Contents

Capital Relief Trades

Landmark financial guarantee completed

The EIB and Credit Agricole completed an innovative synthetic securitisation in late December. Dubbed VIADUC, the risk transfer transaction combines a guarantee by the EIF - which covers Credit Agricole's large corporate clients - with a commitment by the French lender to provide €830m of subsidised loans to French SMEs and medium-sized companies (see SCI's capital relief trades database).

"There's a reason it's called VIADUC," says Pascale Olivie, head of credit portfolio management and structuring at Credit Agricole. "Having the EIF guarantee CACIB's corporate portfolio in return for SME financing allowed us to build bridges between corporate investment banking activities and the financing of SMEs. Moreover, the transaction enabled us to forge bridges within the Credit Agricole Group, given the several entities that were involved in the deal."

The deal is part of the European Commission's Investment Plan for Europe, widely known as the 'Juncker plan', and the first EIF transaction that guarantees large corporate portfolios. The seven-year €140m financial guarantee covers the mezzanine tranche of a €3bn corporate portfolio.

The €830m that will be provided by Credit Agricole in return will be distributed over three years to the bank's SME clients. This will generate six times the leverage between the amount of the guarantee and the amount of new loans granted.

The transaction features a 5% tranche thickness, along with a five-year WAL and pro-rata amortisation. Furthermore, there is a replenishment period of one year, with an additional option to extend the period by another year subject to EIF approval.

Regarding the choice of the EIF as the counterparty, Olivie observes: "When we trade with Sovereign Supranational Agencies, the focus and the rationale are different compared to private investors. In this particular transaction, the EIB provided better pricing, given that VIADUC comes with a commitment by Credit Agricole to support the economy through additional SME lending."

The French bank's previous synthetic securitisation was another landmark transaction with Mariner Investment Group. Dubbed Premium Green 2017-2, the innovative US$3bn risk transfer deal combines capital management best practices with the objectives of socially responsible investing (SCI 13 March 2017).

The EIF deal is not Credit Agricole's first with an SSA, however. More than three years ago the lender executed another synthetic securitisation with the International Finance Corporation. The US$2bn emerging market portfolio remains the IFC's largest structured finance transaction.

Looking ahead, Olivie concludes: "VIADUC is a landmark transaction, so it should pave the way for other risk-sharing transactions with the EIF."

SP

Risk Management

Hovnanian highlights 'need for change'

A group of funds, led by Solus Alternative Asset Management, is seeking to prevent a deal between GSO Capital Partners and Hovnanian Enterprises which has the potential to fundamentally undermine trust in credit derivatives. A federal court is due to hear arguments today, but regardless of the outcome market participants say change is needed.

Hovnanian is widely understood to be considering missing a bond payment in order to deliberately trigger certain CDS held by GSO. In return, GSO would provide Hovnanian with cheap financing - a "rigged" loan at 5% for nine years, much lower than market rates.

Solus and others allege that this is not just morally dubious, but illegal. Solus has asked that the court prevent GSO and Hovnanian from completing any deal which relies on Hovnanian voluntarily defaulting on debt that it is able to repay.

"If true that there is a deliberate design to trigger a CDS credit event when in fact the company is capable of making the relevant payment, then that would go against the spirit of the system of credit protection," says Assia Damianova, special counsel at Cadwalader, Wickersham & Taft.

Solus had also offered financing to Hovnanian, which was turned down in favour of the offer from GSO. It has therefore been suggested that Solus' objections are the product of sour grapes, although GSO has been involved in a similar situation before.

"Market participants are drawing similarities to Codere in 2013. In that case, GSO offered to refinance Codere's debt in exchange for the company making an interest payment late. Codere went - briefly - into default," says Damianova.

She continues: "The difference is that Codere was in genuine financial distress. Hovnanian's bonds are trading near par so, while the company may not be entirely healthy, it does not appear to be in distress. Deterioration in creditworthiness is a condition for a restructuring credit event occurring, but this situation shows how it might be a useful condition to a failure to pay credit event."

In the Hovnanian case, what is proposed is a simple credit event whereby coupon will not be paid, with creditworthiness not considered. Although it may be unpalatable to many in the CDS market, for Hovnanian itself the deal with GSO makes financial sense.

While Solus has elected to have its objections heard by a federal court, there are limited protections. Had the dispute happened in Europe, there may have been better regulatory coverage.

"In Europe we have the new Market Abuse Regulation, which specifically applies to financial instruments (including derivatives) the price/value of which depends on or has an effect on the price or value of securities traded on trading venues. Of course, a complaint to the relevant regulator about any potential distortions will take time to be investigated and in that time the credit event would occur, so the immediate available tools may still be rather limited," says Damianova.

Considering the relevant lack of protection that this case has highlighted, there have been calls to amend the ISDA Credit Derivatives Definitions in order to tighten loopholes. Safeguards might be required regardless of the court's ruling.

"It may be time to redraft credit definitions in such a way that credit events take into account if the relevant occurrence is a 'manufactured' credit event. The difficulty would lie with (i) having good evidence and public information about the background of such occurrence and (ii) perhaps the current logic of the Credit Derivatives Definitions that credit events occur regardless of certain 'defences' such as lack of authority, illegality, change of law or exchange controls," says Damianova.

Proving any wrongdoing is difficult because of course negotiations between GSO and Hovnanian - or their equivalents in a future case - are private. While GSO might struggle to justify its generous financing offer, a credit event is itself a very black and white matter and any background circumstances are, currently, irrelevant to resolving whether one has or has not occurred.

If these issues are not addressed, Damianova warns that "the danger is that market participants might become more reluctant to trust or use credit derivatives". She adds: "A Hovnanian credit event would have been difficult to foresee - you cannot be expected to assume that the reference company will be persuaded to miss a payment on its debt by a third-party - and what is more, after such blip, that the company is likely to actually improve in its performance because of the cash injection, while, at the same time, still having a 'cheapest to deliver' bond that may be used to drive down recoveries in the valuation process used to determine CDS losses."

JL

Capital Relief Trades

Slicing the risk

Capital relief trade issuers and investors are weighing in on the virtues of a structuring technique dubbed 're-tranching'. The innovation involves slicing in two the junior risk, in an attempt to cope with higher capital requirements under the CRR (SCI 23 February 2017).

"We're actively working with issuers and investors to move this forward," says Kaelyn Abrell, partner and portfolio manager at ArrowMark Partners.

The rise in senior risk weights is expected to force issuing banks to mitigate the capital increase by structuring transactions with thicker junior tranches. This is because the more credit risk a bank transfers lower down the capital structure, the better the rating for the senior tranche and hence the lower the associated risk weight.

However, if an issuer is forced to sell thicker tranches to achieve significant risk transfer, such a sale will not be economic for the bank if investors do not agree to accept the correspondingly lower return that comes with these thicker tranches (the latter being less risky). This is where the value of splitting or re-tranching the junior risk into first- and second-loss pieces enters the picture.

For example, under the new CRR and commensurate risk transfer rules, a bank may determine it is necessary to sell a position with a zero attachment point and a 12% detachment point in order to demonstrate significant risk transfer, which is greater than the 0%-8% tranche thickness that the bank would need to sell to meet the same tests under the current CRR. It is likely easier and less costly to divide such a position into two tranches - a first- and a second-loss position - because the bank would then be in a position to sell to different investors with different risk/return requirements. The first-loss investor, for instance, may need a 12% IRR, while the second-loss investor will have a lower return hurdle.

The re-tranching would then follow with a rating for the second loss before it is eventually sold to CLO-type investors. Besides allowing for easier financing, the existence of a rating means that an investor can be reassured that the credit outlook has been confirmed. Furthermore, ratings offer much-prized comparability.

Robert Bradbury, md at StormHarbour, notes: "It may help some investors to compare the tranche's risk-return profile with that of other securities, which feature similar underlying assets and granularity - though other prospective investors may not necessarily require external ratings."

An alternative to re-tranching could be simply to use leverage in order to raise the returns on the thicker tranches. Abrell believes that a combination of leverage and re-tranching will be used; however, additional tranching adds permanent, non-mark to market structural leverage that has some additional benefits over financing or traditional leverage.

Non-MTM financing would effectively amount to no margin calls. An inability to meet a potential margin call is the only way for an investor to lose their financed SRT. It is a tail risk and therefore unlikely to occur, yet certain investors do not use financing for this reason.

Supply is another issue. "There are a limited number of leverage providers on this asset class at the moment, and some funds are simply not able to use leverage," says Bradbury.

Following a rating for the second-loss piece, it is expected that investors such as hedge funds and insurance firms would target the single-B and double-B slice. "A number of investors have already expressed interest in the securities during preliminary conversations," observes Abrell.

She continues: "The single-B and double-B tranches can provide the risk/reward profile they prefer; however, the securities will offer less liquidity than CLO mezzanine securities. As a result, expected returns will need to reflect an illiquidity premium, in addition to the better underlying collateral that distinguishes SRT from CLOs."

Arrowmark itself is a CLO issuer, having printed 10 CLOs totalling US$3.6bn.

However, creating a market for the second-loss piece comes with its own set of challenges, such as the rating of the second-loss piece. For instance, in the case of less granular portfolios, there is a need for mapping between banks and rating agencies.

The latter is a rating exercise conducted by the rating agencies and it involves cross-referencing company names against names that have already been rated. The specific difficulty here is attributing a rating to a credit name when there is no data.

Market participants though remain relatively unfazed by these issues. "A number of deals, across several rating agencies, have already received ratings in various parts of the capital structure - so while it may pose challenges for some issuers, it is achievable with the right access to information," states Bradbury.

He adds: "The rating is not needed per se, but it helps with comparability and could potentially help with access to some types of investor."

Similarly, Abrell notes: "It's easier to assign a rating to a new second-loss tranche, if the senior tranche is already rated."

Nevertheless, re-tranching as an option is still at an exploratory stage, so actual transactions have not yet occurred. Some sources point to a six-month disruption period where the tranche will have to be sold at a higher spread, while others believe that the industry remains "a long way" from seeing these types of deals. Yet it is clear that as capital requirements bite and prospects for leverage appear subdued, re-tranching begins to look more tempting and hence more promising.

SP

ABS

Latin America poised to grow

The Latin American structured finance market is expected to be boosted by an improving economic environment across the region, with several countries likely to see growth in 2018. Issuance is anticipated to grow in Brazil, Argentina and Mexico across a range of asset classes, although uncertainty surrounds looming elections and a limited derivatives market hampers cross-border capabilities.

Leandro de Albuquerque, senior director in structured finance at S&P, comments that the Latin American region will this year see securitised issuance of US$19bn-US$25bn, up from US$15bn in 2017, against a more positive economic backdrop. Albuquerque is especially optimistic about Brazil, which could see a significant up-tick in activity as it emerges from recession.

He adds that securitisation in Brazil took a dip during the recession, with a lack of suitable assets originated. Albuquerque now expects to see the return of traditional asset classes in Brazil, albeit gradually, such as consumer loans, credit cards and trade receivables.

RMBS too may grow on the back of greater mortgage originations, although it could compete with covered bond issuance, but Albuquerque doesn't believe either will dominate. Additionally, Brazil is witnessing a growth in online lending and S&P recently rated its first fintech deal in the country from NuBank. The analyst says it could be the first of many such deals from the jurisdiction.

Marcelo Ribeiro, partner at Pentágono Trustee, comments that structured finance in Brazil mainly comprises certificates of real estate receivables, certificates of agribusiness receivables and credit rights funds. He says that these are mainly issued domestically, for domestic investors, and that the market was stable from 2016 to 2017 in terms of issuance volume.

In Brazil, Ribeiro says securitisation struggles to compete with subordinated bonds, volumes of which are typically almost double that of securitisation issuance. In 2017, he says there was an almost 50% increase in subordinated debt, while issuance of commercial paper tripled.

Ribeiro adds that currently investors "do not demand structured products", but are happy with subordinated debt and commercial paper. This is particularly true while they perceive the environment as safe and low risk.

In general, Ribeiro suggests that this hasn't provided a great environment for structured finance to flourish, although this may be set to change. He predicts that "volatility and risk will return with a vengeance" and "coupled with presidential elections in Brazil later in the year" he believes that 2018 will see greater investor appetite for structured products.

Argentina could also be a high point for the region and has seen steady securitisation issuance nationally for the last five to six years, mainly consumer-focused. The coming years, however, could see the RMBS market take off.

Albuquerque says: "With many banks now originating mortgages, they may look to fund these through securitisation." He adds, however, that hurdles to this could be high interest rates and inflation in the country, which the government will need to lower in order for the RMBS market to grow.

While Brazil will likely see traditional asset classes develop, such as unsecured consumer lending, Argentina may see securitisations related to infrastructure, as well as RMBS. Meanwhile, Mexico is expected to see more equipment receivables and consumer transactions, while RMBS may remain low.

The investor landscape is also developing, although growth is hampered by the degree of education that is still required on structured finance. Albuquerque says: "Securitisation is still regarded as a relatively new product in Latin America for everyone - issuers and investors alike."

Not unusually for less developed markets, issuance remains mainly domestic. Albuquerque adds: "In general, transactions are issued for domestic markets in the local currency and, generally, there is enough capacity to absorb the issuance. In Brazil, asset managers and pension funds have emerged as key investors in structured finance."

He continues: "In Mexico, pension funds and insurance companies are frequent investors; however, market depth is still limited when compared to other jurisdictions such as the US, where you see a broader base of investors. In Argentina, we expect to see more diversification on structured finance products, but investor education is still needed."

Investor concerns in the region tend to surround the quality of originators and servicers, which are viewed with some caution, Albuquerque says. Furthermore, he suggests that many of these firms are smaller than others that access capital markets and, as such, "present higher disruption risk."

Common concerns also surround the outcome of rising delinquencies and - more specifically - there are questions about "transparency of information around the collateral and what happens if the originator doesn't perform in line with expectations."

Looking ahead, much hangs on the outcome of upcoming elections, including in Brazil and Mexico, which creates some uncertainty in the region. Albuquerque notes that the market could also receive a much-needed boost if it manages to develop a more sophisticated derivatives market.

He concludes: "Throughout Latin America, investor education is an issue, but there also needs to be a building-out of the derivatives market, as this would facilitate more transactions issued in US dollars. At the moment, there are very few - if any - deals done in foreign currencies, due to currency risk and lack of currency swap capability."

RB

ABS

Debut Canadian utility ABS prepped

The Canadian province of Ontario has launched the country's first ABS backed by utility cost recovery charges. The transaction, dubbed Fair Hydro Trust, has yet to be valued but comprises three tranches and is designed to finance lower electricity costs for 5.05 million households and businesses throughout the province.

The Fair Hydro Trust issuer has been established in connection with the Ontario Fair Hydro Plan Act 2017 (FHPA) to finance a temporary electricity rate reduction for all residential consumers, SMEs and farms in Ontario. Fair Hydro Trust will purchase and finance an investment interest in a regulatory asset that represents the right to recover the difference between the reduced electricity costs paid by the specified consumers and the higher actual costs payable for that electricity.

Debt incurred by Fair Hydro Trust to finance the investment interest is recoverable through a Clean Energy Adjustment (CEA), which is a special charge imposed on the electricity bills of all specified consumers in Ontario, starting in May 2021 through to April 2047. It will be the first term series of utility cost recovery notes issued by Fair Hydro Trust, serviced by Ontario's Independent Electricity System Operator.

Moody's and DBRS have assigned provisional ratings of Aa2/AAA to the senior notes, Aa2/AA to the subordinated notes and Aa2/A to the juniors. The notes are all expected to mature by 15 May 2033, with the principal payment default date set at 15 May 2035, and all notes make fixed-rate semi-annual payments.

Moody's says that its Aa2 rating is linked to its Aa2 rating of the province and that the transaction is similar in terms of credit quality to other US utility cost recovery transactions it rates. However, the rating agency notes that Fair Hydro Trust's 30-year programme increases the risk that the province could make future changes to the law that could affect the transaction.

Moody's adds further that the the risk is mitigated to an extent by a protection agreement with the issuer, under which the province agrees to guarantee the debt service repayments upon a change in law. However, the agency says that that this is not as robust as the constitutional protection found in similar US programmes.

DBRS comments that the transaction benefits from a large and diversified rate-payer base. The rating agency adds that Ontario rate-payers also typically display a strong track record of paying their hydro bills on time.

An additional strength is that the CEA invoiced under the FHPA will be irrevocable and may not be set off or bypassed by residential and small customers. This is because the repayment of the 2018-1 notes will be shared among nearly all residential consumers, as well as small businesses and farms in Ontario.

The transaction is also supported by credit enhancement provided by the rate-setting and true-up adjustment mechanism, say Moody's. The legislation and related regulations authorise a rate-setting process that mandatorily adjusts the recovery charges semi-annually (and more frequently if required) to ensure timely debt service payments. The semi-annual rate-setting further incorporates a true-up to capture any shortfalls in collections from previous periods.

The manager of the transaction is Ontario Power Generation, while the transferor and servicer is Independent Electricity System Operator and the limited guarantee provider is the province of Ontario. Underwriters on the transaction are CIBC, Goldman Sachs and RBC.

RB

Structured Finance

SCI Start the Week - 22 January

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

Pipeline
Last week saw pipeline additions return to favouring ABS. There were seven ABS added, along with three RMBS, four CMBS and three CLOs.

The ABS were: US$442m AASET 2018-1; US$1.115bn Ally Auto Receivables Trust 2018-1; US$580.78m Exeter Automobile Receivables Trust 2018-1; US$1.09bn Ford Credit Auto Owner Trust 2018-REV1; US$580.8m Navient Student Loan Trust 2018-1; US$170m Sonic Capital Series 2018-1; and US$1.25bn Toyota Auto Receivables 2018-A Owner Trust.

US$316.9m Galton Funding Mortgage Trust 2018-1, US$900m STACR Series 2018-DNA1 and US$242m Verus Securitization Trust 2018-1 were the RMBS, while the CMBS were US$1.2bn Benchmark 2018-B1, US$189.1m CGCMT 2018-TBR, US$235m Natixis Commercial Securities 2018-285M and US$912m Tharaldson Hotel Portfolio Trust 2018-THPT.

The CLOs were a US$417.25m Canyon Capital CLO 2014-1 reset, as well as €2.835bn FT PYMES Santander 13 and US$509m Vibrant CLO VIII.

Pricings
There were nine ABS prints and 10 CLOs. There were also two UK RMBS: £383m Kenrick No.3 and £255m Precise Mortgage Funding 2018-1B.

The ABS were: US$1.25bn BMW Vehicle Owner Trust 2018-A; US$1.35bn CarMax Auto Owner Trust 2018-1; US$1bn Hertz Vehicle Financing II Series 2018-1; US$293.47m Marlette Funding Trust 2018-1; US$634.92m Master Credit Card Trust II Series 2018-1; US$1.286bn Mercedes-Benz Auto Lease Trust 2018-A; US$1.13bn Santander Drive Auto Receivables Trust 2018-1; US$912.19m SoFi Professional Loan Program 2018-A; and US$1bn Westlake Automobile Receivables Trust 2018-1.

The CLOs were: US$653m Greywolf CLO 2015-1R; US$525m HPS Loan Management 4-2014; US$376m Jamestown CLO 2015-8R; US$470m Magnetite 2015-16R; US$512m MidOcean Credit CLO VIII; US$350m Mountain View CLO 2015-10; US$511.2m Octagon Investment Partners 35 CLO 2018-1; US$329.2m Telos 2013-4R; €357.5m Tymon Park CLO (refi); and US$463m Venture CLO 2014-16R.

Editor's picks
Carillion liquidation met with cautious optimism: The Irish Stock Exchange announced this week that a company, believed to be liquidated construction giant Carillion, triggered a credit event for HSBC's US$300m CLN dubbed 'Metrix portfolio distribution'. Despite the event, the market's initial reaction remains cautiously optimistic given the sturdy performance of synthetics over the last four years...
Non-QM tipped as 'next opportunity': Last year marked the beginning of a transition from a post-crisis distressed recovery trade to a more efficient market for the US securitisation sector, underpinned by robust performance and favourable economic conditions. Against this backdrop, mortgage credit and private credit financings are expected to remain a strong source of risk-adjusted returns...
AnaCap extends Romanian foothold: A consortium led by AnaCap, Czech debt recovery firm APS and Deutsche Bank has won the bid for a non-performing loan portfolio put up for sale by Alpha Bank Romania. The €360m corporate transaction coincided with another €50m Romanian retail NPL transaction between Alpha Bank and B2Holding...

CLOs

CRE CLO market tapped

Värde Partners is tapping the market with a debut US$368.1m cashflow CRE CLO. The transaction, entitled VMC Finance 2018-FL1, is expected to close on 8 February and comprises 24 first-lien whole loans and pari-passu participations secured by commercial real estate properties spread across 12 US states.

Moody's and KBRA have assigned ratings of Aaa/AAA to the US$200.6m class A notes (which printed at one-month Libor plus 90bp). KBRA has also rated the US$14.723m class AS notes (plus 115bp) as triple-A, the US$20.705m class Bs (plus 165bp) as double-A minus, the US$20.705m class Cs (plus 250bp) as single-A minus, the US$31.747m class Ds (plus 380bp) as triple-B minus, the US$14.263m class Es (plus 400bp) as double-B minus and the US$17.484m class Fs (plus 500bp) as single-B minus. The US$47.851m class G income notes are unrated.

KBRA notes that since 2008 Värde Partners has invested over US$7bn in a range of US commercial real estate, originated over US$1bn in CRE loans through Värde Mortgage Capital and has US$110m AUM comprising CRE loans after acquiring Trimont. Furthermore, while the transaction represents the firm's first CRE CLO, it has securitisation experience, having securitised four NPL pools previously.

The transaction permits the post-closing acquisition of companion loan participations related to the initial transaction collateral for a two-year period. When fully ramped, it is expected to comprise 25 loans, secured by fee or leasehold interests in 28 properties.

The transaction balance includes the delayed-closing asset, Deacon Rental Properties - the eighth largest - but if it is not originated and acquired by the issuer within 90 days of the securitisation closing date, it will become ineligible for acquisition. Cash proceeds escrowed at closing for the purchase will be used to pay principal on the notes in sequential order to meet credit enhancement levels.

The collateral comprises 20 participations in whole loans at 88.9% of the portfolio and five whole loans at 11.1% of the portfolio. Over two-thirds of the loans were originated in 2017, while four were originated in 2016 and one in 2018.

Seven of these have an initial three-year term, seven have initial terms of 37 months, 10 have initial terms of 24 or 25 months and the remaining loan has an initial term of 40 months. Initial maturity dates therefore range from October 2018 to March 2021.

Moody's notes that the transaction will benefit from a note protection test at class D to protect the rated notes. Also, the transaction benefits from a diverse number of core property types - including multifamily, office and retail - and a diverse mix of tenants.

Moody's adds that the asset pool includes 100% credit assessment, which may not have the level of on-going disclosure that publicly rated assets have, although this may be mitigated by the manager and trustees' ongoing monthly reporting of collateral performance.

Värde Mortgage Company is a wholly owned subsidiary of VMC Lender, who will manage the CRE CLO. Servicer, back-up advancing agent for servicing advances and special servicer is Trimont Real Estate Advisors.

RB

CMBS

Toys R Us impact eyed

Toys 'R' Us is set to close 182 stores, accounting for seven million square-feet or about a fifth of its US footprint, beginning early next month and running through mid-April. An estimated 51 properties securing 44 loans totalling US$2.03bn across 49 US CMBS have exposure to a location that is slated for closure.

The closures follow Toys 'R' Us's filing for Chapter 11 bankruptcy protection in September, amid pressure resulting from vendors demanding cash payments in advance of merchandise shipments (SCI 21 September 2017). At the time of the filing, the company was struggling under a debt burden of over US$5bn - which required annual debt service payments of approximately US$400m, according to KBRA.

Of the 44 CMBS loans with exposure to the closures, 17 (eight of which are specially serviced) were previously identified as KBRA loans of concern (K-LOC), due to multiple underlying negative credit factors and metrics, such as low DSCR, declines in collateral occupancy and delinquency. Losses of US$361.7m are projected across the assets identified as K-LOCs.

The largest individual exposure to the closures is the US$497.3m TRU 2016-TOYS, a single-borrower deal secured by 123 Toys 'R' Us and Babies 'R' Us stores (see SCI's CMBS loan events database). KBRA notes that eight of the 182 identified locations serve as collateral for the debt securitised in TRU 2016-TOYS - representing 3.9% of the transaction balance - and operate pursuant to the terms of a master lease with a debtor affiliate.

The portfolio was appraised 'as-is' at US$878.8m (US$173 per square-foot) and 'as vacant' at US$617.9m (US$122/sf) at issuance. The dark value implied an LTV of 80.5%, as of the January 2018 remittance period.

In terms of conduit CMBS, Morgan Stanley CMBS analysts calculate that 26 loans with an allocated balance of US$1bn have direct exposure (where the retailer is listed as a tenant) to the Toys 'R' Us closures, of which 22 - totalling US$950m - are securitised in CMBS 2.0 deals. They point out that nine loans totalling US$327m are referenced in the IHS Markit CMBX.6 to CMBX.9 indices, with CMBX.8 having the greatest exposure, at two loans totalling US$187m.

The largest CMBX.6 loan secured by a closing store is the US$32.5m Bricktown Square Shopping Center in Chicago, securitised in WFRBS 2012-C10. Trepp notes that Babies 'R' Us is the largest tenant at the location, occupying 15.4% of the space.

Meanwhile, the largest conduit loan on the list is the US$123m The Plant San Jose, California, securitised in WFRBS 2013-C14. Toys 'R' Us/Babies 'R' Us is the second largest tenant, with 13.4% of the space. Trepp suggests that as the loan currently has a high DSCR, the closure may not be a major concern at present.

A further 11 loans with an allocated balance of US$327m have exposure to a Toys 'R' Us store closing nearby, of which 10 - totalling US$311m - are securitised in 10 CMBS 2.0 deals, according to Morgan Stanley figures. There are 10 loans totalling US$309m referenced in CMBX, with CMBX.7 having the greatest exposure at seven loans totalling US$285m across seven deals.

The list of stores subject to closure is the result of a comprehensive store-by-store analysis of all existing locations that considered historical and recent profitability, sales trends, occupancy costs, geographic market, the potential to downsize or consolidate certain stores within close proximity of one another, and the opportunity to negotiate rent reductions. Of the 182 closures, 94 are branded Babies 'R' Us and another 32 are co-branded Toys 'R' Us and Babies 'R' Us stores.

CS

Structured Finance

Going green

Current status of green ABS market discussed

Representatives from Clifford Chance, TMF and Ygrene Energy Fund recently discussed the current status of green ABS during a live webinar hosted by SCI (view the webinar here). This Q&A article highlights the main talking points from the session, including the established asset classes, those that are developing, and what is next for the sector.

Q: As the most developed jurisdiction, what is the current state of green ABS in the US?
Rasool Alizadeh, head of capital markets at Ygrene Energy Fund: Green ABS is growing and evolving at a rapid pace. Solar ABS and PACE bonds have noticeably grown in 2017 through its issuance, but we also see green auto ABS - for example from Toyota - making headway. Growth and confidence in PACE is only expected to continue in 2018 as the investor base continues to diversify.

PACE in particular has evolved tremendously over the last couple of years. PACE is a state and local government community initiative providing innovative solutions for property owners to finance energy efficient upgrades, and at Ygrene we have done five deals, three of which have been public.

The three public deals have all had a GB1 assessment from Moody's, which is the highest green bond assessment. This assessment focuses on the applications of the proceeds and also the assets at are being originated.

Q: How does the state of green ABS in Europe compare?
Kathryn James, senior associate at Clifford Chance: Green securitisation activity has been lower in Europe than in the US, but we certainly expect it to grow. With the environmental commitments that various European jurisdictions have made, we see securitisation as being a useful tool to help finance those initiatives.

There has been the Green Storm 2017 RMBS deal in the Netherlands, which was the first public green securitisation in Europe in the RMBS space. More recently we have seen a whole business utilities issuance from Anglian Water.

We are starting to see public deals come through, and in the private space there are lots of warehousing deals. While these are not big, publicly known deals, we are aware of a lot of clients looking at putting warehouse facilities in place and perhaps terming those out in the future.

Q: Have there been any green ABS with SME loans as assets? How would you propose to expand the concept of green ABS to SME loans?
KJ: Not in Europe, so far as I am aware. The SME market is less developed generally in Europe than other asset classes, however, it is foreseeable that you could have green SME securitisations as well. By way of example, loans to waste cycling plants tend to be quite granular and homogenous and could be a potential green collateral asset class.

Q: How does an ABS qualify as 'green'? Are there agreed criteria?
KJ: An ABS can either have green underlying collateral or it can have non-green collateral but use trade proceeds to invest in green technologies.

For green collateral deals, auto ABS really stands out. A lot of jurisdictions have committed to moving away from petrol in the next couple of decades so we should see auto ABS move quite seamlessly into the ABS space. For RMBS, one of the challenges will be whether or not there is a large enough pool of green mortgage loans. There could also be new asset classes, for example solar finance is more common in the US, but has significant room to grow in Europe.

There is a lot more flexibility for deals with non-green collateral but where the proceeds are used for green technology or research. The main issue there is how you label those transactions as being green, because the scope of those transactions is so wide. Structurally, those transactions should not look any different from existing securitisation deals; it is more about how you use the proceeds.

Q: PACE is one of the best-established green ABS asset classes. How has that market developed?
RA: PACE is one of the best-known green asset classes and has been extremely well-received. Investors are turning to green ABS and we have met investors who can buy 25% more bonds if there is a green bond assessment present. As spreads compress in PACE issuance (even with benchmarks widening), opportunities for financings will only grow as we diversify our investor base. States that are eligible for PACE financing cover roughly 90% of the US population, so that gives some perspective of how the market can expand.

Mike Lemyre, government affairs svp at Ygrene Energy Fund: We are just scratching the surface in terms of the market. The estimated addressable market in the US is US$200bn in terms of measures and projects that would be eligible for financing or fit within a green ABS.

Almost all origination so far has come from California and Florida, although Missouri emerged last year in small volumes. PACE is possible in 33 states and the District of Columbia, so the sky's the limit in terms of where the market can go, but we are seeing enormous interest from a legislative and policy perspective in most of these states. That is pairing nicely with not only investor demand but also the market demand within both residential and commercial sectors for the underlying projects that fill those securitisations.

Q: There has been talk of lack of performance data on PACE bonds in the US because investors must rely on the municipalities to report defaults. Is access to performance data an issue and how can it be improved?
RA and ML: The best way to address data is for independent firms to work with top originators to standardise data where investors and industry can grow over time and understand the trends within the asset class.

Q: Commercial PACE is developing alongside the more established residential version. How is it different and what are its prospects?
ML: Commercial PACE is one of the most exciting developing markets. At Ygrene we have folded commercial PACE transactions into our public securitisations, making those mostly residential but also diversified, but more recently there has been pure commercial PACE.

Given PACE is a legislative and regulatory based product, there is also the popularity of commercial PACE even in jurisdictions where residential PACE has not taken off yet. That could be because of more sophisticated building owners and buyers of the financing and it takes out the consumer aspect of it. You also do not see the same headline risk in commercial.

RA: In transactions we have had about 5% of small balance commercial feathered into large residential transactions. That has been a good tool for diversification and has been well accepted by the marketplace.

A pure commercial PACE deal closed last year and we believe another two or three could be completed in the next year or so. There will be some refinement around underwriting practices and it will take a bit of time to build scale for these deals, but it will be a very exciting space in terms of growth for the next five years or so.

Q: Why has commercial PACE been slow to gain market share?
RA and ML: Market efficiency in the commercial PACE has been challenging. The opportunity to grow came in residential and commercial has taken time to catch up as the addressable market is still grappling with the benefits. In a rising interest rate environment, this will be more relevant and may benefit commercial PACE the most.

Q: While commercial PACE is capturing the imagination in the US, which markets are developing in Europe and what needs to happen to develop them further?
Huub Mourits, global head of structured finance services at TMF: Solar is well established in the US but not in Europe. Ticket sizes are small and we typically see terms of 15-20 years. Lease contracts are pretty well standardised. The originator or seller of the panels is often also the servicer and responsible for the more technical reporting and making sure that the maintenance on those panels does actually happen.

In Europe we might have monetary union but we do not have fiscal union. That makes things more difficult. However, the EU needs to invest €100bn per year in building renovations to meet energy and climate goals. On the one hand this can result in green mortgages but it can also offer separate financings for energy efficiency improvements, which can be bundled and securitised like PACE bonds. However, those transactions would need to sit within the STS framework.

The European Parliament and Commission should actively support green ABS PACE securitisation and even green CLOs, for example by reducing risk retention for qualifying transactions. CLOs are excluded from STS, but static CLOs should be able to apply for STS treatment.

Green bonds and securitisation will be the new gig in the fixed income markets as we anticipate it will be a trillion-euro market in a few years (2020). For example, OECD estimates annual issuance of green ABS/CLO somewhere between US$280bn-US$350bn by 2031-2035, which is 44-52% of annual issuance.

However, this is not all additional issuance; over time investments/loans will be taken for LEVs instead of non-hybrid/electric vehicles, hence shifting from high-carbon to low carbon, or in other words transitioning towards a green or greener economy.

Standardisation of tech and agreements will pave the path for pooling bundles of loans or leases and securitising them as ABS/CLOs are more efficient tools or vehicles for aggregating pools.

Q: Is solar ABS feasible or desirable in Europe, at least in the short term, considering a number of recent non-rated, non-listed privately placed capital markets solutions being issued with institutional investors?
RA and ML: Ultimately yes, if the markets are to be efficient then the ABS term markets will enable that to happen.

KJ: In the short term we would expect the solar finance market to continue to develop primarily in the private placement/institutional investor market. Long-term we could start to see public securitisations but this is dependent on there being sufficient stock of relatively granular and homogenous loans/leases to support a public deal. It would be more difficult to securitise more bespoke solar financing designed for particular businesses.

Q: Harmonising regulations has often been cited as a worthy aim for green ABS. What are the current regulatory definitions and what progress has been made on harmonising them?
KJ: Agreeing common definitions is a challenge and no doubt there will be evolution as the technology advances. There are standards at the asset level, for example energy performance certificates for properties or emissions information for cars. The Green Storm 2017 deal also had a third-party to verify the energy performance certificate requirements that were set for that transaction. Quantifying and verifying the 'green-ness' of these transactions is key.

An interesting question from a legal perspective is what happens if assets that you thought were green actually turn out not to be, or if you lose that green status after you close the deal. Should there be repercussions for that? It might not impact the credit quality at all, but it might affect the value of the security.

On the Green Storm deal the originator gave certain representations that the properties involved had a certain EPC certificate. There were certain repercussions if it turned out that that was inaccurate; there was an obligation to buy back assets. If the certificate is removed at a later date, then there were no economic repercussions. That is an interesting distinction.

The development of standard terms, in solar for example, will be important to build sufficiently large homogenous pools of assets. There are a couple of interesting legal questions there as well, such as what security will you have with solar panels, because the solar equipment itself has debatable value in the secondary market. Could you get them off the property? If there is no real value in the security there, could you get security over the property itself? That brings up inter-creditor issues where you have got mortgage loans and solar panel loans on the same property.

HM: When you look at the labelling of green bonds, it is a labyrinth. There are a number of competing standards, but investors do want independent certification. Investors want to avoid green-washing.

China's entry into the market with their own standards has not helped the matter. We have seen Chinese bonds with respect to the coal industry classified as green, which is hard to understand.

The most widely referenced standards are the ICMA Green Bond Principles and the Climate Bonds Initiative. We also see guidelines from the European Investment Bank and the People's Bank of China. India and Japan have guidelines. Luxembourg has a label for green bonds, because the Luxembourg stock exchange lists more than 50% of the green bonds worldwide. There is also the EMAP initiative for green mortgages and rating agencies are also involved.

There is a lot of overlap but there are differences as well, so a more unified approach would be helpful. We need more universal clarity on what qualifies as 'green', as we have seen some bond issuers using the green label perhaps only for PR reasons, which we call green-washing.

The good thing is that we have seen the EIB and Green Finance Committee China Society for Finance and Banking working together.

Q: How do risk retention rules impact green ABS deals?
KJ: Green ABS deals would be treated the same way as non-green ABS.

RA and ML: They would be mo different than any other asset classes. Issuers have been known to do vertical and horizontal retention.

Q: What is the regulatory outlook in the US?
ML: PACE in particular is a market that is legislatively enabled, which is why state legislation in Florida has allowed the market there to flourish while other states are still building. Regulation gives the market structure and form as it grows and standardises.

Mature markets are putting in place regulatory guardrails to bring the asset into the mainstream. At the Federal level the key is to rationalise PACE assets within the overall consumer finance regulatory framework. To that end, we see activity in the House and Senate in Washington, the latest development being the proposed PACE regulatory legislation being folded into the banking finance bill. It is still many steps away from becoming law, but it has started some very helpful discussions in the market about making this asset class more mainstream - and we are pleased to have a seat at the table for those conversations.

Q: In relation to Solvency II, is there a favourable capital charge for insurers when investing in tranches of securitised green PACE credits?
KJ: Having a green label would not alter the regulatory capital treatment. Under the draft STS regulations relating to transparency there is an obligation on the originator and sponsor to disclose any data available on the environmental impact of the assets underlying the securitisation so this quality is starting to come into reporting requirements.

Q: What might be the impact of continued Federal de-emphasis on green energy, and how do Trump's tax reform proposals affect the landscape for green ABS?
RA and ML: There will still be appetite, only less if this path continues in the US which can make it a buyers' market.

There is still appetite, but available funds may be less due to the reform. This can crowd the markets with more projects and not enough capital. It is still too early to tell, though.

Q: How does a US$20m-US$80m transaction support the costs of a securitisation?
RA and ML: It is difficult, but achievable if terms and market conditions are factored in the ahead of time, it can be done. Most likely a private deal with one buyer the best starting point though.

Q: As rating agencies are not doing the due diligence, who is checking green credentials independently? Is it something that the rating agencies should be doing?
RA and ML: Rating agencies are collecting information and focusing on use of proceeds. Over time this will evolve as the industry starts understanding the impact of these projects in a standardised way.

KJ: Moody's and S&P provide green bond ratings distinct from any credit rating. Moody's Green Bond Assessment is intended to "assess the relative likelihood that bond proceeds will be invested to support environmentally friendly projects". S&P's green evaluations assess "the environmental net benefit of projects financed by the bond's proceeds over a lifetime, relative to a local baseline". There are also a number of third-party verifiers who will provide reports or certificates as to the compliance with particular green bond principles. By way of example, Sustainalytics provided a verification of the Obvion's Green Storm 2017 with reference to compliance with the Climate Bonds Standard.

JL

Structured Finance

Market moves - 26 January

North America

Schulte Roth & Zabel has elected Stephen Schauder as a partner in the structured finance and derivatives group, working with co-heads Craig Stein and Boris Ziser. Schauder joined the firm as an associate in 2015 after having previously worked at Stroock & Stroock & Lavan in the structured finance department.

CIFC has hired Jay Huang as md, senior portfolio manager and head of structured products investments. Prior to CIFC, Huang was md and global head of CLO, CDO and and distressed SIV trading for Citigroup Global Markets.

ISDA has announced the appointment of Jason Manske, senior md, chief hedging officer and head of the global derivatives and liquid markets group at MetLife to its board of directors.

Angelo, Gordon has hired Ryan Mollett as global head of distressed debt. Mollett was most recently senior md of GSO Capital Partners where he focused on distressed and special situation investing. Mollett will report to Josh Baumgarten, Angelo, Gordon's co-cio.

Highland Capital Management has recruited a pair of institutional business development professionals, in anticipation of increased opportunities in distressed credit. Laurie Whetstone has been named md (based in San Francisco) and Kieran Brennan director (based in New York), joining respectively from Bernstein Private Wealth Management and Connor, Clark & Lunn Financial Group.

EMEA

Cairn Capital has appointed Melissa Bockelmann and Zachary Farmer as members of its business development team, broadening its coverage in the Nordic region, Germany and North America. Bockelmann has over 18 years' experience in credit spanning distribution, portfolio management and product structuring. Prior to joining Cairn Capital, she was a director at 3i Debt Management where she was responsible for fundraising in Europe. Farmer previously worked at Camares Capital LLP, a long/short credit manager, in London for two years in business development.

Intermediate Capital Group has appointed Imene Boumalala to head up marketing to France, Italy, Spain, Geneva, Monaco and selected strategies to Israel. Boumalala reports to Michael Biereth, md, marketing and client relations, and will also interact extensively with ICG's global distribution team. She joins from Neuberger Berman, where she worked for 11 years as part of the institutional sales team, and was at Morgan Stanley before that.

Deutsche Bank has hired Asif Karmally as md in the financial solutions group, Middle East. He was previously at Goldman Sachs where he was executive director in structured finance sales, FICC in Dubai.

BNP Paribas Asset Management has appointed Michel Fryszman as head of structured finance. He joined on 15 January and is based in Paris. He reports to Laurent Gueunier, head of real assets, SME lending and structured Finance. Fryszman was previously at AXA Investment Managers where he was head of mortgages and specialty finance.

TigerRisk Partners has hired Marc Beckers as partner and head of EMEA. Before joining TigerRisk, he was general manager of MBeckers BVBA, advising insurers and financial players on capital optimisation solutions M&A projects and risk transfer optimization. Until July 2017, Beckers led Aon Benfield's ReSolutions team for EMEA, and before that Marc was leading Aon Benfield Analytics EMEA.

Cayman Islands

Appleby has hired Dean Bennett, who joins its Cayman corporate and finance group as associate. He was previously an associate in the derivatives and structured finance team at Baker & McKenzie in London, where he worked on a wide range of derivatives and financial markets transactions.

Ocwen update

In a recent 8-K filing, Ocwen states that it has entered into new agreements with New Residential Investment Corp to accelerate the implementation of arrangements the two parties agreed in July 2017, whereby New Residential's existing mortgage servicing rights will be converted to fully-owned MSRs via a more traditional sub-servicing arrangement involving upfront payments to Ocwen for MSRs to be transferred to New Residential over time (SCI 28 July 2017). Pursuant to the new agreements, Ocwen will receive a lump-sum 'fee restructuring payment' of US$279.6m and will continue to service the mortgage loans in return for a servicing fee for five years from 23 July 2017. The two parties continue to obtain the necessary third-party consents to transfer the MSRs to New Residential. Separately, Ocwen disclosed that it has entered into additional agreements to resolve the regulatory actions brought by North Carolina and South Dakota, bringing the total number of states where it has reached settlements to 27.

Acquisitions

AIG has entered into a definitive agreement to acquire all outstanding common shares of Validus Holdings, a provider of reinsurance, primary insurance, and asset management services. The transaction enhances AIG's general insurance business, adding a leading reinsurance platform, an ILS asset manager, a meaningful presence at Lloyd's and complementary capabilities in the US crop and excess and surplus markets. Holders of Validus common shares will receive cash consideration of US$68.00 per share, for an aggregate transaction value of US$5.56bn, funded by cash on hand. The acquisition expected to close midway through 2018, after all approvals are received.

FINO sale

Eurocastle Investment has raised approximately €48m of net proceeds through the sale of its share of the FINO 1 Securitisation senior notes, which are guaranteed by the Italian state under the GACS programme (SCI 30 November 2017). Eurocastle expects to close on its follow-on investment of €8.4m in the junior notes of the two FINO securitisations early next week, bringing the company's total investment to date in the FINO portfolio to approximately €52m. An additional deferred purchase price of €64.7m is payable over the next few years.

NB. Market moves is the new title for the previous regular article on industry changes, 'Job swaps round up' and replaces it from today - the new title embraces the breadth of coverage contained herein and will continue to go out every Friday afternoon.