Contents

NPLs

European AMC to create 'positive feedback loop'

Further details have emerged about the EBA's proposed state-funded, pan-EU asset management company (AMC) (SCI 3 February). The initiative is expected to attract more investors to the European NPL market and by extension free up bank capital and spur more lending.

"The reduction of NPL ratios is a positive sign, but it is too slow," says Mario Quagliariello, head of risk analysis at the EBA. "An AMC can give impetus to the disposal of NPLs; data standardisation, for instance, would help investors access the market and allow them to deal with comparable information, reducing information asymmetries and increasing the price that they would be willing to buy. This would, in turn, free bank capital and spur more lending".

The idea here is that an AMC would create a positive feedback loop that would bring prices up. "The current market price does not reflect the real economic value," Quagliariello adds.

The AMC will deal with this problem by buying the loans at this value, otherwise called the future efficient clearing price. Quagliariello states that there is a three-year timeline, where if the price at which the AMC is selling the NPLs is below its real economic value, losses would be realised by the banks and not the AMC. If the banks don't have the capital, they would be recapitalised by individual member states.

From the EBA's perspective, addressing the NPL problem means creating an efficient secondary market in NPLs to address existing market failures, such as information asymmetry, due to the absence of comparable and accessible data on loan debtor and collateral characteristics. Another issue is the intertemporal pricing problem, given the illiquidity and shallowness of European NPL markets.

The goal of an AMC would be threefold: addressing incentives for banks to take action on NPLs; improving price discovery by improving the quality and comparability of data; and standardising existing legal contracts. The intertemporal pricing problem is dealt with by buying the loans at their real economic value, with a view to selling into a deeper and more liquid market at a later time.

According to the EBA's proposal, the solution must be in line with BRRD and state aid rules, while avoiding any risk mutualisation of legacy assets. Consistency with BRRD rules here refers to the concept of precautionary recapitalisation, whereby banks are recapitalised without resolution if some specific criteria are met. For Quagliariello, it is this feature of the EBA's proposal that allows the AMC to work within the flexibility of the current legislation.

The proposal involves stress tests to identify the 'theoretical amount' of aid that would be permitted for each bank's precautionary recapitalisation. This would in turn determine how much state aid could be used to facilitate the transfer of NPLs, which would be equal to the difference between current market prices and real economic value.

An assessment of real economic value versus current market prices would then be carried out, with banks transferring some agreed portions of their NPL portfolios to the AMC at the real economic value, with due diligence from the AMC and accompanied by full data sets available to potential investors. The transfer of assets to the AMC would first hit the existing shareholders to the extent that the net book value of NPLs is above the transfer price to the AMC. This may coincide with a liability management exercise and some bail in of junior debt to equity, as determined by state aid rules.

To avoid moral hazard issues, equity warrants issued to national governments at the time of the asset sale to the AMC would be triggered if the final sale price is lower than the real economic value. The assets would be transferred to the AMC at the point of sale.

The AMC would set a timetable to offload the assets at the real economic value. If that value is not achieved, the bank must take the full market price hit, covered if necessary by warrants exercised by the national government as state aid.

Mainly due to the standardisation and the due diligence undertaken by the EBA, Quagliariello is optimistic that the AMC would increase the number of investors in the NPL market. "Having a single stop at the AMC would help increase the number of investors, due to the standardisation, the due diligence that would be carried out by the AMC and the diversified portfolios that investors would have access to."

Other benefits, he says, include a "tranching system" - although he qualifies that it is too early to say whether securitisation will be part of the proposal.

Questions, however, remain over whether the real economic value can be achieved. Quagliariello is nevertheless emphatic: "While the difference between the real economic value and current market prices is to be tested on the field, even relatively minor improvements in transfer prices would make a great difference for banks."

SP

NPLs

Greek servicing shift underway?

Piraeus Bank has hired Christos Megalou, a former Eurobank director, as its chief executive. The appointment signals a growing shift in Greek banks' NPL strategies towards the outsourcing of servicing needs to external servicers.

"The market believes that [Megalou] can turn the bank around by dealing with the non-performing loans," says George Kofinakos, md at StormHarbour in London.

Megalou took credit for dealing effectively with Eurobank's problem loans as ceo, until he left the bank in January 2015. "Investors involved in Eurobank - such as Wilbur Ross and John Paulson - didn't want him to leave. His departure was more a political decision at this point," Kofinakos suggests.

Eurobank has pursued a strategy that is growing in the Greek NPL market, with Greek banks outsourcing their servicing needs to external servicers. In May 2016, KKR, Alpha Bank and Eurobank signed an agreement to expand the Pillarstone platform - set up by KKR to buy underperforming loans in Europe - in Greece.

While three permissions have already been granted to KKR, Actua and Eurobank under the agreement, this capacity is not enough to serve the market, according to Kofinakos. This is occurring at a time when European authorities are putting pressure on Greece to reduce its €110bn NPL volume size by 40% by 2018.

In the case of Piraeus, "some loans will have to be sold, some will have to be managed by the bank's internal units and some will be outsourced to external servicers," Kofinakos says. He adds that this will allow investors to invest more easily. The problem, however, is that "banks want to retain control in some way."

Two scenarios are likely in this case, Kofinakos suggests. The first scenario involves transferring the assets to external servicers under some parameters with a fee.

The second scenario involves allowing the servicers to manage the portfolios, with the assets transferred to an SPV, while they are paid a performance-based fee. This scenario is the most likely, since it also allows banks to maintain their large external servicing units, currently staffed at approximately 3,000 employees each. Outright sales are unlikely, due to the large pricing bid/ask gap.

This is why - from the total of €110bn of NPLs on bank balance sheets - Kofinakos believes that €60bn will have to undergo servicing, while €20bn must be sold and €30bn will likely be serviced by bank units.

Lack of servicing capacity has long been recognised as the most significant impediment to the market's development. In response to this, a new legal framework by the Bank of Greece aims to allow for speedier internal and external restructuring (SCI 8 December 2016).

The legislation - Law 4354/2015, as well as amendments 4393/2016 and 4389/2016 - are supposed to deal with these problems with the establishment of specialised servicers managing debt receivables from NPLs and any loans or credits granted by credit or financial institutions, with the exception of loans and credits granted by deposit and loan funds. Loans guaranteed by the Hellenic republic were explicitly exempted from the scope of Law 4354/2015.

Other factors that have led to a shift in investor sentiment include the completion of the country's second appraisal of its economic adjustment programme and the recapitalisations of the four systemic banks, including Piraeus (SCI 8 December 2016).

SP

Secondary markets

Euro secondary strengthens

Tone and levels if not volumes continue to strengthen across the European securitisation secondary market.

The large CDO liquidation BWIC on Friday bolstered the market's already strong tone, as expected. End-user interest in the list affirmed the depth of the ongoing rally in most sectors and while the ultimate AON style trade meant the paper has stayed out of investor hands for now, the covers on the liquidation line items, combined with the positive results from the flurry of other BWICs at the end of last week and yesterday, have edged spreads in still further across the bulk of sectors.

Continuing limited supply despite healthy and wide ranging investor demand is likely to keep spreads firm barring any macro surprises. Equally, flows are likely to remain light especially with large sections of the US absent from the market because of the major snowstorm forecast for North-eastern states today.

There are currently four European BWICs on the schedule for today. Two involve relatively small clips of A-rated 2.0 and 1.0 CLOs and another small slices of mezz RMBS.

The largest piece in for the bid comes in a $75m single line auction of PARGN 12A A2C. The bond has not covered on PriceABS in the past three months.

Secondary markets

Euro secondary trundles on

The European securitisation secondary market trundles on seemingly unaffected by the ups and downs of broader markets this week.

Market tone remains strong across the board, as demand easily outstrips limited supply. Consequently, secondary spreads continue to be flat to slightly tighter as each day passes.

BWICs are still sporadic and are trading at or above talk as and when they do appear. At the same time, dealer offers continue to edge upwards for stronger paper, which is further hampering flows.

There are currently two BWICs on the European schedule for today. Both involve euro- and sterling-denominated UK non-conforming RMBS.

At 14:00 London time there is a five line 18.251m list comprising: ESAIL 2006-2X D1C, ESAIL 2006-3X C1A, ESAIL 2006-4X C1C, ESAIL 2007-1X C1A and PRS 2005-2X D1C. Then, at 15:30 there is a four line 22.828m auction that originally contained another £5.3m slice of PRS 2005-2X D1C, which traded ahead, and now consists of: EHMU 2007-1 B1, EHMU 2007-2 B1, ESAIL 2006-1X E and ESAIL 2007-1X D1A.

None of the bonds has covered on PriceABS in the past three months.

Secondary markets

US CLOs resume

Something approaching a normal service is resuming today in the US CLO secondary market after a snowstorm impacted start to the week.

BWIC volumes have been slow to pick up this week, with the bulk of lists revolving around triple- and double-As. Today sees a return towards normality with five fairly sizeable auctions and focus firmly back on mezz.

Despite the stop-start nature of trading in recent sessions and the concerns noted last week from some participants about the further extent of the rally, strong overall tone and technicals are still supporting pricing levels. As a result, secondary spreads across the capital structure beyond equity continue to edge tighter.

The largest BWIC on the US CLO calendar for today so far is a 12 line $64.103m mix of mezz and equity. Due at 11:00 New York time, it comprises: CATLK 2015-2A D, CECLO 2013-19A C, CGMS 2014-3A D1, CGMS 2014-3A SUB, CGMS 2014-3X SUB, CGMS 2015-3A D, KKR 12 E, KVK 2014-2A SUB, SHSQR 2013-1A SUB, VENTR 2017-26A E, VOYA 2015-2A E and WAMI 2014-1A D.

Only CGMS 2014-3A SUB has covered with a price on PriceABS in the past three months - at M70S on 19 January.

ABS

Subprime sponsor risk framework touted

Gauging sponsor risk in US subprime auto ABS is complicated by the fact that many subprime auto lenders are privately held companies and therefore financial data can be limited. Wells Fargo structured products analysts suggest that using securitisation data to create a modified return on assets (ROA) metric could instead serve as a useful way to assess ABS equity distributions and risk.

"One method of assessing a company's health is to examine its ROA. A company can be considered healthy and sustainable, if management is able to generate steady earnings on the assets in which it invests. In the absence of more complete financial statement information, data from securitisations may provide a way to gauge cashflow trends generated by subprime auto ABS," they explain.

The Wells Fargo analysts calculated cumulative ABS equity distributions over the life of a deal as a percentage of the original ABS collateral balance. ABS equity distributions act as a proxy for earnings and original ABS collateral balances act as a proxy for total assets. In this scenario, higher, more stable equity distributions as a percentage of assets signify a stronger ROA.

While lenders often increase loan rates to compensate for higher loss rates, the analysts indicate that abundant credit availability and strong competition in the auto lending market may have reduced the incentive to pass this additional credit cost on to borrowers. "An increase in loss rates without pricing adjustments to loans may result in a narrowing of net interest margin," they note. "In our modified ROA calculation, a rising loss rate erodes excess interest, slows the build of overcollateralisation and reduces distributions to ABS equity holders. Therefore, ABS sponsors receive lower cumulative distributions over the life of the transaction."

Market volatility and a repricing of liquidity in the ABS market in late 2015 and early 2016 pushed ABS funding costs significantly higher through wider credit spreads for subprime auto lenders. Rising funding costs also erode excess interest and ABS equity holder distributions.

Additionally, an ABS sponsor's funding strategy plays an important part in its trajectory for net interest margin. Lenders that utilise relatively more ABS to fund the business may experience a more immediate increase in costs from rising interest rates, compared to their deposit-funded peers. Sponsors with a more diversified approach may experience less funding volatility from wider spreads or higher interest rates.

Based on their calculations, the analysts find that cumulative equity distributions have been declining for most subprime auto ABS platforms over the past few years as losses have risen, funding costs have increased and competition has remained strong. The trend is more pronounced for 2014, 2015 and early 2016 deals, but the effects vary across sponsors, with some lenders demonstrating relatively more stable ROA performance.

Nevertheless, a maturing auto finance cycle and rising interest rates are likely to remain headwinds for net interest margin in subprime auto ABS. The analysts theorise that an increase in funding costs and a compression in net interest margins may create an environment where consolidation among subprime auto lenders could occur.

CS

ABS

Loan tapes suggest auto trends are 'in line'

Loan and pool level stratifications in US auto ABS show credit trends in line with economic expansion and the credit cycle. Rising rates and increasing lender competition could alter this dynamic, according to a new JPMorgan study, which analyses early stage delinquencies and loan modifications across 10 auto loan tapes from seven pools (averaging 60,000 loans per tape).

The study initially examines the updated monthly tapes from Ford, Ally and Carmax. It finds that 30-plus day delinquencies are low after one month across ALLYA 2017-1, CARMX 2017-1 and FORDO 2017-A at 0.51%, 0.61% and 0.42% respectively. JPMorgan ABS analysts note that no loans have defaulted or been repurchased.

However, when 30-plus day delinquencies are broken down by weighted average coupon (WAC) and loan-to-value (LTV) buckets, early delinquencies appear in the higher WAC and LTV buckets as expected, with a spike in delinquencies when the LTV moves from 81%-100% to 101%-120% on the ALLYA and CARMX pools.

The JPMorgan analysts note: "For ALLYA, 30-plus delinquencies for the 10%-15% WAC segment increased from 1.07% to 1.58% when moving from 81%-100% LTV to 101%-120% LTV. Similarly, for the 15%-20% WAC segment on the CARMX pool, 30-plus delinquencies increased from 1.96% to 4.30% when moving across the same LTV range. For the FORDO deal, this trend was not as prominent."

Additionally, early stage delinquencies tend to be higher on loans with higher WACs, with the most notable difference between the sub-10% and greater than 10% loans. The analysts find that, "for the 101%-120% LTV segment, as we move from the 5%-10% to 10-15% WAC bucket, 30-plus delinquencies increased from 0.81% to 1.58% on ALLYA and 0.38% to 0.77% on CARMX. On FORDO's 81%-100% LTV segment, 30-plus delinquencies increased from 0.75% in the 5%-10% bucket to 1.72% in the 10%-15% bucket."

The majority of delinquencies are in the 31-60 day range, although 31 loans across the three pools have transitioned to 60-plus delinquent, with invalidated payment as the most likely reason for the jump. The analysts find also that based on one month of seasoning, there is no material difference in early stage delinquencies for new versus used cars financed.

However, there are differences in credit score buckets, with new vehicles backing the ALLYA shelf and the very high credit score borrowers having the lowest delinquencies. On the CARMX deal, there is a large jump in delinquencies from 0.12% in the 700-749 bucket to 2.71% in the <599 bucket.

Four key types of auto loan modifications are reported in the tapes: extension, term, APR and principal. The majority of loan modifications in ALLYA, CARMX and FORDO are extensions, with a few 'other' modifications in FORDO, such as modifications to monthly payment due date.

In terms of collateral stratifications, the analysts point to mostly stable quality, but with some issuer variation over the last five quarters. In prime auto, WACs increased from 3.78% in 1Q16 to 4.21% 1Q17, with a decline in FICO from 750 to 736 between 3Q15 to 1Q17.

Weighted average LTV and original term are mainly unchanged over time at 99% and 65 months in 1Q17 respectively, while the percentage of used vehicles has increased from 25% in 1Q16 to 37% in 1Q17. WACs have been increasing across some issuer pools, including Ally, which has seen WACs rise from 4.31% 1Q16 to 5.26% in 1Q17. For other auto deals such as CRART, WAC has increased from 6.82% 1Q16 to 7.23% 1Q17, with the number of used cars increasing from 70% to 75% in 1Q17.

In Ford's revolving (FORDR) and non-revolving (FORDO) deals, WACs have been declining to 2.61% in 1Q17 for FORDO and 2.65% in 4Q16 from over 3% in 1Q16 for both shelves. WACs on Honda (HAROT) deals declined from 2.17% in 3Q16 to 2.09% in 4Q16 and the analysts expects higher loan rates eventually with rates on the rise.

On the non-prime side, WAC stands at 17.25% in 1Q17, compared to 16.30% in 1Q16 and 17.47% in 4Q16. The analysts note that the FICO, LTV, original term and used percentages haven't changed materially over the past five quarters. The percentage of loans in low FICO buckets hasn't changed significantly across the time period across most issuers either.

The third quarter saw the highest collateral quality in AFIN's 2016-2 and 2016-3 pools, with WACs of <10% and average FICO of 633. WACs are varied in deeper subprime, with the AMCAR pools increasing from 12.21% in 1Q16 to 12.71% in 1Q17, for example. For the Exeter (EART) pools, WAC has also increased from from 20.17% in 1Q16 to 20.78% in 1Q17, while FICOs above 540 have increased along with a decline in used cars.

Conversely, DRIVE and SDART pools have seen declines in WAC. WAC, LTV and used percentage for the former shelf were 18.93%, 108% and 66% respectively in 1Q17 compared to 21.09%, 112% and 73% in 1Q16, according to JPMorgan figures. SDART saw WACs decline from 16% in 1Q16 to 15.60% in 1Q17 and the weighted average FICO score increase to 609 from 600 in 1Q16.

RB

ABS

Swiss auto debut announced

Multilease is prepping a debut Sfr297m auto lease ABS. Dubbed First Swiss Mobility 2017-1, it is a 32-month revolving cash securitisation of auto lease contracts extended to obligors in Switzerland.

The underlying assets are financial leases extended to mainly private lessees. The residual value cashflows have a dealer buy-back guarantee from either independent or Emil Frey Group car dealers in Switzerland. Multilease is a fully owned subsidiary of Emil Frey.

The collateral pool has an average lease balance of Sfr16,873 across 720 dealers. There is geographic concentration in Zurich (13.94%), Vaud (13.78%) and Ticino (9.55%). The main car manufacturers are Toyota at 26.53%, Land Rover at 15.05% and Subaru, representing 10.79% of the pool.

Moody's and S&P have both assigned provisional ratings to the transaction respectively of Aaa/AAA on the Sfr260.7m class A notes, A1/AA- on the Sfr22.2m Class Bs and Baa2/BBB+ on the Sfr14.10m class Cs. There is 10% overcollateralisation at Sfr33m, as well as a 2.1% reserve fund for each note.

Among the credit strengths highlighted by Moody's is the granular portfolio composition, with the largest lessees representing 0.17% and 0.73% of the pool. It points out that there are no additional maintenance or other service obligations associated with the pool.

The rating agency also notes that the cumulative default rate is around 1% of the original loan balance, while the recovery rate is around 58% and the monthly delinquency rate is less than 0.7%. Furthermore, 31% of the contracts are fully amortising leases, which tend to be contracts with fairly low residual values.

Credit weaknesses of the transaction include Multilease being an unrated entity and a first-time originator and servicer, as well as commingling of cashflows to the servicer. Moody's notes too that there is a high dependency on the Emil Frey Group, which owns 60% of the car dealers providing the dealer guarantee to cover residual value risk. The issuer account rate on balances over Sfr17.5m is also linked to the Swiss National Bank reference rate, which is currently at -0.75%.

Credit Suisse is arranger on the transaction.

RB

Structured Finance

SCI Start the Week - 13 March

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

Pipeline
New ABS transactions accounted for more than half of last week's pipeline additions. There were six of these as well as an ILS, three RMBS a CLO and a CDO.

The ABS were: US$1.168bn BMW Vehicle Lease Trust 2017-1; US$869.86m CNH Equipment Trust 2017-A; US$800m FOCUS Brands Funding Series 2017-1; US$130m JG Wentworth XXXVIII Series 2017-1; Latitude Australia Credit Card Loan Note Trust 2017-1; and US$300m Sierra Timeshare 2017-1.

US$300m Sanders Re 2017-1 was the ILS and the RMBS were European Residential Loan Securitisation 2017-PL1, US$395m Mill City Mortgage Loan Trust 2017-1 and Sequoia Mortgage Trust 2017-3. The CLO was Barings Euro CLO 2017-1 and the CDO was US$331.25m TruPS Financials Note Securitization 2017-1.

Pricings
It was another big week for completed issuance. There were 13 ABS and a dozen CLOs, with a selection of ILS, RMBS and CMBS also thrown in.

The ABS were: US$213.137m Arcadia Receivables Trust 2017-1; US$600m Avis Budget Series 2017-1; US$650m Chase Issuance Trust 2017-A2; US$409.2m ECMC Group Student Loan Trust 2017-1; US$1.25bn GM Financial Automobile Leasing Trust 2017-1; US$389m Kabbage Asset Securitization Series 2017-1; £571m LaSer ABS 2017; CNY4bn Rongteng 2017-1; CNY4bn Shanghe 2017-1; US$1bn Toyota Auto Receivables 2017-A Owner Trust; US$1.288bn Verizon Owner Trust 2017-1; US$703m Westlake Automobile Receivables Trust 2017-1; and US$704.21m World Omni Automobile Lease Securitization Trust 2017-A.

US$164.5m Buffalo Re Series 2017-1 and US$125m Citrus Re Series 2017-1 were the ILS, while the RMBS were €1.365m Domos 2017, US$1.62bn Freddie Mac Whole Loan Securities Trust Series 2017-SC01, US$757m New Residential Mortgage Loan Trust 2017-1 and A$850m Torrens 2017-1. The CMBS consisted of US$1.5bn FREMF 2017-K63, US$1bn GSMS 2017-GS5 and US$1.1bn JPMCC Commercial Mortgage Securities Trust 2017-JP5.

The CLOs were: US$407.9m AMMC CLO 2017-20; US$611.7m Carlyle Global Market Strategies 2017-1; US$715m Dryden 47; US$711m Goldentree US CLO 1; €321.7m Harvest CLO 2013-7R; US$348.5m Ocean Trails CLO V 2014-5R; US$453.75m Octagon Investment Partners XIX 2014-1AR; US$644m OHA Credit Partners CLO 2014-10R; US$613.8m OHA Loan Funding 2014-1R; US$406.3m Regatta V Funding 2014-1R; US$455m TIAA CLO II; and US$318.33m Tuolumne Grove CLO 2014-1R.

Editor's picks
Marketplace ABS disparate but stronger: Investor confidence in marketplace lending appears to have rebounded after a drop-off in 1H16, but the sector remains too fragmented to make broad conclusions about whether it has stabilised. The disparity between consumer and student loans originated online and the demise of the original peer-to-peer lending model make it difficult to gauge securitisation performance across the sector...
CMOA structure prepped: Acis Capital, an affiliate of Highland Capital, is prepping an innovative US$372m CLO. Dubbed ACIS CLO 2017-7, the transaction utilises a capitalised majority-owned affiliate (CMOA) risk retention strategy...
US CLO demand drives on: Activity and demand are growing once more in the US CLO secondary market, despite some challenges. "Overall buying demand is very, very strong - even though there are cross-currents going on that make it difficult for some investors," says one trader. "For example, there are a lot of currently callable bonds going out on BWIC that will trade beyond par, which is pricing many customers out of the market..."
UK NC clean-up calls considered: UK non-conforming RMBS clean-up calls have long been considered out-of-the-money options, but recent activity has changed that. Despite a rally in mezzanine UK non-conforming bonds since the beginning of the year, Deutsche Bank European securitisation analysts believe this option is not yet fully priced in...
Replacement risk weighing on BWIC volume?: International ABS BWIC volume totalled €9.7bn in 2016, according to JPMorgan figures. Average weekly BWIC volume of €186m last year fell by around 17% from 2H15 and has subsequently fallen to €96m per week in 2017 year to date, reflecting the lack of supply and replacement risk...

Deal news
• Greystone is in the market with its debut US$366.6m CRE CLO. Dubbed Greystone Commercial Real Estate Notes 2017-FL1, the transaction securitises 27 floating-rate mortgages secured by 27 transitional multifamily properties.
• Barings has established a warehouse securitisation to ramp up leveraged loans and high yield bonds ahead of the issuance of its forthcoming Barings Euro CLO 2017-1. The transaction comprises a senior funding facility (SFF) and a mezzanine funding facility (MFF), provisionally rated single-A and triple-B (low) by DBRS, and is subject to collateral quality and portfolio profile tests.
• Westlake is in the market with its latest ABS, Westlake Automobile Receivables Trust 2017-1. While the auto finance firm has previously issued a dozen other deals, its latest transaction differs from its previous ABS in significant ways, says S&P.
• Latitude Finance Australia is in the market with a rare Australian credit card ABS. Dubbed Latitude Australia Credit Card Loan Note Trust - Series 2017-1, the transaction is backed by a A$3.76bn pool of MasterCard, Visa and sales finance card receivables originated under retail partnership agreements.
• Focus Brands is readying a US$800m whole business securitisation. Focus Brands Funding Series 2017-1 is backed by royalties from 5,055 restaurant franchises within the Focus restaurant system and 80 company-operated restaurants.

Capital Relief Trades

Innovative GARC transaction prints

Intesa Sanpaolo has printed an innovative risk transfer transaction - and the largest to date - from its GARC programme, with Banca IMI acting as arranger. The €2.5bn GARC SME-5 synthetic securitisation references a granular portfolio of Italian SME loans.

According to Elisabetta Bernardini, head of credit portfolio management at Intesa Sanpaolo: "This was an innovative structure, since it was completed through a limited recourse loan, provided for funded first loss protection in favour of Intesa Sanpaolo - as per article 7 comma 1 letter A) of the law 130/99 - for an amount equal to 95% of the junior notes."

Previous GARC transactions were structured in a tranched cover format, she adds, since "investors sold funded first loss protection by pledging cash collateral with the originator." In the latest deal, several investors were involved in the placement through a competitive process.

The GARC platform was set up in 2014 with the goal of optimising the capital absorption profile of the bank's credit portfolio. "The use of synthetic credit risk transfer transactions is best practice at international level as a tool for capital optimisation. Intesa Sanpaolo transactions are structured with the purpose of reducing the regulatory and economic capital absorption (at prices which are consistent with value creation) and supporting the business growth of SME clients," Bernardini says.

The expected maturity of the transaction is in line with the three-year weighted average life of the portfolio. The final spread of the junior notes was in the low-teens.

The investors involved in the deal were highly specialised and interested in gaining access to the Italian lender's origination platform for Italian SMEs. Finding them, however, was one of the challenges.

As Bernardini points out, "enlarging the investor base at a price consistent with our internal targets was one of the complexities. Such transactions require extensive knowledge of the Italian SME market and a full understanding of the originator's credit process, such as underwriting criteria, internal rating models, monitoring procedures and management of non-performing exposures."

As part of the platform's programmatic issuance, she anticipates further deals referencing performing portfolios. "At the moment, we are structuring one or two transactions a year on SMEs, but we expect to develop the platform and include other asset classes that may be of interest to the market."

SP

Capital Relief Trades

Risk transfer round-up - 17 March

Activity continued this week in the capital relief trade space, with Deutsche Bank's CRAFT CLO entering the bidding process on Wednesday. The underlying reference portfolio is expected to be comprised of SME loans.

Indeed, Deutsche Bank has issued a number of synthetic SME transactions through its CRAFT programme in the past. "Such loans tend to be less granular and less standardised, as well as harder to analyse, which is why they are usually done in the synthetic format," says one source.

CDS

European index exposure favoured

The roll of the IHS Markit CDS indices next week is expected to result in a number of lower quality constituents entering the reference portfolios. Ahead of the roll, Morgan Stanley credit derivatives analysts reiterate their long-term preference for Europe over the US via a long Crossover position versus CDX HY and buying upside options in the iTraxx Main versus CDX IG.

The CDX IG28 roll is anticipated to increase the index's energy exposure, with the net addition of one name. Starwood Hotels & Resorts Worldwide and Kinder Morgan Energy Partners are being replaced by Encana Corporation and Kinder Morgan, while a split entity (Lamb Weston Holdings) will be removed. The new names trade wider than the removals, according to the Morgan Stanley analysts, at 125bp versus 70bp - although the impact on the index is only 0.9bp.

Consumer cyclicals remains the most over-represented sector in CDX IG. The retail sector accounts for five of the 10 widest names in IG28.

Overall, the analysts estimate that the fair value of the IG28 roll is roughly 10.2bp, driven mainly by the six-month maturity extension (accounting for 9.3bp). "The IG27-28 roll is the widest in recent years, based on absolute spread and percentage levels. With a large outstanding long base (at around US$46bn, per the DTCC, in IG27), we expect the roll to trade tighter than fair value," they note.

The roll in the iTraxx Main index will see six name changes. Lanxess, AstraZeneca, Linde, SABMiller, Ericsson and BayernLB will be replaced by HeidelbergCement, UPM, ALSTOM, Henkel, Capgemini and Prudential.

The new series is likely to be lower in quality, with the average rating of the new entrants at triple-B versus triple-B plus for the removals. The average spread on the exiting names is around 3bp tighter than that of the new entrants. However, the fair value of the roll is projected to be roughly 7bp, with most of the contribution coming from the maturity extension (6.5bp).

Meanwhile, the iTraxx XO27 roll will incur five name changes, with the new entities (Constellium, Elis, Cellnex Telecom, Saipem and Ericsson) trading wider than the removals (HeidelbergCement, ConvaTec, NXP, STMicroelectronics and Unilabs) by 250bp versus 102bp. The analysts estimate a fair value for the roll of around 21bp, with name changes contributing 9bp and the six-month maturity extension adding 12bp.

"Overall, the new index is lower in quality than the previous series, as well as the European cash index," they observe.

The average rating of the new entrants is double-B plus versus triple-B minus for the removals. The changes will also result in Crossover having a greater exposure to triple-C names than the iBoxx HY index.

In terms of trade recommendations, the analysts maintain a preference for Europe, given less evidence of late-cycle behaviour and a more supportive central bank. They suggest that the entry point is attractive, due to European underperformance this year. As well as positioning for the trade through the high yield indices, they recommend buying June receivers in iTraxx Main, funded by selling receivers in CDX.IG.

Another trade they favour is cheap hedges in iTraxx Main, given the potential for political uncertainty ahead of the French elections in April and high exposure to French names. The analysts suggest implementing payer spreads to May in iTraxx Main, as well as calendar receiver spreads, given an inverted volatility term structure from May to June.

Finally, they highlight their preference for the CDX indices over cash/TRS in the US, especially as risks around a more aggressive Fed rise over the cycle.

CS

CLOs

Euro CLO equity outperforms

European CLO equity spreads have experienced a notable turnaround, from a negative -10.5% price return in 2015 to an 8.8% price return in 2016. Indeed, based on a sample of 63 post-crisis deals, JPMorgan figures show that European CLO equity total returns average 32.21%.

Every CLO in the sample shows a positive total return ranging from 54.3% to 10.1%. JPMorgan CLO analysts note, however, that the 2015 vintage underperformed due to a higher dollar price.

European CLO equity overcame several macro hurdles and outperformed in 2016, in particular - with cash-on-cash returns standing at 18%, relative to an annualised average of 15% since the start of post-crisis issuance. This performance coincides with European loan defaults hitting post-crisis lows in 1H16, ending at 2.40%, compared to the 4.13% average since 2010.

The JPMorgan analysts suggest that the key threats to European CLO equity returns are spread compression and lack of collateral. The S&P LCD primary European leveraged loan spread of 370bp, as of the end of February, is down 121bp year-on-year, while institutional loan volume is €15bn, as of 3 March.

Given that total return-benchmarked investors are enjoying the highest post-crisis CLO equity prices since 1Q15, the investment profile is evolving into a carry trade with less price upside. The analysts indicate that investors should consider relative valuations of CLO single- and double-B tranches to the extent that forecasted equity yields are less attractive in some scenarios.

They point out, however, that CLO equity offers "one of the highest levels of upfront carry achievable" in Europe and there is an upside from a refinancing and/or reset perspective to cope with asset market conditions.

Of 93 European CLO 1.0 deals, 39 have paid down since last year, indicative of the rapidly diminishing CLO 1.0 market. Cumulative cashflow returns since inception for European CLO 1.0s that remain outstanding are 115%.

Paid down European CLO 1.0s have seen cashflow returns of 100%. The 2002 vintage has seven deals classified as paid down and the highest cumulative cashflow returns at 131%, but six 2001 vintage deals had the highest annualised cashflow returns at 17%.

In the CLO 2.0 universe, cash-on-cash returns were 18.5% in 2016, slightly behind last year's 18.9% - with the 2014 vintage also outperforming the 2015 vintage in 2016. The analysts note that this could be due to the absence of Euribor floors in the 2014 vintage.

With three-month and six-month Euribor still negative, CLO equity in deals without Euribor floors saw cash-on-cash returns in 2016 that were 0.5% higher than their floored counterparts. Additionally, non-floored 2015 vintage CLO equity saw cashflow returns of 23% versus 18.2% for floored deals. The analysts expect the number of non-floored European deals to decrease going forward.

In terms of European CLO equity liquidity, BWIC volumes decreased 18% year-on-year from 2015 to €562m in 2016, with an estimated 27% that did not trade. This compares to US CLO equity BWICs of US$2.9bn in 2016.

Last year was the first in which the majority of equity BWICs were from post-crisis CLOs, as pre-crisis CLOs continue to pay down.

RB

CMBS

CMBS retention 'first' in the works

The second US CMBS conduit transaction to use an eligible horizontal residual interest, and the first to have that horizontal interest held solely by a third-party purchaser, is currently marketing. JPMDB 2017-C5 is a US$1bn transaction rated by Fitch, Kroll Bond Rating Agency, Moody's and S&P (see SCI's pipeline).

The third-party purchaser is Massachusetts Mutual Life Insurance Company, which will purchase the class D-RR, E-RR, F-RR and NR-RR certificates, representing 5% of the fair value of the transaction. MassMutual will then be contractually obligated to retain those classes for a minimum of five years.

The first CMBS conduit with an eligible horizontal residual interest was JPMCC 2017-JP5 (SCI 2 March). Both Kroll and Moody's say that the retention by MassMutual in the latest transaction is credit neutral, while Fitch and S&P do not express a view.

The A1, A2, A3, A4, A5 and ASB classes have been rated triple-A by Fitch, Kroll, Moody's and S&P. Fitch and Kroll have also rated the AS notes at triple-A, while Moody's rates those notes at Aa3 and S&P does not rate any notes below the ASB class.

Fitch rates the B notes at double-A minus and Kroll at double-A, while Fitch rates the Cs at single-A minus and Kroll at single-A. Fitch rates the class D notes triple-B, while Kroll rates them triple-B plus.

The retained E-RR, F-RR and G-RR classes are rated triple-B minus, double-B and single-B by Fitch and rated triple-B minus, double-B and single-B plus by Kroll. None of the rating agencies rates the NR-RR class of notes.

The CMBS is sponsored by JPMorgan and Deutsche Bank and arranged by that pair plus Drexel Hamilton and Academy Securities. The largest loan exposure in the pool is US$80m of the 229 West 43rd Street Retail Condo loan.

The next largest are 350 Park Avenue, Prudential Plaza, Hilton Hawaiian Village and Key Center Cleveland. Between them, these five loans account for 32% of the initial pool balance.

The pool consists of 31 10-year loans, a single 10.5-year loan, two five-year loans and one seven-year loan. Three of the loan have existing subordinate secured debt in the form of B notes, including the 350 Park Avenue and Hilton Hawaiian Village loans.

By property type, the largest exposure is to office at 32.7% of the pool. That is followed by lodging (19.3%), retail (19.2%), mixed-use (18.7%), multifamily (6.6%) and self-storage.

JL

Marketplace Lending

Marketplace lending moving ahead

A number of positive developments have boosted the marketplace lending sector this week. Among them is the publication by the OCC of further guidelines for fintech firms applying for bank charter applications.

The extra information is included as a supplement to the OCC's existing licensing manual and it explains how the licensing standards and requirements will be applied in existing regulations and policies to fintech companies applying for special purpose national bank charters. The supplement describes unique factors the agency will consider in evaluating applications from fintech companies, such as promoting fair access and fair treatment.

It also outlines the agency's approach to supervising those fintech firms that become national banks. The OCC is accepting comments on this document through close of business on 14 April.

The recovery in marketplace lending securitisation activity has made further gains with the pricing of two US MPL deals (SCI 6 March). Kabbage printed its Kabbage Asset Securitisation Series 2017-1, a US$500m securitisation of SME loans, while Arcadia Receivables Credit Trust 2017-1 closed - a US$213.13m ABS backed by prime Lending Club loans.

Elsewhere, in the UK, Moody's has upgraded its ratings on Funding Circle's debut ABS, SBOLT 2016-1, due to a high level of repayments. The agency has raised its ratings to Aa2 (from Aa3) on the £87.8m class A notes, A1 (from A2) on the £6.1m class Bs, Baa1 (from Baa2) on the £7.8m class Cs and Baa3 (from Ba1) on the £6.3m class Ds.

Meanwhile, Moody's has also released a paper comparing the US and Chinese MPL ABS markets. The rating agency notes that the two sectors have both experienced a number of governance and misconduct issues over the past two years, leading to investor pull-back at certain points, followed by a period of transformation.

Moody's suggests that key differences between the two sectors include marketplace lending challenging the definition of a loan in China but true lender status in the US. Chinese MPL ABS is exposed to both commingling and set-off risks, while in the US, deal structures mitigate commingling risk and set-off risks do not exist at all. A final key difference is that in China the original peer-to-peer lending model is still a major part of the Chinese MPL sector, while it has diminished in the US.

Key similarities, the rating agency suggests, are: big data analytics are used for credit assessments and risk management in both the Chinese and US MPL sectors; the performance of marketplace lenders hasn't been tested through the credit cycle; and the alignment of interest between platform and investors is undergoing a degree of transformation.

RB

Structured Finance

Job swaps round-up - 17 March

EMEA

Dentons has formed a securitisation team in Germany by hiring Arne Kluwer, from Clifford Chance, Matthias Eggert and Timo Riester from Baker Mackenzie and Mortimer Berlet as partner, who joins from Clifford Chance. Kluwer starts at the Frankfurt office on 1 April, Eggert and Riester at the Munich office and Berlet starts on 1 May. The firm also recently hired Carl Bjarnram to the aviation asset finance team in Munich, previously from Norton Rose Fulbright.

North America

Wells Fargo Asset Management has hired Stephane Fievee as a portfolio manager in the firm's ECM Asset Management subsidiary, joining ECM's sub-investment grade team. He was most recently an assistant portfolio manager and senior credit analyst at Alpstar Capital and has previously worked at Pearl Diver Capital and in the structured credit products group at Wells Fargo Securities.

Settlements

Novastar, RBS, Wells Fargo and Deutsche Bank are to pay US$165m in an all-cash settlement in connection with losses on MBS issued by Novastar and the banks. The case was brought by several union pension funds that were sold the MBS and subsequently incurred severe losses during the 2008 financial crisis.