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Who Will Get Hit When Collateralized Loan Obligations (CLOs) Blow Up? Banks or Unsuspecting “Market Participants”?

Who Will Get Hit When Collateralized Loan Obligations (CLOs) Blow Up? Banks or Unsuspecting “Market Participants”?

Answers emerge from the murky business of CLOs.

There has been quite some hoopla surrounding Collateralized Loan obligations (CLOs) because the underlying leveraged loans – junk-rated loans often used by private equity firms to fund leveraged buyouts (LBO) and other high-risk endeavors such as special dividends – are now starting to come apart. There are approximately $700 billion in US-issued CLOs outstanding.

US banks hold $99 billion of these CLOs, according to S&P Global Market Intelligence. The rest are held by various institutional investors, such as insurance companies, pension funds, mutual funds, hedge funds, private equity firms, and the like. They’re also held by entities overseas, including certain banks in Japan that have gorged on these US CLOs. But that’s their problem.

One third of the CLOs in the US banking system are held by just one bank: JPMorgan Chase; and 80% of the CLOs in the US banking system are held by just three banks. But at each of these three gigantic banks, CLOs account for only 1.2% to 1.3% of total assets (total asset amounts per Federal Reserve Q1 2020):

  • JPMorgan Chase: $34.0 billion in CLOs = 1.3% of its $2.69 trillion in assets.
  • Wells Fargo: $24.6 billion in CLOs = 1.2% of its $1.76 trillion in assets.
  • Citigroup: $21.4 billion in CLOs = 1.3% of its $1.63 trillion in assets.

In 11th position down the list is the second largest bank in the US, Bank of America, with just $807 million in CLOs, accounting for barely over 0% of its $2.03 trillion in assets.

In other words, the largest four banks in the US hold $81 billion of the $99 billion of CLOs in the US banking system – but given the gargantuan size of their assets, this percentage-wise small CLO exposure is the least of their problems.

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