The American Dream - CLOs baby

Thank you!

🤝

Thanks brother

Basically just buying a portfolio of say 500mm non-IG loans (floating rate so pays SOFR + a spread) which is actively managed and financing it with about 450mm (90%) of debt. Majority of debt financing (also floating rate) is AAA but there are several tranches usually down to BB or sometimes a B tranche, lower rated tranches are more at risk of not being fully repaid but they also get higher levels of return. The other 50mm (10%) comes from an equity investor who has the benefit of the excess spread between what the loan assets pay and what the debt financing costs. e.g. your loan assets pay SOFR + 325 minus the WACC of your debt financing is SOFR + 200, therefore you earn +125bps of excess spread across the whole 500mm of collateral, plus you earn SOFR rate on your 50mm equity investment. Math works out that equity investor gets SOFR + (125bps * 10) = SOFR + 12.5% for taking this equity tranche.

This doesn’t account for any defaults which will reduce this return as the equity tranche absorbs all the losses first before it begins to hit the debt tranches. Also loans often prepay early so managers reinvest which can change returns too but yeah that’s a simple way to think about it.

Definitely not an expert yet but happy to answer any other questions