FSB Report Studies Vulnerabilities Related to Leveraged Loans and CLOs
FSB published a report that assesses the financial stability implications of developments in the leveraged loan and collateralized loan obligations (CLO) markets. The report first provides an overview of the leveraged loan and CLO markets and describes recent developments in these markets. It then discusses the potential vulnerabilities inherent in leveraged lending and the securitization of these loans, before finally assessing the possible financial stability implications. The report provides a global perspective by combining available data and analyses from FSB members.
Markets for leveraged loans and CLOs have grown significantly in recent years, with the majority of issuance concentrated in the U.S. and to a lesser extent the in EU. The securitization of leveraged loans through CLO issuance, which had come to a halt almost entirely between 2009 and 2010, exceeded the pre-crisis levels in 2014 and has remained strong since then. While most leveraged loans are originated and held by banks, and banks have the largest exposure to the market, the role of non-bank financial institutions has increased. The report concludes that:
- Vulnerabilities in the leveraged loan and CLO markets have grown since the global financial crisis. Borrowers’ leverage has increased; changes in loan documentation have weakened creditor protection; and shifts in the composition of creditors of non-banks may have increased the complexity of these markets.
- Banks have the largest direct exposures to leveraged loans and CLOs. These exposures are concentrated among a limited number of large global banks and have a significant cross-border dimension.
- A number of non-bank investors, including investment funds and insurance companies, are also exposed to the leveraged loan and CLO markets.
- Given data gaps, a comprehensive assessment of the system-wide implications of the exposures of financial institutions to leveraged loans and CLOs is challenging.
As at December 2018, banks have the largest direct exposure to leveraged loans and CLOs. This is not surprising, as banks fulfill various roles in, and are a critical component for the functioning of, these markets. Both public and supervisory data indicate that banks’ exposure to leveraged loans and CLOs is highly concentrated in a limited number of global systemically important banks (G-SIBs). According to supervisory data, as of end 2018 banks in the Euro Area, Japan, UK, and U.S. are estimated to have direct exposures of nearly USD 1.368 trillion to leveraged loans through credit facilities, typically in the form of drawn and undrawn revolvers. Of this amount, USD 760 billion is held by U.S. banks, USD 348 billion by Euro area banks, USD 140 billion by Japanese banks, and the remaining USD 120 billion by UK banks.
Using supervisory and market data, the report identifies the direct holders of roughly 79% of leveraged loans and 86% of CLOs. Little is known, however, about the direct exposures of certain non-bank investors to these markets. Including their holdings of lower-rated CLO tranches. FSB will consider whether there is scope to close data gaps, will continue to analyze the financial stability risks, and will discuss the regulatory and supervisory implications associated with leveraged loans and CLOs.
Related Links
Keywords: International, Banking, Insurance, Securities, G-SIB, Financial Stability, Leveraged Lending, Collateralized Loan Obligations, FSB
Previous Article
FED Revises and Extends for Three Years Reporting Form FR Y-9CRelated Articles
NGFS Seeks Public Feedback on Climate Risk Assessment Scenarios
The Network for Greening the Financial System (NGFS) launched its first user feedback survey on climate scenarios, with the feedback period ending on February 27, 2023.
EBA Launches Stress Tests for Banks, Issues Other Updates
The European Banking Authority (EBA) launched the 2023 European Union (EU)-wide stress test, published annual reports on minimum requirement for own funds and eligible liabilities (MREL) and high earners with data as of December 2021.
EBA Proposes Standards for IRRBB Reporting Under Basel Framework
The European Banking Authority (EBA) proposed implementing technical standards on the interest rate risk in the banking book (IRRBB) reporting requirements, with the comment period ending on May 02, 2023.
FED Issues Further Details on Pilot Climate Scenario Analysis Exercise
The U.S. Federal Reserve Board (FED) set out details of the pilot climate scenario analysis exercise to be conducted among the six largest U.S. bank holding companies.
US Agencies Issue Several Regulatory and Reporting Updates
The Board of Governors of the Federal Reserve System (FED) adopted the final rule on Adjustable Interest Rate (LIBOR) Act.
ECB Issues Multiple Reports and Regulatory Updates for Banks
The European Central Bank (ECB) published an updated list of supervised entities, a report on the supervision of less significant institutions (LSIs), a statement on macro-prudential policy.
HKMA Keeps List of D-SIBs Unchanged, Makes Other Announcements
The Hong Kong Monetary Authority (HKMA) published a circular on the prudential treatment of crypto-asset exposures, an update on the status of transition to new interest rate benchmarks.
EU Issues FAQs on Taxonomy Regulation, Rules Under CRD, FICOD and SFDR
The European Commission (EC) adopted the standards addressing supervisory reporting of risk concentrations and intra-group transactions, benchmarking of internal approaches, and authorization of credit institutions.
CBIRC Revises Measures on Corporate Governance Supervision
The China Banking and Insurance Regulatory Commission (CBIRC) issued rules to manage the risk of off-balance sheet business of commercial banks and rules on corporate governance of financial institutions.
HKMA Publications Address Sustainability Issues in Financial Sector
The Hong Kong Monetary Authority (HKMA) made announcements to address sustainability issues in the financial sector.
