Contents

Structured Finance

SCI Start the Week - 28 January

A review of securitisation activity over the past seven days

Market commentary
European ABS secondary market activity picked up last week, following a quiet start to the year (SCI 22 January). However, the primary market continued to experience its "slowest start to a year since 2011", as STS and Brexit uncertainty dampened activity (SCI 23 January).

One portfolio manager noted that CLOs have started the year fairly well. "The latest St Paul's CLO has just been announced, and there are a few more already in the pipeline."

Away from CLOs, there is a first-mover disadvantage in taking a view on the new securitisation regulations, he suggested. "There is still huge uncertainty about STS compliance and that is spooking would-be issuers. Then you have issuers, who have the data and are comfortable with compliance, but who cannot find buyers. The banks are skittish and that means issuers do not have certainty that they can place a transaction."

Nevertheless, there is talk of a UK master trust issuer potentially tapping the market. And Pepper is expected to bring a non-conforming RMBS in a few weeks, including short-dated US dollar- and euro-denominated tranches.

Meanwhile, the number of bid-lists hitting the secondary market increased last week, with "light volumes" seen in high quality CLO and short-dated auto ABS paper. SCI's BWIC calendar shows that BUMP 9 B was covered at 99.218 on 21 January, for example, while BABSE 2014-2X A1R was covered at 99.6.

A couple of lists comprising mezzanine non-conforming RMBS bonds also traded well. However, it was unclear whether the paper went to the Street or to end investors.

In the US, CLO spreads tightened last week, with a bulging pipeline and the return of confidence in the market (SCI 25 January). "Investors have been coming back to the market, so spreads have tightened and deals are being done. Triple-B mezz pieces, for example, have been pricing in the mid- to high-300s," another trader observed.

Transaction of the week
Banca Nazionale Del Lavoro has closed a €100m mezzanine guarantee with the EIF (SCI 25 January). Dubbed Minerva, the transaction was completed with funds from the European Fund for Strategic Investments (EFSI) and is expected to release €600m for lending to Italian SMEs. The guarantee is the first SRT transaction that the EIB Group has executed for Italian corporate loans and includes novel features, such as pro-rata amortisation and excess spread.

According to Giovanni Inglisa, structured finance manager at the EIF: "We made use of excess spread because it makes the transaction more efficient for the originator, as it enables us to optimise the size of the mezzanine tranche. This makes the released cost of capital very competitive, which in turn is expected to improve the cost of funding for new SME lending."

The excess spread features were structured in accordance with proposals in the EBA's SRT discussion paper. According to the paper, excess spread should be structured as a trapped mechanism and be commensurate with the expected loss of the portfolio, so that the ledger that is built up over time is not disproportionately large compared to the expected losses (SCI 22 June 2018).

Similarly, pro-rata amortisation renders the transaction more capital-efficient, since the relative size of the tranches remains stable over time. Sequential amortisation frees up less capital as the relative size of the tranches varies over time, in particular for the first loss tranche, which becomes disproportionately larger. A further novel feature is a replenishment mechanism.   

According to the terms of the transaction, the EIB provides a back-to-back guarantee to the EIF and the weighted average life of the portfolio is approximately two years, which is in line with past EIF synthetic trades.

Other deal-related news

• Far East Horizon Corporation (FEH) is marketing a CNY1.865bn securitisation backed by equipment lease receivables (SCI 22 January). The transaction - dubbed Far East Leasing 2019-1 - is the first deal from FEH to be supported by smaller-ticket and more diversified finance lease contracts, as well as being the first that S&P has rated.
• Clifden IOM No.1 has issued a Part 8 claim form, naming the RMAC Securities No. 1 Series 2006-NS1, 2006-NS2, 2006-NS3, 2006-NS4 and 2007-NS1 RMBS issuers, securities holdings, the corporate services provider and the share trustee as defendants to the claim. However, the issuers note that the claim has not, at this stage, been validly served on the defendants. 
• The borrower behind the 375 Park Avenue loan, securitised in the CGCMT 2013-375P and COMM 2013-CR8 CMBS is believed to have reached an agreement with its tenant Wells Fargo, which intends to relocate to its building at 30 Hudson Yards. Under the agreement, Wells Fargo's lease expiration may be accelerated, in return for a US$1.2m fee. For more on CMBS restructurings, see SCI's CMBS loan events database.
• Moody's has upgraded two tranches of Together's debut RMBS, Together Asset Backed Securitisation 1, and affirmed its ratings on the rest (SCI 25 January). The rating agency has upgraded the class B notes from Aa2 to Aa1 and the class C notes from A2 to A1, due to increased credit enhancement, following the addition of a sequential and non-amortising additional reserve fund by Together in November last year.
• The Symphony CLO III and Symphony CLO XI transactions have changed their names to California Street CLO III and California Street CLO XI (SCI 25 January).

Data

Pricings
US new issuance ticked up again last week, with a number of auto, consumer and CLO transactions pricing. However, the European market seems likely to see its first issuance-free (distributed and retained) January since 2003.

Last week's auto ABS prints comprised US$550m Exeter Automobile Receivables Trust 2019-1, US$1.32bn Mercedez-Benz Auto Lease Trust 2019-A and US$1.035bn World Omni Auto Receivables Trust 2019-A. The consumer ABS were US$1.07bn Evergreen Credit Card Trust series 2019-1 and US$213.75m GoodGreen 2019-1.

CLO volumes are also increasing, with US$399.93m Apres Static CLO 1, US$507.05m Ares LI CLO, US$454m Assurant CLO IV, US$601.5m CBAM 2019-9, US$429m Dryden 75 CLO and US$807.75m GoldenTree Loan Management US CLO 4 pricing. Additionally, a US$489m portion of Fortress Credit Opportunities VII CLO was refinanced.

Finally, Freddie Mac issued its US$714m STACR 2019-DNA1 RMBS and US$1.1bn FREMF 2019-K87 CMBS.

BWIC volume

Capital Relief Trades

Risk transfer round-up - 1 February

CRT sector developments and deal news

Bank of Montreal has printed a US and Canadian leveraged loan capital relief trade dubbed Manitoulin. The US$92.5m 7.3-year financial guarantee pays Libor plus 12.75%.

Rated by DBRS the deal comprises triple-A class A notes, single-A class B notes and triple-B class C notes. Further features include the presence of replenishment, a sequential amortisation structure and early termination of the protection.

The issuer’s last capital relief trade was another leveraged loan deal that was issued in September 2018. Deutsche Bank followed in December 2018 with its own leveraged loan transaction (see SCI’s capital relief trades database).

Derivatives

Securitisation swaps book launched

New publication aims to quench knowledge drought

Spotting a gap in the market, a team of structured finance veterans have collaborated on a new publication on an under-explored topic, which bridges the gap between credit derivatives and securitisation. Titled Securitisation Swaps, the book is aimed at all securitisation and derivatives industry participants and is set to be published by Wiley on 18 February, with the e-book available online now.

The authors consist of Mark Aarons, currently head of investment risk at a leading Australian funds manager, Andrew Wilkinson, senior legal counsel at National Australia Bank and Vlad Ender, director and owner of Kauri Solutions. Aarons explains how part of his early years in securitisation, working through the financial crisis, helped build up the experience and the inspiration needed to write Securitisation Swaps.

““I was transferred by the National Australia Bank from Melbourne to London in 2007, just before the financial crisis started,” says Aarons.  “After Lehman’s defaulted, our UK subsidiary, Clydesdale Bank, needed a highly rated swap provider for its RMBS programme to replace investment banks who were downgraded.  I was in the right place at the right time and was asked to look at the problem.  There was no information I could find on how to price a securitisation swap, let alone advise on structuring options and risk mitigation techniques.  We had to work it all out ourselves – which we did.”

He continues: “That’s what started a fruitful decade of work building-out a securitisation swaps business.  In 2010 I transferred back to Melbourne where I headed-up the derivative structuring team for the next seven and a half years. The work for Clydesdale turned out to be really useful for NAB’s extensive securitisation client base in Australia and also to other UK banks. Over the years we transacted an extensive variety of swaps for different types of RMBS programmes and tranche paydown styles, covered bonds and auto ABS.  After leaving banking in 2017 to move to the buy side, I still found that there was no resource for practitioners on securitisation swaps.”

Aarons comments that that the face value of these swaps is valued at trillions of dollars - a surprise given the difference in nature to other derivatives. This realisation, he says, was the genesis for the book and his friends and colleagues, Ender and Wilkinson, then agreed to work on it with him.

Wilkinson also worked through the financial crisis in 2008 on the legal side, in the structured finance group at Linklaters. While a period of immense upheaval, he says, it was during this time that the emphasis on swaps in securitisations became more important to the viability of deals, as well as becoming quite specialised.

Just before the financial crisis, in 2007, Ender was head of new product implementation at NAB and, while looking for new products to work on, Aarons asked for his assistance with securitisation swaps. This was good timing, says Ender, and adds that he “ended up joining the structuring team, supporting transactions through their entire lifecycle, which was fun.  Securitisation swaps are very bespoke products, so you need to understand a whole range of issues to do them well."

A major motivator for the book is that, while there are a number of people that understand swaps and a number that also understand securitisation, there aren’t many that understand both well, which is important for executing securitisation swaps efficiently, stresses Aarons. He adds that there are many “pricing optimisation opportunities, risk mitigation techniques and structuring options which are clear once swaps and securitisation knowledge become integrated”.

Wilkinson seconds this and says that, in securitisation, the focus is typically on originators and how the deal prices in relation to previous deals, but with little transparency as to the landed cost of funds. He adds: “This can be materially affected by the cost of securitisation swaps.  As a result, having more knowledge with regard to swap pricing is really useful to understanding – and controlling – the overall cost of a secured funding trade.”

Securitisation swaps differ from other derivatives, Aarons says, because they are linked to the inner workings of the underlying structured funding and so the dynamics of the underlying loan pool and cash flow waterfalls need to be incorporated into the modelling of the swaps. This impacts pricing, structuring, risk management and legal documentation, says Aarons, making it an exercise in bespoke tailoring which embeds securitisation swaps in the transaction structure.

He elaborates: “This is in contrast to derivatives used by corporations, fund managers and other entities to manage risk. For example, consider a fund manager who owns US$200m of offshore assets and hedges them back to domestic currency with foreign exchange (FX) forwards. It doesn’t matter if the offshore asset is a portfolio of stocks or a power station, the FX forward is a simple currency risk management overlay, which can be easily bolted-on.”

Securitisation swaps are also designed to remove market risk from funding deals typically at a point when the underlying cash flows change, says Ender. He adds that this can be due to a trigger feature in a cash flow waterfall or if the originator hasn’t called its bonds at a call date, so then the swap will alter cash flows in lockstep.

One of the great benefits of this de-risking procedure, says Aarons, is that it enables a structured finance transaction to receive a very high credit rating, often at triple-A, boosting the cost-effectiveness of a deal for lenders. Ender illustrates the point, with the example of a structured funding issuance of USD bonds from a GBP denominated loan pool, whereby currency volatility could expose US investors to significant loss, without deterioration in the credit risk of the underlying pool of assets.

It is therefore vital, Enders says, to remove this currency risk to achieve a triple-A rating on the bonds. This is, however, “far from an ordinary vanilla cross-currency swap if there’s prepayment risk or an issuer call option on the bonds.”

Wilkinson says that the book also looks at the “other side of any securitisation swap” – where the provider of the swap is assuming complex risk and needs a significant amount of expertise to safely manage the exposure. He notes that there are many different parts in a securitisation swap which can be “moving all the time, such as FX rates, interest rates and basis curves” and the necessary quantitative modelling, structuring and legal mechanisms used to reflect this are all equally important.

While they can be used to de-risk transactions, securitisation swaps can also create new risks in structured funding transactions, says Aarons. This is because a credit rating downgrade of the swap provider can lead to a downgrade of the associated bonds, without any change in the creditworthiness of the underlying loan pool.

Ender notes that investors should be interested in securitisation swaps as they can be dangerous if not fully understood. He adds: “Northern Rock's Granite RMBS swaps were with RBS, which suffered significant ratings downgrades. RBS couldn’t novate the swaps which they were required to do.

“As a result,” continues Enders, “the rating agencies downgraded some of the Granite bonds and investors suffered.  In the US, the Maiden Lane III sale got very complicated because of the underlying securitisation swap, which took a lot of people by surprise at the time.”

Consequently, the book devotes three chapters to the key risks involved in securitisation swaps: swap prepayment risk, swap extention risk and downgrade risk. Swap prepayment risk involves the risk of simultaneously adverse moves in both loan pool prepayment rates and market risk factors.

Swap extention risk, says Wilkinson, involves the extention on the WAL of the underlying ABS or RMBS, which is a result of originators not calling their bonds as expected. Downgrade risk arises from swap providers having to comply with strict obligations linked to their own credit ratings, as defined by the rating agencies, and arising from the fact that swap providers can be rated lower than the structured funding they are supporting.

The book also details the many types of securitisation swaps available. These include, says Aarons, “liability swaps, swaps with pass-through prepayment risk versus controlled amortisation prepayment risk and the unique risks associated with these.  This final chapter also covers how to put a securitisation swap deal together from start to finish.”

Additionally, Wilkinson says that the book shows how securitisation swaps can be applied to certain asset classes, highlighting the fact that in a pass-through RMBS you get certain risks that can help mitigate a balance guarantee swap. These are structured in such a way, he says, to get rid of prepayment risk which – in turn – can impact the rating a transaction receives.

In addition, says Ender, each swap needs to be modelled very carefully with risk management “in the forefront of one’s thinking to ensure that the transaction takes on the right amount of risks and passes on the others through swaps. This has a material impact on the cost of funding.”

In terms of the timing of the publication, Aarons says that it was in part a result of moving on from the sell-side and generally feeling that there is a “real gap in the market” on the subject. Likewise, he decided it was an opportune moment to pass-on his accumulated experience and to dispel some of the mystery behind securitisation swaps.

Wilkinson seconds this point and says that the book has “something for everyone” in the securitisation sector, from the structuring, legal and even the issuance side. Aarons agrees, stating that it is important when modelling complex structured finance products, to have a holistic understanding of the risks involved - if the swap isn’t done well, he says, “the deal doesn’t get off the ground, or ends up costing the swap provider dearly.”

Ender adds that with a continued “comeback” for securitisation expected, so more people will deal with the swaps and that, during the crisis, a lack of understanding of the risks involved in securitisation swaps caused “a lot of pain” for originators, investors and banks. He concludes that this was “because few people were able to see, understand and act on all the aspects of these complicated transactions” – a problem this book aims to solve.

More information on the book can be found online here.

Richard Budden

Structured Finance

Staying strong

MetLife Investment Management speaks to SCI about the year ahead

Q: What’s your general outlook for the structured finance sector in 2019?

William Moretti, head of structured finance, MetLife Investment Management: “On the whole, I’d say that structured finance is in a much better position to face another potential downturn than it was in 2007, before the last crisis. There have been a number of structural improvements to transactions and regulations - like risk retention - have helped to improve the quality of deals further and to prevent the likelihood that structured finance will be impacted in the next downturn to the same magnitude as in the prior crisis.”

Q: If there is a downturn in the sector, where will it come from?

Moretti: “Should there be a downturn, it will likely stem from the corporate space, unlike the prior crisis which stemmed from the consumer space. The US consumer remains healthy, along with supportive housing fundamentals. We view consumer and residential sectors as more defensive than CLO and CMBS given that the latter have a higher correlation to the corporate sector.

Q: Are you optimistic on consumer credit, in general, even in the sub-prime space?

Moretti: “In the personal loan space, there may be an uptick in defaults but we don’t think this will be across the board. Instead it might be more related to certain issuers that lack the ability to service certain loans or that have gone down the credit spectrum in terms of lending criteria. The subprime consumer is certainly more susceptible to a downturn, of course, but the subprime consumer is far healthier than it was pre-crisis, due to the greater restraints on lending and general consumer deleveraging.”

Q: What’s your outlook on CLOs this year in the face of predictions of reduced issuance and a potential uptick in defaults?

Poorvi Dholakia, structured finance strategist, MetLife Investment Management: “We don’t see a high risk of defaults coming through in CLOs this year, largely because a big uptick in leveraged loan defaults is unlikely. Post-crisis CLOs are also very well structured, with higher credit enhancement than pre-crisis. They should therefore be resilient even in the face of a severe downturn.”

Q: Is it possible we will see divergence in manager performance in a downturn?

Dholakia: “It is possible that we may see greater manager differentiation with, for example, some of the smaller, less experienced managers showing worse performance than larger more well-known managers that have greater expertise and infrastructure. Manager selection may therefore be more important moving into 2019.”

Q: Do you expect CLO issuance to decline this year?

Dholakia: “While CLO issuance is predicted to be down this year, it hit record levels of new issuance in 2018 of US$130bn and similar in refi/resets. It’s expected to be around US$100bn this year which would still be high.

Q: What will drive issuance dynamics this year?

Dholakia: “There is a risk of supply going down if the CLO arbitrage is pressured, amongst other things. However with lower supply, spreads will likely compress, which in-turn would improve CLO arbitrage and thereby CLO supply. In addition, the macroeconomic climate could alter investor appetite for risk assets in general and may look to position into more defensive assets. Further, the impetus to buy floating rate products could get impacted with a lower probability of future rate hikes from the Fed, similar to what we saw during December of last year.”

Are there any specific challenges the structured finance sector will face in 2019?

Francisco Paez, head of structured finance credit, MetLife Investment Management: “In general we don’t think that we’ll see huge asset specific issues in 2019. Most challenges to structured finance will likely come from macroeconomic factors but these may strain the industry.”

Are challenges going to be different in Europe and the rest of the world?

Paez: “We see a different dynamic in Europe where, for one thing, we think the European market will likely struggle issuance-wise in the first part of the year with the new Securitisation Regulation. However, on a positive note, there may be more of a move for issuers to look at securitisation as a source of funding, particularly with the tapering of QE programmes. This is particularly true in the UK where the funding for lending scheme has come to an end, so banks may well have more impetus to issue RMBS transactions. We also have some focus on Australian issuance. Interestingly, while Japanese investors are familiar players in the US CLO market they have been looking more closely at Australian securitisations and may change the demand-supply dynamics in that market. On the fundamental side, in the UK and in Australia there has been some dip in house prices recently which is a bit of a concern although, we’re mainly constructive on the UK and Australia securitization markets.”

On areas of growth/opportunity in 2019:

Dholakia: “In terms of growth areas, non-agency RMBS is likely to be an area of increased issuance and we expect upward of US$100bn this year. There are compelling opportunities within the reperforming loan space at the current spread levels. We see opportunities in the CLO space too where you can pick up good spreads to compensate for the extra risk – currently AAA CLOs offer higher yields relative to 10-year CMBS AAAs given the benefit from higher Libor rate, for example. Esoterics are also an area of interest and we may invest there with a pick-up in spreads. Similarly, BBB autos, for example, are attractive given their shorter duration profile and upgrade potential.”

Where could innovation come from in the structured finance sector in the years ahead?

Moretti: “When thinking about the future of securitisation more long term, I think that one of the biggest drivers of innovation over the next five years will be in the greater incorporation of technology.  Namely this will be in the tokenisation of the securitisation process through the use of blockchain, resulting in a greater range of collateral being securitised and greater issuance across a range of asset classes. “

Richard Budden

Structured Finance

CMBS tender launched

Company hires and sector developments

BUMF tender

Greencoat Investments has launched a tender offer for the Business Mortgage Finance 4, 5, 6 and 7 CMBS. Fixed purchase prices for the bonds range from 0.50% to 101% per £1,000/€1,000/US$1,000 in principal amount of notes and an additional 0.50%-10% per £1,000/€1,000/US$1,000 is available as an early tender premium. The early tender deadline is 8 February and the expiration deadline is 25 February, with settlement due on 28 February. The offeror says it “wishes to establish a holding in respect of each series of notes”.

Services firm consolidation

Maples and Calder and MaplesFS - which comprises Maples Fiduciary and Maples Fund Services - have consolidated their offerings under a single brand, now called the Maples Group. The group includes an international law firm, advising on the laws of the British Virgin Islands, the Cayman Islands, Ireland, Jersey and Luxembourg, as well as global fund administration and fiduciary services. The firm operates from a network of 17 international locations and has a headcount of over 1800 people.

Structured Finance

CLO UCITS launched

Company hires and sector developments

CDS publication launched

Jochen Felsenheimer, md at XAIA Investment, Wolfgang Klopfer, chairman of the management board of XAIA Investment and Ulrich von Altenstadt, md of XAIA Investment have co-authored a new publication looking at the evolution, functioning and regulatory environment of CDS. Titled, Credit default swaps: trading strategies, valuation and regulation, it also looks at the modeling and valuation of CDS, concrete special cases and the use in portfolio management and is published by Wiley.

CLO UCITS launched

CIFC has launched a UCITS, dubbed the CIFC Global Floating Rate Credit Fund,  that will invest in some of the more liquid tranches of collateralised loan obligation (CLO) bonds, investing at least half of its funds in BBB-rated bonds. The fund, which has launched with commitments of over £50m, is managed by Jay Huang and is targeting a return of 7-8% pa. Domiciled in Dublin, it is the first fund launched in Europe by CIFC since the firm opened its office in London in 2018. The fund is US dollar denominated, with hedged currency share classes in sterling, yen and euros. It is also open to US investors.

Europe

Duncan Hubbard is joining Cadwalader as a partner in London, focusing on advising financial institutions, investment funds and alternative lenders on real estate and structured finance transactions throughout the capital stack, as well as loan and portfolio purchase and sale transactions. He was previously the head of the London real estate finance group at Norton Rose Fulbright.

Online auction hire

KopenTech, an online auction platform for CLOs using AMR protocol, has hired Anthony Schexnayder as head of business development. He was previously in sales at Mariana Systems and, prior to that, director in fixed income sales at Guggenheim.

Rating agency appointment

Fitch has appointed Brian Filanowski as president of Fitch Solutions. Ranjit Tinaikar, who has held the role of president for the past two years, has decided to leave the company to pursue other opportunities. He will continue to support Fitch Solutions as an advisor during a transition period. Based in Fitch's New York office, Filanowski joined Fitch in 2014 and has most recently been responsible for Fitch Connect as well as data management, all product and solutions development and technology across Fitch Solutions. Prior to joining Fitch, Filanowski held senior level roles at Bloomberg, Thomson Reuters, Interactive Data and Six Telekurs.

Whole loan investment

Redwood Trust is participating in a multifamily whole loan investment fund that expands the company's access to rental housing credit opportunities. It has invested in a limited partnership created to acquire up to US$1bn of floating rate, light-renovation multifamily loans from Freddie Mac. The company has committed to contribute an aggregate of US$78m to the partnership and has funded approximately US$20m to date, while Freddie Mac is providing a debt facility to finance loans purchased by the partnership. After the partnership's acquisitions have reached a specific threshold, the partnership and Freddie Mac may agree to include the related loans in a Freddie Mac-sponsored securitisation, with the limited partners potentially acquiring the subordinate securities.

Structured Finance

Euro ABS deals mooted

Company hires and sector developments

European RMBS transactions mandated

A pair of European RMBS transactions have been mandated, marking the first European securitisations of the year, barring CLOs. The first is a UK RMBS, dubbed Lanark 2019-1, from Clydesdale Bank, which has mandated BAML, BNP Paribas, Citi and Wells Fargo for the transaction, subject to market conditions. The second, from Italian lender Cassa di Risparmio di Bolzano, also known as the Sparkasse Bolzen, is a re-offer of the A1 tranche of their prime RMBS deal Fanes 2018. According to Rabobank, the €507m deal was launched in June last year and was fully retained. €315m is still outstanding for the offered A1 tranche, down from the original outstanding amount of €355.9m. The senior tranche is rated double-A by S&P and Aa3 by Moody’s. Rabobank’s structured finance analysts note that, as the deal dates back to 2018, it likely falls under the old regime of regulations and not the new Securitisation Regulations and STS regime.

Rating agency opens China office

S&P is set to establish and operate a credit rating agency (CRA) in China’s domestic bond markets, following confirmation that its filing with the People’s Bank of China Operations Office (Beijing) has been formally accepted and its registration application with China’s National Association of Financial Market Institutional Investors (NAFMII) has also been approved. These approvals mark the first time that a company wholly owned by an international CRA has been able to rate domestic Chinese bonds. Under the terms of the NAFMII approval, S&P Global (China) Ratings is authorised to rate issuers and issuances from financial institutions and corporates, as well as structured finance bonds and Renminbi-denominated bonds from foreign issuers. Simon Jin, head of S&P Global, Greater China, has been named ceo of the new CRA.