News Analysis
Mortgage ILS breaks new ground
Arch Capital Group recently closed its first public rated mortgage ILS (SCI 18 October). Dubbed Bellemeade Re 2017-1, the US$368.11m transaction features structural departures from previous deals in the programme, while Morningstar Credit Rating's rating facilitated wider interest and broadened investor participation.
James Bennison, svp at Arch Capital Group, comments that as well as being the first rated transaction from the firm, it is also the first of its mortgage ILS transactions to be EU risk retention-compliant. The move consequently allowed the first European investor to participate, and it is also marked the first time an insurer has participated.
Morningstar's final ratings on the transaction consist of triple-B on the US$195.1m class M1 notes, double-B minus on the US$154.608m class M2s and single-B plus on the US$18.406m class B1s, while the US$165.652m class B2s remain unrated. Achieving these ratings involved tweaking the transaction through the inclusion of an interest reserve - something the firm had not done before. Bennison explains that Morningstar required this to provide an extra level of investor protection, which the agency felt necessary, as it doesn't rate Arch Capital Group.
He notes that as the deal is the third transaction under the Bellemeade programme - with two others issued by United Guaranty prior to the Arch Capital acquisition - it went smoothly and the firm intends to bring at least two a year in future. He adds that mortgage ILS transactions are an important element of the company's "business model in how it will manage business risks proactively, in a sustainable fashion and on an ongoing basis. It is a similar approach to the GSEs' post-crisis business model, in which we take a more active role and sell a portion of the risk on to investors."
One of the most important functions of these transactions is the dialogue they establish with investors, according to Bennison. "We essentially pass on volatility to investors and transactions like these are a crucial way of developing an information flow between us and investors. By doing these deals and working with investors, we get feedback on how to measure and price risk, which helps us to judge the market more accurately."
He adds that while the GSEs' STACR and CAS deals have similar aims as mortgage ILS, Bellemeade "achieves something slightly different." As a result, it may appeal to slightly different investors, particularly from the perspective of liquidity and yield.
As such, he doesn't believe that Arch's product is necessarily looking to muscle in on the GSEs. "With the sheer size of the GSEs, it's difficult to see us as competing with them or interfering with the work the GSEs do. We are an additional participant in the CAS/STACR market rather than a competitor to GSEs and we are always looking to support the mortgage finance system in the US," says Bennison.
Amid ongoing efforts to reduce the GSEs' footprint (SCI passim), Bennison suggests that - regardless of the future of the GSEs - mortgage credit will always be originated and someone will always want to take default risk. As such, his firm intends to be in the position "to take mortgage credit risk regardless of how the market is structured."
For now, Bennison hopes to bring the Bellemeade programme to a wider audience and to help the securitisation industry gain comfort with mortgage ILS, which he believes will come with repeat issuance. He concludes: "Structurally our deals achieve something similar to CAS/STACR and our deals in the future will likely stay the same, although small tweaks might be expected. More rating agencies will likely come in, along with more investors and more interest in the deals. More investor activity will also help with secondary market liquidity."
14/11/2017 12:52:51
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