Contents

Derivatives

Storm in a teacup?

ISDA's CDS proposals possibly extreme measure

Recent proposals from ISDA have taken aim at minimising the possibility of manufactured credit events in CDS contracts. While it’s thought the marketplace will adopt the “modest” proposals, some suggest that they are possibly an unnecessary measure given the rarity of cases in which credit events have been manufactured.

Chris Arnold, partner at Mayer Brown, says that the main focus of the final proposal from ISDA is redefining failure to pay. This is in order to provide more clarity, he says, around this definition so that it includes a causal link with the financial health of the business.

The proposals have formed from growing concerns that credit events may be manufactured by certain entities involved in the CDS tied to the firm to trigger a windfall, when it might not otherwise pay out. Arnold highlights the Hovnanian case where there was an arrangement between Hovnanian and certain counterparties involved in the contract, to try and trigger a credit event.

Arnold says that the most obvious reason to create circumstances to trigger a credit event is for existing buyers of protection to receive a settlement payment, rather than having to wait for the reference entity to file for bankruptcy prior to the expiry of their protection, which may never happen.

Arnold elaborates, however: “There may be more to it, because a counterparty in the CDS contract may see an opportunity to take action to cause a technical credit event even if the entity remains creditworthy, it means you can trade the CDS on that entity ahead of taking that action – you can then capitalise on that ahead of any actual credit event.”

Robert Reoch, director, New College Capital, agrees that there is a situation where the buyer of a CDS may want to accelerate such a payout. He adds that often CDS protection is a shorter maturity than the asset that is being hedged, so a trigger event crystallises a payment that might otherwise be lost.

However, he notes that “causing a technical credit event in order to trigger a pay-out would only work commercially if the event resulted in a deterioration of the market price of the Reference Entity’s debt.”

Arnold goes on to say that “the ability to trigger the contract is only half the story – if all the obligations of that entity are trading at or around par then your pay-off under the CDS will be minimal and you will lose your protection against future defaults where the pay-out may be much higher.”

He continues: “Therefore there need to be obligations trading well below par to make the arrangement worthwhile. This may sometimes be the case, for example if a bond has a below market coupon or a long maturity date. Otherwise, buyers of protection may also look to create such obligations, as happened in the Hovnanian case, with the goal of increasing the returns to protection buyers.”

Reoch suggests, however, that ultimately the concerns surrounding manufactured credit events and the pursuant ISDA proposals, may be somewhat extreme. “The number of situations where there is an event that enables a technical credit event to be called and allows a buyer of CDS protection to make a gain that would not otherwise be available, are few and far between” says Reoch.

He continues: “For a market that is over 20 years old, the number of situations where users of CDS have resorted to technicalities that are either illegal or contrary to the spirit of the CDS market are very few when compared to other risk-mitigating markets such as, for example, the insurance market.”

In line with this, Arnold says that the majority of credit events occur as a result of genuine company issues and usually the credit event determination process goes smoothly and without controversy. He adds that when the auction process becomes more complicated, or if concerns grow around whether the credit event may have been manufactured, attention grows around the topic.

On the other hand, some market participants may suggest that the proposals  don’t go far enough, with issues such CDS orphaning left unresolved. For Arnold, orphaning is a “natural part of the CDS process” and he adds that “some people suggest that, should the outstanding obligations of a reference entity be reduced to nothing that it’s not worth having the CDS. However there is still a possibility that bonds could be issued in future so it may well be worth having protection on the orphaned CDS.”

Regardless, Arnold suggests that the “broader achievement of the proposals is they show that market participants have coalesced around the issue and are willing to improve the credit event determination process. It is also aimed at alleviating regulators' concerns, reducing the need for further, more stringent, regulatory action.”

He concedes that it is always “difficult to please everyone” especially when buyers and sellers of protection have different objectives. He emphasises, too, that the proposal will be voluntarily adopted so you “therefore need everyone on board.”

Regardless, the working group has also been in place for eight months, taking into account the various views of different market participants. Consequently, Arnold says that the reforms are relatively modest and he doubts they will be rejected, as it is in “everyone’s interest to be seen to be working to resolve these issues in CDS that may be holding back the perception of the product.”

Richard Budden

Capital Relief Trades

Goals aligned

Insurers target dual-tranche CRTs

Insurance firms are targeting mezzanine tranches in dual-tranche capital relief trades as banks warm up to unfunded insurance structures, given the lower cost of protection and the relative safety of the mezzanine tranches in these deals (SCI 10 January). Indeed, benchmark unfunded trades have already been completed, raising the prospects of further credit insurance deals going forward.

"The second-loss piece of dual-tranche deals fits particularly well with our risk appetite and return expectations. The unfunded nature of credit insurance clearly means there is less RWA reduction for the protected tranche - compared to funded options - but we certainly take this into account when it comes to pricing. We can also insure against a broad scope of asset classes, given our credit underwriting expertise," states Catherine Molony, underwriter at Liberty Specialty Markets.

She continues: "As insurance is unfunded, banks are subject to the counterparty risk of the insurer and there are, of course, risks from a rating downgrade, in terms of cost of capital benefits and the eligibility of the insurer as a protection provider. However, these can be mitigated by a strong and stable credit rating and various fall-back protections, such as a self-replacement mechanism."

The dual-tranche option involves the slicing of a junior tranche into a first and second loss piece and enables banks to adapt to the thicker tranche requirements of the new securitisation regulation, as well as provide investors with a higher return, given the resulting thinner tranches (SCI 26 January 2018). Lloyds, Standard Chartered, Credit Suisse and Santander have all completed such transactions (see SCI's capital relief trades database).

Insurers use credit insurance structures in risk transfer transactions to achieve the same result as CDS and financial guarantees. However, with CDS structures, there is no contractual requirement for the beneficiary to suffer a loss in order to get paid.

Financial guarantees are similar to credit insurance in this respect, although credit insurance is typically executed on an unfunded basis. Nevertheless, it is difficult to pin down the exact differences between them, despite their existence.

"In the UK, credit insurance contracts will only be written between banks and insurers. Other investors will want to ensure that the contract does not require the beneficiary to suffer a loss, in order to avoid the risk of writing credit insurance without the necessary authorisation," says David Toole, partner at Simmons & Simmons.

The direct link between losses and pay-outs helps explain the value of credit insurance as a potential hedge against a turn in the credit cycle. However, at the moment there is little indication to suggest that this may be a motivation for carrying out these deals.

First, insurers have been expressing such interest for nearly three years and a pick-up in unfunded guarantees remains to be seen. The bulk of the transactions are undertaken with hedge funds as funded financial guarantees or CLNs. The only known credit insurance transactions to have been executed last year was ING's capital relief trade with Arch Mortgage Insurance (SCI 2 November 2018) and two trades by reinsurer RenaissanceRe.

Tom Stanfield, insurance broker at Howden, notes: "[The Arch transaction] was arguably the first time we have seen unfunded guarantee technology applied to SRT deals. The deal also comes at a time when there is an influx of bankers into underwriting divisions, bringing in the expertise."

However, "some banks worry that pay-outs won't be made, so there's some reticence to turn to the credit insurance market now for capital relief trades," says David Wainer, partner at Allen & Overy.

Second, for European banks, the potential capital benefit doesn't justify the effort. According to Basel regulations, replacing a triple-B borrower with a single-A guarantor can lead to more capital relief than otherwise, given that the default probability of both is lower than the default probability of either. However, only France has adopted these rules, further explaining why French lenders have been active users of credit insurance, as opposed to their European peers.

Nevertheless, the dual tranche option uniquely aligns the goals of both issuers and insurer investors and issuers recognise this. "Unfunded guarantees expose issuers to the insurer's counterparty credit risk and that can be prohibitive due to credit risk limits, since when a bank buys protection that creates a potential exposure. So if we are doing a first loss deal, we typically do it in funded format," says an md at a large European bank.

He continues: "However, mezzanine tranches are safer, so you reduce your potential exposure to the insurer and an unfunded structure reduces the cost of protection. If the rating for the insurer is high enough, you can also get a substantial capital benefit."

Another novelty that may prove significant for credit insurance issuance is the presence of reinsurers. Fiona Walden, svp, credit and financial lines at RenaissanceRe, notes: "Reinsurers by their nature assume portfolio risks by underwriting a client's origination and internal risk management systems. It's an approach that we have used successfully as a property catastrophe reinsurer and we are now adapting and applying it to SRT transactions."

She concludes: "The portfolio viewpoint provides flexibility, which is important if we are talking about dual-tranche deals. The flexibility means we can assume a first loss piece, thicker second loss tranche or engage in transactions with funded investors."

Stelios Papadopoulos

CLOs

Equity focus

US CLO market update

The US CLO secondary market has seen elevated volumes since the SFIG Vegas conference. This week, the focus is on equity.

“The secondary market is busy,” confirms one trader. “Activity is being driven by macro volatility, with further outflows in loans expected.”

The trader continues: “CLOs tend to lag broader credit markets. In December, the outflow of loans was a leading indicator for volatility in the CLO market. But this represents a great time to understand how managers are approaching volatility and whether they will capitalise on the outflows.”

Over US$100m in equity tranches has been in for the bid over the last few days across US and European CLOs, according to the trader. Of note, a large (US$31m current face) control equity piece did not trade on 19 March. SCI’s PriceABS archive shows that the AMMC 2014-15X SUB bond had been talked in the mid- to high-60s.

“Usually there is a premium for control rights, but the bids for this piece were several points back than is normal. The market seemed unwilling to pay up in this instance, possibly reflecting uncertainty over where loans will be later in the year – although the hit ratio of DNTs is typically higher for equity tranches than for investment grade bonds, as they are more opportunistic plays,” the trader observes.

There also appears to be less demand for deals with shorter reinvestment periods, which the trader suggests may present a relative value opportunity.

In terms of the CLO primary market, new issue arbitrage remains difficult. Consequently, more creative structures are emerging, with deal features including step-up coupons and shorter durations.

Corinne Smith

Structured Finance

SCI Start the Week - 18 March

A review of securitisation activity over the past seven days

Market commentary
The news that Volkswagen's VCL 28 auto lease ABS is the first securitisation to be awarded the STS label was well-received last week (SCI 14 March). However, one trader said that while the market has expressed a lot of "noise" about the transaction, one deal since the beginning of the year is "not meaningful."

The trader added that as the deal "is coming out with strong technical factors", the STS label "doesn't change anything" in terms of investor appetite. Given the bulk of the VCL deals trade in the 15bp-20bp range, the trader expects the deal to price in line with them.

De Lage Landen's newly mandated UK equipment lease ABS was another bright spot in the European securitisation market last week (SCI 12 March). "The DLL deal is a bit different and brings some much-needed diversity to the market, since the majority of the pool consists of hire-purchase agreements. Nevertheless, the timing of the deal is interesting, with Brexit around the corner," one portfolio manager said.

He added: "The market feels a bit fragile, with so many uncertainties remaining. The dealer community doesn't seem to be stepping up either."

While secondary trades were being executed at reasonable levels, volumes had dried up somewhat, after the market digested the £1bn original face of bonds auctioned on 28 February (SCI 21 February). "Paper is being traded, but there is no buzz," the portfolio manager noted.

He continued: "Sellers are tidying their books and putting scraps out for the bid. With high yield spreads tightening, some are looking to exit short, stable ABS positions and rotate into other assets."

Transaction of the week
A Maltese first-time issuer, Polymath & Boffin, is preparing a €166m securitisation, referencing a pool of Italian CRE loans valued at approximately €300m (SCI 11 March). Dubbed Polymath & Boffin REMS Italian Real Estate Securitization, the transaction is backed by a diverse portfolio of 58 Italian mainly-commercial properties, with four classed as unlikely to pay (UTP).

Global Access Capital is acting as financial adviser on the transaction and Sharon Ephraim, md and coo at the firm, comments that the loans are backed by a variety of property types. These include hotels, assisted living properties, shopping centres and some residential properties.

She adds that, of the UTPs, "it's important to note that these loans are restructured or re-performing. They are therefore no longer non-performing, and there is an expectation of repayment at some point in the future."

A strong feature of the portfolio, says Michael Macaluso, chairman and ceo of Global Access Capital, is that it's diversified across loan types, spread across northern, central and southern Italy and Sardinia - a feature towards which investors have expressed positivity. He adds: "The transaction has received a lot of investor interest and we're confident it will place in the market. It will likely have a European investor base, comprised of institutional investors, including several funds and some banks."

In terms of structure, the transaction is currently a single asset-backed note issuance, but "is certainly a securitisation in every respect", says Macaluso, adding that "it has the ability to be tranched, should investor demand develop." He notes that the deal "isn't as much about innovation as elbow-grease, with the issuer working to include a diverse portfolio of good quality assets, to appeal to a wide investor base."

Other deal-related news

• The first third-party hedged UK RMBS with Sonia-linked notes has been issued by Principality Building Society. The £523.08m transaction, dubbed Friary 5, is backed by residential mortgage loans to 4,472 borrowers in the UK (SCI 15 March).
• In support of the single security initiative, Fannie Mae will begin accepting forward Uniform Mortgage-Backed Security trades with a trade date on or after 12 March and settlement dates on or after 3 June. Freddie Mac is also set to issue its first 55-day TBA-eligible UMBS on 3 June and will no longer issue new Gold PCs with a 45-day payment delay after 31 March. Beginning 7 May, it also plans to offer holders of 45-day TBA-eligible and non-TBA-eligible PCs and Giants the option to exchange their eligible 45-day securities for 55-day Freddie Mac mirror securities (SCI 12 March).
• The Spanish non-performing loan market is reaching maturation, with the first securitisations from the sector expected this year. Developing an appropriate servicing capacity in the country has played a key role in facilitating this process (SCI 15 March).
• The UK mortgage market is changing, with an ageing population driving increased issuance of equity release mortgages (SCI 5 June 2018). Speculation that a post-crisis iteration of equity release securitisations could soon appear in the UK has been fuelled by UKAR's sale of an equity release portfolio last year (SCI 15 March).
• A group of investors led by Värde, Guber and Barclays have acquired an approximately €734m GBV non-performing loan portfolio originated by 22 mutual, rural and cooperative Italian banks. The transaction is unusual for an Italian NPL securitisation, given that it has been achieved through mutualisation, as opposed to relying on a GACS guarantee (SCI 15 March).
• Carvana, an online platform for buying used cars launched in 2012 by DriveTime Automotive Group, is marketing an inaugural auto loan securitisation. The US$338m transaction, dubbed Carvana Auto Receivables Trust 2019-1, is backed by fixed rate instalment loans made to prime and subprime borrowers (SCI 15 March).
• The LUXE 16 loan, securitised in the RCMF 2018-FL2 CRE CLO, has been purchased out of the deal by a subordinate noteholder. The loan was reported 30-plus days delinquent during the January 2019 remittance period. For more CRE-related news, see SCI's CMBS loan events database.
• Moody's has published the first in a series of semi-annual updates on European non-performing loan securitisations, which shows that six out of eight Italian NPL securitisations it has rated that have performance history are exhibiting cumulative gross collections around or below those anticipated by their business plan, while two exceed it. Cumulative gross collections for the Evora Portuguese NPL securitisation have also exceeded servicer projections (SCI 14 March).

Regulatory round-up

• The first European ABS that looks set to receive STS verification, by True Sale International's STS Verification International, is being marketed by Volkswagen. The €719.9m auto lease ABS transaction is dubbed VCL 28 and is provisionally rated by Moody's and Fitch. STS Verification International has released a preliminary verification report for the transaction, which is expected to close on 25 April (SCI 13 March).
• The CFPB has issued an advance notice of proposed rulemaking on residential PACE financing, seeking information to support regulations for the sector that "carry out the purposes of" the Truth In Lending Act's ability-to-repay requirements for mortgages and apply TILA's civil liability provisions. In crafting the regulations, the CFPB is required to take into account "the unique nature of PACE financing", according to a recent Morrison & Foerster client briefing (SCI 11 March).

Data

Pricings
ABS accounted for the majority of new issuance last week, split evenly between auto-related and consumer securitisations. A handful of CLOs and a sole RMBS also priced.

The auto ABS prints consisted of: US$800m BMW Vehicle Lease Trust 2019-1, US$1bn Enterprise Fleet Financing 2019-1, US$736.88m OneMain Direct Auto Receivables Trust 2019-1, US$463.9m OSCAR US 2019-1, US$1.02bn Santander Drive Auto Receivables Trust 2019-2 and A$1.18bn SMART ABS Series 2019-1 Trust. The remaining ABS pricings were: US$283.46m Avant Loans Funding Trust 2019-A, US$300m Driven Brands Funding Series 2019-1, US$700m Kabbage Asset Securitization Series 2019-1, US$241.45m Mill City Solar 2019-1, US$550m Navient Private Education Loan Trust 2019-B and US$400m Sierra Timeshare 2019-1 Receivables Funding.

Among the CLOs that priced last week were: US$510m Ares XXXIX (refinancing), US$506.75m Bain Capital 2019-1 CLO, US$508.05m Barings CLO 2019-II, US$407.5m Golub Capital Partners CLO 41(B) and US$444m LCM XIX (refinancing). The RMBS print was US$268m Bunker Hill Loan Depository Trust 2019-1.

BWIC volume

Podcast
SCI's latest podcast is available for download. This month, we explore the topic of control rights within the capital relief trades market and take a closer look at Domivest's debut securitisation of buy-to-let loans - a first for the Dutch market. Click here to listen to the episode via our website. Alternatively, you can listen on Spotify by searching for 'Structured Credit Investor' and it is also available on iTunes. 

Structured Finance

Relative value

JFSA risk retention rules shift focus

The Japanese Financial Services Agency (JFSA) has published its final rules on regulatory capital requirements applicable to Japanese banks and other institutions that invest in securitisation transactions (SCI 16 January). The rules allow certain exemptions from risk retention for open-market CLOs, provided investors demonstrate due diligence for the underlying loan collateral - a positive development for US CLOs, given the significant involvement of Japanese investors in the market.

The overall impact of the rules is expected to depend on relative value considerations. According to Rishad Ahluwalia, head of CLO research at JPMorgan: “The focus will likely be on relative value, especially for smaller investors. After widening at the end of 2018, the USD/JPY basis has narrowed to minus 15bp, while at the same time CLO triple-A spreads have widened.”

The JFSA states that an investor's analysis should look to the quality of the original assets, such as credit risk, and should not rely solely on factors such as an asset's rating, market price or short-term performance. Rather, an investor should confirm and verify whether the originator's loan review criteria were appropriate, the covenants in the loan criteria are conducive to investor protections, the specifics and terms of the secured collateral are appropriate and the claim collection abilities of the relevant parties for collecting on the loans are adequate. The rules aim at coordinating risk retention requirements with those of other major financial markets around the world.

Moody’s notes that the final rules are a positive development for the US CLO market because Japanese investors are among the biggest triple-A investors in US CLOs. A reduction by Japanese investors in their CLO purchases has the potential to significantly and negatively affect CLO issuance, which would have consequences for liquidity and spread levels. Given that US CLOs currently purchase around 50% of leveraged loans, reduced CLO issuance in turn could affect loan obligors and their ability to refinance their loans.

The agency adds that the result is also credit positive for US CLOs since the required in-depth analysis will strengthen investors' due diligence of a CLO's underlying loan collateral and/or of a collateral manager's credit selection and monitoring processes and systems. Moreover, investors will likely also scrutinise a CLO's structure and documentation more carefully and conduct risk analyses via stress testing to avoid regulatory penalties.

The JFSA rules will take effect from 31 March.

Stelios Papadopoulos

Structured Finance

Holding tight

Freddie Mac seeks to nurture investor base

Retaining its European investor base, while capturing a broader range of institutional investors, is seen as a key goal for Freddie Mac in 2019 and ahead. Alongside this, the GSE is facing growing concerns from investors surrounding deteriorating factors in US housing market.

Mike Reynolds, vp, credit risk transfer at Freddie Mac, highlights that 2018 was a year of marked development for his firm with three major changes to the STACR programme – the firm’s flagship product. The first was moving to trust execution which creates more counterparty protection for insurers and, second, the firm decided to sell out to the full term of mortgages which, he says, avoids the “chance of risk flipping back on us”.

The third change for Freddie Mac, he says is that the firm now sells more of the first loss piece in the STACR deals. This achieves a number of things, including attracting more private capital.

Freddie Mac is also looking to push its business forward in a range of areas, including greater issuance of its REMIC product. This is done with the view of “drawing in investment from REITs and other similar investment vehicles” adds Reynolds.

Likewise, Reynolds comments that - as well as expanding the company’s investor base – Freddie Mac is also focussing on shoring up its current range of investors. He comments that “in the first instance, we are interested in broadening investment from insurance firms” and in terms of keeping hold of investors, a “major concern” is maintaining its large European investor base.

He says: “This is threatened by the new European Securitisation Regulations which may mean many European firms can’t invest in our products, when disclosure requirements and other rules come into play later in the year – we are therefore working hard to ensure we can retain this important source of investment.”

In terms of product innovation, Reynolds says that, last year, the firm introduced IMAGIN which he describes as “an innovative offering that attracts global private capital to support low down payment lending while providing mortgage market efficiencies.” He continues: “It is a unique way for mortgage insurers and reinsurers to invest in a form of front end mortgage insurance that is complimentary to borrower paid and lender paid mortgage insurance.”

Looking to the future - and any challenges that may arise - Reynolds notes that a growing issue is allaying investor worries about a deterioration in collateral quality. He says, “There has been some move among lenders down the credit spectrum and a move downward in terms of FICO scores and so on.”

Reynolds notes also that investors are also tracking the fact that US house prices didn’t grow as quickly last year as previous years, at only 4.7% in 2018. This is compared to over 7% in 2017 and Freddie Mac also forecasts lower house price growth of 2.7% in 2020.

However, in terms of a potential deterioration in collateral quality, Reynolds comments that the firm remains confident in the underlying borrowers, which, he says, are still very strong. Additionally, he points out that Freddie Mac “constantly makes adjustments to [its] underwriting model to account for any deterioration in credit quality” and, on top of that, investors can draw upon a rich data resource on US mortgages upon going back to 1999.

Reynolds comments that a potential challenge ahead is a turn in the credit cycle and he concedes that Freddie Mac has yet to go through a recession, so its performance in such a test is yet to be seen. Reynolds suggest there is reason to be optimistic about the firm’s performance through a downturn, however, highlighting the firm’s strong performance through recent volatility between October 2018 to February 2019, during which, he concludes, Freddie Mac was still able to print deals.

Richard Budden

Structured Finance

Control pursued

Indian distressed debt unit established

Deutsche Bank is setting up an asset reconstruction company (ARC) in India to buy and sell restructured non-performing loans. The move follows a trend whereby foreign investors either create or acquire existing ARCs. However, setting up such a unit from scratch is unusual and indicates a need to control the restructuring process once the NPLs have been bought.

“If you want control, you set one up from scratch [that is] wholly owned. ARCs are a great vehicle for acquiring distressed assets, both pre and during the insolvency resolution,” says Sakate Khaitan, senior partner at Khaitan Legal Associates.

ARCs are fund structures that buy bad loans and issue securities. The difference between an ARC and an SPV is that the former is a fund that is set up perpetually, while the SPV is created for special situations. ARCs can either securitise the loans that they acquire or buy them using investor capital and issue equity stakes in the business.

According to official data, there are 29 registered ARCs. Among them are Lone Star’s wholly owned ARC and two where Blackstone and SSG Capital Management purchased majority holdings.  

Foreign investors have increasingly targeted ARCs following the enactment of India’s landmark Insolvency and Bankruptcy Code (IBC) nearly three years ago. Prior to the law, the structures were typically used by banks to clean up their balance sheets.

However, the structures were first established in the early 2000s and their track record remains mixed. “Banks would transfer their assets and have them locked up for a typical five-year period. However, in a number of cases, assets ended up returning on bank balance sheets following an unsuccessful recovery process. Yet, if you are a foreign investor and you know about this, you still need to buy that license and then wait and see,” says Saleem Siddiqi, managing partner at MUSST investments.

Recoveries - defined as a percentage of the ARC securities that have been redeemed - fell from 11.5% in 2015 to 7.3% in 2018.

Siddiqi continues: “Investors must also factor in extension risk. Most firms in distress are family owned, so during the auction they will do anything to keep their business. Furthermore, internal servicing remains the preferred option. Banks are reluctant to pass the parcel, given their belief that they know the collateral and the credit lines of the borrower better than outside investors.”

Looking ahead, Khaitan states: “Investors will keep targeting ARCs. However, with the exception of a few cases, not many deals have been done. So we will see if Deutsche Bank’s example will be followed. Control, in my view, remains the focus for investors looking to set up wholly owned ARCs.”    

Stelios Papadopoulos

CMBS

Double Dutch

Office and retail exposure on offer

Goldman Sachs is in the market with a Dutch CMBS secured by 17 predominantly office and retail assets. Dubbed Kanaal CMBS Finance 2019, the €278.35m transaction is backed by two uncrossed limited recourse, first-lien mortgage loans - the €138m Maxima loan and the €140.3m Big Six loan - sponsored by Marathon Asset Management and Castlelake respectively.

The Big Six loan financed the acquisition of six properties, five of which are retail-only assets, while the Deventer asset is a mixed-use property with retail and office elements. The LTV of the loan is 56.5% and the properties are 80.5% occupied by 196 tenants, with the largest five tenants accounting for 23.3% of the €20.1m in place gross rental income, according to DBRS.

The Maxima loan was used to refinance an existing portfolio of 11 offices and mixed-use properties, of which 78% of the total area is office, 10% logistics warehouse and 12% retail, hotel and data centre properties. The LTV of the loan is 58.9% and the properties are 84.4% occupied by 29 tenants, with the largest five tenants accounting for 60.4% of the €17.2m in place gross rental income.

KBRA notes that the pool has a granular tenant base, with no tenant accounting for more than 10% of the pool’s gross passing rent and only two individually accounting for more than 5%. The pool’s three largest tenants occupy properties securing the Maxima loan: VvAA Groep (9.5%); Stichting Hogeschool Rotterdam (7.2%); and Atos Nederland (4.9%).

The properties are located in 12 different cities across the Netherlands, primarily situated in five (81.3%) functional urban areas (FUAs) - Utrecht (29.1%), Eindhoven (20.4%), Rotterdam (12.9%), The Hague (11.7%) and Amsterdam (7.2%). The remaining three properties (18.7%) are located in remote areas that do not fall within an established FUA. Approximately half (49.5%) of the properties are located in the Utrecht and Eindhoven FUAs.

The Maxima loan will mature on 15 February 2023. The Big Six loan has its initial termination date on 15 August 2021, but has - subject to certain conditions being satisfied - two one-year extension options. Should the notes fail to be repaid by the expected maturity, the transaction will have five years to allow the special servicer to work out the loans by August 2028, which is the legal final maturity.

Provisionally rated by DBRS, KBRA and S&P, the deal comprises €161.5m AAA/AAA/AAA rated class A notes, €36.7m AA (low)/AA+/AA- class Bs, €45.2m A (low)/A-/A- class Cs and €21.03m BBB (low)/BBB/BBB class Ds. The capital structure also includes unrated class X1 and X2 notes.

The class D notes are subject to an available funds cap, where the shortfall is attributable to an increase in the weighted-average margin of the notes. Further, the transaction includes a class X diversion trigger event, whereby if a loan’s financial covenants are breached, any interest and prepayment fees due to the class X noteholders will instead be paid directly into the issuer’s transaction account and credited to the class X diversion ledger.

Goldman Sachs will retain an ongoing material economic interest of not less than 5% of the securitisation via an RR note. Pricing is expected during the week commencing 1 April.

Corinne Smith

NPLs

GACS successor

New Italian NPL scheme launched

The Italian government has introduced a successor to the GACS scheme. The replacement guarantee features a longer extension period that provides more certainty for banks, raising the prospects for non-performing loan securitisation issuance going forward. 

According to Gordon Kerr, head of European structured finance research at DBRS: “GACS had a short extension period to comply with state aid rules, but it was also a test. GACS has worked and the new scheme is a validation of the success of these guarantees.”

He adds: “Furthermore, the longer extension period offers a degree of certainty that is important for banks who want to do deals. A two-year window would allow banks to plan ahead, without having to wait for the maturity of the scheme.”

GACS expired on 6 March, after being extended numerous times from its original inception in June 2016. Given restrictions on state aid, European authorities required the scheme to be only temporary and therefore it needed to be renewed every six months.

A total of 14 GACS-guaranteed Italian NPL securitisations were issued last year and 21 have been completed since 2016, including two so far this year. Only one Italian NPL transaction was completed without the state guarantee. In total, GACS enabled Italian banks to remove over €62bn GBV from Italian bank balance sheets.

The new scheme is expected to be structured with a two-year term and a one-year extension option. It requires a higher rating level of triple-B versus the prior minimum of triple-B minus for the most senior tranche.

Tougher rules are also envisaged for credit servicing, since special servicers may be replaced if actual collections fall below business plan forecasts. Finally, payments to mezzanine noteholders may be postponed if cumulated collections fall below certain thresholds.

“The higher rating may reflect a perceived increased risk premium for Italy since the inception of the incumbent government last year; you can also glimpse this from BTP-Bund spreads,” says Massimo Famularo, board member at Frontis NPL.

Despite widespread market demand for it to broadened, the scheme will not cover unlikely-to-pay (UTP) loans, given the challenge of defining and classifying them.

Looking ahead, Famularo concludes: “The initial GACS boosted NPL securitisation volumes and we can expect that this new version may have similar consequences.”

Stelios Papadopoulos

RMBS

ERM debut

Seniors Money preps its return

The first publicly rated securitisation of Irish and Spanish equity release mortgages (ERMs) has hit the market. The €256.4m SMI Equity Release 2018-1 RMBS is backed by 2,233 loans originated by Seniors Money Ireland and Seniors Money Spain (collectively known as SMI).

The loans are generally seasoned more than 10 years and the properties are predominantly located in Ireland (accounting for 94% of the pool), with the remainder in Spain. The Spanish properties all have UK obligors.

Within Ireland, the portfolio is overweighted within County Dublin (44.9%), although KBRA notes that this is not out of line with other Irish RMBS portfolios. The agency points out that unlike traditional mortgages where borrower defaults and regional property market stress are correlated, ERM repayments remain largely a function of mortality, regardless of the prevailing property market environment. Accordingly, it did not add an additional geographic concentration factor to its property value decline assumptions for the portfolio.

The weighted average age of the youngest active borrower age in the pool is approximately 76 years. KBRA notes that as a result, mortality and morbidity events will tend to be more back-loaded and therefore allow for a longer accrual period on the loan balance and increased crossover risk. In addition, the back-loaded nature of these events provides potentially less liquidity and deleveraging to the rated classes than a similar pool with a higher average borrower age.

Due to the seasoned nature of the loans, a portion of the portfolio (7.8% at cut-off) is inactive and is expected to be liquidated within the next four quarters. This provides an early source of liquidity relative to newly originated equity release mortgages or pools without inactive loans, according to the rating agency.

KBRA estimates that the loans have a high KBRA WA months to mortality (KAMM) score of 160.2. In other words, within 160.2 months, the pool will have reached a 50% mortality probability on average, after controlling for borrower age, gender and joint borrowers on loans (assuming no prepayment and no improvements in life expectancy).

The portfolio exhibits a conservative 15.9% WA origination LTV. In comparison, two legacy UK ERM portfolios exhibit WA original LTVs of around 9% higher than SMI’s.

Provisionally rated by KBRA, the transaction comprises €220m single-A rated class A notes and €22.5m triple-B class Bs. There are also €100m class X1, €100m class X2 and €13.7m class Z unrated residual notes.

Coupons are subject to change over three defined periods, with final maturity scheduled for December 2067 for all certificates. The class A notes will pay a coupon of 1.80% during quarters one to 20, three-month Euribor plus 200bp (capped at a 2.20% strike) during quarters 21 to 32 and three-month Euribor plus 200bp (uncapped) for the remaining term. The class B notes will pay a 6% coupon during quarters 17 to 32, followed by three-month Euribor plus 500bp for the remaining term.

Although SMI originated and has been servicing the portfolio since inception, the firm has not originated a material volume of new loans since 2012. Indeed, the transaction is part of an overall recapitalisation plan that is expected to result in the resumption of SMI’s lending activities. At its peak, the firm maintained a 50% ERM market share in Ireland and had amassed a global portfolio of €1.25bn.

Corinne Smith

Structured Finance

Private credit firm launched

Sector developments and company hires

Firm launch

AGL Credit Management has launched, with Peter Gleysteen serving as ceo and cio, and Thomas Lee serving as non-executive chairman. AGL is a private credit investment firm specialising in innovative actively managed credit solutions based on bank loans and aims to build a leading CLO franchise. The firm’s institutional investment partners include a subsidiary of the Abu Dhabi Investment Authority and a large US state pension fund, which together committed equity investments totaling US$650m. In addition, the family office of Thomas Lee made an investment in AGL. Gleysteen previously founded and was ceo of CIFC Asset Management and before that was responsible for JPMorgan’s global corporate loan portfolio. Lee is chairman at Lee Equity Partners.

US

Holland & Knight has hired Ashley Shively as a partner in its San Francisco office. Shively was previously a partner at Reed Smith.  Shively represents financial institutions and businesses in consumer class and individual actions, including fair lending, privacy, credit reporting, debt collection, false advertising and unfair business practices and she will work with clients from a range of practice groups including structured finance.

Wealth firm expands

Kingswood has appointed Najib Canaan as US ceo as the firm aims to expand into the US and grow its investment distribution channels. Canaan, who will join the newly restructured Kingswood investment committee, has more than 30 years of experience and joins from Marinus Capital Advisor, an alternative investment management firm where he was the founding partner and cio. Prior to that, Canaan was md and head of structured finance at GSO Capital.

Structured Finance

Majority stake acquired

Sector developments and company hires

Balance sheet normalisation
The US Fed has confirmed it intends to continue to allow its holdings of agency debt and agency MBS to decline, consistent with the aim of holding primarily Treasury securities in the longer run. Beginning in October 2019, principal payments received from agency debt and agency MBS will be reinvested in Treasury securities, subject to a maximum amount of US$20bn per month. Any principal payments in excess of that maximum will continue to be reinvested in agency MBS. However, it states that limited sales of agency MBS might be warranted in the longer run to reduce or eliminate residual holdings.

CLO manager acquisition
Medalist Partners has acquired a majority stake in JMP Credit Advisors from a subsidiary of JMP Group, which will remain as a minority investor in JMP Credit Advisors and an investor in the CLOs that JMP Credit Advisors manages. As a result of the transaction, JMP Credit Advisors has been renamed Medalist Partners Corporate Finance and it will continue to manage three CLOs with approximately US$1.2bn in assets under management. JMP Credit Advisors’ leadership team - which includes Bryan Hamm, Craig Kitchin and Fred Passenant - will lead the CLO business unit of Medalist Partners, supported by their existing team. No changes are planned to JMP Credit Advisors’ investment strategy or process.

EMEA
Ashurst has appointed Audrey Dahan counsel in its global markets practice in Paris. Dahan was previously domestic markets coordinator for strategic projects at BNP Paribas and has experience of working on capital market transactions, including securitisations. She worked in the CIB global markets division of BNP Paribas for 15 years.

North America
Paul Richardson has joined LTC Global as svp - capital markets. Prior to joining the firm, Richardson was an md in the asset-backed securitisation group of KeyBanc Capital Markets. He has completed 95 public and private asset-backed term securitisations worth approximately US$12bn during his 25-year investment banking career with KeyBanc, BB&T Capital Markets and others.

Western Asset has named Greg Handler and Harris Trifon co-heads of its mortgage- and asset-backed team. With nearly US$10.5bn in assets under management dedicated to ABS and MBS mandates, Handler and Trifon provide oversight to the investment team across all sub-sectors of structured credit, both in securitised and whole loan form. The pair has also joined the US broad strategy committee, reporting to deputy cio Michael Buchanan. Western Asset’s director of portfolio operations Dennis McNamara - who has served as interim head of the mortgage- and asset-backed team - will continue to work closely with them to provide support and ensure a smooth transition.

Verification agent
PCS has confirmed its authorisation as a third-party verification agent by the UK FCA, which enables it to provide verifications for European originators of the STS status of their securitisations in line with Article 27 of the STS Regulation. The authorisation is valid for the entire EU and will continue to be so for so long as the UK remains in the EU or, in the event of a Brexit deal being struck, during the transition period expected to last 18 months. In the case of a no deal Brexit on 29 March, PCS also anticipates receiving its French authorisation in the first days of April, allowing it to continue to serve the EU27.

Structured Finance

Purchase option to be exercised

Sector developments and company hires

EMEA
Capzanine has appointed Renaud Tourmente as head of business development, effective from 6 May 2019. Tourmente will join the firm as partner and will be part of its executive committee. In this newly created role, he will support the firm’s international development, pursue the diversification of its debt products and contribute to strengthening relationships with its investors. He brings 20 years of relevant industry experience, most recently at AXA IM, where he co-led the global loans and private debt platform and was on the board of its structured finance platform. 

Granite calls
Cerberus has confirmed that it plans to exercise its portfolio purchase option in connection with the Towd Point Mortgage Funding 2016-Granite1 and 2016-Granite2 transactions, ahead of their first optional redemption dates (SCI 18 January). If the portfolio purchase option is exercised, the RMBS notes will be redeemed on their first optional redemption date.

North America
Peter Mullen has re-joined Artex as ceo, with David McManus assuming the new role of chairman. Together with Artex North America president Jennifer Gallagher, the pair founded the firm in 1997. Mullen spent more than 20 years with Artex and its parent company, Gallagher, before becoming ceo of Aon Captive & Insurance Management eight years ago.