Key takeaways:
- Investors have typically turned to sectors such as high yield and leveraged loans when seeking to increase income within their bond allocation. More recently, BBB CLOs have emerged as another subsector to consider.
- Due to their higher credit ratings, lower historical defaults, low correlation, and higher historical total returns versus high yield and leveraged loans, we believe the inclusion of BBB CLOs in portfolios may help improve risk-adjusted returns.
- Investors should be prepared for potentially higher volatility within the BBB CLO sector, however. Yet, with the right approach to navigating market selloffs and maintaining a total portfolio perspective, we believe these risks can be managed and mitigated.
When seeking higher income, investors have typically turned to the following sectors: High yield, leveraged loans, preferred securities, and emerging markets debt (EMD). More recently, BBB rated collateralized loan obligations (BBB CLOs) have emerged as another subsector to consider.
Given the size of the U.S. high yield and leveraged loan markets – both around $1.5 trillion according to Bloomberg and S&P Global – this paper will explore the similarities and key differences between BBB CLOs, high yield, and leveraged loans in the U.S. market.
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