Via Zerohedge

The US Collateralized Loan Obligations (CLO) market appears to be in a slump thanks in large part to a pullback from Japanese institutional demand, Bloomberg reported, citing sources. 

Japnese banks have been significant buyers of CLOs in the last several years, and many were forced to take on more risk in search of yield to cover rising hedge costs as the USD yield curve flattens late in the cycle. 

Alarmingly, we noted as early as Monday that risky CLO securities netted investors 10% through June. But through the end of October, most of the gains were wiped out. 

One of the reasons behind the slump is becoming more evident by the day, and that’s because one of the largest buyers of CLOs has become more selective about purchasing credit products in the last several months.

Norinchukin Bank, Japan’s major agricultural bank, owns a whopping $73 billion of CLOs as of June, has been recently thinning its positions. 

Norinchukin has become one of the largest buyers of the $750 billion global CLO market.

Bloomberg recently reported that the agriculture bank started to decrease CLO purchases in Q2 after Japanese authorities tightened financial regulations. 

“The drop in Norinchukin’s exposure was due to the volume of products maturing exceeding the amount of purchases during the quarter, at a time when there was a lack of attractive new deals,” the sources told Bloomberg.

Sources also said the bank’s CLO buying spree has likely slowed for now — mostly because its $586 billion asset portfolio has a 13% total exposure to risky credit. 

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Norinchukin’s massive CLO purchases have been critical drivers in the US and European CLO markets in the last year. 

Sources said the bank saved the US leveraged loan market from completely seizing up in December 2018.

Norinchukin’s reduced CLO purchases and the risk of a global recession in 2020, could be some of the reasons why monthly returns of US double-B CLO bonds have plunged. 

Also, Norinchukin’s pullback in CLO demand could be another reason why CLO new insurances dropped in Q3.

Between the chaos in the repo markets, now tamped down by the promise of endless liquidity from NYFRB, and the ongoing scare in the critical-for-junk-demand CLO market is mainly due to the world’s CLO whales [Japanese banks] pulling back on purchases. These banks own 15% of outstanding CLOs globally. 

Is a Japanese tsunami out of CLOs nearing?