France Sovereign Downgrade Spurs Doc Loosening in European CLOs

European CLO managers including Arini, Bain Capital, Oaktree and Redding Ridge have relaxed their approach to country rating limits since S&P Global downgraded France to A+/A-1 from AA-/A-1+ on Oct. 17.

Octus has gathered a unique dataset combining portfolio profile test language of around 200 European CLOs that were closed in 2025 with the deals’ French exposure, estimated by summing up the par value of holdings according to Octus’ database, based on the managers’ most recent trustee reports. The dataset can be downloaded HERE.

Average exposure to French debt among European CLOs within their reinvestment period is 18%, according to S&P. Around 22% of the deals have exposure above 20%.

Before the downgrade, around a third of the CLOs analyzed by Octus had to comply with a “domicile of obligor” test that limited their total exposure to countries rated below AA- by S&P to 20%. This language has since disappeared from European CLO documentation.

 

Source: Typical pre-downgrade deal language taken from CLO documentation for Arini European CLO V. The table contains the name of each test, the minimum threshold (N/A for the domicile tests) and the maximum threshold.

“I don’t make my judgement by the ratings of a single country,” said a CLO manager who changed their doc language. “We are vigilant about the businesses that we have in France, and we are trying to make sure that we don’t depend on too much government spending.”

Several managers either lowered their country ratings threshold or switched from limiting aggregate exposure to restricting single jurisdiction exposure. In some cases, the language in new issues reflects a change from the manager’s previous practice. In other instances, managers changed the portfolio profile test of existing deals during a reset.

These managers are not necessarily those with the most French loans in their books – Arini and Redding Ridge both had low exposure and some of the strictest portfolio profile tests in deals closed before the downgrade.

But several CLO managers told Octus that they want to be prepared for potential further sovereign downgrades in Europe.

“With the France downgrade and the state that the U.K. is in, things could get hairy for CLOs,” one CLO manager with low exposure and plans to issue future deals with more flexible language said. “We’re just trying to make docs a little more flexible, even though we have a bit of room.”

Arini

Arini’s seventh new issue, closed last week, allowed up to 15% exposure in total to countries rated below A- by S&P.

The manager previously had one of the strictest approaches to the obligor domicile test with 20% aggregate exposure to countries rated below AA- and separate thresholds for lower ratings.

The CLOs it closed earlier this week, the reset of Arini European CLO I and the new issue CLOs V and VI, all had less than 15% of French debt in their portfolios at their latest reporting date.

A spokesperson for Arini declined to comment.

Bain

Documentation for the reset of Bain Capital Euro CLO 2024-1, closed in late October, permits up to 30% exposure to countries rated below A- and up to 10% below BBB-.

Portfolio profile test details vary between other deals Bain closed this year, but the recent reset contains the largest bucket for sub-A- debt in any CLO analyzed by Octus.

Bain had between 17.79% and 20.21% French exposure in deals closed this year, according to Octus data.

A spokesperson for Bain declined to comment.

Oaktree

Oaktree introduced stricter thresholds, but relaxed the calculation method for the portfolio profile test.

The reset of Arbour CLO IV, closed in early November, limited exposure to each country rated below AA- to 20%, and each country rated below A- to 15%. According to Octus data, Arbour IV had a little over 20% of French exposure.

The manager’s earlier CLOs this year only restricted exposure below an A- rating to 15%, but counted all countries in aggregate rather than on a single-sovereign basis. These deals, Arbour CLOs V, XII and XIV, had between 19.33% and 20.36% French exposure, according to Octus data.

A spokesperson for Oaktree declined to comment.

Redding Ridge

Two recent resets closed by Redding Ridge, RRE 1 and RRE 2, limited the aggregate exposure to countries rated below A- to 20%. The deals had no other thresholds for obligor domiciles with regard to their S&P rating. The reset of RRE 1 was closed a few days before the downgrade.

At least eight of the European deals issued by the manager earlier this year had a staggered approach, requiring aggregate exposure of no more than 20% below AA-, 15% below A-, 10% below BBB- and 5% below BB-.

All of the deals closed by Redding Ridge this year had a French exposure below 17.5% as of their latest trustee reports.

A spokesperson for Redding Ridge declined to comment.

Outside of a reset, managers typically have the option to amend the test language on existing deals subject to ratings agency confirmation and potentially controlling class approval. Octus’ data does not reflect these changes.

Investors appear to accept modifications to the portfolio profile test as a necessity. However, even if managers are simply moving toward the more flexible end of the existing range of documentation, this trend means a long-term loosening of covenants because of short-term pressures.

“We want to give managers the flexibility they need to do their job well,” said Michelle Manuel, co-portfolio manager of Investec’s CLO tranche investments, “but we have to be mindful that any concessions we make today will be extremely difficult to reverse later, even if they’re no longer appropriate. Once something becomes standard in documentation, it’s hard to claw back.”

If a CLO fails its portfolio profile test, the manager has to maintain or improve its composition with each trade. This means that surplus French debt can remain in the book without forced sales or haircuts.

Investors told Octus anecdotally that some managers sold debt from lower-rated countries and increased their lending to U.K. and U.S. companies.

So far, market sources said they have seen neither a broad sell-down nor significant price deterioration in French debt.

“The French loans that traded down so far, they traded down for business reasons, not because France has been downgraded,” said Gauthier Reymondier, head of European liquid and structured credit strategies at Bain Capital.

Low Threshold, High Exposure

Some managers whose documentation was already flexible enough to accommodate the downgrade did not change their approach to the portfolio profile test with recent deals. However, some of these managers have particularly France-heavy portfolios.

Out of all the CLOs closed this year, the three issued by Bridgepoint had the highest exposure to French debt, led by the reset of Bridgepoint CLO IV with 32.51% in Octus’ estimate.

Documentation for all three deals only limits the concentration of loans from countries rated below A- by S&P to 20%.

A spokesperson for Bridgepoint declined to comment.

Since Octus’ portfolio data stems from the managers’ most recent trustee reports, some of it may not accurately reflect current holdings.

For example, the data shows three Signal CLOs as breaching their – relatively strict – test, but a source close to the manager said that the deals will be compliant with French exposure below 20% by the time of Signal’s next report.

The broadly syndicated loans that make up CLO portfolios are typically sub-investment grade. Even a downgraded France is still rated several notches higher than most of the loans CLO managers and their investors are comfortable with.

A government’s budget deficit does not automatically make domestic companies less likely to repay their debt. Most market participants differentiate between global companies with headquarters in France and genuinely domestic firms.

“I certainly care about the exposure to France in general, but it really depends on specific names,” a CLO tranche investor told Octus. “Something that is 100% in France and related to government subsidies or regulations [such as labs, care homes or real estate] is going to be a higher concern than something that is French but more diversified geographically by location or supply chain.”

One CLO manager told Octus that their portfolio with French exposure in the mid-20s included around 15% French companies with domestic-on-domestic risk and less than 10% that are reliant on the state.

Fitch and Moody’s

Depending on who rated the CLO, portfolio profile tests typically consider sovereign ratings of two ratings agencies out of S&P, Moody’s and Fitch.

Deals rated by Fitch usually permit up to 10% exposure to jurisdictions with a country ceiling below AAA in Fitch’s methodology. In September, Fitch downgraded France’s long-term foreign-currency issuer default rating to A+ from AA- with a stable outlook. However, the country ceiling remained AAA.

For deals rated by Moody’s, the most common limit is 10% exposure to countries with a ceiling rated between A1 and A3. Moody’s changed the outlook on France to negative from stable in late October while affirming the country’s long-term issuer rating at Aa3. France’s local and foreign currency ceilings remained at Aaa.

Neither ratings action affected CLOs.