PHOENIX - David Heike, head of ABS research at Lehman Brothers, started off last week's non-mortgage ABS research roundtable by likening the ABS sector to a Starbucks Frappuccino - frothy, steamy and rich.
It was impossible to escape "tight spreads" and "strong technicals" in Phoenix last week. "We have never before seen the technicals we saw in late 2004. There was a tremendous amount of money being put to work at the end of last year," said Chip Schorin, head of ABS research at Morgan Stanley.
Nonetheless, despite the ongoing quest for that elusive yield, Lehman's Heike maintained that on a relative value basis, the ABS sector remained attractive for the small spread pick-up versus corporates. Barring any credit or demand shock, panelists did not forecast any significant spread widening in the near term. The biggest risk currently facing demand is persistent overseas concern regarding the strength of the U.S. dollar and the potential impact that could have on the international investor base, Heike said.
Panelists acknowledged the slowdown in home price appreciation, yet eschewed the notion of a nationwide housing bubble. Home prices rose in-line with fundamentals, added Deutsche Bank Securities structured finance research head Karen Weaver, which points to a more localized problem concentrated largely in small Midwestern markets that rely on a single industry or company. Underwriting practices will likely become more aggressive as companies strive to maintain growth at the end of the cycle, Weaver added.
Lehman's Heike said that while the housing market bears watching, the slowdown in home prices will be a gradual one occurring over the next one and a half to two years. The strain on housing affordability has been more pronounced in metropolitan areas, he added, with the cost of homeownership rising by as much as 120% in some areas.
While subprime IO loans have shown no signs of distress, panelists were careful to note that these loans have yet to hit their reset dates. Currently, delinquencies on the IO product are 20% lower than on the non-IO loans, Lehman's Heike reported. To date, mortgage lenders have set the bar on FICO scores relatively high for IO borrowers, however, those scores are likely to come down as competition increases, he added.
For the non-mortgage investor, IOs have had a positive effect as they have allowed borrowers to consolidate their loans and leverage up non-mortgage debt, Theresa O'Neill of Merrill Lynch noted. However, she remains leery of the product.
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