Impact of Fed Hikes on Lower-Rated CLO Collateral

Fed hikes are having a more and more negative impact on companies with higher leverage, lower coverage ratios, and weaker cash flows. Specifically, the latest data for the third quarter shows that downgrades by S&P of CLO collateral have surpassed upgrades by a ratio of 4:1, see the first chart below.

The bottom line is that Fed policy is working exactly as the textbook would have predicted. Higher rates are biting harder and harder on middle-market corporates with poor credit metrics.

With total employment in high yield-issuing companies at 11 million and total employment in loan-issuing companies at 8 million, higher rates will ultimately have a negative impact on employment, see the second chart.

Source: S&P Global Ratings, Apollo Chief Economist
Total employment in the US high yield index: 11 million; total employment in the leveraged loans index: 8 million
Source: Bloomberg, ICE BofA H0A0 Index, Morningstar LSTA Index, Apollo Chief Economist. Note: Data includes 842 companies in the HY index with employment data available for 584 companies and median employment assumed for the rest. Similarly, there are 1,073 companies in the leveraged loans index with employment data available for 450 companies and median employment assumed for the rest.

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Share of IG and HY Maturing Within Three Years

European credit is more vulnerable to higher rates because the share of IG and HY bonds maturing within three years is higher in Europe than in the US, see charts below.

For US IG, the share has, for the past decade, been stable between 15% and 20%.

The bottom line is that Fed hikes and ECB hikes are having a negative impact on credit, but the impact is going to be more significant in Europe, which increases the likelihood of a harder landing in Europe.

Share of high yield bonds maturing within three years
Source: ICE BofA, Bloomberg, Apollo Chief Economist
Share of IG corporate bonds maturing within three years
Source: ICE BofA, Bloomberg, Apollo Chief Economist

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How to Think About the Role of Private Capital in the Clean Transition

Listen to Apollo Chief Economist Torsten Slok speak with Olivia Wassenaar, Head of Sustainability and Infrastructure at Apollo, about the outsized and unprecedented investment required for the clean transition. Olivia and Torsten acknowledge the scale and cost of the climate crisis while also voicing optimism about the power and potential of public and private capital in addressing these challenges.