Investors look for opportunities to generate returns and accumulate wealth with their assets. While stocks and real estate are two popular types of assets, some investors are looking into collateralized loan obligations, or CLOs. These assets reward investors when corporations make monthly loan payments.
CLOs tend to have higher yields than most stocks and corporate bonds, due to the underlying loans’ credit risk, and they’ve traditionally been the purview of big institutional investors. Over the long term, CLO tranches (groups of interest-paying bonds) have performed well overall compared with some other corporate debt categories.
Fledgling collateralized loan obligation exchange-traded funds, or ETFs, have been taking off in recent years, making these sophisticated investments more accessible. The Janus Henderson AAA CLO ETF (ticker: JAAA), one of the “veteran” ETFs at nearly 3 years old, has $3.7 billion in assets under management, or AUM.
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Firms like VanEck and BlackRock have also entered the industry and released their own CLO ETFs, launched in 2022 and 2023, respectively. Those funds have a combined $160 million in AUM and feature high yields.
CLOs carry some risk, especially those focused on non-investment-grade borrowers. And tying money up in a fund that has lower assets and is less liquid can make it harder to sell that position to access the cash. ETFs are one way to diversify and bring risk down, but investors should always do their due diligence before hopping on investment trends.
That said, here’s a brief introduction to how collateralized loan obligations work, with some CLO ETF ideas to consider:
| CLO ETF | 30-Day SEC Yield | YTD return |
| VanEck CLO ETF (CLOI) | 6.4% | 4.7% |
| AXS First Priority CLO Bond ETF (AAA) | 6.2% | 3.9% |
| Janus Henderson AAA CLO ETF (JAAA) | 6.5% | 3.8% |
| Janus Henderson B-BBB CLO ETF (JBBB) | 8.5% | 8.9% |
| BlackRock AAA CLO ETF (CLOA) | 6.7% | 4.7% |
What Is a Collateralized Loan Obligation?
While collateralized loan obligation ETFs are new, the CLO as a financial instrument has been around for decades. According to S&P Global, “Collateralized loan obligations have performed well since their inception nearly 30 years ago and are a core asset class within structured finance, connecting investors around the globe with companies in the leveraged finance and private credit markets.”
Collateralized loan obligations reward investors as firms pay off their debt. These assets also cater to investors seeking portfolio diversification. Instead of relying on one company to make monthly loan payments, many CLOs give investors exposure to debt from more than 100 companies. Just as a stock ETF gives you exposure to many stocks, CLOs give you exposure to many corporate loans.
Collateralized Loan Obligation vs. Collateralized Debt Obligation
If collateralized loan obligations sound familiar, you may be thinking about collateralized debt obligations, or CDOs, an asset that was mentioned often in the 2015 film, “The Big Short.” As explained in the movie, collateralized debt obligations inflated the housing bubble in the early 2000s and contributed to the Great Recession.
Can investors trust an asset like CDOs, and how do they differ from CLOs? Collateralized debt obligations are securities that contain individual loans and other CDOs. The issue with CDOs leading up to the Great Recession was that many of them included subprime mortgages. When borrowers couldn’t pay their subprime mortgages, many CDOs collapsed.
Collateralized loan obligations give investors exposure to leveraged loans. These loans are like high-yield bonds and get paid by large corporations. While CLOs rely on multibillion-dollar corporations to cover loan payments, some CDOs rely on consumers to cover mortgage payments. The latter faced struggles as subprime mortgage payments became unfeasible because the loan requirements attracted borrowers who couldn’t afford the monthly mortgage payments.
Leveraged loan issuers have priority over bonds if a company goes bankrupt. The leveraged lender can receive appropriate assets to cover the loan’s balance before bondholders receive compensation.
CLOs have lower credit risk and typically have higher-quality borrowers than CDOs. These differences make CLOs more resilient to economic uncertainty than CDOs.
5 CLO ETFs That Reduce Risk
Collateralized loan obligation ETFs minimize the risk of traditional CLOs. While a CLO gives you exposure to more than 100 corporate loans in some cases, CLO ETFs give you exposure to several CLOs. Investors looking for high yields and reduced risk may want to consider these CLO ETFs:
VanEck CLO ETF (CLOI)
The VanEck CLO ETF invests in some of the top leveraged bonds. In addition, 82.1% of the fund’s assets are allocated toward AAA-grade CLOs. AAA is the highest possible grade for a CLO and indicates very little risk. Plus, 10.6% of the fund’s assets are in AA-rated CLOs, and 2.2% are invested in A-rated CLOs. Finally, 5.1% of the fund’s CLOs are not rated.
The average annualized yield to maturity for the ETF’s CLOs is 6.5%. CLOI has generated a 4.7% year-to-date return as of Aug. 22, and it has a 0.4% expense ratio. The fund was launched on June 21, 2022, and it has $119.3 million in assets under management.
AXS First Priority CLO Bond ETF (AAA)
The AXS First Priority CLO Bond ETF has generated a 3.9% year-to-date return as of Aug. 22 and has a 0.25% expense ratio. AAA has 27 holdings and specializes in AAA-rated debt.
The fund’s managers prioritize high-rated CLOs with floating-rate coupons. These coupons limit the fund’s losses during interest rate hikes. AAA also prioritizes debt with short durations to increase protection against rising interest rates.
The AXS First Priority CLO Bond ETF is an actively managed fund that was launched on Sept. 9, 2020. The fund’s top three issuers are American Money Management Corp. (8.2%), CIFC Asset Management (7.3%) and Blackstone Credit (6.8%).
Janus Henderson AAA CLO ETF (JAAA)
The Janus Henderson AAA CLO ETF has gained 3.8% in 2023 as of Aug. 22 and has a 0.22% expense ratio. The fund’s 30-day SEC yield currently stands at 6.5%. This fund prioritizes AAA-rated CLOs, which helped investors during the economic uncertainties of the financial crisis of 2007-2008 and the COVID-19 pandemic. The fund makes AAA-rated CLOs more accessible to retail investors.
Investors get to enjoy monthly cash distributions by holding onto shares of this ETF. The fund offers solid diversity with exposure to 174 holdings. Only two of the fund’s assets exceed a 2% concentration. The CLOs in this portfolio have a weighted average maturity of 3.73 years, and 31.8% of the fund’s debt matures within one to three years. JAAA uses the J.P. Morgan CLO Index (CLOIE) as a benchmark and has been around since Oct. 16, 2020.
Janus Henderson B-BBB CLO ETF (JBBB)
The Janus Henderson B-BBB CLO ETF is for investors who want to incur more risk for a higher yield. BBB-rated debt is still likely to get paid, but AAA is the gold standard. JBBB has a 30-day SEC yield of 8.5% (with or without waivers) and has a 0.5% expense ratio. The fund uses the J.P. Morgan CLO High-Quality Mezzanine Index as its benchmark, and JBBB is up 8.9% in 2023 as of Aug. 22.
Just like JAAA, JBBB gives out monthly cash distributions. The fund’s weighted average maturity is 5.98 years. About 32% of the fund’s holdings mature within three to five years. About 89% of the fund’s assets are in Baa-rated CLOs. The remaining capital is distributed between A-rated debt (6.7%) and Aaa/Aa1-rated debt (3.8%).
More than 90% of the fund’s total assets are invested in North American debt. And despite its high-yield bent, the fund’s top holding is Janus Henderson AAA CLO ETF, at 3.8% of assets.
BlackRock AAA CLO ETF (CLOA)
The BlackRock AAA CLO ETF offers the potential for higher income and lower volatility. The portfolio consists of mostly AAA-rated CLOs and uses CLOIE as its benchmark. The fund launched on Jan. 10, 2023, and offers monthly cash distributions. The 30-day SEC yield is currently 6.7%. The fund has a 0.2% expense ratio.
The BlackRock AAA CLO ETF has 34 holdings. The top 16 holdings each have more than 3% of the fund’s total assets. However, no holding makes up more than 4% of the fund’s total assets. CLOA’s CLOs have a weighted average maturity of 3.63 years with an average yield to maturity of 7.1%. Broken down, 29% of the fund’s debt matures within two to three years, and 67% of the fund’s debt matures within three to five years. The remaining debt matures within two years.
CLOA incorporates floating-rate debt to minimize losses during periods of rising interest rates. Interest rate hikes can also increase the fund’s cash distributions.
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Collateralized Loan Obligations: 5 ETFs to Consider originally appeared on usnews.com
