Spotlight on CLOs - March 2023

European ABS proved to be a valuable allocation for fixed income investors last year and we think the asset class looks to be even stronger in 2023, with rates and spreads combining to create an attractive income landscape.

CLOs, a key component of the European ABS market, were one of our top sector picks for the year ahead and with them having lagged the wider market rally year to date, we believe they continue to look particularly undervalued compared to other areas of fixed income. For example, BB CLOs can give investors approximately 500bps more spread than comparable high yield bonds, which is significantly more than the average long term premium of 340bps that they have traded at.

Whilst we do think that this will be the first year since the global financial crisis where we see a more textbook weakening in fundamental performance, we expect the defensive characteristics of the asset class will come to the fore. The way CLOs are structured means that they are designed to withstand very tough conditions, as can be seen by the fact that default rates throughout the global financial crisis were amongst the lowest within fixed income.

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