With the creation of the Euro in January 1999, the floodgates were opened for the further globalization of the asset-backed market. The advantages were twofold: As they no longer needed to swap to local currencies, investors abroad developed a much larger appetite for the paper, and U.S. ABS issuers realized the economic advantage of diversifying their funding base by expanding internationally.
Now that market participants are predicting that asset-backed swaps off of U.S. assets going abroad may reach as high as $8 billion this year - increasing from approximately $6.7 billion in 1999 - issuers and underwriters alike are looking to European swap deals and swap providers in an attempt to take advantage of the better execution and savings associated with issuing in Euros.
"The major ABS issuers in the U.S. have thought that diversifying their funding base is a good idea, and that making their businesses more global is a good idea," said Kurt Sampson, an analyst in the London-based structured finance ratings group of Standard & Poor's Ratings Service. "You often see the major issuers making roadtrips to Europe, speaking to investors and educating them about their companies and products."
"The European ABS market is exploding, and there is a bigger appetite from U.S. issuers," said Timothy Moran, assistant director of global derivatives fixed income at West LB, a swap provider in the U.S. public market ABS market. "With the Euro, there is a new homogeneous investment base, and U.S. issuers need a swap to do these deals. You can save several basis points by issuing in Euro."
West LB has already executed five swap deals for both Citibank and MBNA since July 1997, and expects to complete more than 20 swap deals in 2000. In 1999, U.S. asset-backed issuers executed six public market non-USD transactions.
By taking floating-rate U.S.-denominated receivables deals and swapping them into fixed-rate European currency-denominated deals, swap providers can often arrange "balance-guaranteed" swaps that offer better execution and no prepayment bans.
"In this way, there is often no swap-related prepayment risk, which is a huge plus," Moran added.
Despite all these advantages, the decision to swap dollars into Euros is always based on market conditions and economics. Banks look at how much it would cost to swap dollars into Euros. "If swap spreads are wide and it cost too much, and the investment bank decided that it is too expensive to go to Europe with it, then diversifying the funding base is not worth it," added S&P's Sampson. "But swap spreads fluctuate. The guys in the states who are pulling the trigger on where it's sold are going to base it on economics."
While there were six non-dollar issues last year, West LB's Moran predicts that there will be "between eight and ten non-dollar issues this year off of U.S. assets, all told."
The swaps to the Euro currency off of UK assets began last year as well. In September, West LB conducted the first Euro issue of UK non-conforming mortgages for Kensington Mortgage Co.
Citibank was an innovator in the market, issuing the first swaps in a trust back in 1995. Since then, European investors have grown accustomed to the bullet structure of these deals, and most of the deals have been issued as "hard bullet" securities.
"The investors like bullets, as opposed to an amortization deal," Moran said.
In the meantime, issuers and swap providers are looking for new asset classes that can possibly fit swaps in their structures.
According to Sean Peter Tully, managing director at West LB, the market will eventually be seeing bullet retail auto deals, adding a new wrinkle to the international ABS arena.
"Student loans are next to hit Europe as well," he added, mentioning that Treasury bill-Libor swaps have not been done yet in this context. "I wouldn't be surprised if you see that this very year."
