(Bloomberg) -- A market for aircraft bonds that all but shut down after Russia's invasion of Ukraine is showing signs of life again, a development that makes it easier for investment firms to buy planes.
Sales of airplane leases bundled into bonds have climbed to more than $5 billion this year, from around $1 billion in 2022 and 2023. Carlyle Aviation Partners and Global Jet Capital are among the leasing companies that have sold the debt in recent weeks.
Russia's incursion into Ukraine in February 2022 threw the bonds into turmoil, when Russia seized hundreds of planes owned by global leasing companies. Those aircraft were leased to Russian airlines, and were kept in the nation after western sanctions emerged. Some of the riskiest portions of airplane ABS were downgraded while other parts took losses.
But in recent months, the bonds have grown more attractive to issuers and investors. ABS deals impacted by Russia's seizures are poised to see recoveries through insurance settlements, according to Stav Gaon, a strategist at Academy Securities Inc.
Some settlements have already taken place, with one transaction seeing a $62.5 million payout and another picking up $50 million while others continue to pursue recoveries, according to Gaon. That's giving hope to money managers holding existing aircraft ABS that more money will start flowing to the securities.
Aircraft ABS are a key part of the more than $225 billion raised in aircraft lessor debt financing between 2010 and August 2024, making up more than a fifth of the total, according to Deutsche Bank AG data.
The comeback is also being boosted by leasing companies that bought airplanes in 2021 using short-term financing, when interest rates were lower. As bond yields have fallen in recent months, those lessors can sell bonds more cheaply, and turn their temporary financing into longer-term borrowing.
"There were a handful of firms buying aircraft after the pandemic that didn't get a chance to issue ABS before the Russia-Ukraine war shut the market," said Rich Barnett, partner and head of distribution at Castlelake LP. "Then rates spiked, so the market never really reopened and borrowing costs became a lot higher."
Many of the shorter-term lines of credit known as warehouse lines that financed these deals are ready to be refinanced now, Barnett said. Also, risk premiums in asset-backed securities have tightened, further incentivizing borrowers to issue bonds.
"This is the most favorable market condition that issuers have experienced since 2021," said Yezdan Badrakhan, head of US esoteric asset backed securities at Mitsubishi UFJ Financial Group.
Plane makers like Boeing Co. and Airbus SE are struggling to meet their production goals amid labor and manufacturing problems and issues with suppliers. That's spurring many airlines to lease planes from leasing companies instead of buying them outright from manufacturers. With more of these contracts being written, there's more raw material to bundle into aircraft ABS, which can keep boosting sales of the bonds.
"We have a lost generation of aircraft that were supposed to be produced that weren't," said Douglas Runte, a managing director and head of aviation debt research at Deutsche Bank. "There's less supply of new aircraft than there is demand causing people to turn to the used aircraft market, which is the land of aircraft ABS."
It's been a difficult few years for the securities, Runte said. Kroll Bond Rating Agency downgraded 81 aircraft asset backed securities in 2020 as the coronavirus pandemic grounded planes globally, for example.
"The industry effectively had an unimaginable 10 standard deviation event," Runte said. "It's not even a black swan. It's a black dragon. It's something that hasn't yet been found but maybe exists in some nether world that we haven't discovered yet."
'Liquidity Channel'
With the increasingly optimistic fundamental backdrop and most of the pain having eased, issuers are taking notice. Castlelake, for instance, recently got term loan financing to buy more than 60 planes, and will potentially refinancing the debt in the ABS market some time next year, Bloomberg reported.
"The recovery in the ABS market provides another liquidity channel for smaller lessors to whom we sell aircraft, which is a positive for our aircraft sales activity," said Ross O'Connor, the chief financial officer at Avolon, a global aviation finance company. "Avolon has used the ABS market as a trading distribution channel in the past."
Lessors make up more than half of the world's commercial fleet, compared with around 30% at the turn of the century, according to a report from KPMG LLP. Lease rates have increased as have asset values, according to KPMG.
O'Connor said that both lease rates and asset values have recovered strongly in the past two years because of the undersupply of new aircraft that's expected to persist.
"This is particularly true for older aircraft where airlines are looking to extend leases to ensure they have the capacity they need in their fleets due to delayed delivery of new aircraft from Airbus and Boeing," he said. "Across every major asset type and vintage you've seen strong gains in lease rates and values."
While the ABS market is becoming more efficient, Ed Cong, a partner at Marathon Asset Management, said he is still not expecting tremendous growth year over year.
"There are not that many aircraft lessors that fund via securitizations," Cong said. "It's hard to see an explosion of growth away from the current pent-up supply, but I think we see steady growth going forward."
The Fed started a rate cutting cycle last month, a positive for aircraft lessors looking to borrow money. But many borrowers are still finding it hard to sell the riskiest portions of the notes as investors turn to the most senior securities. Buyers of equity, as the tranches are called, were burned by losses during the worst of the turmoil. That will likely keep a lid on the market and keep it from shooting back to 2021 levels.
--With assistance from Charles Williams.
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