The outlook for collateralised loan obligations (CLOs) in 2025 appears promising, as a recent Moody’s report highlights improved performance and refinancing opportunities. Market conditions are stabilising, with declining collateral defaults driven by economic growth and lower interest rates. Speculative-grade defaults in the U.S. and Europe are forecasted to fall to 2.6% and 2.7%, respectively, by October 2025. This marks a notable improvement from October 2024 levels, which stood at 5.6% in the U.S. and 3.3% in Europe.
Increased competition between broadly syndicated lenders and private credit providers is reshaping market dynamics. Characteristics like covenant flexibility, often associated with broadly syndicated loans (BSLs), are gradually transferring to private credit structures. In the U.S., collateral across both BSLs and middle-market loans is expected to benefit from favourable conditions, including inflation stabilising at 2%, continued economic expansion, and a strong labour market. These factors, combined with potential interest rate reductions, are likely to enhance refinancing activity and reduce defaults further.
Leveraged buyout (LBO) borrowers are experiencing better outcomes as they return to broader syndication markets. Corporate family ratings for these borrowers are trending upward, with more entities achieving B2 ratings instead of lower grades like B3. Direct lenders are also supporting larger transactions, adding to the improving credit quality within the BSL market. CLOs have maintained a dominant position in the institutional leveraged loan market, representing 74% of its $1.4 trillion value in August 2024, up from 71% in August 2023.
The favourable combination of declining defaults, lower inflation, and reduced interest rates is expected to create opportunities for increased loan activity in 2025. While 2024 saw robust refinancing efforts, the formation of new loans was limited. However, an estimated $117 billion in CLOs will exit their non-call periods next year, with $94 billion of these having attractive refinancing potential due to favourable Aaa spreads. These conditions suggest a transition from simply managing existing deals to a renewed focus on new transactions, positioning the CLO market for a year of growth and innovation.
The improving economic environment, coupled with strong market fundamentals, sets the stage for a brighter future for CLOs and the broader leveraged loan market in 2025.
Volta Finance Ltd (LON:VTA) is a closed-ended limited liability company registered in Guernsey. Volta’s investment objectives are to seek to preserve capital across the credit cycle and to provide a stable stream of income to its Shareholders through dividends that it expects to distribute on a quarterly basis.
