Seeds of a credit crunch growing a global LBO loan market

The Economic Times (ET), 20-6-2007, Page 10

Earlier banks used to finance LBOs/buyouts mainly with loans on their balance sheets. But they are now packaging and selling those loans to investors using instruments called 'collateralised loan obligations" (CLOs) that group various loans together to diversify risk.

In the old days of relationship banking, banks relied on credit quality control and huge balance sheets to ride out any problems, but CLO investors may be more short-term oriented and will dump their securities in case of underperformance and problems.

Collateralised Debt Obligations (CDOs)a broader classificationo of the structures, have been especially voracious buyers of CLOs. Total CDO sales grew to more than $300 billion, a record doubling in size in less than two years.

Anthony Schultz, a portfolio manager at Mendon Capital, says you're clsoe to the peak of the cycle and for new CDOs coming to market, the end buyers are going to say, 'Ijust took a loss on these things and you want to sell me more?'. The credit crunch will begin then.