factor for each of the portfolio assets is determined by S&P Global Ratings' credit rating (or implied rating) and the rating factor. (An individual asset's S&P Global Ratings' rating factor is the five-year default rate, given the asset's S&P Global Ratings credit rating and the default table in the corporate CDO criteria, multiplied by 10,000.) The SPWARF is calculated by multiplying the par balance of each collateral obligation by the S&P Global Ratings' rating factor (including exposures to issuers with a 'CC', 'SD', or 'D' rating, each with a rating factor of 10,000), then summing the total for the portfolio and dividing this result by the aggregate principal balance of the collateral obligations included in the calculation.

Weighted-average recovery rate (WARR)

For a subset of assets with an S&P Global Ratings' recovery rating, the WARR is the sum product of each asset's recovery rate (the number within parenthesis to the right of the recovery rating) and the asset's par exposure as a percentage of the sum of the par of the subset of assets. For more details on S&P Global Ratings' recovery ratings, see "Recovery Rating Criteria For Speculative-Grade Corporate Issuers," published Dec. 7, 2016.

Weighted-average spread (WAS)

For a subset of floating-rate assets, the WAS is the sum product of each asset's nominal spread above the base rate and the asset's par exposure as a percentage of the sum of the par of the subset of assets.

Weighted-average price (WAP)

For a subset of assets with loan prices, the WAP is the sum product of each asset's price at the end of the quarter and the asset's par exposure as a percentage of the sum of the par of the subset of assets. Where we have no loan price, we assumed par at 100.

On CreditWatch negative

For those assets with a rating on CreditWatch negative, the CreditWatch negative percentage of assets is a proportion of the total CLO par amount considered in this analysis. This is also split per GICS sector (see table 2) as a total sum of the par of CLO GICS sector assets.

With a negative outlook

For those assets with a negative outlook, the outlook percentage is a proportion of the total CLO par amount considered in this analysis. This is also split per GICS sector (see table 2) as a total sum of the par of CLO GICS sector assets.

Debt-to-EBITDA ratio

The leverage is based on our debt and EBITDA assumptions used in our rating analysis:

• Debt: For the purpose of debt, we include items such as leases (both capital and operating), preferred shares (if deemed as debt-like), and accrued dividends.
• EBITDA: Our analysis generally adheres to what EBITDA stands for (earnings before interest, taxes, depreciation, and amortization). That is, revenue minus operating expenses plus depreciation and amortization, including noncurrent asset impairment and asset reversal.

Beyond that definition, our decision to include or exclude an activity from EBITDA depends on whether we consider that activity to be operating (e.g., acquisition-related or restructuring costs) or nonoperating (e.g., asset impairment or non-recurring items).

We generally calculate a company's credit ratios based on a three-year weighted average: the previous one year's results, our current-year forecast (incorporating any reported year-to-date results and our estimates for the remainder of the fiscal year), and our forecast for the next fiscal year. We apply weights to the core and supplemental ratios for the respective years to get to one final ratio for each metric. The length of the time series applied is dependent on the relative credit risk of the company and other qualitative factors, and the weighting of the time series varies according to transformational events.

For a subset of floating-rate assets, the debt-to-EBITDA ratio is the sum product of each asset's obligor nominal debt-to-EBITDA ratio and the asset's par exposure as a percentage of the sum of the par of the subset of assets.

Interest coverage ratio

For entities with weaker leverage assessments, interest coverage ratios can also shed light into the issuer's ability to service its debt.

We use the EBITDA value, as described above, divided by the carrying cost, or interest burden of the issuer's debt.

For a subset of floating-rate assets, the EBITDA interest coverage ratio is the sum product of each asset's obligor nominal EBITDA interest coverage and the asset's par exposure as a percentage of the sum of the par of the subset of assets.

Data coverage of the floating S&P Global Ratings-rated CLO assets listed in tables 2 and 3

Because we focus only on S&P Global Ratings-rated CLO assets (which represent over 95% of the overall AUM in the sample), by definition, we have full coverage of the data used to calculate the SPWARF, WARR, and WAS in tables 2 and 3. Credit ratings, recovery ratings, and spread information for all loans issued by the 634 issuers are as of March 31, 2024, and each quarter-end in table 2.

Due to various data source limitations, we had inadequate coverage of the price and leverage ratios for all the loans issued from all issuers. We were able to source pricing information for 99% of the loans and corporate leverage ratio information for 93% of the loans.