Collateralized loan obligations, or CLOs, are not exactly dinner party material. Say “CLO” to most people and you can practically hear the mental door closing, but income investors may want to keep that door cracked open.
A collateralized loan obligation is a portfolio of below-investment-grade floating-rate loans. Those loans are pooled together and the cash flow is divided into tranches with varying risk and return profiles. The highest-rated and lowest-risk tranche, AAA or the “senior” tranche, is the first in line to receive payments. The AAA CLO market has never experienced a default.
Lower-rated tranches usually offer higher yields because they are paid after the senior tranches. The riskiest tier is the equity tranche, which is typically unrated and paid last. This means investors may receive less income than expected or even none at all if the underlying loans run into trouble.
CLO ETFs package that exposure into a fund investors can buy and sell more easily.
“A CLO ETF is a way for investors to access the fixed income market through a diverse set of underlying loans, typically 300 to 500, that offer an attractive income pick-up versus other traditional fixed income options,” according to Matt Collins, head of ETFs at PGIM, which offers the PGIM AAA CLO ETF (ticker: PAAA).
CLO ETFs have become especially appealing in a market where investors are still navigating Fed policy, rate volatility and credit risk. Their floating-rate nature has benefited them in recent years as the Fed has kept rates high, says William Sokol, director of product management at VanEck, provider of the VanEck CLO ETF (CLOI).
“In addition, CLO prices haven’t been impacted by rising long-term bond yields or continued rate volatility such as fixed-rate, core asset classes like corporate bonds and U.S. Treasurys,” Sokol says.
He expects base rates to remain relatively high with continued pressure on inflation. “Given tight valuations in credit right now overall and a high level of uncertainty in the market, we believe the high-quality exposure provided by investment-grade CLOs is particularly compelling right now, especially given the yield enhancement they can provide.”
That doesn’t mean investors can simply buy any CLO ETF and call it a day. The waterfall-style payment structure means investors shouldn’t treat every CLO ETF the same. Credit quality matters here, just as it does in bond funds. Even among the same tranche class, ETFs can vary in quality.
“AAA CLOs are not all the same,” says Steve Laipply, global co-head of iShares fixed income ETFs at BlackRock, which manages the iShares AAA CLO Active ETF (CLOA). “Investors should compare tranche seniority, manager quality, deal structure and collateral profile – and whether a fund holds junior AAA securities, which are actually subordinated securities, or to what extent they use selective AA/A exposure for relative value.”
He also says to pay attention to performance net of fees. “An average high return with high volatility and inconsistent performance is less attractive than a similar return with lower volatility and more consistent performance across market environments,” says Laipply.
The bottom line is that CLO ETFs can be useful income tools, but they require a bit of homework. Keeping that in mind, here are five CLO ETFs for income investors to consider:
| Fund | Net assets | Expense ratio | 30-day SEC yield |
| Janus Henderson AAA CLO ETF (JAAA) | $29 billion | 0.20% | 4.7% |
| PGIM AAA CLO ETF (PAAA) | $10.4 billion | 0.19% | 4.7% |
| iShares AAA CLO Active ETF (CLOA) | $2.2 billion | 0.20% | 4.8% |
| VanEck CLO ETF (CLOI) | $1.5 billion | 0.36% | 5.0% |
| Janus Henderson B-BBB CLO ETF (JBBB) | $1.4 billion | 0.47% | 6.0% |
Janus Henderson AAA CLO ETF (JAAA)
JAAA is the AAA CLO category giant, making it the natural starting point for this list. With $29 billion in net assets, it’s two to 10 times the size of most competitors. It also holds 608 debt issues, making it one of the largest portfolios on the market. Launched in 2020, it’s one of the longer-running CLO ETFs on the market. “JAAA is a pioneer of the AAA CLO ETF market and benefits from significant scale, deep market relationships and one of the largest securitized credit platforms in the industry,” says John Kerschner, global head of securitized products and portfolio manager at Janus Henderson Investors, who co-manages JAAA.
The fund invests at least 90% of its assets in AAA-rated CLOs and, according to Kerschner, is often used as “a first step out from cash as a replacement or complement to an ultrashort bond allocation.”
As a AAA CLO ETF, PAAA gives investors access to the highest-rated slice of the CLO market. It’s backed by PGIM’s deep CLO expertise. The company “has one of the longest investment track records in CLOs, which allows us to offer this asset class to investors with substantial research and risk management expertise gained through multiple credit cycles,” Collins says.
And it does so with one of the lowest expense ratios on the market, which can help improve “take-home returns” after trading costs, Collins adds.
iShares AAA CLO Active ETF (CLOA)
CLOA is positioned as a “true-to-label” AAA CLO sleeve that avoids junior AAA securities and focuses on top-tier managers, according to Laipply. “CLOA will own smaller amounts of AA- and A-rated securities only when there is clear relative value,” he says. With 417 holdings, it has one of the larger portfolios on this list, topped only by JAAA. CLOA also benefits from BlackRock’s CLO platform, which Laipply says includes a dedicated team and two decades of experience.
CLOI is not your typical core bond ETF and that’s the point, according to Sokol. Unlike JAAA, CLOA and PAAA, which focus on AAA CLOs, CLOI invests across the investment-grade CLO tranches, with exposure to AAA, AA, A, BBB and a select few BB-rated securities. This increases the risk, but is also what helps the fund achieve its 5% 30-day SEC yield. It holds only 176 debt issues, which is the lowest of any ETF on this list but still enough for diversification. Sokol says CLOI can help investors “build a more robust core bond portfolio by providing higher income with low credit risk” and minimal interest rate risk.
Janus Henderson B-BBB CLO ETF (JBBB)
The Janus Henderson B-BBB CLO ETF is for investors who want to move beyond AAA CLO exposure in search of higher income. Kerschner says JBBB reflects Janus Henderson’s focus on “precise exposure,” allowing investors to choose the risk and return profile that fits their needs. Because BBB CLOs carry more risk than AAA CLOs, he says security selection and avoidance are especially important. JBBB is actively managed and currently has more than 99% of its portfolio in investment-grade securities, according to Kerschner.