The financial landscape has undergone a remarkable transformation in the past 15 years, as securitized debt products have evolved from catalysts of a global crisis to becoming the bond instrument of choice for financial advisors. This article delves into the resurgence of these complex financial instruments, exploring their newfound appeal and the regulatory changes that have reshaped the industry.

Unlocking the Potential of Securitized Debt

The Rise of Collateralized Loan Obligations (CLOs)

Collateralized Loan Obligations (CLOs) have emerged as a prime example of the securitized debt market's comeback. These floating-rate instruments have seen a surge in popularity, with issuance hitting record levels in 2024. In the third quarter of 2024, CLO new issuance totaled $39.3 billion, a 42% increase compared to the same period in 2023. Moreover, the industry is on track to surpass the record year of 2021, when CLO new issuance reached $184.8 billion.The appeal of CLOs lies in their unique characteristics. Their floating-rate nature means their coupons reset with interest rates, typically every quarter, making them less sensitive to interest rate changes and less volatile in price movements. This feature has proven advantageous in the current environment of rising rates, where CLOs tend to outperform fixed-rate instruments.

Regulatory Changes and Transparency

The financial crisis of the past decade served as a wake-up call, prompting regulators to implement stricter measures to ensure the safety and transparency of securitized debt products. As Sam Reid, an investment partner at Canyon Partners, noted, "The silver lining in the great financial crisis is that it introduced regulation and transparency to this asset class in a way that we haven't seen before. And it's facilitated really an explosion in underwriting."These regulatory changes have instilled confidence in the market, as investors now have a better understanding of the risks and underlying assets associated with securitized debt instruments. This newfound transparency has paved the way for a resurgence in the popularity of these products.

Diversification and Risk Management

Financial advisors and portfolio managers have embraced securitized debt products, particularly CLOs and Collateralized Mortgage Obligations (CMOs), as valuable tools for diversification and risk management within their fixed-income allocations.Chris Brown, a private wealth advisor and managing director at Kingswood US, highlighted the benefits of CLOs, stating, "Many CLOs offer floating rate coupons which are great for interest rate moves, tend to be senior secured and, in many cases offer significant return potential. It is a great place to find fixed-income exposure for clients needing fixed-income in their portfolio."Similarly, Nicholas Codola, a senior portfolio manager at Brinker Capital Investments, praised the diversification and low default rates associated with CLOs and CMOs, noting that they can serve as a source of alpha generation over money markets and the US Aggregate Bond Index.

Navigating the Evolving Landscape

While the securitized debt market has regained its footing, industry experts caution against complacency. Codola acknowledged that CLOs are no longer as attractively priced as they once were, due to the surge in retail interest and renewed appetite from institutional players. He stated, "We think they are still relatively attractive over corporates which are bottom decile of spreads, but they are no longer by any means cheap."As the market continues to evolve, financial professionals must remain vigilant in their analysis and selection of securitized debt products. Opportunities may still exist in certain pockets, such as Agency and Commercial Mortgage-Backed Securities (CMBS), where spreads are more neutral or even on sale, according to Codola.The resurgence of securitized debt products represents a remarkable turnaround from the financial crisis era. With increased regulation, transparency, and a renewed focus on diversification and risk management, these complex instruments have regained the trust of investors and financial advisors alike. However, as the market landscape shifts, ongoing diligence and prudent portfolio construction will be crucial to navigating the evolving world of securitized debt.