US CLO managers are increasingly wary that rating agencies are likely to downgrade a large number of leveraged loan borrowers off the back of increased uncertainty and volatility which stemmed from the tariff announcements made on ‘Liberation Day’.

In this analysis 9fin looks at the average triple-C buckets versus the percentage of a portfolio that is rated B3/B-in reinvesting CLOs that closed before 2024, to see how US CLOs are positioned.

The dataset (see below for the methodology) shows that reinvesting US CLOs have a triple-C bucket that on average is 5% full. Just 2.5% shy of the typical 7.5% limit, and just above the European CLO average. The average reinvesting US CLO has 29.8% of its portfolio in B3/B- credits, meaning that on average 34.8% of a reinvesting US CLO portfolio is rated either triple-C or B3/B- (by at least one rating agency), according to 9fin data.

While the average triple-C bucket might be getting close to the limit, US CLO managers look to have plenty of cushion in their junior overcollateralization (OC) tests. The average reinvesting US CLO has 414bps of cushion in its junior OC test, with only two deals failing, according to 9fin data. Sources said that if investors are comfortable with the manager of the CLO holding triple-C names, the market is well positioned to withstand an increase in loan downgrades.

However, where the downgrade risk will come from is not as obvious as ‘which sectors are affected by tariffs’. Sectors such as autos, construction and homebuilding, and chemicals (for example) will be directly affected, but the increased likelihood of a recession in the US economy has put consumer-sensitive sectors in the spotlight. According to an S&P report from 23 May, more than 75% of defaults in the US have been from consumer products, media and entertainment, health care, and retail sectors, and S&P expects each to face continued pressure.

Dan Wohlberg, principal at Eagle Point Credit (a large CLO equity and mezzanine investor) stated that his team are “looking at downgrade risk a bit differently as our primary focus is on over-levered companies that are highly consumer dependent instead of just tariff exposed. If we see an increase in supply chain issues it will be these companies who lack the cash flow to best handle a market slowdown.”

While Vince Pompliano, managing director and co-head of Benefit Street Partners’ CLO platform stated that, “Less than 10% of our portfolios are directly exposed to the recent tariff policies, while more than 60% are unaffected, with the balance in cyclical names most exposed to a slowing macro environment.”

He goes on to say that the increase in volatility led to better buying opportunities than the market has had the last 18 months and there are “plenty of attractive loan issuers to buy, with the deepest value in cyclical names that have strong balance sheets that can weather a recession if one occurs.”

Another reason for US CLO managers to look at credits that are not directly affected by tariffs is because it is very difficult to know which loans are affected as the administration keeps moving the goalposts, sources said.

But that has not stopped sponsors and borrowers looking at ways to incorporate tariff language into new issue debt documents, sources told 9fin. A sponsor-focused leveraged finance lawyer told 9fin “there’s been talk around how tariffs are treated in EBITDA calculations for leverage ratios”. “We’re trying to figure out if you can push tariff costs or charges into EBITDA addbacks. That’s important if you’re relying on leverage ratios to maybe draw down on delayed-draw term loans.” But these discussions are still in the preliminary stages and have not been successfully drafted into debt documents to date.