PHOENIX - With the rapid growth over the last few years of securities arbitrage vehicles in the asset-backed commercial paper market, ABCP is increasingly being looked at as integral to liquidity and pricing of term securities, according to various industry professionals at last week's ABS West conference.
"The conduit market has been playing an increasingly more important role of a liquidity provider in the subordinate sectors," said Jorge Calderon, managing director and co-head of ABS at Deutsche Bank. "In large, part of that is do to the fact that the conduits tend not to be managed on a mark-to-market basis."
Credit Suisse First Boston estimates that approximately 40% of the near $700 billion outstanding ABCP is backed by ABS from the term market.
"You're talking about $280 billion," said Joseph Donovan, managing director at CSFB. "That's a lot of bonds."
However, as was a discussion at several panels in Arizona last week, there are several developments facing the ABCP market will inadvertently impact the term market.
Where conduits currently enjoy off-balance-sheet treatment, and no capital risk weighting for maturities under one year, the BIS Proposal guidelines could end up adding a 20% risk weighting/conversion factor against the ABCP assets. While most players don't believe these developments will kill the market, the increased cost of funding will push the yields out on the collateral base, as a natural course.
In turn, because ABCP securities arbitrage vehicles have become so substantial an investor base, this increased cost of funding will likely widen spreads on the term securities that the vehicles feed on, CSFB's Donovan said.
According to Donovan, arbitrage vehicles in the ABCP market are the single biggest buying base for triple-A floating-rate credit card bonds and collateralized debt obligations.
Rise in Synthetics
As a trend, conduits are increasingly making use of synthetic exposures, such as credit-linked notes/credit default swaps, where they might have used traditional monoline guarantees. According to Everett Rutan, an ABCP analyst at Moody's Investors Service, synthetics could play a role in dealing with the BIS guidelines.
"The [swap counterparty] can put a price on almost anything," Rutan said. "What you do is you use that to remove the risk. When the regulators come in, you show them the swap, and you can show them the price of the swap. You have a very strong argument for the regulators that you've dealt with the risk."
West LB's landmark deal, Paradigm Funding, is an example of a vehicle making use of a credit default swap in place of a traditional guarantee. The counterparty in this model also enjoys better risk weighting than if it merely wrapped the deal, said Michael Fitzgerald, and executive director at West LB.
