Contents

CLOs

Auction house

Online AMR, BWIC matching services debut

January was a breakthrough month for KopenTech for two reasons. Not only did the firm execute its first online applicable margin reset (AMR) auction (SCI 19 February 2019), but its BWIC matching platform also went live.

Anthony Schexnayder, head of business development at KopenTech, says both services are designed to facilitate liquidity and transparency across the CLO industry. “Our priority is to grow the structured products market by building technology that enables investment professionals to do their jobs more efficiently and effectively,” he remarks.

Four dealers participated and four won US$351.3m of bonds in the AMR auction for TCW 2019-1, which was at the end of its one-year non-call period. Each tranche was oversubscribed and the weighted average cost of funding for the transaction was reduced from 1.81% to 1.38%.

The KopenTech platform holds concurrent two-hour auctions for each tranche that is being refinanced. Investors bid by indicating how many bonds and at what margin they are willing to receive for the refinanced securities.

At the end, bonds are allocated starting with the lowest margin bid and proceeds higher until the entire tranche is cleared, as long as it’s below a margin cap. This results in a successful auction and the final clearing margin is applied to the entire tranche. If there are not sufficient bids to clear the tranche below the margin cap, the auction fails and the tranche is unchanged.

In the case of TCW 2019-1, the class A, AJ, B, C and D notes had original margins of 1.44%, 1.75%, 2%, 3.1% and 4.25% respectively. The margin caps set for the auction were 1.15%, 1.7%, 1.9%, 2.8% and 3.8%, while the winning bid margins were 1.07%, 1.62%, 1.8%, 2.049% and 2.99%.

Schexnayder estimates that for the cost of one traditional CLO refinancing, an issuer could execute four AMRs. “A traditional refinancing takes a couple of months. In contrast, the timeline for a KopenTech AMR auction is nine days from election to the auction, drastically cutting pricing risk,” he observes.

He adds: “Further, in a traditional refinancing, the bonds are typically offered to anchor investors and those already in the deal. AMR benefits all investors – both equity and debtholders – by providing access to more bonds than they would normally see.”

So far, there are seven CLOs with AMR language incorporated in the documentation, four of which - equating to around US$4bn in potential new supply - will be out of their non-call periods over the next two to three months. The next challenge for KopenTech is to have further CLO managers adopt the language in their indentures, as well as sign up more dealers to the platform, according to Schexnayder. The firm has seven dealers currently signed up and hopes to increase that number to 15 over the next few weeks.

While developing the AMR technology, a number of clients asked the firm to try to simplify the secondary CLO trading process. “The current system is a complete mess. Market convention dictates that two investment professionals take half a day to run a single BWIC auction, which often results in missed bids,” observes James Vogl, head of product at KopenTech.

He continues: “It’s a poor use of time and resources, and an onerous process that no-one likes. Our platform uses automation and communication tools to reduce time spent conducting a BWIC for investment professionals.”

At present, CMBS and RMBS bonds trade more frequently than CLO bonds. MBS have annual turnover between 30%-40%; CLOs have annual turnover under 5%.

“CLOs are a complex asset class, which requires substantial analysis. Archaic trading practices cause unnecessary friction. Streamlined tech allows investors to focus on analysis rather than burdensome communication, which will increase trading velocity and improve liquidity,” Vogl explains.

The first release of the BWIC service has a five-step upload for BWIC announcements, organises BWIC lists and provides colour around data points. It also has a portfolio alerts function, as well as instant feedback and documentation download features. Settlement and clearing of the trades occurs externally.

KopenTech is in the process of onboarding 10 dealers to the service. “Dealers are supportive; they want to be more efficient. The aim is to reduce the time and resources spent on the auction process, while minimising operational risk,” Vogl notes.

For now, the firm is focused on strengthening both offerings for CLOs. However, it may explore introducing other asset classes in the future.

Corinne Smith

Capital Relief Trades

Moving down

Insurers target first-loss CRTs

Insurers are now targeting the first-loss tranches of capital relief trades, having eyed the senior mezzanine tranches of dual-tranche transactions last year (SCI 22 March 2019). The better risk/return profile of first-loss tranches and an adaptation of traditional credit insurance contracts into unconditional guarantee formats are the main factors driving the development.

According to one reinsurer: “We have no minimum return requirements, but the risk/return profile has to make sense for us. We were initially focused on senior mezzanine tranches, since the new securitisation regulation has increased demand for thicker tranches that are less attractive to many existing funded investors, so we felt that this was a natural gap we could fill in. However, we have also encountered opportunities where first-loss tranches offer a better risk/return profile.”

He continues: “Coverage decisions need to be made on a case-by-case basis and strongly depend on the loss distribution of the underlying portfolio. If the loss distribution is highly skewed, the senior mezzanine may be exposed to tail risk and to the same extent as the first-loss tranche but while paying a lower premium.”

Indeed, what matters for credit risk assessment purposes is portfolio risk, rather than where the position is in the capital stack. “If we have the required information to assess and price the underlying risk, we can invest in both first-loss and mezzanine tranches - preferably in residential mortgage portfolios, since capital relief trades are a natural extension of our core mortgage insurance business,” confirms Roberto Savina, head of structured solutions at AmTrust Mortgage and Credit.

Similarly, Giuliano Giovannetti, md at Granular investments, comments: “The first loss does not deceive you with a false sense of security, allows you to receive a reasonable payment and thus set aside a proper amount of capital, and it should also offer a more beneficial negotiating position. The quality of the underwriting and a good understanding of the merits of the transaction have often been more crucial than the amount of credit enhancement provided.”

The shift of attention towards the equity tranche remains noteworthy, given the relatively short period over which it has occurred. “Several things have changed,” says Gregory King-Underwood, director at BPL Global. “The first is risk appetite, since any business that banks transfer to reinsurers diversifies away from the far larger property and casualty reinsurance business. Second, the metrics that reinsurers use to measure performance had an impact on the risks they cover, so the loss ratio that reinsurers use to measure performance looks better compared to other deals and helps boost underwriting capacity.”

“We’ve always been open to first-loss tranches, despite the perception that reinsurers or insurers would normally look at mezzanine layers,” says Fiona Walden, global head of credit at RenaissanceRe. “As a reinsurer, we have deep expertise and experience in modelling portfolio risks, whether we are assuming a first loss or mezzanine position. Our focus is much more on understanding the underlying portfolio and supporting clients through the cycle.”

Insurers can offer protection on a variety of asset classes, including corporate exposures - as evidenced in the ‘single names’ segment - with coverage that spreads across the capital stack. These quota share transactions are carried out under the Credit Risk Mitigation approach of the CRR (Chapter Four).

Granular Investments estimates that banks are already using insurance solutions for capital relief under Chapter Four of the CRR on approximately US$300bn of loans and especially for single name corporate loan exposures. Over 95% of claims for a total in excess of US$2.5bn have been paid over a 10-year period (2007-2017), according to LMA/IUA data.

Nevertheless, from an insurer perspective, synthetic securitisations are much more efficient than quota sharing deals. Giovannetti observes: “Under a quota sharing approach, banks substitute the risk weights of a corporate with that of an insurer – usually in the 20%-50% range for the protected portion, much higher for the whole loan and highly sensitive to any potential insurer downgrade.”

He continues: “On the other hand, if you use a tranching mechanism, you apply a 15% risk weight for the large, retained senior tranches – which, when combined with that of the junior ones, you get a far lower composite of 20%-30%. From an insurer perspective, synthetic securitisation is also quite attractive because you have a much lower loss limit compared to the full capital stack. Nevertheless, synthetics do have more agency problems.”

Consequently, insurers had plenty of reasons for targeting first loss tranches - although the same interest wasn’t visible on the seller side, since banks have been raising questions as to whether insurance claims would be paid when needed. Santander’s Project Meno though is an example of how such inhibitions have been dealt with over the past year. The transaction was an unfunded first loss guarantee between Santander and reinsurer investors that referenced undrawn revolving credit facilities and was completed in December last year.

The main challenge was the conditional nature of traditional credit insurance contracts. Steve Gandy, md and head of private debt mobilisation, notes and structuring at Santander Corporate and Investment Bankingn explains: “Conditional pay contracts - where insurers pay claims if you exhaust all correction activities - would simply not work for us. So we asked insurers to confirm that they could adapt their insurance contracts into a typical SRT contract, so that the payments would be unconditional guarantee payments, as required by the CRR.”

Traditional credit insurance contracts typically feature provisions that provide for claims payments, but after defaults have been settled in full, and may also contain exclusions that deny coverage if the insured doesn’t satisfy certain conditions.  Hence, certain terms need to be modified or stripped out from credit protection agreements, in order to comply with regulatory SRT requirements.  An example in this regard is the timeliness of payments, where investors make an initial or estimated loss payment, pending final loss determinations.

Insurers have become increasingly comfortable with these changes, besides the need to comply with CRR regulations. First, they have developed related expertise through the GSE experience, where traditional insurance contracts had to be similarly adapted into guarantee type formats. Second, limitations can be excluded if the credit risk they are assuming complies with their own risk parameters and compliance requirements.

Moreover, banks have opened up to the unfunded format, in order to expand their investor base and sell more granular asset classes to insurers - which are ultimately more willing to accept lower premiums. Yet they remain wary of the challenges of unfunded structures.

Gandy remarks: “With unfunded deals, we have to hold capital against the counterparty risk of the insurer - which means less capital relief, but we get compensated in terms of pricing and it also helps diversify our investor base.”

Furthermore, although insurers and reinsurers have noted a willingness to execute equity and mezzanine tranches, unfunded guarantees remain a fraction of the CRT market, with their use still in the early stages. IACPM data, for instance, note that insurer investors account for less than 1% of synthetic deal flow, despite an uptick since 2017.

Alan Ball, insurance broker at Texel, concludes: “Market practices for insurance in this space are still developing in many areas, including attachment points, terms of protection and investor composition - with both insurers and reinsurers being active across a range of asset classes and geographies. Given this fact, the willingness of some insurers and reinsurers to execute first-loss tranches is representative more of the appetite of individual institutions, as opposed to a wider market trend. This is why it’s important to set the right precedents, although insurers and reinsurers are well placed to participate in this area.”

Stelios Papadopoulos

Structured Finance

Rarity value

European ABS market update

The European ABS market remains characterised by a lack of free flow. Against this backdrop, the senior notes of the Spanish Gedesco Trade Receivables 2020-1 transaction are attracting investor interest, due to its rarity value.

 “It is still very much the same tone. Generally, we are not seeing a huge amount of trading,” one trader notes.

He continues: “Free flow is not there. Levels are tight because of central bank buying and there is little coming from new issuers.”

Gedesco Finance released an update on its Morgan Stanley-arranged deal yesterday, following a tweak to the structure that brought the FORD forward by one month to January 2023. Books for the class A notes are reported at over €350m.

The trade receivables in the pool are short-term and the revolving period is 35 months. On 31 January, it was estimated that 60% of the pool had a remaining term of less than 90 days. It is unusual for short-term receivables to be securitised in a term transaction (SCI 31 January).

The pool is composed of 9,302 contracts amounting to €357.7m. With regards to product type, 59.6% is attributed to direct lending, 30.4% to promissory notes and 10% to factoring. In terms of assets and industry classification, the construction and building sector is 28.4%.

Rated by Moody’s and KBRA, the transaction comprises Aa3/AAA rated class A notes, Baa2/AA rated class B notes, B2/A rated class C notes, Caa2/BBB rated class D notes, Caa3/BB rated class E notes and Ca/B- rated class F notes.

A further two deals remain in the pipeline, following the pricing of the Magenta 2020 CMBS yesterday – VW’s €995m VCL 30 German auto ABS and BofA’s €620m Taurus 2020-1 NL Dutch CMBS.

Jasleen Mann

ABS

Manager discretion

Direct lending securitisations on the rise

A growing number of direct lending funds are raising debt via securitisation of their shares. A carefully considered approach is needed when assessing the credit risk of such debt, however, given the large discretion managers have to build highly non-granular investment portfolios.

Traditionally, direct lending funds have issued shares with equity-type properties to raise financing. But recent regulations have incentivised institutional market participants to invest in rated debt products.

“As a result, we see an increasing number of funds raising debt financing directly or indirectly via securitisation of their shares. Luxembourg-domiciled entities issue most of these debt instruments in Europe, as Luxembourg offers comprehensive and flexible frameworks for securitisation and fund activities,” confirms Benoit Vasseur, a director in Scope’s structured finance team.

The non-bank sector accounted for 45% of total euro area lending as of 2Q19, up from 33% in 1Q08. Indeed, fundraising for senior direct lending funds in Europe is now on a par with CLO issuance, which reached €30bn last year.

Although direct lending funds share similarities with leveraged loan CLOs, beyond an exposure to a portfolio of corporate debt managed by an asset manager, the risk profiles of the investment options are different. End-investors in direct lending funds are all exposed to the same portfolio risk, as opposed to CLO investors, who are exposed to different risk profiles via tranching.

“Thanks to this alignment of interest with investors, direct lending fund managers have a lot of flexibility in building and replenishing their asset portfolios,” Vasseur notes.

Private debt lenders typically have longer ramp-up and re-investment periods, broader eligibility criteria and less stringent concentration limits than CLOs. They also initially tend to adopt a more relationship-based approach, with a strong emphasis on the security package and assets of the borrower.

Further, CLOs are associated with ‘‘the non-alignment of investors” – in other words, equity noteholders versus triple-A investors.

In order to assess the credit risk of direct lending securitisations, Scope takes various factors into consideration. The agency’s approach includes identifying the strategy of the manager, its credit capacity and the information available about the direct lender’s past investments.

Given the private nature of target investments, market access is fundamental to the implementation of any investment strategy, according to Scope. As such, the agency qualitatively assesses market access through an evaluation of the manager’s private debt transaction-related sponsor and borrower network.

Additionally, it considers the manager’s integration into the financial markets as an institutional investor, including its relationships with investment banks, brokers and other asset managers. The quality of the operational set-up in terms of proficient traders, hardware, software and back-up systems also feeds into this assessment.

Jasleen Mann

Structured Finance

SCI Start the Week - 17 February

A review of securitisation activity over the past seven days

REMINDER: SCI NPL Securitisation Awards 2020
Nominations have now opened for the inaugural SCI NPL Securitisation Awards and have a deadline of 20 March.
Further information and details of how to pitch can be found here.

Transaction of the week
JPMorgan has placed the re-offered Futura 2019 NPL ABS at a wider print than some market participants had been expecting. The transaction is notable for not benefitting from the Italian GACS guarantee and was retained by the sponsor Guber Banca in December. See SCI 14 February for more.

Stories of the week
Diversified play
Rate improvements driving ILS pick-up
Doubling up
European ABS market update
Equity issue
Loan repricing expectations weigh heavy on CLOs
Positive outlook
Spanish REO boost expected
Secured versus unsecured
Early-stage MPL delinquencies predictive of charge-offs
Sporadic issuance
CQS SRT wave unlikely

Other deal-related news

• The Business Mortgage Finance 4, 5, 6 and 7 issuers have informed noteholders that on 22 January they received a letter from Alfred Olutayo Oyekoya, in which he claimed that he had assumed the position of trustee in relation to the charged property. The issuers inform noteholders that it considers the purported assumption of position to be of no effect and that BNY Mellon remains the sole trustee (SCI 10 February).
• Moody's has upgraded four tranches of the credit protection deed between Santander UK and the Red 1 Finance CLO 2017-1 synthetic CMBS. The actions reflect the further substantial increase in credit enhancement for the senior tranches, following the sequential allocation of principal proceeds from loan repayments and the stable loan performance (SCI 12 February).
• Capital relief trade issuance broke a record in 2019, with volumes reaching €7.5bn. This marks the highest total tranche notional volume in the post-crisis period, surpassing the previous record set in 2017 (SCI 13 February).
• Annaly Capital Management is set to acquire its external manager, Annaly Management Company, and transition from an externally-managed REIT to an internally-managed REIT (SCI 13 February).
• The Parliament of Catalonia has validated Decree Law 17/2019, which increases the amount of social housing for people on low incomes or with particular needs. Moody's suggests that the law is credit negative for Spanish RMBS and the implications for NPL securitisations are "even worse" (SCI 14 February).

Data

BWIC volume

Secondary market commentary from SCI PriceABS
13 February 2020
USD CLO
20 reported covers today - 4 x AAA, 2 x AA, 13 x BBB and 1 x BB rated. The >4y WAL AAAs (all 2023 RP profiles) trade in a narrow 102dm-110dm range - at the tight end is GRNPK 2018-1A A1 (GSO) 102dm / 5y WAL with good all round metrics (MVOC 152.4 / ADR 0.03% / sub 80 1.26%) and at the wider end is AMMC 2016-18A AR (American Money Management) 110dm / 5y WAL with weaker metrics (MVOC 149.8 / ADR 0.53% / sub 80 4.05%) and a less experienced manager versus GSO but nonetheless fine lines in terms of DM levels at both ends of the range today and at the tighter end of generic 2023 RP profiles that have traded in a 107dm context recently and is by far the most liquid cohort within AAAs.
The AAs today (2022 RP profiles) tradein a 150dm-158dm range which is tight to market which has been in 170dm context for this profile - the bonds are from experienced managers CSAM and GSO with excellent MV and performance metrics (see PriceABS trade history for all details).
The BBBs today (2022-2024 RP profile) trade 285dm-395dm range, breaking these down at the longer end the 2024 RP profiles trade 345dm-377dm / 8.5y WAL avg which is inside 379dm generic trading levels. The 2023 BBB RP profiles trade 285dm-395dm / 7.3-8y WAL with STCR 2018-2A D (Steele Creeke) at the wide end 395dm / 7.9y WAL (MVOC 111 / sub 80 4.4%) versus 360dm area recent comps but note that the manager has only 6 CLOs under management so this has contributed to the below average level. The 2022 RP profiles trade 286dm-331dm with CIFC's CIFC 2017-5A C at the tight end 286dm / 7.3y WAL - high MVOC 112.4 / low ADR 0.31% / low sub 80 0.56% and a strong 2811 WARF, this profile has traded in mid 300s DM area recently so today's range is firmly inside these levels.
The BB trade today is REGT8 2017-1X E (Napier Park) a 2022 RP profile and covers 646dm / 7.5y WAL which is inside 676dm market levels for this profile - the ADR is low 0.19%, the sub 80 bucket is also low 1.54% and diversity 84 and WARF 2819 are both respectable.
EUR CLO
There are 16 x AAA & 1 x BB trades today. All bar 3 of the AAAs are currently callable. The lower margin trades have traded at par or a very small premium. Of course the spreads vary a lot depending on the margin on the bond. The range is from 82dm|mat to 128dm|mat. The par AAA margin is around 90-93 bps which is where the current Carlyle deal is talked. The higher margin trades have traded between 120dm|mat to 137dm|mat at an average price of 100.12.
The BB is near enough a current par margin at 575bps. It traded at 598dm|mat which is 100.32 price.
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.

Structured Finance

C-PACE fund debuts

Standalone platform leads origination

Samas Asset Management (SAM) has launched its debut fund, a closed-end vehicle dubbed SAMAS FUNDING PACE FUND LLLP Series 2020. The Samas entities are now the ‘‘largest standalone commercial PACE origination platform in the US’’.

The PACE bonds in this fund represent a diversified portfolio associated with small- and medium-sized commercial properties.

‘‘Projects that we finance generate US$10m or less. Larger projects generate US$40m to US$50m, but we are not in that space. There is less competition in our space [and] higher yields [on the] underlying collateral,’’ says Dan Castro, chair of the investment committee at SAM.

SAM and its affiliates will not have to involve financial intermediaries in the PACE bond origination and will be able to offer better financing terms as a result. Consequently, fund investors will benefit from higher returns.

Castro compares the fund to a warehouse, in that once it reaches US$100m, the portfolio may be securitised and sold.

He adds: ‘‘Our affiliate, Samas Capital, entered the market 10 years ago when the legislation was first passed and companies started doing PACE funding. In those 10 years, the company never had a default, no delinquencies.’’

Using the method of vertical integration, it is possible to take product from affiliates if it fits the fund profile.

SAM offers a fund option where the fund retains the high yield residual class. Castro says: ‘‘On having leverage on that, you get all the residual cashflows on leverage return – above 20%.’’ Over time, the initial return will start rising.

SAM notes that the C-PACE market is growing, but there are only six or eight states that are active. Looking to the future, Castro says: ‘‘As time goes on, we are taking two or three months to develop a non-taxable fund.’’

Jasleen Mann

Capital Relief Trades

Risk transfer round-up - 20 February

CRT sector developments and deal news

Further details have been revealed of CRT transactions that were completed in 4Q19. One is another Barclays deal from the Colonnade programme, which is a US$55m tranche that matures in December 2026.

Lloyds also returned to the market with a third Wetherby trade. Dubbed Wetherby Securities 3 2019, it comprises two tranches sized at £49.5m and £36m (see SCI’s capital relief trades database).    

Capital Relief Trades

SRT fund launched

AXA engineers return

AXA Investment Managers has completed its eighth partner capital solutions fund. With the move, the firm is seeking to capitalise on diversification opportunities and volume growth in the risk transfer market.

According to Deborah Shire, global head of structured finance at AXA Investment Managers: "The reg cap market has been transformed into a full-fledged alternative investment opportunity, with increasing volumes in recent years. For our investors, this is an interesting way to diversify direct lending portfolios by getting access to granular loan books that are core bank activities. These can include, for example, exposures to SME loans or to revolving credit facilities granted to large corporates, which are not commonly available outside the banking system." 

Milan Stupar, portfolio manager at AXA IM, notes: “The SRT market is growing in size, number of banks involved and in terms of asset classes. We don’t target any specific jurisdiction or asset class, but we are looking at all asset classes where we have credit expertise. [The fund] covers any type of corporate risk, such as SMEs and large corporates, and most of the other exposures that are referenced in SRT trades - including trade finance, CRE, consumer and auto loans.”

The seventh fund – which was launched in 2017 - fully deployed its €1.2bn of AUM before the end of 2019, thanks to a strong pipeline of bilateral opportunities (SCI 10 November 2017). “Our SRT funds are closed-ended funds with hard caps in terms of size. Given that we reached the maximum size for the previous fund and finished its ramp-up last year, we decided to launch a new fund,” says Stupar.

According to AXA IM, in 2019 the CRT market reached a new record, following the issuance of more than €130bn of underlying portfolios over roughly 60 different deals (SCI 13 February). The eighth fund completed the first closing mainly with existing investors, such as pension funds, insurance companies and family offices, willing to benefit from the year-end pipeline.

Overall, AXA IM’s structured finance team manages around €45.7bn in global assets across the alternative credit spectrum. Looking forward, Stupar concludes: “We predict the CRT market will continue to grow in the coming years, but we anticipate a stabilisation at some point, as bank balance sheets cannot be further extended.”

Stelios Papadopoulos

Capital Relief Trades

SME double

EIF closes pair of EFSI guarantees

The EIF has closed two new guarantee agreements supporting European SMEs, both of which are supported by the European Fund for Strategic Investments (EFSI). One is a synthetic securitisation executed with Commerzbank and the other is the extension of a COSME facility with Bank Gospodarstwa Krajowego (BGK).

Under the first agreement, the EIB and the EIF have provided a mezzanine tranche guarantee of around €100m to Commerzbank on a €1.5bn granular portfolio of SME and mid-cap loans it originated in its ordinary business. The agreement will release regulatory capital for Commerzbank and enable the bank to provide further lending of up to €400m to innovative SMEs and mid-caps in Germany.

Under the guarantee, EIB takes on the mezzanine risk under a synthetic securitisation, with EIF fronting the operation by providing a guarantee to Commerzbank in relation to an existing portfolio of SME and mid-cap loans. EIB will provide a back-to-back counter-guarantee to EIF, which will fully mirror its obligations under its guarantee. The operation is expected to support nearly 60,000 jobs in Germany.

Meanwhile, the EIF’s agreement with BGK will see the financial envelope available to Polish SMEs within the scheme reach a total of PLN10.5bn and the operation extended by 12 months (until end-October 2021). The available guarantee limit under the programme has increased tenfold since its establishment - from the original PLN800m to PLN8.4bn.

BGK was the first bank in Europe to sign a COSME agreement with the EIF under EFSI in 2015. The bank has so far issued over 25,000 guarantees for 22,000 entrepreneurs in a total amount of more than PLN4.4bn.

COSME guarantees are offered by 11 banks cooperating with BGK: Alior Bank, BOŚ, Bank Pekao, ING Bank Śląski, mBank, PKO Bank Polski, Nest Bank, Santander Bank Polska and cooperative banks, including Bank Spółdzielczy in Brodnica, SGB-Bank, as well as BPS Group and its associated cooperative banks.

Corinne Smith

NPLs

Distressed debt unit formed

Oaktree establishes Chinese subsidiary

Oaktree Capital Management has become the first foreign distressed debt manager to set up a wholly owned subsidiary in China as part of phase one of the US-China trade deal. The trade deal will allow US firms to apply for asset management company (AMC) licenses and hence purchase non-performing loans directly from Chinese banks.

At the moment, foreign investors can only buy Chinese distressed debt through local asset management companies. According to Deloitte data, over 90% of the portfolios are sold to the ‘big four’ national AMCs Cinda, Huarong, China Orient and Great Wall.

Oaktree’s AUM exceeds US$120bn and the firm has already invested US$6.5bn in Chinese NPLs, according to a statement issued by Beijing’s financial regulatory department. The statement notes that the registration date of the Oaktree unit is 14 February and that it’s registered in Chaoyang District, Beijing.

Oaktree tapped the Chinese market in late 2013, following an announcement of a joint venture with Cinda Asset Management and on the back of rising NPL volumes in China. According to official data, the NPL ratio for China’s banking system has risen steadily from 1% at end-2013 to 1.8% in 2018. The total stock of NPLs increased by 18% year‑on‑year from RMB1.7trn (US$260bn) in December 2017 to RMB2trn (US$295bn) in 2018.

Although the largest banks have been steadily working to reduce their NPL exposures, last year China’s National Audit Office (NAO) raised concerns over a surge in bad loans held by smaller Chinese banks, particularly city commercial banks and rural financial institutions. The combined assets of these banks account for over 26% of the country’s total, according to Deloitte.

After an absence from the distressed debt market in the previous decade, foreign investor activity in China has picked up over the past two years, with several high-profile buyers entering the market. Lone Star, Oaktree, Goldman Sachs, Blackstone, CarVal and Bain were all been involved in trades in 2018. Several international investors are now acquiring subsequent portfolios, which typically focus on the coastal provinces of China, such as Jiangsu, Zhejiang and Guangdong.

Stelios Papadopoulos

RMBS

APOR and out

Proposed replacement of DTI critiqued

Fitch RMBS analysts have identified flaws in the CFPB’s proposal to replace DTI with a pricing threshold – such as a spread over the average prime offered rate (APOR) – for defining a qualified mortgage (QM), in response to lender criticism of DTI. They warn that its introduction would weaken the ATR Rule and borrower protections from aggressive lending practices.

Susan Hosterman, senior director in Fitch’s US RMBS group, predicts that the introduction of APOR will not be without problems as she says DTI is a ‘‘stronger predictor of a borrower’s ability to repay a mortgage loan than APOR.’’

Both DTI and spread to APOR are good indicators of default, according to Fitch. However, the agency believes DTI is a better measure of a borrower’s ability to repay a new mortgage loan without having to sell the home or leverage existing equity if financially stretched.

It notes that many factors can affect the price of a loan, some of which may have little to with a borrower’s repayment capacity. As such, aggressive lending programmes could result in borrowers having a low APR, but a high DTI and low LTV.

Equally, Fitch acknowledges that the full extent of default risk potential is not always identified by DTI. It has not been as strong as LTV and credit score with regards to predicting default because it ‘‘does not capture all household expenses and, importantly, is calculated based off gross income without consideration for taxes.’'

Overall, DTI is considered indispensable as - among other extensive benefits - it ‘‘adds explanatory value’’ to regression analysis. During periods of unsustainable home price growth, the measure also acts as a ‘‘safety valve’’ in that it contains demand.

Jasleen Mann

Structured Finance

Ares co-founder steps down from board

Sector developments and company hires

North America
Ares Management Corporation has appointed Kipp deVeer to its board. Concurrently, John Kissick - a retired co-founder of Ares - is stepping down from the board. DeVeer, who joined the firm in 2004, is a partner and head of the Ares Credit Group. He serves as a member of the Ares executive management committee and the firm’s management committee. He additionally serves as ceo and director of Ares Capital Corporation. Kissick co-founded Ares in 1997 and helped lead the firm as a partner and by serving on its management committee, as well as several of the firm’s investment committees. Before that, he co-founded Apollo Management in 1990, leading its capital markets activities until 1997, focusing on high yield bonds, leveraged loans, distressed debt and other fixed income assets.

Samas Asset Management has elected Dan Castro chair of its investment committee. He remains president of Robust Advisors, which he founded in January 2013. Before that, Castro was an md at BTIG in New York, where he led the group responsible for analysing structured finance products.

Structured Finance

MPL acquisition to achieve 'regulatory clarity'

Sector developments and company hires

Acquisition
LendingClub is set to acquire Radius Bancorp and its wholly owned online subsidiary Radius Bank in a cash and stock transaction valued at US$185m. The combination of Radius and LendingClub is designed to create a digitally native marketplace bank at scale, with the power to deliver an integrated customer experience. The aim is to enable consumers to both pay less when borrowing and earn more when saving. An additional benefit of the transaction is regulatory clarity via a direct relationship with a primary regulator.

Sprint ruling ‘credit positive’
A US District Court judge last week ruled in favour of the planned merger between T-Mobile US and Sprint Corporation. Moody’s says the move is credit positive for Sprint's spectrum ABS as the merged entity’s credit profile would be stronger than Sprint’s as a stand-alone company, thereby bolstering support for its securitisation programme because of the company’s critical role in the deals' performance. The merged entity will have lower leverage, improved liquidity and a more extensive asset base. In addition, the merger is likely to place the combined entity on a faster path to a nationwide 5G network and strengthen its market position in the US wireless industry. However, the agency notes that some hurdles remain, including a potential appeal by state attorneys general.

Structured Finance

Minority equity interest acquired

Sector developments and company hires

Equity interest acquired
Affiliated Managers Group has acquired a minority equity interest in Comvest Partners. The Comvest management team will be investing 100% of the transaction proceeds directly into future funds to support the firm’s growth initiatives. Following the transaction, the senior partners of Comvest will continue to own a significant majority of the equity of the business.

HPI partnership formed
dv01 has partnered with HouseCanary to leverage the HouseCanary Home Price Index (HPI) and provide investors with a more detailed analysis of the non-QM and credit risk transfer datasets on the dv01 platform. The partnership aims to provide investors with access to accurate home price appreciation data and updated LTV calculations to better assess underlying asset collateral, thereby making more informed risk management decisions when purchasing MBS. The HouseCanary HPI is a comprehensive and localised dataset that tracks home prices nationwide, with over 40 years of historical data that covers more than four million census blocks in the US to ensure the most accurate and local forecasts.