Prytania Market Update January 2021

UK ABS Post Brexit

Prytania Market Update June 2020

A rising tide lifts all boats

Prytania Market Update May 2020

CLO mezzanine rips tighter in the face of rating downgrades and potential cashflow diversions

Prytania Market Update April 2020

Peak COVID, peak convexity

New dawn for bank funding strategies? By Structured Credit Investor

By Structured Credit Investor, 4th October 2017

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The European securitisation market faces what is expected to be an “interesting” year ahead, as low-cost central bank liquidity dries up and banks adopt new funding strategies. Together with boosting primary ABS issuance, Bank of England and ECB tapering will likely impact the volume of paper being retained.

In the UK, the drawdown periods for the Funding for Lending Scheme (FLS) and Term Funding Scheme (TFS) are respectively set to close at the end of January and February 2018, ending a cheap source of funding for the country’s banks. As at 30 June 2017, 43 institutions had participated in the TFS and 13 in the FLS, withdrawing a total of £123.3bn, according to DBRS figures.

UK bank and building society RMBS outstandings are estimated to have fallen by about 70% since the beginning of 2016, as issuers allowed existing deals to run off and replaced them with TFS funding. Similarly, UK prime RMBS volumes are constrained by the fact that transactions have largely been brought by smaller issuers since the FLS was extended in 2014.

However, Prytania Asset Management CEO Mark Hale is optimistic that a combination of the end of FLS and TFS, plus a hike in base rates, will encourage more issuers to tap the UK RMBS market. “All these elements should drive a sustained pick-up in issuance, assuming government policies remain unchanged and barring any shocks. We expect the diversity of funding channels to remain: securitisation is one, but many issuers will continue to weigh the relative costs of retail and wholesale deposits, issuing covered bonds and straight debt as well,” he observes.

Gordon Kerr, head of European structured finance research at DBRS, concurs: “We expect to see the return of prime issuers on a regular basis, with increasing volumes as central bank funding tapers. But securitisation isn’t the only answer – some cash will likely find a home in covered bonds as well.”

With the TFS and FLS beginning to roll off, he anticipates that volumes will pick up gradually in 2018 and 2019, until there is a sizeable funding roll-off in 2020 and 2021 – which will need to find an alternative source of funding. Termination of the Bank of England schemes doesn’t represent a cliff edge, however, as the cash is out with banks for four years.

Consequently, if these banks have alternative sources of funding, there isn’t an immediate need for them to securitise. At the same time, non-banks are becoming banks – as exemplified by Paragon Group recently rebranding as Paragon Banking Group, in order to optimise its funding and capital position – and diversification of funding sources is increasingly common to both types of institution.

JPMorgan figures show that Virgin Money utilised close to 80% of its total borrowing allowance under TFS, as of 2Q17, which anecdotally supports its return to the primary RMBS market last month with Gosforth 2017-1 – the first print from the issuer since April 2016. Previously, Clydesdale Bank returned to the primary market in June, having utilised 83% of its TFS borrowing allowance by end-1Q17.

Hale suggests that the Gosforth and more recently the Holmes deals can be seen as an early sign that 2018 should see more prime RMBS issuance. “Central bank tapering and a withdrawal of the extraordinary measures put in place by the official sector as a whole in the credit crisis implies more bond supply and a portion of it will come to the securitisation market. At present, demand is sufficient to pick up the slack, but that appetite is vulnerable to volatility. This means the market could reach a new equilibrium, with more supply but lower demand, which could reverse the long-standing trend of spread tightening – especially for ECB-eligible bonds.”

Kerr adds that further factors driving increased sterling issuance ahead of Brexit are avoiding the need to include swaps in structures and the desire to bring foreign money back into the sterling market.

Indeed, if supply were to rise, the importance of diversifying investors by type and by geography becomes more significant. “Issuers would be wise to cultivate overseas investors in order to maintain the demand for sterling bonds. If the UK markets begin underperforming in general, issuers can’t afford to be blasé about overseas buyers. A specific trigger for volatility is hard to discern right now, but it’s impossible to rule out,” Hale warns.

As such, more UK lenders are expected to issue in euros and dollars, following the inclusion of a US$421m senior tranche in the recent Gosforth deal (see SCI’s primary market database). Yen bonds are a trickier proposition, given that the FX rate is painful for Japanese buyers, although some CLO arrangers are overcoming this with structural solutions.

Nevertheless, Kerr says that it is an open question whether the entrance of new investors into the market and Japanese investors returning is driven by genuine interest in secured products or simply by the search for yield. “These trends will take a while to be realised,” he comments.

Meanwhile, in Europe, the expiration of some of the TLTROs in 2018 represents a further €450bn of cash rolling off. However, Kerr suggests that a large portion of recent TLTROs were undertaken less for liquidity reasons and more for the opportunity to access cheap funding for margin, so much of it will probably disappear back onto bank balance sheets and the rest could be funded by covered bonds and securitisations.

As of 1 September 2017, the ECB reported €769bn of outstanding lending volume to euro-area credit institutions under the LTRO/TLTRO programmes. As at end-2Q17, JPMorgan international ABS strategists estimate that €629bn of retained European ABS (ex-UK) is outstanding, of which circa €450bn is RMBS and €75bn is SME ABS. Approximately 70% of outstanding retained European ABS is senior bonds, which is a high-level criterion for ECB collateral eligibility.

Similarly, €79bn of retained UK securitisations are outstanding, a portion of which has potentially been used as collateral with the BoE instead of being distributed in the primary market. The JPMorgan strategists estimate that about 61% of outstanding retained UK ABS are senior bonds.

Despite a backdrop of tight spreads and an unslaked thirst for secondary paper, it appears to be too much effort and cost for some retainers of securitised bonds to re-offer the paper. Nonetheless, Hale notes that “a fair amount” of previously retained paper is hitting the market and there is potential for more, especially if the current rally continues and tapering progresses.

Looking ahead, market participants are focusing on the ECB’s monetary policy meeting later this month. The Bank of America Merrill Lynch house view is that the ECB’s tapering from €60bn to €40bn monthly purchases in 1H18 will be gradually scaled down to zero by end-2018, followed by a deposit rate hike some time in 1H19.

In terms of the future of its ABS purchase programme – which owns less than €25bn of collateral – Rabobank credit analysts deem a ‘hard exit’ by the ECB from the European securitisation market as very unlikely. Rather, a ‘soft exit’ may be an alternative to an overall tapering scenario.

“A soft exit would likely result in some spread widening over time and some distortion of the relative value across the debt capital stack,” they observe.

Overall European new issue volume stood at about €135bn year-to-September, of which around €60bn was publicly placed. Given that Q4 is usually the busiest quarter of the year for retained deals, Bank of America Merrill Lynch European securitisation analysts expect total issuance volume in 2017 to reach the €200bn mark.


By Structured Credit Investor, 4th October 2017

For any more detail, please contact us:

Julian Schickel
Tel: +44(0) 20 7967 1741 (UK)

Julie Lohrmann
Tel: +1 (312) 303-0244 (US)

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Interview with Colin Behar – Peripheral ABS playing catch-up, by Structured Credit Investor

By Structured Credit Investor, 4th August 2017

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Structured finance issuance in the European core has held up well over the summer, with spreads continuing to grind tighter. Although peripheral ABS spreads remain wide of the core, the periphery appears to be catching up.

“Spreads throughout Europe – in both the core and periphery – have been going in the same direction for a while now, albeit at different speeds. All spreads are compressing, it is just that peripheral spreads remain a lot wider than core spreads,” says one market participant.

Dutch RMBS has reached pre-crisis levels, with auto ABS not far from that marker. Less consistent issuance away from the core makes it difficult to identify broad trends in the periphery, although country-based tiering appears to be compressing.

“With products such as UK or Dutch RMBS, there is sufficient primary market activity to direct the market; there are big prints that define where the market is going. However, in the periphery, primary market issuance is more limited and therefore the patterns are harder to discern,” says Colin Behar, senior investment analyst at Prytania Investment Advisors.

He continues: “There have been some interesting auto ABS deals in the periphery, as well as a few RMBS in Italy and Spain, that have provided interesting colour. However, many of these deals, particularly recent auto ABS from Spain and Portugal, are opening the market and therefore they are issued with considerable spread pickup for investors at inception.”

Beyond spread tightening in the core’s wake, the main shift in peripheral ABS appears to be a shift from a healthy balance between fundamentals, technicals and correlation to sovereign spreads, to pricing driven almost entirely by supply dynamics.

“The technical consideration for the periphery has always been supply, but that is very limited at the moment. Supply now mainly comes from the secondary market, where previously bad banks and legacy holders provided plenty of paper but now there are fewer sellers,” notes the other market participant.

They continue: “The improvement in spreads has made people less willing to sell, and BWIC volumes have halved over the last 12 months. Some paper, of course, has just never come to market – there are programmes, such as BBVA, that you never see trade – and other paper which used to trade is now trading less often.”

This market participant believes that the previous balance between technicals, fundamentals and sovereign spreads has become completely imbalanced, with the imbalance of demand and supply now “simply outweighing any other consideration”.

Fundamentals still have their place, however. Behar notes that Spanish ABS provides a good example of investors increasingly assessing a sector simply on its merits.

“Spanish autos are now trading tighter and more in line with the actual risk, whereas when that market opened the paper was particularly wide because there was an added stigma that came with being a Spanish deal. That stigma may not have been warranted, of course,” says Behar.

The third part of the balancing act described by the other market participant, alongside fundamentals and technicals, is correlation to sovereign spreads. Behar notes that, while peripheral paper may not deserve the stigma that has been attached to it, some correlation between structured finance and sovereign bond prices is unavoidable.

“Should Italy default, then Italian long-dated RMBS performance would also be impacted, which is why there should be some correlation. However, as the market saw with Greece, structured finance by its very nature should also insulate bonds from the worst fallout from government default. For bonds backed by shorter-dated collateral, even if the government was to default, you would likely get your money back in relatively short order,” notes Behar.

The other market participant says that in certain circumstances the correlation to sovereign spreads has all but broken down. “When the Italian sovereign worsened relative to the Spanish sovereign recently, we saw no commensurate widening of Italian ABS spreads relative to Spanish ABS,” they say.

The participant continues: “The relationship is not always automatic. With weak sovereign correlation, investors are looking at benign fundamentals and are seeing pricing driven almost exclusively by supply.”

Another historic driver of pricing has been ECB-eligibility. Two recently issued Portuguese ABS – Ulisses Finance 1 and Aqua Finance No.4 (see SCI’s deal database) – appear to underline this point, with the senior spreads of the former pricing at plus 85bp and the seniors of the latter pricing at plus 105bp.

“ECB-eligibility certainly played a part in the difference, but it was not the only factor. There were also structural and placement process factors that added to the spread,” says Behar. “Aqua is also a mixed pool, so the comparison is complicated by that, as well.”

The other market participant points to Banca IMI as an example of paper changing from ECB-eligible to ineligible without any noticeable effect on pricing. “ECB-eligibility used to be a big factor in tiering, but now it seems like it might be irrelevant,” they say.

That suggests that an ECB taper would have at most a limited impact on the market, just as there has been little reaction to Brexit. Behar also believes that tapering is unlikely to have a marked impact.

“The ECB’s ABS purchase volumes have not been massive, but they have been relevant. When the ECB cuts back its purchases, I would expect the tighter end to widen by around 10bp,” says Behar.

He continues: “Demand is very high, though. That will stop paper from widening too much. The relative value to alternative asset classes in fixed income will remain attractive.


By Structured Credit Investor, 4th August 2017

For any more detail, please contact us:

Shaun Curry
Tel: +44(0) 20 7967 1741 (UK)

Julie Lohrmann
Tel: +1 (312) 303-0244 (US)

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