Collateralised loan obligations (CLOs) have become an established part of the financial markets, providing an important source of financing for businesses and investment opportunities across different levels of credit risk.
The market has grown significantly over recent decades, with CLOs now playing a major role in financing private equity-backed companies in the US. Their portfolios typically contain a broad range of senior secured corporate loans, providing exposure to businesses across different industries.
A CLO operates by pooling loans and issuing securities with different levels of payment priority. These range from senior-rated debt, such as AAA securities, through to lower-rated debt and equity. Each level has a different risk and return profile, allowing investors to select exposure according to their investment objectives.
Income generated by the underlying loans is distributed between investors according to the priority of their securities. Senior debt holders receive payments first, while more junior investors have greater exposure to changes in portfolio performance but also have higher potential returns.
CLOs are managed by specialist investment firms responsible for selecting loans, monitoring credit quality and maintaining portfolio requirements. Diversification across borrowers and industries is an important part of the structure, helping reduce reliance on the performance of individual businesses.
The underlying loans are generally secured against company assets and commonly carry floating interest rates. Their performance is influenced by factors including borrower defaults, loan recoveries and prevailing interest rates.
Historical performance has helped support investor interest in the sector. CLO equity has delivered attractive returns across a number of market cycles, while senior-rated CLO debt has recorded a different risk profile from some other structured credit products. The distinction lies largely in the underlying assets, with CLOs typically holding diversified corporate loans rather than residential mortgage exposures.
Volta Finance Ltd (LON:VTA) is a closed-ended limited liability company registered in Guernsey. Volta’s investment objectives are to seek to preserve capital across the credit cycle and to provide a stable stream of income to its Shareholders through dividends that it expects to distribute on a quarterly basis.
