Contents

CDO

Starting gun

New front emerges in Trups CDO enforcement

American Bancorp was last month forced into involuntary bankruptcy, marking the first case where Trups CDO holders worked together to enforce their creditor rights. As other bank Trups issuers reach the end of the deferral window for non-payment of interest, further cases of this type are expected to emerge.

The American Bancorp case concerns the Alesco Preferred Funding 2, 15 and 16 transactions. ATP Management and Cohen & Co - which manage the CDOs - filed suit in the US District Court in Minneapolis, claiming that the bank owed them US$48.1m after failing to make interest payments on a portion of the underlying Trups. American had exercised its option to defer payments with respect to approximately US$30m in principal amount of outstanding Trups for five years from June 2008.

A recent Davis Polk client memo describes the decision to force the bank into bankruptcy as "a new front in the campaign by distressed debt investors to gain footholds and leverage against distressed bank holding companies". Some banks with extensive Trups-related liabilities have previously voluntarily filed for bankruptcy protection, most often to effectuate prearranged sales and recapitalisations of their bank subsidiaries. Others have either negotiated discounted repayment schedules with Trups holders or refinanced their debt via capital infusions.

Section 303 of the US Bankruptcy Code provides that, under certain circumstances, creditors can force a company into either chapter 7 or chapter 11. However, Davis Polk points out that filing an involuntary bankruptcy petition subjects creditors to the risk of liability for costs, professional fees and damages if the debtor company is successful in challenging the filing. Additionally, even if an involuntary petition is upheld, costs of administering the case can reduce potential creditor recoveries as compared to an out-of-court solution.

The law firm suggests that the long-term impact of the case and the efficacy of this strategy in future situations may hinge on the outcome of American's chapter 11 restructuring. "If American's bankruptcy is successful (for instance, if it ultimately sells its subsidiary bank at an attractive price), other such cases - or the threat of such cases - will likely follow. In any event, distressed debt investors' willingness to employ this strategy should add incentive for distressed bank holding companies to formulate, negotiate and implement restructuring and recapitalisation plans ahead of the expiry of their deferral periods," it notes.

Dave Jefferds, co-founder and coo at DealVector, agrees that if a bank has become healthier but isn't in perfect health, it would be helpful to be able to bring new money in and restructure a CDO - working with all of the different participants in the capital structure. "Although this would be a private sector-driven solution, the key for new money is the strength of the subsidiary," he says.

Many regional banks are stabilising after the financial crisis, but the way they are structured means that the operating bank tends to be a subsidiary of a holding company. The US Fed regulates the holding company, while the FDIC regulates the operating bank subsidiary. Because of this regulatory split, the Trups liabilities are held by the holding company, yet the operating banks can't upstream the funds necessary to cure them.

"Regional banks are frustrated because they're unable to solve a problem that should have a straightforward answer. What may end up happening is that the holding companies are forced into bankruptcy and a stronger regional bank will acquire them. But it feels like a policy solution could be brought to bear on the situation if there was more regulatory flexibility," Jefferds observes.

He suggests that between 200 and 300 bank Trups issuers are currently deferring on their interest payments. An estimated US$30bn Trups were bundled into CDOs and around US$4bn of these are still deferring. Deferring banks typically have five years to restart their payments and, in the majority of cases, that deferral window is now coming to a close.

At least two pending bank sales are said to be linked with interests in Trups CDOs - the divestitures of First Mariner Bank to the RKJS Inc investor group and Idaho Banking Co to Banner Corp. Bank of New York Mellon, acting in its capacity as trustee for 27 unmanaged Preferred Term Securities CDOs, also recently disclosed that it has been informed by a group of investors that they are willing to take the lead in certain scenarios involving defaulted Trups collateral.

This group will reportedly indemnify the trustee as they undertake various legal actions. Scenarios in which noteholder direction is anticipated include bank holding company bankruptcies, five-year interest payment deferrals, defaulted recoveries and indenture breaches.

Trups CDO bonds are generally difficult to source, so demand remains for the paper, especially control positions that benefit from workout scenarios. However, the secondary market for the securities is currently wide and illiquid, due to the dearth of information.

Jefferds notes that as more Trups bankruptcies flow through the system, the number of data points should rise. He expects this to result in a narrowing of Trups CDO spreads and increased deal volume in the secondary market.

CS

ABS

Autos augment ABS mix

US ABS secondary market activity picked up yesterday as BWIC volume reached around US$172m. SCI's PriceABS data captured a mix of auto, credit card, equipment, railcar and franchise loan bonds out for the bid.

The auto sector, in particular, was busy - with covers seen for several tranches yesterday. These included the CARMX 2012-2 A3 tranche, which was talked at plus 15 and covered at plus 13.

The HAROT 2014-1 A2 tranche was talked at plus 12 and covered at plus 11. That bond had been covered on 1 April at 99.98.

Additionally, HDMOT 2014-1 A2A was talked at plus 18 and covered at plus 16, while WOART 2014-A A2 was talked at plus 15 and covered at plus 14 and VALET 2014-1 A2 was talked at plus 12 and covered at plus 13. The VALET tranche was covered at 99.98 on Monday.

In the credit card space, meanwhile, a few CCCIT tranches were circulating - as well as the SLFT 2013-AA A tranche, which was covered at plus 162. That bond was previously covered on 22 April at 166.

CCCIT 2007-A8 A8 was covered at 26 during the session, having been previously covered on 22 May at 23 and on 20 May at 28. CCCIT 2008-A1 A1 was covered at 28, with the previous cover recorded on 12 September 2013 at plus 42. Finally, CCCIT 2013-A6 A6 was covered at 19, having been talked in March at plus 22 and covered in February at plus 23.

Away from credit cards, the GEEST 2014-1A A2 equipment ABS tranche was talked at plus 23 and covered at plus 22, while the FRS 2013-1A A1 railcar tranche also traded. The FRS bond had only previously appeared in PriceABS on 6 January, when it was talked at plus 130.

Tranches from a couple of franchise loan securitisations were also out for the bid. The first was EMAC 2000-1 A2, secured by loans to gas and convenience store operators, which was recorded as a DNT.

The second franchise loan bond was SPMF 2014-1A A2, which was talked in the mid-160s and at swaps plus 165. That tranche was covered at plus 164.

Also of interest from the session was the NYCTL 2013-A A tranche, which was covered at 99.84. The bond is part of the New York City Tax Lien deal issued last summer.

JL

CMBS

US CMBS market rallies

The US CMBS market rallied yesterday as spreads tightened. Trepp reports that secondary volumes reached the highest level of the week, at about US$300m, as banks took down large blocks of CMBS 2.0 and 3.0 bonds.

"Legacy super seniors and new issue triple-As were a basis point or two tighter for the most part. The GSMS 2007-GG10 A4 bond was an exception, finishing at 83bp over swaps, unchanged for the day," Trepp notes.

SCI's PriceABS data recorded a cover price of 82.4 for the GSMS 2007-GG10 A4 tranche yesterday. It was covered on 12 March at 108 and on 21 February at 150.

The GSMS 2013-GC16 A4 tranche was also out for the bid and talked at plus 80, while the GSMS 2013-GC16 AS was talked at plus 100. That AS bond had never previously appeared in the PriceABS archive.

Paper was picked up from across the capital stack, with the CGCMT 2004-C2 F tranche covered in the low/mid-200s. The BSCMS 2005-T18 F tranche also traded, while both BSCMS 2005-PWR9 E and BSCMS 2005-T18 E were recorded as DNTs.

The BSCMS 2007-PW16 A4 tranche was covered at 60, having previously been covered at 74.5 on 31 January and at 89 on 21 January. The bond first appeared in PriceABS on 1 June 2012, when it was covered at 180.

The MLCFC 2006-3 AJ tranche was covered at 352. It was previously covered on 28 April at 388.9 and before that was covered on 28 October 2013 in the mid-500s.

Other AJ paper was also out for the bid, such as CGCMT 2008-C7 AJ. That bond was covered in the low/mid-400s, having previously been covered in March at 515.

Also of note from the session was the CSMC 2007-C4 A1AM tranche, which was covered at 174. That tranche was covered at 242 on 12 March and had been covered at 316 in January.

Additionally, several agency CMBS tranches circulated during the session. Covers were seen for FREMF 2013-K30 X2A, FREMF 2013-K30 X2B and FREMF 2013-K502 X2B.

FREMF 2014-K37 X2B and FREMF 2014-K714 X2A were also covered, as was FREMF 2014-K714 X2B. The latter tranche was talked at plus 210 and covered at plus 175, having also been talked at plus 210 on Wednesday.

JL

RMBS

Large RMBS lists lined up

A large US$1bn US non-agency RMBS bid-list was announced yesterday and due to trade today. The list contains 24 line items, with a significant amount of subprime paper.

The remaining paper is understood to be split evenly between Alt-A hybrid and pay option ARM paper and Interactive Data notes that all bonds are senior in the capital structure. Another US$900m bid-list has been announced for tomorrow.

Non-agency supply yesterday was stronger than the previous session, with BWIC volume reaching close to US$500m. SCI's PriceABS data shows a mixed bag of bonds out for the bid, with supply focused on pre-crisis vintages.

The CWALT 2005-51 2A1 tranche was covered yesterday at 83 handle. It was joined by CWALT 2005-62 1A1, which was covered at 84.

The CWHL 2005-HYB8 2A2 tranche was covered in the mid-30s, while MEDL 2005-2G A was covered at 99.65. The latter tranche had been covered at the same level on 24 April and at 99.61 on 11 April.

The BSMF 2006-AR1 2A1 tranche was covered in the high-70s. When it first appeared in the PriceABS archive on 16 July 2013 it was talked in the mid/high-60s.

CWALT 2006-OA19 A2 was covered in the mid/high-20s, while OMTS 2006-OT1 A1 was covered in the low-30s. That OMTS tranche had been talked at around 30 on Monday and was talked in the low/mid-30s on 23 April.

There was also 2007-vintage paper, such as the CRGT 2007-1 A1 tranche. It was covered at 99.77, having been covered at 98.69 last Friday.

Price talk on the CRGT tranche was at 98.5 on 5 June and the tranche was covered at that level on 24 April. The tranche was also covered at 98.56 on 11 April and before that was covered at 97.92 on 13 December 2013.

Also out for the bid was the WST 2007-1G A2A tranche, which was covered at 99.91. The tranche was covered last week at 99.88 and twice in April: first at 99.78 and then at 99.81.

JL

Structured Finance

ECB furthers support for ABS

The ECB has announced measures to support lending to the real economy, including intensifying preparatory work for outright purchases of ABS. The bank also intends to conduct a series of targeted longer-term refinancing operations (TLTRO).

Marking an important step in shifting attitudes towards the asset class, the ECB will consider purchasing simple and transparent ABS, with underlying assets consisting of claims against the euro-area non-financial private sector. Which key requirements such transactions will have to meet in order to be eligible has not yet been decided. The central bank says that further details will be announced in due course and demand is expected to be boosted significantly if a blueprint can be agreed.

Deutsche Bank asset-backed analysts note that the ECB could well extend its purchase programme beyond the limited SME ABS sector, as had previously been expected. They estimate that the European investor-placed ABS target market is sized at €185bn.

"While this number rises to €620bn if retained issuance is included, in reality the purchase programme could have a smaller cap of, say €50bn - similar to the covered bond purchase programmes, where €60bn and €40bn were targeted in the first and second phases respectively," they add.

The size of the European ABS market means that it is unlikely to be large enough to impact on QE, if and when that follows. The Deutsche Bank analysts note that if QE were sized to deliver a similar quantum of stimulus as in the US - 12.5% of GDP - it would equate to €1.2trn in European ABS purchases.

However, the current issuance run rate is just €80bn, so broader QE would need to encompass more than just ABS. While retained issuance provides direct funding to banks, it probably would have only a limited impact in meeting the ECB's second objective of boosting bank capital because the securities are only rarely traded.

The ECB's focus on simple and transparent sectors probably rules out CMBS, whole business securitisation and leveraged loan CLOs. As for whether purchases would be in the core or periphery, the size of bonds available for targeting outside the core is around €66.5bn (excluding retained issuance).

Secondary European ABS prices are expected to rally as a result of the ECB's initiative. The market benefits directly from the announcement of potential purchases and indirectly from the liquidity brought about by TLTRO. The analysts note that new issue pricing should follow suit, although there is uncertainty as to whether supply in eligible assets will dry up.

Under the TLTRO, counterparties will be entitled to an initial borrowing allowance equal to 7% of the total amount of their loans to the euro-area non-financial private sector - excluding loans to households for house purchases - outstanding on 30 April. There will be successive TLTROs in September and December, where counterparty borrowing must stay within this 7% initial allowance.

From March 2015 to June 2016, counterparties will be able to borrow additional amounts in a series of TLTROs conducted quarterly. All TLTROs will mature in September 2018.

JL

Structured Finance

SCI Start the Week - 9 June

A look at the major activity in structured finance over the past seven days

Pipeline
Many more deals joined the pipeline last week than had been added in the week before. They consisted of four ABS, an ILS, an RMBS, two CMBS and seven CLOs.

The newly-announced ABS were: US$726.9m GEET 2014-1; US$200m Hilton Grand Vacations Trust 2014-A; US$850m NALT 2014-A; and US$93.1m Rhode Island Student Loan Authority Series 2014-1. The ILS was US$300m Alamo Re Series 2014-1 and the RMBS was US$250m WIN 2014-1. Meanwhile, the CMBS comprised €355m DECO-2014 Gondola and US$770m JPMCC 2014-C20.

As for the CLOs, those consisted of: A10 Term Asset Financing 2014-1; US$1.5bn ALM XIV; US$622m CIFC Funding 2014-III; US$459.75m JFIN CLO 2014-II; US$408.25m Magnetite IX; US$619.79m OZLM VII; and Phoenix Park.

Pricings
Even more deals priced last week. Of these prints, 11 were ABS, six were RMBS, six were CMBS and 10 were CLOs.

The ABS new issues comprised: US$1.4bn AmeriCredit Automobile Receivables Trust 2014-2; US$225m California Republic Auto Receivables Trust 2014-2; US$850m Citibank Credit Card Issuance Trust 2014-A5; US$1bn CNH Equipment Trust 2014-B; US$202.5m CPS Auto Receivables Trust 2014-B; £500m Delamare Cards 2014-1; US$1.5bn Fifth Third Auto Trust 2014-2; US$617m MMAF Equipment Finance 2014-A; US$612m PHEAA Student Loan Trust 2014-2; A$930m SMART ABS Series 2014-2E Trust; and US$150m Tidewater Auto Receivables Trust 2014-A.

The RMBS prints consisted of: the re-offered €1bn Claris ABS 2011; US$1.639bn-equivalent Fosse Master Issuer Series 2014-1; £475m Friary No. 2; A$1.25bn IDOL Trust 2014-1; €500m MARS 2600 series V; and €750m Storm 2014-II. Meanwhile, the CMBS were: US$655m CSMC Trust 2014-ICE; US$865m EQTY 2014-INNS Mortgage Trust; US$1.45bn GCMT 2014-388G; US$961.5m GSMS 2014-GC22; US$350m LCCM 2014-909; and US$1.3bn MSBAM 2014-C16.

Finally, the CLO pricings comprised: US$619m ACAS 2014-1; €382.4m ALME Loan Funding II; US$555m BlueMountain CLO 2014-2; €400m Carlyle Global Market Strategies Euro CLO 2014-2; US$413m Flatiron CLO 2014-1; US$414m Galaxy XVII CLO; US$481m Kingsland VII; US$620m KVK CLO 2014-2; US$409m NewStar Arlington Senior Loan Program; and US$777m OHA Credit Partners X.

Markets
The week started with limited activity in the US ABS and MBS markets, but an active session for the US CLO secondary market, as SCI reported on 3 June. SCI's PriceABS data listed more than 30 unique US CLO tranches for Monday's session, with vintages ranging from 2005 up to 2014.

US ABS activity picked up during the week and BWIC volume reached around US$172m on Wednesday (SCI 5 June). That session saw a mix of auto, credit card, equipment, railcar and franchise loan bonds out for the bid - including the SPMF 2014-1A A2 tranche, which was talked in the mid-160s and at swaps plus 165, before being covered at plus 164.

Demand was stable in the US non-agency RMBS market, with weekly trade volume of around US$6.2bn and BWIC volume of about US$2.4bn, according to Wells Fargo structured product analysts. There was some widening for GSE risk-sharing M2 and M3 bonds.

European RMBS spreads tightened on the back of the ECB's announcement (SCI 6 June), according to JPMorgan asset-backed analysts. Peripheral jurisdictions benefited the most, with Spanish RMBS and Italian RMBS tightening by 20bp and 10bp respectively at the senior level.

There was also a rally in the US CMBS market, where spreads tightened on Thursday as secondary volumes climbed (SCI 6 June). Banks were particularly keen to take down large blocks of CMBS 2.0 and 3.0 bonds.

The European CMBS market, meanwhile, has been subdued lately but saw a few BWICs announced for Wednesday and Thursday, which one trader expected to inject some life into the market (SCI 4 June). "The fact that they were announced so close together might just be a coincidence, but it could also mark the start of increased activity," the trader says.

He adds: "Everybody will be at the conference in Barcelona [this] week and after that summer is just around the corner, so if activity is going to pick up, it will have to be soon. These upcoming BWICs should generate some selling and that is positive, but if the primary market can also pick up, then that would really start a buzz."

Deal news
• Credit Foncier de France's €907m CFHL-1 2014 prime RMBS - which closed last month (see SCI's primary issuance database) - is noteworthy as the first public French RMBS since the financial crisis and because it was fully placed, with an innovative structure aimed at achieving significant risk transfer (SCI 1 May). In particular, the €376m class A2 tranche is re-marketable instead of being subject to a time-call option.
• CWCapital has reportedly taken formal ownership of Stuyvesant Town-Peter Cooper Village via a deed-in-lieu of foreclosure. The move is said to have prevented another party from seizing control of the asset by exercising its right to buy a key loan on the property.
• Hatfield Philips International (HPI) has outlined its credentials and performance as servicer and special servicer on the Windermere X CMBS portfolio. The move appears to be in response to efforts by the controlling class representative (Brookland Partners) to replace HPI with Mount Street Loan Solutions as special servicer of the Bridge, Built, Lightning Dutch and Tresforte loans (see also SCI's CMBS loan events database).
• Further details have emerged about Volkswagen's much-anticipated debut Chinese auto loan ABS, the RMB799.7m Driver China One Trust (SCI 1 April). The deal - arranged by CICC - is structured under the China Banking Regulatory Commission's credit asset securitisation regime.
• The US Court of Appeals for the Second Circuit has vacated an order by a US district judge which refused to approve a settlement between the SEC and Citigroup Global Markets. The underlying dispute concerns SEC allegations that Citi sold a US$1bn CDO called Class V Funding III without disclosing that it had bet US$500m against the assets in the deal.
• There is a risk that Watercraft Capital bondholders will not be compensated for the delay in the re-development of the Castor oilfield, following seismic activity in the region. The transaction is the first to be issued under the EU's Europe 2020 Project Bond Initiative and refinances outstanding loans in connection with the construction and operation of an underground gas storage facility off the northern Spanish Mediterranean coast (SCI 15 July 2013).
• Dock Street Capital Management has been retained to act as liquidation agent for RFC CDO IV in a public sale of the collateral scheduled for 12 June. Separate auctions will be conducted for Belle Haven ABS CDO 2006-1, Kleros Preferred Funding and Trainer Wortham First Republic CBO V on 20 June.
• HoldCo CDO Opportunities Fund has amended its tender offer for SKM-Libertyview CBO I class C and D notes (SCI 27 May). Under the amendments, the deadline for receiving an early tender premium has been extended to 13 June and the expiration date has been extended to 7 July.

Regulatory update
• The ECB has announced measures to support lending to the real economy, including intensifying preparatory work for outright purchases of ABS. The bank also intends to conduct a series of targeted longer-term refinancing operations (TLTRO).
• AFME has welcomed the Bank of England and ECB's discussion paper on revitalising the European securitisation market (SCI 30 May), noting that the report "helpfully acknowledges" the strong performance of high‐quality transactions in the region. The association adds that the concept of 'qualifying securitisations' fits well with recent calls by the European Commission to revive a sustainable market for high‐quality securitisation in Europe, as well as the analysis currently being undertaken by the European Banking Authority.
• IOSCO has published a consultation report entitled 'Good Practices on Reducing Reliance on CRAs in asset management'. The purpose of the report is to gather the views and practices of investors and other interested parties in order to develop a set of good practices designed to reduce overreliance on external credit ratings in the asset management space.

Deals added to the SCI New Issuance database last week:
A-Best 9; Aozora Re; Atlas Senior Loan Fund V; BPCE Master Home Loans; Delamare Cards MTN Issuer series 2014-1; Dutch Mortgage Portfolio Loans XII; EQTY 2014-INNS; iArena; Invitation Homes 2014-SFR1 Trust; Jamestown CLO IV; Kentucky Higher Education Student Loan Corp Series 2014A; Nakama Re series 2014-1; Regatta IV Funding; RESIMAC Premier Series 2014-1; RevoCar 2014; Sanders Re series 2014-2

Deals added to the SCI CMBS Loan Events database last week:
BACM 2007-4; BACM 2008-1; BSCMS 2007-PW15; CGCMT 2006-C4 & CD 2006-CD3; COMM 2006-C8; CD 2007-CD4 & GECMC 2007-C1; CSFB 2005-C5; DECO 2006-E4; DECO 2007-E5; DECO 9-E3; EMC IV; EMC VI; FREMF 2011-K13; GECMC 2001-1; GMACC 2004-C3; JPMCC 2006-LDP7; LBUBS 2006-C7; LBUBS 2007-C2, LBUBS 2007-C7; LBUBS 2008-C1 & JPMCC 13-WT; LEMES 2006-1; MALLF 1; MSBAM 2013-C8; TAURS 2007-1; TITN 2007-1; TITN 2007-CT1; TMAN 7; WBCMT 2006-C25; WFRBS 2011-C2

CMBS

Portfolio purchase surprises to upside

The portfolio underlying the FOX 1 CMBS has been purchased by Kennedy Wilson Europe Real Estate for £296m, which is £48m more than its most recent valuation. The property recovery estimate in September had been £235m (SCI 5 September 2013).

The FOX 1 portfolio was acquired through a CMBS loan enforcement. The English assets were sold by Dudley Holme-Turner of Cushman & Wakefield and Simon Thomas from Moorfields Corporate Recovery, while the Scottish assets were sold by Mount Street. Kennedy Wilson already owns certain subordinated loans secured by the portfolio, which it acquired in April.

The portfolio comprises 21 assets throughout the UK. It includes nine offices, two mixed, five car showrooms, three leisure, one retail and one warehouse.

The top seven assets in the portfolio represent 84% of its total value. It delivers gross rental income of £25m per annum.

"The Fox portfolio - a diverse portfolio of UK secondary assets - is in fairly good shape, but with great asset management opportunities, which makes the portfolio an attractive investment for Kennedy Wilson. There was a lot of interest in the portfolio, as well as in some of the Scottish assets," says Paul Lloyd, managing partner and head of servicing at Mount Street.

Asset manager Fordgate and property manager Mayfield Property Management were retained and played a key role in continuing conversations with tenants, where negotiations were ongoing. Lloyd notes that such continued engagement was important in preventing delays.

"We took over the portfolio on 7 March 2014, when we acquired Morgan Stanley Mortgage Servicing, and there had been some concern in the market about how many standstills there had been. Within three months, we have achieved this sale and hopefully will have exceeded expectations in getting such a high recovery," he adds.

The valuation in November was £248m (see SCI's CMBS loan events database). In the current climate, that figure might have been expected to provide a ceiling for bids, but instead the portfolio has been sold for £296m - which Lloyd describes as a "good result".

He concludes: "That £48m is a lot of value to get out. It allows full recovery for the senior noteholders and even some recovery for junior lenders as well."

JL

RMBS

Remarketing feature to replace calls?

Credit Foncier de France's €907m CFHL-1 2014 prime RMBS - which closed last month (see SCI's primary issuance database) - is noteworthy as the first public French RMBS since the financial crisis and because it was fully placed, with an innovative structure aimed at achieving significant risk transfer (SCI 1 May). In particular, the €376m class A2 tranche is re-marketable instead of being subject to a time-call option.

European securitisation analysts at Barclays Capital suggest that the deal's full placement and structure follow recent calls from the French central bank to reduce balance sheet and risk-weighted assets, so as to increase lending to corporates and SMEs. According to a December 2013 EBA publication, significant risk transfer is unlikely to be achieved if a securitisation includes a call option that increases the likelihood that the underlying assets will be placed back onto the originator's balance sheet.

Likely for this reason, the CFHL-1 2014 class A2 notes can be re-marketed - for refinancing purposes - on two dates, the first being the step-up date in April 2019 and the second being on or after five years after that. The eligibility for remarketing depends on certain conditions, including a minimum subscription level and a maximum spread requirement.

"This should remove potential non-economic considerations of the originator when deciding whether to call a note or transaction on the time-call date, which could result in calling a note/transaction even in adverse market conditions and is disliked by regulators," the Barcap analysts observe.

They note that initial concerns that the reliance on remarketing would make investors hesitant and price it off a WAL longer than five years were misplaced. The triple-A rated class A1 (sized at €428m) and A2 notes ultimately priced at the tight end of the final guidance at 37bp and 65bp over three-month Euribor respectively, with WALs of three and 5.1 years, after guidance levels were revised tighter twice. Indeed, the transaction was heavily oversubscribed across the capital structure.

Secondary market performance has been strong for all tranches to date: the A1 and A2 classes tightened to 33bp and 49bp respectively, while classes B and below are all bid above 102% of par.

"In our view, the successful placement and performance of CFHL-1 2014 has been watched closely by other originators and the remarketing feature of the slow-pay senior bond will likely feature prominently in future European ABS deals and could replace the currently common time-call options for transactions in which the originator aims for significant risk transfer. However, investors could become more cautious when assessing the likelihood of a successful remarketing when absolute spreads tighten further," the analysts note.

The portfolio comprises 8,907 loans, with an average current balance of €103,615. The pool has a WA OLTV of 72.9%, a WA current LTV of 64.3%, a WA debt-to-income of 29.8%, a WA seasoning of 47.7 months and a WA remaining term of 237.7 months. The majority (80.8%) of the loans are secured by a mortgage, while the remainder are secured by a caution from Crédit Logement.

The transaction was arranged by Credit Suisse, JPMorgan, Lloyds, Natixis and RBS. Ratings were assigned by Fitch and Moody's.

CS

Structured Finance

Bondholder communications reviewed

The ICMSA discusses how the trustee community has worked to address concerns around bondholder meetings and voting mechanisms

A lively discussion between investors and trustees at the 2010 Global ABS conference was a catalyst for the ICMSA¹ to revisit bondholder communication processes. Given the rise in bondholder meetings due to the fall-out from the financial crisis, bondholder communications were put squarely under the spotlight.

Trustees are one link of the bondholder communication chain, but are seen as pivotal as they facilitate the notice delivery and voting process. Over the last four years, they have proactively been working with the other links in the chain to improve not only bondholder communications, but also bondholder meeting provisions. The ICMSA has consequently produced a pro forma set of standard provisions for bondholder meetings and voting, which were published in April.

This article addresses the recent developments in communications and voting mechanisms, as well as the scope of trustee consent rights. These arise out of ongoing concerns that commonly used document provisions for each do not adequately address the needs either of issuers or investors in terms of ensuring that timely changes can be made to transactions.

An issuer of bonds or debt securities may, at some point, need to restructure its business or its debt financings or amend material terms of the securities for structural, regulatory or other reasons. Where the interests of holders of the securities are represented by a trustee, the issuer may look to the trustee to consent to its restructuring or amendment proposals without seeking the views of holders - a common discretionary power of the trustee in bond trust deeds (subject to certain limitations). Where the trustee is unable to give that consent, the issuer would seek the approval or sanction of the requisite threshold of holders to such proposals through the holder voting process.

Bondholder voting mechanics
Bondholder voting mechanics - typically scheduled to the bond trust deed - have come in for much criticism by both issuers and holders alike in recent years, particularly in the context of corporate and debt restructurings, because of the difficulty of mobilising large numbers of bondholders to vote on restructuring proposals tabled by the issuer and inflexible and complex voting mechanisms. Having resolved to seek holder approval to its proposals (which it will inevitably want to implement in a timely and efficient manner), the issuer is then faced with the following challenges:
• communicating information to holders (chain of ownership) and
• obtaining votes from holders (voting requirements).

Taking each of these challenges in turn: first, the chain of communication from the issuer through the International Central Securities Depositories (ICSDs) in which the securities are typically held² - via custodians and sub-custodians to the ultimate beneficial holder and communication from that beneficial holder back up to the ICSDs - can be a slow and confusing process, partly because historically not all parties in the chain use real-time, electronic processing. Second, the presence of unduly complex meeting and voting mechanics is problematic.

Communication with holders
Adequate notice must be given to holders of a meeting of holders, and bond trust deeds usually provide for 21 days' notice to be given to holders of the meeting and the nature of the resolution to be considered. The terms of the securities will stipulate how and where the notice is to be published. Bond trust deeds will usually provide for notices to be published in a leading European newspaper and/or delivered to the relevant ICSDs for communication to each accountholder who is shown in the records of the relevant ICSD as a holder of an interest in the securities of that class.

Over the years, concerns have been raised by investors that such notices are not reaching them in sufficient time (or at all) to enable them to determine whether to attend the relevant meeting and vote on the proposal tabled by the issuer. This finding, if prevalent, could have adverse consequences for an issuer seeking to effect a consensual restructuring in a timely fashion.

In responding to this concern, it is worth examining the chain of ownership or entitlement of a class of securities which is represented by a global certificate held by a common depositary for the ICSDs (being, for the purpose of this analysis, Clearstream, Luxembourg and/or Euroclear Bank). A typical chain of entitlement and communication for the ICSDs can be illustrated as follows:

Recent developments
The ICSDs have, under the auspices of the International Securities Market Advisory Group (ISMAG) and in collaboration and conjunction with issuers, agents, common depositaries and custodians - representing the full end-to-end communication process chain - produced operational guidelines (namely, the International Securities Operational Market Practice Book) for reference and use by the various market intermediaries represented in the above diagram. The guidelines, updated annually to meet market and regulatory changes, were produced with the aim of ensuring an efficient end-to-end communication and processing service for investors. The roles and responsibilities of the parties involved in this processing chain (including, without limitation, the information flow and expected timings) for communicating with holders are fully consistent with the guidelines, including guidelines produced by the Corporate Actions Joint Working Group, set up under the auspices of the Committee of European Securities Regulators (CESR) and which also form the European market 'baseline' model from the inception of Target 2 for Securities.

Timeliness of bondholder communications
The ICSDs send corporate action notifications within 24 hours of receipt from the issuer (or its agent or the trustee) to the ICSD accountholders, who in turn usually pass on this information to the next level in the chain within a similar timeframe. In line with the guidelines, 10 days is the minimum recommended period for action or an election in the context of a corporate action event, as in the majority of cases the relevant holders are at one level below the ICSDs' immediate accountholder.

Analysis of ICSD statistical data shows that the majority of ICSD accountholders react quickly to notices and obtain the full notification from the ICSDs, with 85% of eligible holders reacting within three days of the launch of a corporate action event to obtain the full notice. Between five and seven days following launch, there is usually another spike in accountholder activity, which is likely when the next level or ultimate beneficial holders receive their notifications (which underlying investors or ultimate beneficial holders receive via electronic means or, in some cases, by post, from their custodians). This process and the timings involved are illustrated in the following flow chart:

Bondholder voting requirements
Central to an effective meeting of holders and a valid resolution are voting mechanics that work both for holders and under the bond documentation. It is important to be able to identify who is entitled to attend and vote at the meeting or in respect of the resolution being proposed and that securities cannot be voted twice.

Where securities are held through ICSDs, there are two often used processes to ensure verification of voting holders. The first is 'blocking securities', where the ICSD accountholders are notified of the corporate action event and - once votes are received by the ICSDs from their accountholders - the voted position in the securities is 'blocked' from trading. The voting instruction is communicated through the custody chain (illustrated above) to the ICSDs (who in turn inform the issuer's agent/trustee) and the securities remain blocked in the clearing systems until the conclusion of the corporate action event (being the bondholders' meeting at which the relevant resolution is passed or voted down).

However, while regularly used, this process is sometimes frowned upon by investors. The process of blocking securities is exactly that - accountholders cannot trade, lend or transfer securities while they remain blocked and this ensures that securities cannot be voted twice, thereby undermining the validity of the resulting resolution.

The second process is setting a 'record date' which is specified in the notice informing holders of the meeting, resolution and voting requirements. Once votes are received by the ICSDs from their accountholders, the voted position does not need to be blocked, but the positions are verified as at the record date against votes received by the ICSDs and only securities held by the accountholder on the record date can be voted upon and counted.

This process is favoured by holders who wish to have the flexibility of being able to trade or lend their securities. However, where a 'record date' mechanism such as this is not contemplated by the bond trust deed, there is a risk that the validity of a resolution passed on this basis may be vulnerable to challenge due to a procedural irregularity. So it is important to ensure that there is not a divergence between the bond documentation and the voting process being used.

The way forward?
It is generally accepted that the mechanisms for voting are in need of review, but a significant overhaul should not be necessary. In response to concerns raised by market participants about practical issues arising from bondholder meeting and voting mechanisms, ICMSA - through its Bondholder Communications Working Group - has reviewed these mechanisms and, following consultation with its members, has produced a pro forma set of standard provisions for meetings and voting in relation to securities which can be used or adapted for use on capital markets transactions. A copy of the pro forma is available on the ICMSA website.

The pro forma is intended to streamline and simplify bondholder meeting and voting mechanisms and includes the following key features:
(i) the ability to cancel a meeting after it is convened but before it is held by notice to holders;
(ii) where securities are cleared through The Depository Trust Company (DTC) and, in the context of a consent solicitation, are eligible for DTC's Automated Tender/Offer Programme (ATOP), holders may vote on the resolution the subject of a consent solicitation electronically through ATOP;
(iii) where securities are held through ICSDs, resolutions may be passed by holders of the requisite percentage of principal of the securities approving such resolution by way of electronic consents communicated through the clearing systems within a specified timeframe, without the need for a meeting; and
(iv) flexible procedures for passing written extraordinary resolutions where securities are held through ICSDs.

By publishing the pro forma, ICMSA is seeking to establish a market standard for bondholder meeting and voting provisions that may be used on or applied to any issue of debt or equity-linked securities under English law. ICMSA believes that the pro forma will benefit its members and market participants by standardising and simplifying traditional bondholder meeting provisions and providing voting mechanics which aim to achieve speedier and effective decisions by holders.

Model wording for mandatory trustee consent
Discretionary powers of the trustee are typically limited to the ability to effect amendments that will not be materially prejudicial to the interests of defined beneficiaries or are of a formal, minor or technical nature or made to correct a manifest error. The power to effect the latter types of amendments is much less commonly invoked than the power in connection with the former types of amendments. For trustees and issuers, there are challenges in assessing the impact of certain categories of amendment on relevant beneficiaries' interests.

Examples of amendments that have caused particular difficulties in the market include those arising from changes to rating agency criteria, affecting common transaction parties such as account banks, liquidity providers and swap counterparties, as well as changes to law or regulation or the introduction of new regulatory requirements. The aim of market participants - including ICMSA, in consultation with its members - who have been involved in formulating standard provisions (model wording) for inclusion in structured finance/bond documents has been to provide trustees and issuers with an objective means by which each can overcome such difficulties by removing the need in certain circumstances for trustees to exercise discretion when agreeing modifications.

The model wording does not replace discretionary consent provisions, but sits alongside them for defined categories of modification, notably those relating to rating agency criteria and regulatory change. The menu of circumstances in which an issuer might seek to hardwire the consent has been the most debated of the provisions within the clause and will require agreement on a transaction-by-transaction basis. All of the language will require agreement on a transaction-by-transaction basis as certain trust houses will have their own comments.

Readers' attention is drawn also to the wording within the provision, included at the request of certain institutional investors and which is commonly referred to as a negative consent mechanism. This protection for investors requires the issuer to give advance notice of any change proposed under the mandatory consent provision to investors and prescribes a period during which investors holding a specified percentage of the most senior class of notes (10% under the model wording) may respond with their objection (which would result in the proposal failing). If insufficient objections are received within the prescribed period, investors are deemed to have no objection and the trustee will give effect to the proposal, assuming other relevant conditions are met.

The model wording retains the concept of 'reserved matters/basic terms modifications', for which an issuer must still seek beneficiary approval. Otherwise the trustee is entitled under the provision to disregard the effect of the proposed change on the interests of its beneficiaries.

The ICMSA is committed to helping improve bondholder communication, alongside other industry participants. The Association has listened, taken feedback on board and published recommendations, with the aim of setting and maintaining market standards for the benefit of all parties.

 
Footnotes
¹ International Capital Market Services Association (ICMSA) is a London-based self-regulatory organisation representing international financial and non-financial institutions active in the provision of services to the international capital markets. Membership includes universal banks, registrars, stock exchanges, law firms, International Central Securities Depositories (ICSDs) and other service providers specialised in specific product segments, such as the processing of tax reclaims. The primary purpose of the association is to foster the highest standards in the practice and management of international capital market services, thereby facilitating the efficient functioning of the market.
The trustee committee of the ICMSA focuses on current market issues and events surrounding trustees.
² This assumes the securities are immobilised in the clearing systems by deposit of a global certificate with a depositary for the ICSDs (e.g. Clearstream Banking S.A., Luxembourg or Euroclear Bank S.A./N.V.), with the result that the investor's entitlement is against the depositary - although, where a trustee is in place, the global certificate may provide that the trustee may treat accountholders in the clearing systems as if they were the holder of the global certificate. This is how the majority of securities traded on the capital markets are held and whether those securities are constituted under a trust deed or issued pursuant to a fiscal agency agreement.
*It is not unusual for there to be a further layer of entitlement through one or more custodians or intermediaries overlying the ultimate beneficial holder.

ABS

Data partnership to boost transparency

The European DataWarehouse (ED) and 1010data have signed a partnership agreement under which the ED will make its data available on the 1010data platform. This will include over 30 million loans in 800 RMBS, CMBS, auto, consumer finance, leasing and credit card ABS deals.

The partnership will help to distribute loan-level data more quickly and easily to investors, with 1010data's platform allowing analysis, surveillance, due diligence and model construction. 1010data will also provide ongoing updates to the data which the ED gathers.

ABS

Element expands ABS platform

PHH Corporation is to sell its fleet management services business - including the Chesapeake Funding unit - to Element Financial Corporation, with the transaction expected to close before 31 July. Element has indicated that the acquisition will enhance its securitisation programme.

As part of the transaction, Element will acquire all of PHH Arval's fleet management operations in North America. The two firms will provide certain transitional support services to the other, the duration of which is expected to be up to nine months after closing.

Element's existing fleet management business provides vehicle fleet leasing and management solutions and related service programmes to Canadian companies. The firm previously acquired Transportaction Lease Systems in June 2012 and GE Capital's Canadian fleet portfolio in June 2013.

Chesapeake Funding's issued and outstanding ABS notes stand at US$2.8bn, according to Bank of America Merrill Lynch figures.

Structured Finance

Asset manager adds industry vet

Andrew Bird has joined CQS in London. The structured credit specialist has joined as a portfolio manager.

Bird was previously a principal at Chorus Capital. Before that he held senior structured credit investment positions at Standard Chartered and Dresdner Kleinwort.

Structured Finance

British manager buys US firm

Man Group is set to acquire Pine Grove Asset Management. The transaction is expected to close in the next quarter and will enhance Man Group's presence in the US.

Pine Grove is based in New Jersey and New York and is a credit-focused fund of hedge funds manager. Pine Grove's investment philosophy, strategy and approach will remain unchanged after the acquisition.

Pine Grove president Matthew Stadtmauer will become president of Man Group's fund of hedge funds business, FRM. Tom Williams, who is cio, will also join FRM's investment executive committee.

Structured Finance

Asset manager builds commercial group

Ares Management has expanded into commercial finance by buying Keltic Financial Services and Keltic Financial Partners II. Ares has acquired Keltic's existing loan portfolio and formed Ares Commercial Finance within its direct lending group.

Ares Commercial Finance will be based in New York and combine Keltic's asset-based lending philosophy with Ares' capital strength and origination capabilities. It expects to provide asset-based credit facilities ranging from US$1m to US$30m.

CDO

Court clears way for settlement

The US Court of Appeals for the Second Circuit has vacated an order by a US district judge which refused to approve a settlement between the SEC and Citigroup Global Markets. The underlying dispute concerns SEC allegations that Citi sold a US$1bn CDO called Class V Funding III without disclosing that it had bet US$500m against the assets in the deal.

In November 2011 a judge rejected the parties' proposed US$285m settlement on the basis that it was not in the public's interest because Citi was allowed to neither admit nor deny wrongdoing. The SEC appealed that decision to the Second Circuit, which Lowenstein Sandler notes ruled that it is an abuse of discretion to require the truth of allegations against a settling party to be a condition for approving the consent decrees as while trials are about the truth, consent decrees are about pragmatism.

CMBS

CRE firm opens Boston office

CCRE has opened an office in Boston. It will be led by Tom Sullivan, who will focus on loan origination and servicing CCRE's clients across the greater New England area.

Sullivan joined CCRE in 2012 and reports to co-heads of origination and capital markets Peter Scola and Lawrence Britvan as well as coo Michael May. Before joining CCRE, Sullivan worked in the real estate finance groups at Deutsche Bank, Merrill Lynch and Credit Suisse.

CMBS

Further CMBS content added

Trepp is going to make integrated content and analysis from Morningstar Credit Ratings available to clients. Authorised clients will be able to access Morningstar's monthly DealView surveillance analysis covering CMBS transactions through Trepp.com and TreppTrade, while all Trepp clients will also have access to Morningstar's CMBS presale analysis for new issues.

The move builds on a previous relationship between the companies after Trepp began providing Morningstar's CMBS ratings to clients last year (SCI 14 May 2013). The first release of the new integrated capability will be demonstrated next week, with subsequent phases set to include deeper integration of Morningstar loss estimates and models.

CMBS

Omni builds real estate capabilities

Omni Partners has acquired a stake in Brookland Partners. The deal will provide Omni with additional operational and intellectual capital to develop its internal real estate debt capabilities, while Brookland will benefit from Omni's specialist alternative product experience and institutional infrastructure.

Omni entered the real estate debt space when it acquired UK property lender Capital Bridging Finance last year and integrated it within its existing institutional infrastructure. It now serves as the origination platform for the Omni Secured Lending Fund.

RMBS

Manager adds RMBS team

Alternative investment manager GAM has purchased specialist US RMBS business Singleterry Mansley Asset Management. Gary Singleterry and Tom Mansley, along with their investment team, are expected to join GAM this month.

Singleterry Mansley Asset Management specialises in evaluating RMBS based on an analysis of macroeconomics, yield curves and underlying collateral structures. The acquisition expands GAM's capabilities with a distinct new skillset.

RMBS

Data added to RMBS analytics platform

BlackBox Logic's loan-level non-agency RMBS database is now available on Thetica Systems' cloud platform. The bundled solution will offer market participants powerful data and analytics without having to manage such a large amount of information.

Thetica's platform offers a high-speed analytics module which can run bonds simultaneously under various scenarios, including different pricing and regional metrics. This has now been combined with BlackBox's comprehensive database.

RMBS

RMBS lawsuits return to state courts

A US federal court has granted a motion by several states to remand back to state court 17 lawsuits against S&P. The suits concern ratings of RMBS where the states allege that the rating agency misled their citizens by not disclosing conflicts of interest.

The cases had been moved to federal court and consolidated. However, a Lowenstein Sandler memo notes that the states have successfully argued that their cases arose solely under state law and US district judge Jesse Furman has granted their motion.

ABS

Obligor credit quality improving

Moody's expects declines in average loan balances per receivable in Japanese credit card ABS to continue to help keep default rates low across the sector. This trend began four years ago, following a new regulation that caps the size of an individual's loan based on their income

Average loan balances have fallen by approximately 50%, to ¥140,000 in 2013 from ¥280,000 in 2009. The average default rate dropped in tandem by approximately 70%, to 2.7% in 2013 from 9% in 2009, indicating that the regulation has succeeded in improving obligor credit quality.

Moody's suggests that loan balances will remain at their current lows, given that the rates for additional cash advances and principal payment rates will stay close to each other. This view is underpinned by the fact that the regulation limits the amount that originators can lend and originators have incentives to keep offering additional cash advances in order to secure profitability. If originators want to lend additional cash advances that exceed the principal payment amounts, they will need extra funding from outside the transaction.

ABS

PAYE expansion underway

President Obama has directed the Secretary of Education to propose regulations that would expand the number of borrowers eligible for the pay as you earn (PAYE) programme (SCI 10 March). The action aims to allow all borrowers with any DLP loans outstanding - except for DLP loans made to parents - to apply for the scheme.

Barclays Capital ABS analysts note that, as with the previous version of the programme, only DLP loans continue to be eligible for PAYE - although the monthly payments owed under FFELP loans are still included in the payment cap calculation. In addition, FFELP borrowers can consolidate all of their FFELP loans into a direct consolidation loan to qualify for PAYE.

The administration estimates that the change in PAYE eligibility requirements could assist as many as five million more borrowers, although the changes are not expected to be implemented until December 2015.

The president also announced that the Department of Education will renegotiate its contracts with servicers of DLP loans, providing them with financial incentives to keep borrowers current and reducing payments to servicers when borrowers become delinquent or default. In addition, the department will streamline the reduction of student loan interest rates to the federal maximum of 6% for active-duty military personnel in cases where they are paying more than 6% on their federal loans.

Finally, the president endorsed Senator Warren's student loan refinance bill, which she introduced to the Senate last month (SCI 13 May).

ABS

CPS settlement 'credit negative'

Consumer Portfolio Services (CPS) last month agreed to pay US$5.5m to settle Federal Trade Commission (FTC) charges over its loan servicing and collections practices. Moody's suggests in its latest Credit Outlook publication that the settlement is credit negative for CPS auto loan ABS.

"Although the new servicing requirements outlined under the settlement will bring the company into compliance with applicable laws and regulations, we expect that the settlement will also result in less aggressive efforts by CPS to collect payments on delinquent loans. As a result, it will be more difficult for CPS to bring these delinquent borrowers current on their loans and borrowers will be less likely to make payments until later stages of delinquency, when the consequences of non-payment are more severe, such as repossession of the vehicle," the agency explains.

Longer delinquency times will lead to higher losses in CPS's securitised auto loan portfolio. Because subprime borrowers typically have more limited resources than prime borrowers, they require more intensive collection efforts and can be more difficult to bring current once they have moved into later stages of delinquency. As a result, late-stage delinquent borrowers will be more likely to either make minimum payments to avoid repossession, essentially remaining stuck in the later stages of delinquency, or they will ultimately default on their loans.

Moody's notes that higher delinquencies and losses are already evident in CPS auto loan pools, reflecting changes that the company made to its servicing practices during the course of the FTC's investigation. In several transactions outstanding since 2011, 90-plus day delinquencies have jumped to more than 5% of the current pool balance. In comparison, 90-plus day delinquencies over the first 30 months of a transaction are only 3.5% in an average of CPS transactions dating to 2000.

"The higher delinquencies not only reflect the increased number of borrowers becoming delinquent, but also an increase in borrowers who make the minimum payment to avoid default and, thus, remain in 90-plus day delinquency status," the agency observes.

ABS

Survey highlights trade receivables growth

Trade receivables securitisation has become an increasingly important alternative funding source for corporates as well as a favoured corporate financing technique for banks, according to new research by Demica. A study of Europe's 30 biggest banks and a number of US-based banks active in Europe reveals more than 80% have seen growth in their trade receivables securitisation business or an increase in customer inquiries in the last 12 months.

The growth has been driven by the requirement for corporates to diversify working capital sources and a recovering economy, according to Demica's survey respondents. Further growth is expected over the next 12 months, with high demand in particular expected to originate from sub-investment grade companies who find it increasingly expensive to borrow from banks.

Structured Finance

Spanish ceiling raised

S&P has raised its credit ratings on 62 tranches in 48 Spanish securitisations. The move follows the lifting of its long- and short-term sovereign ratings on the Kingdom of Spain to BBB/A-2 (outlook stable) from BBB-/A-3, in light of improving economic conditions in the country.

Specifically, S&P has raised by a notch its ratings on: 34 tranches in 27 RMBS; 18 tranches in 15 SME CLOs; and 10 tranches in six ABS. The sovereign ceiling for Spain now stands at double-A.

Structured Finance

Euro ABS action plan proposed

The Association for Financial Markets in Europe (AFME) has joined policymakers in calling for the revival of European securitisation to unlock long-term financing and fuel growth. It has released a report, entitled 'High-quality securitisation for Europe', which proposes a five-step action plan to save the market.

"High-level statements of support from central banks and policymakers are extremely welcome, but they need to be translated into positive developments in the reality of regulation," comments Simon Lewis, AFME chief executive. "AFME is calling for urgent coordinated action by European policymakers to reconsider the treatment of securitisation."

AFME's five-step action plan includes recalibrating the rules for risk-weighted assets for bank investors in securitisation set out in the December 2013 Basel Committee re-proposal, so as to reflect the good historic performance in Europe, and bring securitisation into line with other fixed income securities and underlying asset pools. The capital charges for insurance companies seeking to invest in securitisation, set out in the December 2013 EIOPA report, should also be lowered to create a comparable playing field with other fixed income securities. In addition, a wider range of high quality securitisations should be included as high quality liquid assets under the liquidity coverage ratio.

Further, progress already made in improving transparency and disclosure should be acknowledged and built on while avoiding new and intrusive regulations that are not aligned with existing practice. Finally, better coordination between regulators internationally should be undertaken to prevent the 'layering' effect of overlapping regulations, as well as the promotion of mutual recognition of equivalent standards.

Regulatory uncertainty and broader macroeconomic issues are causing the European securitisation market to shrink. According to AFME statistics, the volume of placed issuance fell to only €13.6bn in 1Q14.

In 2013, total issuance in Europe was €181bn - a decline of 28% from 2012. Less than half of this (€76.4bn) was placed with investors and the remainder was retained by issuers for repo purposes.

"If securitisation regained even the issuance volumes of a decade ago, this could release up to €150bn a year of funding for Europe, and this figure could be even larger with the right regulatory choices," AFME points out.

European securitisations have displayed resilience throughout the financial crisis and continue to perform well. For example, Moody's notes that none of the senior notes in EMEA ABS or RMBS that it rated Aaa incurred, or are expected to incur, principal losses.

The agency adds that less than a third of a percent of all of the EMEA ABS and RMBS notes it has rated have realised a principal loss and only 2% are still likely to incur a loss during their lifetime. These relatively few incidences exclusively affected subordinated EMEA ABS/RMBS notes and stemmed primarily from underperforming collateral or exposure to counterparty risk during the downturn.

Structured Finance

CRA consultation underway

IOSCO has published a consultation report entitled 'Good Practices on Reducing Reliance on CRAs in asset management'. The purpose of the report is to gather the views and practices of investors and other interested parties in order to develop a set of good practices designed to reduce overreliance on external credit ratings in the asset management space.

The report stresses the importance of asset managers having the appropriate expertise and processes in place to assess and manage the credit risk associated with their investment decisions. Recognising the utility of external ratings, the report mentions that they can be used as an input among others to complement a manager's internal credit analysis and provide an independent opinion as to the quality of the portfolio constituents. However, in order to avoid the overreliance on external ratings, the report lists some possible good practices that managers may consider when resorting to external ratings.

The report also suggests that regulators could encourage investment managers to review their disclosures describing alternative sources of credit information in addition to external credit ratings, as well as how these complement or are used with the manager's own internal credit assessment methods.

Comments should be submitted by 5 September. IOSCO has launched a separate project to identify intermediary good practices with regards to the use of alternatives to credit ratings to assess creditworthiness.

Structured Finance

Seismic activity weighs on project bond

There is a risk that Watercraft Capital bondholders will not be compensated for the delay in the re-development of the Castor oilfield, following seismic activity in the region. The transaction is the first to be issued under the EU's Europe 2020 Project Bond Initiative and refinances outstanding loans in connection with the construction and operation of an underground gas storage facility off the northern Spanish Mediterranean coast (SCI 15 July 2013).

The bonds were issued in August 2013, with construction virtually complete, but the project was suspended by the Spanish government a month later in response to two earthquakes measuring 3.9 and 4.1 on the Richter scale. European asset-backed analysts at Barclays Capital note that the movements did not affect the integrity of the facilities and the underground reservoir or cause any damage. Further injection of gas has been stopped while a team of seismic experts prepares reports for the government.

The Barcap analysts suggest that the key questions outstanding are: whether the project can safely proceed and what the consequences are for the bonds under different scenarios? They analyse a range of outcomes from a scenario where the project proceeds as planned, with upside to around 110 in price (versus the current price of mid-90s), to recoveries against ACS SCE as guarantor and a potential price in the 60s.

"There is no conclusive report yet available publically as to whether the Castor project can or cannot operate safely. And, given the government has already challenged the concession's compensation provisions for termination due to fraud or negligence, there remains a risk that the government will challenge further its obligation to compensate bondholders," the analysts observe.

They consequently believe that, given the uncertainties surrounding the project and potential downside risks, the bonds should trade significantly lower than current levels. "We note the possibility for political support for this project, since it is the first EU project bond and the EIB is a key investor. At the same time, though, the Spanish government is likely to consider whether it is liable for a project which cannot be used."

Structured Finance

Hedge fund performance 'rebounding'

Hedge fund performance was positive in May, rebounding from a slight decline in April, according to eVestment. The industry returned 1.23% during the month and is up by 2.2% year to date, on pace for an annualised return of 5.36% for 2014.

Credit funds posted their ninth consecutive positive month in May, returning 1.03%, and are the second best performing segment behind volatility strategies. The continued decline in US Treasury yields has been a major boon for the universe, which is on pace to return nearly 10% for the year.

Additionally, distressed funds had another solid month in May, returning 1.03%. This puts their 2014 performance ahead of all other major strategies, eVestment notes.

Structured Finance

Access to ABS docs offered

EuroABS is releasing its database of European ABS documentation, dubbed EADReD, to the market for no charge. The move is in response to the BoE and ECB's recent consultation document, in which they raise the question of whether the "availability of prospectuses and standardised investor reports in a single location" would be helpful to securitisation markets, as well as the ECB's planned outright purchases of ABS.

The EADReD database comprises prospectuses, bond data, deal descriptions and collateral reports for all public issuance since 1995. EuroABS says that providing access to this data is not a core revenue-generating exercise and the aim is to serve its clients in portfolio valuation and Bank of England eligibility compliance.

"We hope that the release of this comprehensive data set will help with transparency requests and these announced initiatives," the firm notes.

Structured Finance

Malaysian sukuk market still growing

Moody's expects sukuk issuance in the Malaysian market to see steady growth of around 10% during 2014-2015. Given the deep local capital markets and strong support from the government, the country will remain the world's largest sukuk market for the foreseeable future, although regional and global competition is likely to develop over the next two to three years.

"Some two-thirds of the approximately US$290bn outstanding sukuk were issued in Malaysia. We expect the remaining one-third to stay fragmented because a growing number of new and emerging sukuk issuance markets, such as Indonesia, Singapore and Hong Kong are tapping into this fast-growing asset class although Saudi Arabia is showing strong domestic potential," says Khalid Howladar, Moody's Global Head for Islamic Finance.

Annual issuance of Malaysian sukuk grew at a compounded annual growth rate of 22% to US$33bn in 2013, having been only US$3bn in 2001. The expected 10% growth in the Malaysian market is in line with the rating agency's positive view on the long-term growth trends in the global sukuk market and is being driven by four key trends.

Firstly sovereign issuers and private corporates are seeking to raise funding to execute the government's investment blueprint, which seeks to attract US$444bn in investments from 2010-2020 under the country's economic transformation programme. Secondly, Islamic banks are under pressure to refinance and boost their capital bases because of Basel 3.

There is also an increase in the number of ASEAN palm oil producers which are tapping the market for funds. The fourth reason is that Malaysian issuers will need to refinance US$40bn of sukuk maturing over the next three years.

Issuance volumes are expected to remain dominated by local-currency transactions. There is expected to be an increase in foreign-currency sukuk as well, largely driven by Gulf region issuers.

CDO

ABS CDO on the block

An auction will be conducted for Bluegrass ABS CDO II on 27 June. The collateral shall only be sold if the proceeds, together with the balance of all eligible investments and cash in the accounts, are at least equal to the redemption amount. The redemption amount is the aggregate amount required to redeem all the notes and pay all required fees, expenses and other amounts due and payable by the issuer.

CLOs

Multicurrency CLOs to emerge?

S&P has published a report examining some of the evolving structural features of European CLO 2.0 deals. The agency suggests that these features are a response to uncertain collateral conditions and the need for managers to meet equity investors' return expectations.

For example, the report highlights that 2014 European CLOs are increasingly being structured with quarterly pay liabilities, instead of traditional semi-annual pay liabilities. S&P suggests that this is an attempt by arrangers and/or collateral managers to bolster equity returns and help CLO managers handle basis risk.

In recent CLO 2.0 transactions, issuers are also including more senior secured bonds in their portfolios, due to a lack of collateral. A further consideration for managers is the impact of the Volcker rule on potential US investors. In an effort to boost the size of the triple-A CLO investor base, collateral managers may increasingly seek to tap US buyers.

During 2013 and more recently, optional repricing has become less common in transactions, most likely because investors are concerned about early prepayment risk.

The report concludes with a focus on single currency transactions, which dominate the European CLO landscape. Depending on both senior noteholders' appetite and equity investors' target returns, more multicurrency transactions could emerge as managers seek to broaden their investor base and include non-euro assets in collateral pools, thereby alleviating some pressure on the sourcing of assets.

CLOs

SME CLOs 'economically unviable'

Fitch has published its inaugural EMEA SME Securitisation Update newsletter, which replaces the SME CLO Performance Highlight report. This first edition outlines the improving economics of SME CLOs, but highlights that they remain economically unviable.

For instance, while SME loan spreads in Italian securitisations have risen over the last two years by 1.5% and SME CLO margins for placed senior notes have decreased by 0.7% since last year, SME securitisations still lack excess spread between the asset and liability margins, compared with leveraged loan CLOs. SME CLO margins are also higher than those in RMBS transactions, despite having substantially higher credit enhancement and shorter weighted-average lives.

The newsletter also discusses the poor performance of Mittelstandbonds, a listed bond market for SMEs that was introduced in Germany in 2010. However, 17 of 119 bonds have already defaulted well before their bullet maturity. The default rate is comparable to mid-cap Schuldschein securitisations that have performed worse than expected for a typical bank SME portfolio.

Over the last three months two new SME CLOs have been issued from the Netherlands and Belgium for a total of €13bn. However, the portfolios are primarily from previous transactions that were called.

CLOs

CLO portfolio overlap eyed

Although European CLO issuance has gradually picked up over the last 18 months, CLO managers continue to face a shortage of assets. The lack of new supply and attractive secondary loans means that it is increasingly difficult for managers to build more diversified portfolios, which has led to significant portfolio overlap in post-credit crisis transactions, according to S&P.

The agency reviewed the portfolio composition of a sample of 195 outstanding European CLOs that it rates. It found that the top-10 obligors in CLO 2.0 portfolios are in more than 70% of CLO 2.0 transactions, but they only represent 1.7% of a given portfolio on average.

CLO 2.0 portfolios are also shown to have more portfolio overlap, with CLOs managed by the same manager having a higher average portfolio overlap than those managed by different managers. Although obligor concentration for CLO 1.0 transactions is higher than for CLO 2.0 transactions, CLO 2.0 portfolios have higher industry and ratings concentration.

S&P notes that the portfolio overlap between transactions seems to have reduced for CLO 1.0 transactions since 2011, indicating that the impact of a credit deterioration or default of an issuer could be less widespread across transactions. By contrast, the scarcity of assets available to managers means that significant portfolio overlap is emerging between European CLO 2.0 transactions.

"Despite the pick-up in institutional leveraged loan issuance (€21.6bn in the first five months of 2014, according to S&P LCD), we don't expect to see the level of portfolio overlap between CLO 2.0 transactions reduce," the agency adds.

CMBS

WINDM X statement addressed

Mount Street has responded to Hatfield Philips International's comments regarding Windermere X (SCI 4 June). The firm says that HPI made "a number of inaccurate statements" that it feels "duty bound" to correct, so that bondholders can make a fully informed decision about the proposed transfer of special servicing.

In particular, Mount Street takes issue with HPI's assertion that it has no operations in Germany. The firm says it has extensive German operations, run from an office in Frankfurt with five senior staff that have over 100 years of collective experience in the German real estate debt, servicing, NPL and workout sectors. Mount Street Germany currently services almost €1bn across 26 loans in both primary and special servicing.

HPI also states that Mount Street has a limited track record of success in Italy. But the firm points out that it employs two Italian nationals, servicing nine loans across primary and special servicing.

Further, Morgan Stanley Mortgage Servicing - which it acquired in January - has serviced €1.75bn of Italian loans, of which €650m have been repaid, all at par. MSMS has never written off a single euro of loss on an Italian property loan.

Finally, the insinuation that there is an inappropriate relationship between the class E noteholders and Mount Street is without foundation, the firm says. It stresses that it has extensive relationships throughout EMEA CMBS and is a fully independent CRE loan servicing firm.

Mount Street argues that competition is essential for an "efficient and meritocratic" market between bond investors and firms that provide services to them. "Some servicing firms are opposed to this competition and seek to prevent attempts by the controlling class CMBS investors to exercise their rights to replace the servicer. CMBS investors work hard to capture every opportunity to improve performance; Mount Street seeks to support noteholders in these objectives and would not consider it appropriate to oppose, resist or delay noteholders seeking to enforce their contractual rights," it concludes.

CMBS

Italian CMBS in the works

Deutsche Bank is in the market with a €355m CMBS, dubbed DECO 2014 - Gondola, which is backed by three loans secured on 18 properties across three portfolios in Italy. The portfolios were indirectly acquired by Blackstone in three separate transactions between December 2013 and February 2014.

The properties - totalling 685,314 square-meters - are located primarily in Northern Italy. The portfolios are backed mainly by logistics (accounting for 37% of the pool), retail (23.8%) and office (31.9%) assets. The properties are 94.2% occupied, with an average remaining lease term of four years.

The property and asset managers for the properties include Multi Mall Management, Logicor and Kryalos.

The transaction is expected to close at end-June and feature a multi-tranche capital structure. The initial LTV of the three loans is 60.5%, the weighted average DSCR is 2.1x and the remaining loan term is 4.7 years.

A number of other CMBS are expected to join the pipeline in the coming months, including one backed by a £550m loan secured against the Westfield Stratford shopping centre (see SCI's pipeline).

CMBS

Large loan CMBS warning

The quality of the properties in recently securitised large loan CMBS deals has improved, but the overall level of debt in triple-B minus to single-B minus tranches is concerning, according to Fitch. The agency says that in four recent large loan transactions it didn't rate the differences in ratings ranged from one notch lower on the triple-A rated debt to several notches further down the capital stack.

"Absolute debt is now where we feel extra vigilance is needed for large loan CMBS, and for lower rated tranches in some of these recent transactions there is just too much of it," comments Fitch CMBS group head Huxley Somerville. "Additional debt, subordinate to the first mortgage, further amplifies our concerns as it raises leverage even further. The amount of overall debt is sizable and, while the loans may perform during their term, very real risks will appear at refinance - leading to possible defaults and rating downgrades."

CMBS

CMBS disposition times lengthening

Fitch reports that inventories and disposition times for US CMBS assets in special servicing as of year-end 2013 modestly increased compared to year-end 2012. The agency says that its highest-rated servicers continue to maintain younger REO portfolios on average compared to lower-rated servicers.

Highly-rated servicers (in the CSS1 category) held REO assets in special servicing for an average of 32.6 months in 2013 versus 29 months in 2012, compared to servicers rated in the CSS2 category for an average of 38 months in 2013 versus 33.2 months in 2012. As of 31 December, REO assets accounted for 45% on average of specially serviced loans between C-III Asset Management, LNR Partners and CWCapital Asset Management, compared to 37% a year previously.

The growth in the number of REO assets stands in contrast to the continued pace of loan resolutions and broader commercial real estate market recovery driven by improving property performance and market liquidity. Fitch believes that the completion of judicial foreclosures, which began two to three years earlier, and adverse selection of remaining REO properties are major factors contributing to this shift in specially serviced portfolios.

"While special servicers have been successful in disposing of stabilised properties in primary and secondary markets, tertiary markets continue to struggle, particularly for office and retail assets impacted by low occupancy or pending lease maturities," says Adam Fox, senior director at Fitch.

Similarly, time to foreclose for servicers rated CSS1 averaged 17 months, compared to 20.3 months for servicers in the CSS2 peer group. Fitch believes that the time to foreclosure statistic can be heavily influenced by individual workouts, as special servicers pursue multiple workout alternatives and only foreclose when negotiations with the borrower have been exhausted. Extended foreclosure timelines mean that property conditions are often more distressed, which can lead to higher loss severities, as well as litigation expenses of a protracted foreclosure and property protection advances.

However, overall portfolio size can skew the results when comparing servicer averages. Fitch found that three CSS2 servicers with REO hold periods of less than 14 months had materially smaller portfolios than CSS1 servicers or their peers.

Portfolio transfers can also skew results, as highlighted by KeyBank Real Estate Capital's REO hold time of 23.4 months and increase in REO assets, reflecting the acquisition of Berkadia Commercial Mortgage's special servicing portfolio in 2013.

CMBS

CMBS pay-offs jump

The percentage of US CMBS loans paying off on their balloon date jumped sharply in May to 77.1%, according to Trepp. The rate is more than 13 points higher than the April reading of 63.6% and breaks a string of five straight months in which the pay-off rate fell (from 81.3% in November).

The May pay-off percentage was well above than the 12-month moving average of 70.9%. By loan count as opposed to balance, 74.8% of loans paid off in May, versus 67% in April. The 12-month rolling average by loan count now stands at 70.1%.

CMBS

Stuy Town foreclosure to be contested?

CWCapital has reportedly taken formal ownership of Stuyvesant Town-Peter Cooper Village via a deed-in-lieu of foreclosure. The move is said to have prevented another party from seizing control of the asset by exercising its right to buy a key loan on the property.

As a result, CWCapital paid US$117m in taxes to the city of New York and US$19.8m to the state. Ownership of the property was reportedly transferred at a value of US$4.4bn.

CMBS strategists at Morgan Stanley believe that the move may result in the CMBS trusts owning the property as REO, as well as writing off the mezzanine debt in its entirety. "However, it's possible that the deed-in-lieu of foreclosure could be contested by various parties, potentially delaying the timing of liquidation. Any proceeds from the sale of the property would likely therefore be applied to the CMBS trust via the loan liquidation waterfall," they note.

CMBS

CMBX losses projected

KBRA has released its inaugural research publication on vintage US CMBS deals, leveraging data and information from its new KBRA Credit Profile (KCP) surveillance service (SCI 12 May). The latest report highlights the agency's projected losses on CMBX Series 1 through 5.

KCP reports feature property valuations under concluded, conservative and optimistic scenarios. The concluded scenario is what KBRA analysts deem to be the most plausible value for a property, given current market conditions. The service then uses these values to generate loan-level losses considering both probability of default and resolution timing, and aggregates the losses at the transaction level to determine the projected impact on each deal's capital structure.

Projected losses on CMBX Series 1 through 5 were derived using April 2014 remittance data. CMBX3 is shown to have the tightest range of losses, while the losses in CMBX5 exhibit the widest dispersion.

"This is not surprising, as projected losses for some of the CMBX5 constituent deals are the highest among the transactions we follow. The projected losses in the series range from a low of 1.3% to a high of 20.7%," the agency explains.

As of the April remittance period, KBRA's projected deal losses did not breach the AM certificates for any of the deals in CMBX Series 1-5. However, the AJs appear not to fare as well, with 23 of the classes across CMBX Series 2 through 5 projected to incur losses ranging from 0.9% to 63%.

CMBS

First-quarter loss severities examined

The weighted average loss severity for US CMBS loans liquidated at a loss rose marginally in 1Q14, increasing to 41.9% from 41.5% quarter-over-quarter, according to Moody's. From 1 April 2013 to 31 March 2014, US$16.2bn of CMBS loans liquidated, approximately the same as in the prior 12-month period.

Two liquidations with high dollar losses occurred during the quarter. The Two California Plaza loan liquidated with a US$203.5m loss for a loss severity of 43.5%, while Hyatt Regency - Jacksonville liquidated with a US$118.1m loss for a severity of 78.8% (see SCI's CMBS loan events database).

"The loss for the Two California Plaza loan is the highest loss recorded," says Keith Banhazl, a Moody's vp and senior credit officer. The Hyatt Regency - Jacksonville is the sixth highest loss.

Loans backed by retail properties saw the highest weighted average loss severity during the quarter, at 49.4%, while loans backed by self-storage properties had the lowest at 34.7%. Of the 10 metropolitan statistical areas with the highest dollar losses, Detroit experienced the highest loss at 60.2%. New York had the lowest, at 34.7%.

"We expect aggregate conduit losses, inclusive of realised losses, on deals we rate of 8% of the total balance at issuance for the 2005 vintage, 11.9% for 2006 and 13.9% for 2007 - with most of the losses yet to be realised," adds Banhazl.

The troubled 2006 to 2008 vintages contained the 10 deals with the highest aggregate Moody's expected loss as a share of their original balance; the 2007 and 2008 vintages performed the worst. These vintages included two first generation CMBS deals that the agency suggests will ultimately incur losses in excess of 20% of their original balance - JPMCC 2008-C2 (at 26.7%) and GSMS 2007-GG10 (at 20.7%). The significant share of loans in these vintages in special servicing will continue to drive cumulative loss rates up.

CMBS

CMBS criteria updated

Fitch has updated its EMEA CMBS and loan rating criteria, following the publication of an exposure draft in April (SCI 15 April). The update does not affect any existing ratings.

The criteria update is consistent with the exposure draft, apart from in two areas. First, the criteria will also apply a rating cap to certain CMBS transactions in jurisdictions where judicial recovery timing is uncertain. Second, the criteria report has been extended with respect to the loan rating methodology to allow for greater credit for loans supported by strong covenant packages in jurisdictions where the power to enforce such covenants is generally recognised by the courts.

Fitch says it received two written responses to its proposals during the feedback period.

NPLs

RFC issued on NPLs

Moody's is seeking feedback on its proposed approach to rating securitisations backed by non-performing loans (NPLs). The agency proposes to not only consolidate its two existing NPL methodologies, but also to expand the scope of its methodology to address concentrated commercial real estate NPLs and revolving pools. It may apply haircuts to base-case cashflows to derive the final model outputs, in addition to or instead of a simulation-based model.

Under Moody's proposed approach, the main drivers of credit quality in a typical NPL transaction are: the uncertainty surrounding cashflows from the underlying portfolio; the amount and quality of the data that it receives for assessment; transaction structure, servicer performance and equity stake in the portfolio (if applicable); and counterparty, operational, legal and sovereign risks. Based on its preliminary analysis, the agency expects no rating actions for any outstanding NPL transactions as a result of the proposal.

Risk Management

Analytics service enhanced

Lewtan has released an enhanced version of its structuring and analytics platform, ABSNet Modeler, which is geared to all sectors of the new issue securitisation market. The enhancements consist of updated rating agency liability model criteria for CLOs (Moody's, Fitch and S&P), with the inclusion of multiple matrix point inputs.

In addition, the deterministic loan and global level assumptions now allow users to apply a fuller breadth of default, prepay and recovery types at either the loan or pool level. Following market feedback, collateral set sizing functionality has also been incorporated to dynamically capture portfolios of various sizes.

Risk Management

Leverage disclosure framework drafted

The EBA has published its final draft implementing technical standards (ITS) on disclosure for the leverage ratio, which aim to harmonise disclosure of the leverage ratio across the EU by providing institutions with uniform templates and instructions. The draft ITS include all the items that are relevant for disclosure under the provisions set out in the Capital Requirements Regulation (CRR) and are aligned, as much as possible, with the Basel disclosure framework. The disclosure framework set out in the ITS consists of four templates: a table reconciling the figures of the leverage ratio denominator with those reported under the relevant accounting standards; a table providing a breakdown of the leverage ratio denominator by exposure category; a table providing a further breakdown of the leverage ratio denominator by group of counterparty; and a table with qualitative information on leverage risk.

RMBS

RFC issued on g-fees

The FHFA has released a request for input on GSE guarantee fee policy and implementation. Among the areas the agency is seeking comments on are: alternatives to risk-based pricing; the effect of increasing g-fees based on credit scores/LTVs; g-fee levels that would improve private-label RMBS economics; and the effect on loan originations, should g-fees increase.

Wells Fargo RMBS analysts believe that the request for comment suggests some eventual g-fee increase in the future - along the lines of 10bp on average, as announced in late 2013 - but with less risk-based pricing than in the FHFA's previous proposed g-fee increases. They expect any changes to g-fees to be "next year's event".

Feedback on the questions must be received no later than 4 August.

RMBS

AOFM unloads bonds

The Australian Office of Financial Management (AOFM) last week sold four of the RMBS bonds it holds, with a total amortised face value of A$341m. The agency says it is disclosing the details of the transactions in the interests of secondary market transparency.

The securities sold comprise: A$75.5m Pinnacle 2010-1 class A2 notes (original face value was A$96.5m); A$37.4m GBS Trust No. 4 A1s (A$95m); A$178m Light Trust No.3 A3s (A$243.5m); and A$50.1m Barton 2011-1 A2s (A$50.9m). The traded margins on the bonds were bank bills plus 75bp, 83, 85 and 95 respectively.

The AOFM says it will continue to monitor primary and secondary market activity, manage the remaining book of RMBS and report month-end holdings on its website.

RMBS

Technology driving servicer ratings

Technology was the main driver of changes in servicer ratings across the EMEA structured finance market last year, reflecting its status as an increasingly important component of a servicer's capability, Fitch says. Of the agency's key rating drivers in the segment, technology was cited in 22 rating actions - 19 positive and three negative - in 2013.

Risk management/governance contributed to 21 rating actions, although fewer (14) were positive. The financial condition of the servicer was cited as a contributory factor in 18 rating actions, training and staff development in 15, and senior management and company experience also in 15.

"The UK RMBS market shows how highly-rated servicers demonstrate reliable and adaptable IT systems that support their work. These tend to be bespoke or customised, fully integrated with accounting and telephone controls, and provide information or links to third-parties, such as credit reference agencies, as well as lenders," Fitch notes.

The information technology key rating drivers for UK RMBS servicers during 2013 cited telephony systems, borrower profiling, income and expenditure (I&E) assessments, and the provision of information to lenders and investors. Such systems are increasingly a pre-condition of a high servicer rating. Fitch suggests that servicers that do not invest in IT may struggle to implement processes required by new regulatory requirements effectively.

Homeloan Management (HML) is the highest-rated primary servicer in the UK, with its rating (upgraded in 2013 to RPS1- from RPS2+) partly reflecting its strong technology infrastructure. For example, the use of an advanced telephony system has helped its call centre operation make contact with more borrowers in arrears per day, per collector than any other UK servicer.

The use of modern data warehouses is also rising to, for example, process increasing quantities of data for borrower risk profiling and sometimes for use in I&E assessments. Acenden (RSS2) has linked its I&E form with other data sources and built a system that quickly determines the best course of action when dealing with a borrower in arrears. Exact's real time link with a credit reference agency to assist its I&E process contributed to the upgrade of its special servicer rating upgrade in 2013 from RSS3 to RSS2-.

RMBS

Widespread improvement seen for UK RMBS

Fitch says that UK RMBS performance improved across the board as the volume of loans in arrears by three months or more decreased from their peak during the crisis. This is one of the findings in the agency's new report, 'Mortgage Market Index - UK'.

"This improved performance is largely due to prevailing low interest rates, combined with recent improvements in employment and economic activity," says Grace Yeo, an associate director in Fitch's structured finance team. "Our expectation is that this trend in UK RMBS performance is likely to continue throughout 2014 and most of 2015."

Although they are still below pre-crisis levels, Fitch's index for three months-plus arrears across prime RMBS fell to 2.6% in May, compared with 3.1% a year ago. Similarly, 3m+ arrears in the buy-to-let and non-conforming sectors declined to 1.7% and 11.4% in May respectively, against the previous year's figures of 2% and 12.5%.

"Given the declining trend in arrears, possession activities have remained subdued, both in terms of new properties being taken into possession and sales volumes," adds Yeo. "With rising home prices, loss severities have fallen across prime and non-conforming transactions. However, buy-to-let RMBS has experienced a marginal increase, given the typically more distressed nature of investment properties that are taken into possession."

The long-term outlook for the UK mortgage market is not certain, however. Rapidly rising home prices - currently predominantly in London - will result in deteriorating affordability for new buyers. Fitch's view is that London home prices are already overvalued by 26.4% relative to household income. The agency nevertheless expects home prices to rise by a further 5% in 2014, with regional disparities likely to be exacerbated.

RMBS

Post-crisis late-pays examined

The highest delinquency to date of any post-crisis US RMBS pool emerged last month, due to a transfer of servicing. However, it does not point to more widespread post-crisis late-pays, according to Fitch in its latest monthly prime jumbo trends report.

Sequoia 2014-1 reported that 3.37% of borrowers were behind on their payment in May. All of the delinquent mortgage loans in Sequoia 2014-1 had been recently transferred to Cenlar FSB.

"Early delinquency related to servicing transfers in recent RMBS is typically due to the borrower mailing the payment to the wrong address and generally doesn't result in longer-term payment issues," confirms Fitch md Grant Bailey.

In fact, only one borrower became 60-plus days delinquent of the 121 borrowers in recent RMBS pools that were delinquent in the first three months.

One serious delinquency unrelated to a servicing transfer also emerged last month for CSMC 2013-7. The mortgage borrower in question has a 756 FICO and a 57% loan-to-value.

"Of the 17 borrowers in recent RMBS pools that went over 60-plus days delinquent, only one did not subsequently cure," adds Bailey.

Prepayment rates rose to double-digits for nine recent mortgage pools, reflecting mortgage rates that fell to their lowest levels since last year. Overall constant payment rates across all vintages remain near historical lows, at 6%.

RMBS

Foreign borrower adjustment raised

The performance of Italian and foreign mortgage borrowers in Italian RMBS transactions has diverged to the point where default risk is over three times higher for non-Italians, Fitch reports. This is reflected in the agency's most recent update to its Italian RMBS criteria.

Analysis of eight transactions with higher-than-average exposure to foreign borrowers shows that their default rates are on average 3.5x higher than those of Italian borrowers who have taken out loans with similar original loan-to-value (OLTV) ratios and interest rate types, and secured on properties in similar locations. Fitch notes that foreign mortgage borrowers living in Italy are traditionally a higher risk than their Italian counterparts because it is harder for lenders to perform thorough credit checks on them and their average incomes are usually lower. Italian citizens may also have greater incentives to meet payment obligations than migrants not planning to settle in Italy permanently.

Fitch's Italian RMBS criteria have incorporated this risk in the past by applying a higher adjusted default probability of between 1.15x-2.5x to non-Italian borrowers when determining foreclosure frequency assumptions. But the deterioration in relative performance has caused the agency to increase the adjustment applied in both new and existing transactions to 3.5x - although the size may vary depending on the specific underwriting policies and performance data provided by the underwriter.

Spain and Portugal are the only other European jurisdictions where Fitch applies such an adjustment, currently set at 3x.

The impact of non-Italian borrower performance on the Italian mortgage market in aggregate may be limited by the declining proportion of mortgage lending directed to non-Italians. The average percentage of foreign borrowers in Fitch-rated RMBS pools in Italy in 2008-2013 was 6.1%, but it is lower in more recent vintages, at around 2% in 2012-2013.

RMBS

Peripheral price recovery diverging

House prices in the worst-hit peripheral eurozone mortgage markets are beginning to recover, but at different paces, Fitch says. The Irish market is now past its trough, the Portuguese market has stabilised but remains fragile and the Spanish market is likely to reach its low point at around the start of 2015. The Italian and Greek markets - which fell because of problems in the wider economy, rather than a housing boom - are still falling, but their economies are recovering and housing markets are likely to follow.

Fitch expects single-digit increases in property prices in Ireland, after the market experienced the largest fall in Europe, of nearly 50% from the peak in 2007. Last year, Irish house prices increased by over 6% on average.

A much stronger recovery was seen in urban centres, especially Dublin, than the rest of the country. The limited supply of family homes in urban areas and greater affordability are likely to support house prices in 2014-2015.

House price inflation remains limited by the number of borrowers in negative equity that are unable to move, regional oversupply (especially in rural areas) and the likelihood of repossessions gradually increasing the supply of houses for sale.

Meanwhile, the Spanish economy is growing and unemployment is falling, which in the long term should help house prices. However, Fitch notes that the market has a large overhang of properties and demand remains constrained by high unemployment and credit costs, as well as reduced real incomes.

The fall in mortgage transactions in Spain by 80% of their 2007 levels has still not been fully reflected in prices, according to the agency, although INE data as of March 2014 shows a minor year-on-year increase of 2% in the number of residential mortgages. When house prices reach their nadir, which is not expected before year-end, they will be likely to have fallen by 40% in nominal terms from their peak.

With respect to Italy, the price correction has started to slow. Fitch expects house prices to fall further, by up to 7%, with a total peak-to-trough decline of 20% - a slight reduction from our previous estimate of 22%.

The agency suggests that the stabilisation in Portuguese property prices in 2013 may be premature, based on a low number of transactions. The ratio of house prices to GDP per capita is around 5.5x, slightly above the 5x it considers sustainable.

Continued bank deleveraging is also restricting access to credit and limiting demand. This could trigger a further drop in house prices by up to 10% in Fitch's single-B rating case.

Finally, Greek house prices are forecast to fall by another 11% - with a peak-to-trough decline of 45% - before stabilising.

RMBS

MSR transfer expectations revised

Addressing new regulations and internal and external controls remains the theme for US residential mortgage servicers in 2014, S&P suggests. The agency says that these companies have been focusing on compliance with Consumer Financial Protection Bureau (CFPB) rules that went into effect on 10 January, which aim to provide better disclosure to consumers of their mortgage loan obligations and to formally state basic normal and default mortgage servicing requirements.

External regulators have taken a heightened interest in transfers of mortgage servicing rights (MSRs), especially to non-bank servicers (SCI 8 April). Having indefinitely blocked a transfer of US$2.7bn in MSRs from Wells Fargo to Ocwen Financial Corp in February 2014, the New York State Department of Financial Services (NYDFS) is now looking into planned transfers to Nationstar Mortgage.

Some regulators have also raised concerns about potential conflicts of interest, such as those that might arise from using affiliates as service providers. They are investigating how servicers select their vendors, whether the fees the vendors charged consumers were market rate and how servicers monitored and scored their performance.

Given the current less favourable regulatory climate, S&P expects fewer large servicing transfers to occur in 2014. It also believes that certain smaller non-bank servicers may grow more quickly this year as banks explore opportunities to sell MSRs and portfolios to servicers other than large non-bank servicers. In addition, it suggests that special servicers will begin to focus on acquiring servicing for performing assets as delinquencies improve and loans move through the foreclosure and real-estate owned (REO) pipelines.

RMBS

AHML changes 'credit neutral'

The Russian Ministry of Finance's proposed changes to the Agency for Housing Mortgage Lending's (AHML) business profile would be credit neutral for outstanding RMBS transactions, according to Moody's. This assumes that the changes will not affect the roles performed by AHML in existing deals.

A discontinuation of AHML's support of the mortgage market could reduce the number of mortgage securitisations because, along with Vnesheconombank, AHML is the biggest investor in Russian RMBS obligations. An exit of such a large investor could weaken the funding ability of smaller banks currently using various AHML programmes to refinance their mortgage originations.

The reduction in funding opportunities for smaller banks could reduce mortgage loan supply and mortgage loan affordability, resulting in a slow-down of house price growth. However, AHML has confirmed that it will continue its support of the Russian RMBS market.

In addition, AHML determines the standard underwriting criteria and develops standard rules and practices for mortgage lending and servicing processes for the whole market. Therefore, its exit from the open mortgage market would result in a slow-down in origination and servicing practice standardisation, Moody's suggests.

RMBS

Purchased portfolio approach outlined

Fitch says that alignment of interest, representations and warranties and the quality of portfolio information are the key areas of focus when analysing RMBS backed by purchased portfolios. Such transactions - including Thrones 2013-1, Rochester Financing No. 1 and Cartesian Residential Mortgages No. 1 - have emerged in the UK and the Netherlands over the last year.

These portfolios can include prime owner-occupied mortgages, buy-to-let mortgages, non-conforming mortgages, re-performing non-performing loans (NPLs) and lifetime equity release mortgages. The majority of these portfolios were originated before 2008 by lenders that have either ceased operations or have stopped originating such mortgages.

Fitch says it receives on a regular basis enquiries for purchased portfolio securitisations, especially in the UK. The agency notes that it expects certain minimum standards to be met when analysing key rating considerations - failing which, transactions might be subject to a rating cap or may not be rateable at any rating category.

In particular, Fitch stresses the importance of alignment of interest between the RMBS investors and the transaction sponsor (who purchased the portfolio from the original lender) because - in nearly all cases - these portfolios will have been acquired below their par value. If the senior through to the junior notes of the RMBS are sold to investors, it is likely that the total issuance proceeds exceed the initial investment made by the sponsor. The agency therefore expects the sponsor to outline its alignment of incentives and would typically expect to assess how the purchase price compares with the expected funding obtained with the issuance of the RMBS and the sponsors' involvement in the transaction after closing.

In addition, Fitch warns that detailed historical data on the purchased portfolio may be limited, especially if the portfolio has been transferred across servicers. Data may not cover the entire life of the portfolio or some information from loan origination may not be available. While in most instances a combination of review of lending policies, other proxy data and/or analytical assumptions can be used, the agency expects a reasonable amount of historical arrears data, as well as loan-level repossession data to help validate published criteria assumptions.

In RMBS backed by purchased portfolios, the seller and provider of representations and warranties (R&W) is typically a financially weak entity or often an SPV with limited capital. In all instances where the R&W provider is rated below investment grade, Fitch will conduct further checks on the quality of the originations and performance data to assess the risk of R&W breaches, including third-party due diligence reports and pool audits.

Sponsors sometimes propose to provide R&Ws that are time-limited and/or caveated by awareness, but the agency expects standard R&Ws to be provided that have neither of those features.

RMBS

German housing 'more liquid'

The price discounts seen when residential property is sold following foreclosure in Germany has fallen in recent years, suggesting that the country's housing market has become more liquid, Fitch notes. This is reflected in the agency's recent update to its German RMBS criteria, in which the quick sale adjustment (QSA) assumption has been lowered to 40% from 43%, reflecting the long-term sustainable average.

An analysis of data for approximately 8,700 individual forced sales obtained from Fitch-rated RMBS transactions and covered bonds, combined with individual and aggregate data from others sources, shows that the scale of price declines in forced sales has dropped in recent years. The average QSA in Germany since 2009 is around 10 percentage points smaller, compared with the historical averages up to 2009.

A smaller QSA would indicate rising liquidity, which is consistent with the rise in prices seen in the German housing market over the same period - driven by low interest rates, a stable economic outlook and an increase in property ownership. Nevertheless, the QSA remains high in Germany compared with most European jurisdictions, where it is typically around 10pp-15pp lower. But Fitch indicates that liquidity remains low, as German homeowners move infrequently and do not trade up, while selling costs are high.

Further, there is now a wider difference between observed QSAs across the four regional categories that Fitch uses for analysing German residential mortgage assets, which are based on a purchasing power index (PPI) that reflects disposable income. The difference between observed QSAs in the highest and lowest PPI regions has widened to 30pp, from 10pp 10 years ago - with the biggest fall seen in the wealthy urban areas and the smallest in less well-off regions.

This mirrors the pattern seen more recently in house price growth. Similarly, the fall has been greater for flats than for houses.

RMBS

RMBS tool data enhanced

Fitch has added UK data to its RMBS Compare tool, which allows cross-country comparison of mortgage performance drivers. Other European countries will be included in the coming months, while Spain, the Netherlands, Greece and Ireland are already included.

RMBS Compare users can track the performance of loans in individual portfolios and from particular originators. It can be used to monitor and benchmark the performance of transactions and compare it against key market and macro-economic indicators.

RMBS

Delinquency measure 'inconsistent'

While most market participants use 90-plus days delinquencies as a measure of RMBS asset performance analysis, it is a measure with several drawbacks, says DBRS. The firm believes there are inconsistencies in the delinquency measure's calculation method at both a loan and portfolio level.

There are issues at the loan level, where arrears are based on current monthly instalments, but if a loan's interest rate is not fixed, capped or floored, or it is a variable maturity loan, rate changes will affect the monthly instalment. Perhaps counter intuitively, therefore, rising rates would therefore reduce the reported level of arrears, while falling rates would increase the reported delinquencies.

Such a rise in reported arrears versus actual arrears was observed in several UK subprime RMBS transactions when the Libor and bank base rates fell during the financial crisis, DBRS notes. The current low interest rate environment across Europe means reported 90-plus days values are very sensitive to even small interest rate increases, possibly without any actual change in the credit quality of the loans.

Whether fees charged for being in arrears are included in arrears calculations also makes a difference. Such fees are not typically part of the available funds for RMBS and so a normally excluded, but the analysts note that this is not always the case.

Investors should also be aware that at the pool level the reported percentage of loans in 90-plus delinquency can rise even if the absolute number remains constant, because typical calculations use the current balance as the denominator. Transactions with a higher prepayment rate will therefore show an increase in the percentage of 90-plus days delinquencies compared to similar transactions with slower amortisation, without any deterioration in credit performance.

Transactions with a revolving period will generally show a lower delinquency rate than one which amortises. It is also the case that different lenders report different components in the current balance of a loan, so whether accrued interest and fees are included or excluded can impact reported delinquencies.

In some investor reporting, loans which are defaulted are reported in addition to those 90-plus days delinquent. Where some servicers would remove a defaulted loan from the 90-plus category and report it separately, others may keep it in the 90-plus days group.

RMBS

Housing equity performance charted

DBRS has launched a new report monitoring housing equity within European RMBS transactions, based on loan-level data from the European DataWarehouse (ED). The report helps to illuminate the impact of house price movements on RMBS.

While house prices change regularly, valuations within RMBS transactions do not. The first report focuses on Ireland, Spain, Portugal and Italy.

It finds that Irish RMBS contain high levels of negative equity, with LTVs averaging 113% after indexing to current house prices. However, eight of the 22 transactions covered maintain a positive housing equity.

Spanish RMBS tend to be well covered and only a few transactions suffer from negative equity at current house prices. Portuguese and Italian RMBS are also well covered, with positive housing equity ranging from 16% to as high as 80%.

On a weighted-average basis, only 41 of the 334 transactions analysed by DBRS have an LTV above 100%. However, 107 transactions do contain loans with negative equity and stressing for further house price declines of up to 30% from current levels would put an additional 73 transactions into negative equity.

House prices have been moving downwards since the start of the financial crisis in 2008. Irish house prices have fallen 51% peak to trough, while Spanish prices have fallen 40%. By contrast, Italian house prices have declined more slowly and are down only 12%, while Portuguese prices have fallen 8%.

Irish house prices have recovered slightly from the trough and are now 47% lower than their peak. Small positive movement at the end of 2013 for Spanish prices was followed by further declines, so the trough has not yet been reached there.

RMBS

Record low prepays increase risk

US prime jumbo RMBS issued since the start of 2010 should not see a meaningful increase in prepayments even if interest rates stay low, says Fitch. The resulting increased average life of the mortgages in these trusts will increase the period of default risk.

Average annualised prepayment rates for recent RMBS remained around 5% in May despite the recent decline in mortgage rates. Prepayment rates were at 25% a year ago.

Fitch expects the 2013 vintage to be one of the slowest prepaying vintages on record in US RMBS. While borrowers do benefit from high equity and home price growth since origination, the default risk is a concern and could more strongly affect future deals if underwriting loosens.