CLO Trading and Collateral Manager Bank Affiliation

This paper investigates whether the type of institutional affiliation of a collateralized loan obligation (CLO) manager influences the manager’s access to information and risk appetite. We base our investigation on CLO managers’ trading of distressed loans. Our findings reveal that CLO managers affiliated with banks start to sell off their positions in loans arranged by their bank well before the onset of default and continue to do so even after default. In contrast, CLO managers affiliated with nonbanks do not lower their credit exposures to distressed loans. These findings are consistent with bank-affiliated CLO managers having access to private information but also being more concerned to mitigate the reputational risk exposure of their banking organization. On close inspection, we find that reputational concerns are a significant factor in the decision to divest defaulted loans. Although the value of private information after default is moot, we find that bank-affiliated CLO managers are significantly more averse to holding their own arranged problem loans than holding distressed loans arranged by unaffiliated banks. Besides helping us understand CLO managers’ trading activities, our findings also highlight a potential limit to banks’ ability to originate loans and distribute them via their affiliated CLOs.