CLO Investor Appetite Shifts Toward Refinancings Amid Price Dislocation and Spread Volatility 

Following a prolonged stretch in which resets dominated the U.S. BSL CLO primary market, investor appetite has shifted toward refinancings driven by a convergence of geopolitical conflicts, sticky inflation, and socioeconomic concerns surrounding AI disruption.

As of May 28, CLO refi volume has reached $47.8 billion year to date, up 8.4% year over year, while resets have contracted 11.22% and new issuance has grown just 1.45%, according to Octus CLO data.

“A refinancing allows for a shorter spread duration and a shorter maturity, which translates to a tighter bid,” said Laila Kollmorgen, global head of CLO tranche investments and portfolio manager at PineBridge Investments.

The typical pricing pattern pivoted, however, during the brief primary market dislocation in April.

As shown in the U.S. primary triple-A spread chart below, refis priced significantly tighter than both new issue and resets earlier in the year, nearly 20 bps inside new issues and 17.5 bps inside resets in February.

However, as the Middle East conflict escalated, spreads began to converge in March, and by April the dynamic briefly inverted, with refis pricing 4 bps wider than new issue and 3.7 bps wider than resets before recovering to tighter levels in May.
 

The same pattern played out at the double-A and single-A levels, with the dislocation hitting earlier further down the capital stack. As of late May, neither tranche has fully reversed the dislocation, with refi spreads remaining wide of new issues and resets.
 

CLO secondary pricing offers a parallel lens on the dislocation. Triple-A secondary spreads tightened 7 bps during April, according to Palmer Square CLO Senior Debt Index, or CLOSE, while refi triple-A spreads widened 10 bps over the same period.

“Triple-A refis and triple-A secondary paper typically trade in a very tight range,” said Jamie Flannick, CLO research analyst at Deutsche Bank. “However, over the last month or two following the market volatility surrounding the Middle East conflict, refis have been trading significantly wide of secondary paper.”

Secondary began to recover roughly two weeks into the conflict on expectations of a quick resolution, Flannick noted, while primary lagged, as bids are typically locked in in advance of the primary pricing.
 

“This divergence created a compelling arbitrage opportunity for investors, driving capital into triple-A refis and pushing refi volume exceptionally higher over the last two months as relative value shifted toward that side of the market,” Flannick added. The demand surge also partially explains why refi triple-A spreads have compressed back to a tighter range in May.

PineBridge’s Kollmorgen told Octus that she has favored a lot of refis for their shorter spread durations, as they allow more protection against market volatility than equivalent positions in longer-dated resets or new issues.

“For example, if spreads widen by 100 bps, we aren’t going to get clobbered by a 9-point drop in a longer new-issue triple-B or double-B tranche,” Kollmorgen said. “Instead, we might just see a 5-point price drop.”

The refi wave, however, is not purely a relative value story. 2024 vintage CLOs, which are the largest cohort exiting noncall periods this year, carry structural constraints that make a full reset difficult for many managers to execute.

David Schiffmann, managing director and head structurer on Bain’s liquid and structured credit team, told Octus that 2024 was a year in which third-party equity investors largely came back to the market after pulling back in 2022 and 2023, and therefore many CLOs issued in the first half of 2024 have their equity still held and controlled by these third parties.

“These investors are less likely to inject fresh capital than CLO managers,” Schiffmann noted. “It is either because they have no cash left in their funds, or their strategies have changed.”

Meredith Lynch, CLO portfolio manager at Barings, noted that some of its third-party equity investors have opted to call deals outright during a reset evaluation, attributing such a reluctance to fund a reset partially to the challenging equity arbitrage.

“There is a significant bifurcation in the loan market, and the discounts on the asset side are concentrated in more stressed sectors like technology, housing, or triple-C rated credits,” Lynch said. “When you are ramping up a higher-quality portfolio, the weighted average purchase price of the assets is still around 99.5 to 99.75, but the modeled equity return can be quite thin.”

Executing a reset and extending the reinvestment period typically requires topping up the portfolio by adding more collateral and cleaning up the portfolio through selling distressed assets. This often necessitates injecting some new capital into the structure via additional issuance of equity or the issuance of X notes.

“When choosing to pursue a reset versus a refi, it is important to look at which option is more accretive to the equity or results in the highest [internal rate of return] when running the model,” Bain’s Schiffmann said. “If the reset is the best choice, then is there a need for capital to be injected to pursue it? And if so, does the equity holder, being either CLO manager itself or third-party holder, have the required funds to execute it? “

For deals in which managers retain the majority of the equity themselves, the preference is clear in principle if not always in practice.

Kollmorgen told Octus that every manager ultimately wants to reset rather than refi and that choosing the refi route means the only thing managers can do to improve equity returns is to lower the cost of liabilities.

“We are cognizant that a manager will choose to refi either due to challenging market conditions or because the underlying portfolio itself is challenged,” Kollmorgen said. “For us, it ultimately comes down to the underlying credit quality of the portfolio and the manager. We underwrite our portfolios so that we feel comfortable about the risk we are adding, regardless of where we sit in the capital stack.”

Kollmorgen added that the firm is closely monitoring negative catalysts that could widen spreads.

“We anticipate wars to be expensive and put pressure on government borrowing, which will raise the back end of the yield curve. Meanwhile, data centers are borrowing in the middle part of the curve,” Kollmorgen said. “Therefore, we see a lot of pressures and they all point to higher yields, regardless of which part of the interest curve you are.”

Schiffmann noted, however, that while the absolute level of inflation and the rate environment affect credit risk on the CLO underlying assets, they generally do not affect refi economics.

“CLOs and CLO equity are an arb product where the loans in the underlying portfolio and the liabilities are both floating-rate assets, so the driver of returns for a vehicle already outstanding lies within the difference in spreads between the portfolio and the cost of liabilities,” Schiffmann said.

The real driver of refi economics, he added, is the amount of spread savings achievable on the capital structure and how long it takes to cover the expenses of executing the refi, which is colloquially referred to as payback period. “Looking at deals that were issued in the first half of 2024 and that are candidates for refi now, the weighted average spread reduction on the liability stack is around 30 to 35 bps.”

In a normal credit environment where the credit curve and term structure are not inverted, Schiffmann noted, refis generally deliver a higher spread reduction and a lower cost of capital than resets. Besides the tighter bid that comes with a refi’s shorter duration, a refi can be executed partially on the capital structure, whereas a reset must retire all existing debt, and new notes issued in connection with a reset could price at wider spread levels.

“That said, resets benefit from the extension of the reinvestment period, leading to the deal staying levered for a longer total period of time, which counteracts the smaller spread savings,” Schiffmann said. “It is safe to assume that if a deal is being reset, it means the overall economics of the reset are better than if the transaction were to proceed only with a refi.”

“CLO arbitrage has been squeezed for some time, and that doesn’t seem to be going away anytime soon, even during market volatility like this,” Deutsche’s Flannick said.

The arb squeeze reflects a persistent imbalance between supply and demand in the underlying loan market. Leveraged loan new issuance dropped 44% in the first quarter, with the share of double-B-rated new issuers contracting 19% and single-B-rated issuers now representing 85% of new issuers year to date, according to S&P Global Ratings. The backdrop of this is robust demand, with 357 likely warehouse vehicles and 164 open facilities currently recorded in the United States.

Loan repayment activity has slowed in tandem. The three-month annualized rate fell 4% as of April end, while the one-month annualized rate dropped 7%, according to Deutsche Bank.
 

Loan issuer fundamentals, by contrast, have improved on the margin. As shown in the charts below, cash flow metrics, according to S&P, have strengthened for both the broad leveraged loan universe and the B- and lower-rated cohort, with growth and repricings supporting interest coverage recovery. Even so, the share of issuers with a reported EBITDA-to-cash-interest coverage ratio under 1.2x still remains 4.6 percentage points above the 2022 level.
 

 

CLO collateral metrics tell a more cautious story. With the exception of the weighted average portfolio price, which has recovered from the February and March volatility but remains below its January level, weighted average spread, junior overcollateralization cushions and par value have all trended lower since the third quarter of 2025, as shown in the chart below.
 

Kollmorgen offered a constructive read on the decline in portfolio asset value. “Equity investors want to call a deal when they can get the most attractive return on the [principal-only, or PO,] side, which is only possible when loan prices are high,” she said. “With loan prices at where they are now, managers are looking to refi and reset in the hope that the portfolio will trade at a higher price in the future.”