A Benchmark for Collateralized Loan Obligations
77 Pages Posted: 9 Jan 2021 Last revised: 18 Dec 2023
Date Written: December 13, 2023
We build a benchmark for AAA-rated tranches of Collateralized Loan Obligations (CLOs) using Business Development Companies (BDCs), which hold a diversified portfolio of loans as CLOs do. BDCs are publicly listed, and their share price, equity volatility, and borrowing cost can be easily obtained. Applying a structural model to BDCs, we extract market-implied correlation in their loan portfolio, compare spreads on CLO tranches and BDC-implied benchmark, and find that observed large credit spreads on CLO senior tranches after the financial crisis are a fair reflection of the systematic risk of correlated loan defaults.
Keywords: Corporate credit spreads, Structural credit risk models, the Merton model, Fixed income asset pricing
JEL Classification: G12, G13
Suggested Citation: Suggested Citation