Known primarily as a lender to agricultural, fishing and forestry cooperatives, Japan’s Norinchukin Bank has been hailed by some as the unlikely saviour of the leveraged loan market. Others, however, are more worried about what happens should it one day depart the scene.
In this column last week, we noted the temporary collapse of leveraged loan activity in December and the subsequent recovery in January. Just as the market looked as though it might dry up, in stepped Norinchukin to gobble up pretty much any AAA-rated slice of CLOs going. “Thanks to Norinchukin, the CLO market is open,” one underwriter at a large international bank told us. And, as the largest buyers of leveraged loans, it’s the issuers of CLOs that provide the fuel for this market.
So what’s attracting this idiosyncratic lender, frequently referred to by the cutesy abbreviation of NoChu, to the market? The main reason is decades of negative interest rates in Japan, which have forced the country’s banks to search beyond its borders for yield. NoChu is by no means the only Japanese bank to have turned to the CLO market, but it has become the most dominant: according to a report from S&P Global it accounted for $62 billion of global CLO holdings by the end of last year.
It might be assumed there would be no lack of willing takers for AAA-rated paper. Yet market players tell us that appetite is more easily sated for BBB and BB tranches. AAA, says one, “is, oddly enough, the trickiest paper to place”, largely because of the sheer volume of issuance. Pricing its deals almost uniformly at 108 basis points over LIBOR (compared with the 114-116 typical of other buyers in Europe), NoChu has CLO issuers waiting patiently in line to bring it deals.
Not everyone welcomes this kind of power. For one thing, NoChu can dictate terms and timeframes pretty much as it pleases. Some also say that its plain vanilla approach militates against diversity, as certain types of CLO are marginalised.
But perhaps the biggest worry is the impact on the market should NoChu decide to withdraw. This is not merely hypothetical. When another Japanese CLO buyer, Japan Post, decided to focus on Europe rather than the US towards the end of last year, that decision reportedly had a material effect on the US secondary market. Although a significant player, Japan Post’s CLO exposure is significantly less than NoChu’s.
Moreover, there has been speculation that Japan’s Financial Services Agency might even force withdrawals from the market. Concerned about risks associated with exposure to complex debt products, the regulator issued indicative rules suggesting it would insist on the application of risk retention for any Japanese institution investing in CLOs. Not a problem in Europe, where everyone has to abide by those rules, but potentially a big headache in the US, where pressure from trade bodies led to the country’s CLOs being granted an exemption from the rules.
The FSA subsequently appeared to soften its position, insisting only that thorough due diligence be undertaken and that a comprehensive understanding be gained of CLO managers’ processes. The Japanese exit from the US leveraged loan market that was initially feared appears to have been averted, for the time being at least. Nonetheless, it has brought into focus the narrow buying base currently underpinning the market on both sides of the Atlantic.
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