Ares targets $200 mln for investments in CLO equity tranches

  • Ares shops $200 mln fund to invest in CLO equity tranches
  • Fund targets 16 pct net returns
  • Seeks distressed opportunities around CLOs

Ares Management is marketing a fund to invest in the equity tranches of collateralized loan obligations, according to a limited partner who has seen the fund pitch.

Several managers are out with opportunity funds targeting equity tranches of CLOs that have underperformed as loan prices have fallen, according to a second LP in the market as well as data from Thomson Reuters IFR.

“There’s an opportunity to buy attractive paper at good prices,” the second LP said, talking in generalities and not about the Ares fund specifically.

CLOs consist of leveraged loans bundled into different levels of risk, from the top senior-loan level backed by collateral to junior, unsecured tranches, to the equity portion at the “bottom” of the CLO capital stack.

The fund, named Ares High Income Credit Opportunities fund, is targeting $200 million, the first LP said. It has a three-year investment period, eight-year term and will charge a 1.5 percent management fee, the first LP said.

The fund will charge 18 percent carried interest subject to a 7 percent hurdle, the first LP said. It is targeting net returns of 16 percent.

A spokesman for Ares did not return a call for comment.

Two opportunities have emerged around the equity tranches of CLOs. One is the distressed strategy, which takes advantage of falling loan prices that have affected the lower-rated debt and equity tranches of CLOs, IFR said in a November report. For example, CIFC Deerfield is raising a fund to invest in the equity and mezzanine portions of CLOs, IFR said.

Another opportunity involves CLO managers raising funds to satisfy risk-retention rules included in the Dodd-Frank Financial Reform Act expected to go into effect in December.

The rules apply to securitizations in general. For CLOs, the rules call for the manager to retain 5 percent of the CLO. Managers should “have skin in the game as opposed to, ‘hey, we’re putting together these deals and selling them off and if they blow up, that’s not my problem,’” said the second LP.

The manager’s stake can come in the form of 5 percent of the face value of each tranche of the CLO or 5 percent interest in the equity tranche (as long as the fair value is equivalent to 5 percent of the fair value of the whole CLO), according to a white paper from Gapstow Capital Partners from September.

Some CLO managers are seeking to establish joint-venture funds with institutional investors to meet the risk-retention requirements, the white paper said.

Action Item: See a report on structured investments from Citi here:

Photo: A broker reacts while trading at a stock brokerage firm in Mumbai October 8, 2008. REUTERS/Arko Datta