Contents

Asset-Backed Finance

Equity increase

Aircraft ABS volumes powering rise in growth of equity notes

Aircraft ABS issuance volumes are expected to rise again this year, even after a bumper 2019. As a result, the nascent market in the related equity notes (E-Notes) should also grow, but investing in that part of the capital structure is not without its challenges.

“Aircraft leasing, as an ‘alternative’ asset class is attracting more institutional investment capital to help fund the growing requirement for new aircraft. In addition, investing in commercial aircraft, with the associated long-term contracted leases, does provide non-correlated diversity for any ‘alternative’ or ‘real-asset’ investment portfolio,” says Mark Rogers, md at investment group Floreat. “At the same time, annual passenger growth is still expected to be in the region of 4%-5%, so demand for aircraft will continue to increase and the now dominant leasing model will continue to supply the ABS market.”

While Rogers confirms that there are plenty of traditional fixed income investors willing to invest at the top of the capital stack, his firm is focused on the more specialist equity piece. “Issuance of tradable E-Notes started about 18 months ago and is continuing to grow in overall size. We like the diversification from our real estate investment business that the aircraft leasing asset class offers and we prefer equity for the relatively high returns compared to the debt classes, plus the potential kicker at the back end from asset sales.”

However, he warns that with equity, due diligence is highly important and very different to RMBS or CLOs where the main analysis is running a Monte Carlo simulation. “You are dealing with real assets, so you have to understand how the underlying lease and maintenance reserve cashflows work.”

To this end, Floreat uses its own underwriting model and stress testing to ensure a high level of comfort with the underlying portfolio. The firm’s methodologies revolve around four key components.

First, Rogers explains: “Is the lessor and its experience, because we need to understand how they handle aircraft if there are unanticipated problems with the airline that is leasing an aircraft. For example, after the bankruptcy of Thomas Cook – do they have sufficient options to manage the transition of the assets quickly to another airline, perhaps in a more profitable market segment or geography to reduce costs and get the aircraft generating revenue again as quickly as possible. We also need a high level of confidence that the lessor is clear on what happens at the scheduled end of a lease for each asset – extension, sale, re-lease or part out.”

Second, is the composition of assets in the portfolio in terms of the mix of aircraft type and age. Third, Floreat looks at the lessees and carries out a full credit analysis of each airline involved. Fourth, is close examination of all the cashflows, including an in-depth analysis of all the lease and maintenance payments.

Even then, Rogers observes: “Anyone can see the cashflows, but it’s about asking the right questions and understanding the answers. ‘Why is a particular aircraft scheduled for maintenance at a specific point in time?’ In addition, how does any movement of maintenance events impact the returns for E-Note holders.”

That requirement for specialist knowledge to invest and trade means the E-Note investor base is still small – approximately 35 firms globally, at present. Consequently, Rogers says: “There is a need for investor education provided by market participants – specifically investment banks and lessors. This has to be carried out independently from an ABS deal roadshow.”

Equally, the tradability of E-Notes has to be improved, Rogers argues. “At present, the secondary market is on something of an order basis, so it doesn’t give new investors much confidence over liquidity. That’s mainly because there’s no standardisation, making it hard to compare between deals.”

He continues: “Last year we saw US$1.3bn of equity deployed by a small number of anchor investors. My concern is that they may reach saturation point before new investors can join in, so everyone needs to focus on education and standardisation sooner rather than later.”

For Floreat’s part, it is also looking to grow its role beyond purely providing investment capital. Rogers explains: “We expect to take on the role of anchor investor for the first time at some point this year.”

Mark Pelham

ABS

Tail risk debut

Innovative cat bond completed

Goldman Sachs has completed an unusual catastrophe bond that covers the tail risk that State National Insurance Company is exposed to through its insurance agreements with ILS manager Nephila Capital as capacity provider. Principal reduction of the notes under the transaction - dubbed Stratosphere Re Series 2020-1 - can only be triggered after at least two industry insured loss events each greater than US$5bn occur within a single annual risk period.

Rated by Fitch, the transaction comprises US$100m triple-B rated class A notes, which pay a spread of 2.75% and are due in February 2023. Under certain circumstances, the notes could be extended by up to three or four additional years, depending on the type of covered event - although noteholders won’t be exposed to covered events beyond the scheduled redemption date.

Proceeds will serve as collateral for a reinsurance agreement between Stratosphere Re and sponsor Markel Bermuda, which has also entered into a similar reinsurance agreement with State National. The subject business consists of in-force, new and renewal policies that were issued by State National and are classified as personal residential, commercial residential and commercial business. The policies were underwritten by five managing general agents (MGAs) for the Nephila reinsurers, based on individually determined guidelines.

Covered events include named storms, earthquakes, severe thunderstorms and winter storms. The covered area consists of: 30 selected US states (including Hawaii), Washington DC and Puerto Rico for named storm events; the 48 contiguous states of the US (as well as Washington DC) for severe thunderstorm and winter storm events; and the 50 US states (including Washington DC) for earthquake events.

Five states represent nearly 80% of the total replacement value for named storms: Florida (24.8%), Texas (22.5%), Alabama (16.5%), South Carolina (9%) and Georgia (6.3%). Indeed, Fitch points out that the notes are particularly exposed to South Florida, where the tri-county area of Broward, Miami-Dade and Palm Beach represent over 60% of the initial modelled one-year expected loss. As such, named storms contribute 99.8% of the initial modelled one-year expected loss.

There are three annual risk periods under the transaction. The modelling agent (AIR) will deliver a reset report based on the subject business at the beginning of the respective risk period by 31 March. The attachment and exhaustion levels will be reset such that the initial modelled one-year attachment probability (18.5bp) and exhaustion probability (6.4bp) are maintained.

Losses to the notes are based on an indemnity trigger where the annual aggregate ultimate net loss exceeds the provisional attachment level of US$2.35bn. A franchise qualifying event occurs when the PCS index value exceeds US$5bn and the event causes liability under the subject business in the covered area. The PCS index value equals the total amount of estimated insured industry losses from personal lines, commercial lines and automobile lines as a result of a covered event in a covered area.

Fitch notes that while 15 qualifying events have occurred since 1990, only four calendar years have produced two or more qualifying events - 2004, 2005, 2011 and 2017. There have been 21 calendar years where no qualifying events have occurred between 1990 and 2019.

The agency adds that AIR ‘replayed’ 10 historical years where at least two franchise qualifying events occurred - including the years 2004, 2005 and 2011 - based on the current subject business. In each year, the attachment level was not breached.

“For context, Hurricanes Katrina, Rita and Wilma (2005) had an estimated modelled annual aggregate UNL reaching approximately 20% of the attachment level. The annual aggregate UNL in 2017, due to Hurricanes Harvey and Irma, was also significantly below the attachment level,” Fitch observes.

Nephila reinsurers have collateralised first dollar loss up to the attachment level of US$2.35bn, which Fitch estimates represents 15%-25% of Nephila's total assets under management. Once the attachment level is reached, claims will be paid on a pro-rata basis between State National (about 90%) and noteholders (about 10%).

Corinne Smith

Structured Finance

SCI Start the Week - 27 January

A review of securitisation activity over the past seven days

Transaction of the week
ResponsAbility Investments has announced the first closing of an innovative climate fund, set up as a blended finance structure that offers different classes of risk and has received commitments from a number of public and private investors. The private debt fund addresses the lack of access to clean power globally, with a strong focus on Sub-Saharan Africa, as well as South and Southeast Asia. See SCI 23 January for more.

Stories of the week
Bespoke service
Emma-Jane Fulcher answers SCI's questions
Long road ahead
Climate change management in US RMBS slow to appear
NPL ABS settled
Multi-originator trend continues

Other deal-related news

• Bankrupt DSB Bank is preparing for the possible sale of its loan portfolio by winding down its securitisation programmes. The Dutch bank is beginning with consumer ABS Chapel 2003-1 before hoping to move on to its other four outstanding ABS and RMBS deals (SCI 21 January).
• The EIF and UniCredit have increased the InnovFin SME guarantee, enabling UniCredit to offer - via its nine banks and six leasing entities across Central and Eastern Europe - additional financing worth €500m to innovative SMEs and small mid-caps in Bosnia and Herzegovina, Bulgaria, Croatia, the Czech Republic, Hungary, Romania, Serbia, Slovakia and Slovenia. The transaction brings UniCredit's commitment under the initiative to a total of €1bn (SCI 21 January).
• Eight trade associations, including the American Bankers Association and SIFMA, have written to FHFA director Mark Calabria responding to the recent request for input (RFI) on UMBS pooling (SCI 17 December 2019). The letter states that while the FHFA's "well-intentioned effort" to address liquidity and other concerns in the UMBS market is appreciated, the RFI includes proposals that could have negative consequences for the RMBS market and mortgage borrowers, which "should not be implemented" (SCI 22 January).
• Re/insurance electronic marketplace AkinovA recently completed a landmark parametric cyber risk transfer trade, with full regulatory oversight from the Bermuda Monetary Authority, under AkinovA's insurance regulatory sandbox license. The product was a quarterly parametric cyber instrument, purchased by an asset manager in the financial services sector (SCI 22 January).
• The People's Bank of China's Credit Reference Center last week upgraded its credit information system to record and provide more comprehensive credit information on individuals and enterprises. The upgraded system can lead to better measurement and understanding of risk by lenders, which is credit positive for the asset quality of their loan books and any securitisations that include the new loans, according to Moody's (SCI 23 January).
• Charter Mortgages is set to sell its junior economic interest in the Precise Mortgage Funding 2020-1B RMBS, while the lender's parent OneSavings Bank is set to sell its junior economic interest in the Canterbury Finance No.1 securitisation (SCI 23 January).

Data

BWIC volume

Secondary market commentary from SCI PriceABS
24 January 2020
USD CLO
A strong end to the week with 25 covers reported - 8 x AAA, 12 x BB and 5 x B rated.  With the majority of AAAs short dated, the >4y WALs traded 110dm-115dm (smaller managers King St and Greywolf), these are amongst some of the tightest levels we have seen in a while for non-benchmark names, which may well trigger refi activity should there be more liquidity at these levels.  Note that we calculated a modest 2bp of tightening week on week in >4y WAL AAAs to 118dm.  With 12 x BBs today and a range of RP profiles the trading levels were 608dm-788dm, breakdown as follows:
 

• 2023 RP profiles traded 608dm-672dm, with BLUEM 2018-3A E at the wide end 672dm / 8.4y WAL (MVOC 106.03 / ADR 1.58% / MVAP 5.69 / MVOC 106.03
• 2022 RP profiles traded 620dm-639dm with an outlier CGMS 2013-3A DR cover 769dm (low MVAP 4.5 / MVOC 104.7 / ADR 0.94%
• 2021 RP profiles traded 649dm-685dm with an outlier CGMS 2013-2X ER 788dm cover / 6.1y WAL - low MVAP 3.85 / MVOC 104 / ADR 0.9%
• 2020 RP profiles trades 610dm / 5.6y WAL

The single-Bs traded in a number of profiles too.  The 2019 RP profiles had a wide dispersion given performance metrics, at the tight end NEUB 2015-19A ER² 795dm / 5.3y WAL (MVOC 104.66 / MVAP 4.46 / WARF 2859 / sub 80 0.43%) whilst at the wide end is WINDR 2015-2A F 1166dm / 5.6y WAL (MVOC 102.57 / MVAP 2.51 / WARF 3075 / sub 80 6.1%).  Whilst the 2023 RP profile single-Bs traded 868dm-896dm, these are the tightest consistent levels at this end of the rating scale for some time.
In terms of week on week moves, the AAAs we covered above.  AAs softened 9dm to 170dm this week, but this is based upon double the liquidity $48m vs last week's $24m.  Single-As have tightened 44dm to 197dm, BBBs have tightened 60dm to 292dm albeit 35m v 51m of liquidity last week.  BBs have widened 14dm to 696dm based upon $111m of liquidity vs $170m last week.  Finally single-Bs have ended the week on the much tighter note, as mentioned, trading in a 860dm generic context whilst levels around the turn of the year were in the mid-late 900s area.
EUR CLO
Another day with a lot of trading: 11 x BBB, 9 x BB, 1 x B & 2 equity. Looking at the BBBs the 4 tightest trades are all at a discount price. These trade tight because a refi works in their favour and thus their dm to mat reflects this positive optionality. These trades have priced with DMs in the range from 277dm to mat to 319dm to mat. The other 7 BBBs have all traded wider and are all at a premium price. A refi is a negative event for these bonds and thus they are limited by their DM to call. These 7 bonds have traded in a range from 335dm to mat to 375dm to mat but their dm to calls have been around 250 for 0.5yr to around 200dm for 0.2yrs.
The BBs have traded in a range from 513dm to mat to 587dm to mat. They are all around the same WAL and all at a discount price so the difference in spread is due to the manager and the credit. The tight end of the range is BLUME 2016-1X ER (Blue Mountain) at 513dm and the wide end is CRNCL 2017-8X E (Cairn) at 587dm.
The single B is CIFCE 1X F (CIFC) which traded at 99.68 / 887dm to mat / 8.32yr. In equity DRYD 2015-39X SUB traded at 99.08 / 12.63%. Its NAV is 82. This deal was reset back in 2017 and is callable now. With the AAA paying a margin of 87bps there is some benefit to the equity in a refi.
The equity in this deal is quite highly levered at x 11.8 but it attaches quite high at -1.1%. BECLO 1X SUB traded at 84.11 / 11.91%. Its NAV is 69. This deal was reset in 2018 and becomes callable in Mar 2020 but since the AAA pays a margin of 71bps there is less of an obvious benefit to equity in a refi. The collateral pool is very clean with only two semi-distressed positions: TMF Group (Business services) and Curaeos (Dentistry healthcare).
SCI proprietary data points on NAV, CPR, Attachment point, Detachment point & Comments are all available via trial, go to APPS SCI + GO on Bloomberg, or contact us for a trial direct via SCI.

Capital Relief Trades

Risk transfer round-up - 27 January

CRT sector developments and deal news

Banco BPM is rumoured to be readying a capital relief trade for this year. The issuer launched its first risk transfer transaction in June 2019, which was carried out with the EIF (see SCI’s capital relief trades database).

Capital Relief Trades

Risk transfer round-up - 28 January

CRT sector developments and deal news

Deutsche Bank has completed a capital relief trade from the CRAFT programme. Dubbed CRAFT 2020-1, the US$150m 9.5-year CLN priced at Libor plus 9.5%. The floater is non-callable and has a weighted average life and expected maturity equal to 7.5 years. Deutsche Bank’s last CRAFT transaction was finalised in March 2019 (see SCI’s capital relief trades database).

Capital Relief Trades

BMO SRT inked

Repeat Manitoulin trade completed

Bank of Montreal has completed a capital relief trade referencing US and Canadian senior secured and senior unsecured corporate loans. Dubbed Manitoulin USD Algonquin 2020-1, the five-year financial guarantee is a repeat transaction of another Manitoulin SRT from the same series that was finalised in July 2019.

Rated by DBRS Morningstar, the transaction consists of a triple-A rated class A tranche, a double-A rated class B tranche, a single-A rated class C tranche, a triple-B rated class D tranche and a US$162.5m unrated class E tranche. Notes have been carved out of the rated tranches.

The US$4m class B note pays Libor plus 1.80%, the US$5m class C note pays plus 2.25%, the US$6.5m class D note pays 3.55% and the class E tranche pays plus 8.50%. Losses are applied to the tranches in reverse order of seniority.

Last year’s Manitoulin USD Algonquin transaction consisted of a US$4m class B note (which paid Libor plus 1.80%), a US$5m class C note (plus 2.55%), a US$6.5m class D note (plus 3.60%) and a US$162.5m unrated equity tranche (see SCI’s capital relief trades database). Besides both having identical note sizes, last year’s deal was also structured as a five-year financial guarantee. The 2019 SRT broke new ground compared to previous Manitoulin transactions, given the additional numbers of mid-sized corporate borrowers in the portfolio (SCI 26 July 2019).

“[The latest transaction is] very similar to the 2019 deal for a number of reasons, such as the quality, diversity and seniority of the portfolio and the integrity of the transaction’s structure,” says Joseph Priolo, svp at DBRS Morningstar.

The agency notes that in order to assess portfolio credit quality, it may use credit estimates, internal assessments or ratings mappings of BMO’s internal ratings models for each corporate obligor in the portfolio. Credit estimates, internal assessments or internal ratings mappings don’t represent ratings, but an abbreviated analysis of default probability for obligors where no rating exists and are typically used to analyse corporate securitisations.

Stelios Papadopoulos

CLOs

Ramping up

BlueBay bolsters structured credit footprint

BlueBay Asset Management is ramping up its debut CLO, with launch planned for next quarter. At the same time, portfolio manager Alex Navin is set to relocate to New York to strengthen the firm’s US credit investment team.

“The move enhances our global coverage and enables us to identify the best relative value opportunities in a broader context,” confirms Sid Chhabra, partner and head of structured credit and CLO management at BlueBay.

Arranged by Credit Suisse, the firm’s inaugural European CLO is likely to be sized at €300m-€400m. A US CLO is also a possibility in the medium term, depending on market conditions.

“We already have a strong reason to be managing US CLOs, given our existing leveraged finance portfolio,” observes Chhabra. “We also have market visibility from being an investor in CLOs ourselves – it is a logical extension of our existing activity in both London and New York.”

He adds that CLO management is a strategic focus and “completes the circle” for BlueBay. “As a fixed income manager with US$60bn in AUM, we’re not taking the decision lightly to expand into CLOs. We are incentivised to do well at it.”

A big differentiator for the firm is its depth of experienced professionals, according to Chhabra. “BlueBay has invested in leveraged finance assets for almost 17 years and has US$10bn of AUM and 26 professionals dedicated to the sector, some of whom have worked together for 10 years. It is a strong platform and can demonstrate a significant track record,” he explains.

While it is too early to determine hard ESG criteria for the firm’s CLO, Chhabra notes that ESG considerations are embedded in its credit process anyway. “ESG helps us identify additional risk factors and makes us better investors,” he says.

At present, Chhabra suggests that CLO tranches across the capital structure present relative value compared to corporate credit. “Corporate credit is close to its tights, while CLO tranches and certain other structured credit securities are still some way away from their tights - although we’ve begun to see some convergence between the two sectors in January. However, we need to be careful about where we position ourselves and where we are in the credit cycle. The coming months and years are not going to be without intense periods of volatility, which is why we are particularly focused on selecting securities that provide exposure to high quality collateral and differentiated risk profiles, with a strong degree of downside protection.”

Looking ahead, he concludes: “Slowing global growth and sluggish economies means that idiosyncratic events will emerge more frequently and we certainly expect to see some occur over the next 12-18 months. However, the market benefits from enough central bank liquidity now and broadly supportive monetary policies, so I don’t anticipate a recessionary environment in the next 12 months.”

Corinne Smith

Structured Finance

Hedge fund liquidated amid accounting probe

Sector developments and company hires

Hedge fund liquidated amid accounting probe
TCA Fund Management Group is liquidating its main credit hedge fund, TCA Global Credit Master Fund, after the fund received redemption and withdrawal requests in excess of available cash. The redemptions come amid a US SEC probe into the firm’s accounting practices. According to whistleblowers, the firm has US$300m in assets - not US$500m - and is earning 1.92% per year, not 7%-8%, as claimed in communications with investors. Furthermore, the fund has allegedly failed to book losses on defaulted loans and has recorded fee revenues it has not received.

Morgan recoveries distributed
The US SEC has obtained a court order authorising the distribution of over US$63m to investors in connection with its action filed against Robert Morgan and two of his entities, Morgan Mezzanine Fund Manager and Morgan Acquisitions, that alleged they engaged in a fraudulent real estate investment scheme (SCI passim). Upon filing this action, the SEC sought and obtained certain emergency relief, including the appointment of a receiver responsible for maximising the monetary recovery for investors. Since filing, Morgan voluntarily liquidated certain assets to generate funds for collection by the receiver and the court approved the receiver’s plan last week. The case is continuing to be investigated.

Structured Finance

Valuations provider bought by investor consortium

Sector developments and company hires

Acquisitions
A consortium led by funds managed by Stone Point Capital and Further Global has agreed to acquire Duff & Phelps for US$4.2bn. The equity sellers include the Permira funds, which will continue to hold a significant stake in the company as part of the consortium. As part of the transaction, the Duff & Phelps management team will maintain a meaningful equity stake in the firm and continue to lead the company. The transaction is expected to close in 2Q20, subject to customary closing conditions. Separately, Duff & Phelps has acquired Lucid Issuer Services, Lucid Agency and Trustee Services and Fluyd.

North America
BMS Group has appointed Jani Kohonen as svp and Atlanta branch manager, reporting to Pete Chandler, president and ceo of BMS Re US. Kohonen has over 15 years’ experience in the insurance and risk market, and was previously vp at StarStone Insurance in Atlanta, overseeing its ILS initiatives and underwriting strategy in the US E&S property space. He also worked at Aspen Insurance Group in New York between 2007 and 2017 - where he held a number of senior roles, with a particular focus on catastrophe risk management - and began his career at Arch Insurance Group in 2005.

Craig Phillips has joined dv01 as a senior advisor to assist the firm’s senior leadership team with business strategy, as well as growth and business development initiatives. At the US Treasury, Phillips previously led domestic finance and drove housing reform policy, serving as counselor to Secretary Steven Mnuchin. Before that, he spent close to a decade as md at BlackRock - where he founded and led the financial markets advisory group - and held senior leadership positions as head of the securitised product group at Morgan Stanley and as co-head of US ABS and MBS at Credit Suisse First Boston. He was recently appointed to the board of directors of Ripple.

Hilltop Securities has recruited Mahesh Swaminathan to its fixed income capital markets division in New York. Swaminathan will be part of the securitised products sales and trading desk, where he will oversee both MBS and ABS strategy and marketing, focusing on the firm’s agency MBS sales and trading platform. He joins the firm from Goldman Sachs, where - as the agency MBS strategist - he advised the MBS trading and sales desks and clients on trade ideas and market insights, as well as updated prepayment models. Prior to this, Swaminathan led MBS strategy at Credit Suisse.

Student loan sale
During its recent 4Q19 earnings call, Sallie Mae announced plans to sell US$3bn of student loan assets to fund US$600m authorised share buyback. The company will sell parts of its existing portfolio, proportionate to the overall exposure of the total loan book. The sale is anticipated for early this year.

Structured Finance

Covered funds provisions set to be revised

Sector developments and company hires

AMR auction debut
The first-ever CLO applicable margin reset executed online – via KopenTech’s auction platform - saw all five tranches of TCW 2019-1 CLO refinanced successfully. The coupon of the US$240m triple-A rated tranche was reset to 107bp, from a spread of 144bp when the transaction initially closed.

Receivables ABS prepped
Gedesco Finance and Toro Finance are in the market with Gedesco Trade Receivables 2020-1, a revolving securitisation backed by factoring, promissory note and short-term loan receivables extended to enterprises and self-employed individuals located in Spain. The provisional portfolio comprises 9,302 contracts amounting to €357.7m, with the top industry sector being construction and building. The top direct debtor represents 4.59% of the portfolio and the top 20 represent 43.6%, according to Moody’s.

Solar alliance
Schneider Electric Solar Spain and Qbera Capital have entered into a strategic alliance to support solar energy growth across selected frontier and emerging markets. The alliance provides corporates with a one-stop solution that integrates technical, financing, digital and equipment solutions, with the aim of facilitating clean energy transition. One of the biggest roadblocks in green energy deployment is the lack of aligned advisory, technology and financing options. The first round of projects of 15MW will be rolled out across Mali, Ghana and Burkina Faso. Additional deployments of over 60MW will target a further six countries.

Volcker Rule roll-back
The CFTC, FDIC, OCC, SEC and US Fed have approved a proposed rule to revise the ‘covered funds’ provisions of the Volcker Rule. The notice of proposed rulemaking (NPR) would: permit the activities of qualifying foreign excluded funds; revise the exclusions from the definition of covered fund for foreign public funds, loan securitisations and small business investment companies; adopt new exclusions for credit funds, qualifying venture capital funds, family wealth management vehicles and customer facilitation vehicles; permit certain transactions that could otherwise be prohibited under 12 CFR 44.14; revise the definition of ‘ownership interest’ for Volcker Rule purposes; and provide that certain investments made in parallel with a covered fund, as well as certain restricted profit interests held by an employee or director need not be included in a banking entity’s calculation of its ownership interest in the covered fund. Comments must be received by 1 April.