The first "roll," or introduction of a new series of names for the ABX.HE, is expected to proceed smoothly this week, according to industry sources. That could be due in part to the fact that - in contrast to synthetic indices of corporate names - when the ABX.HE 06-2 series is introduced this week, a wave of cash is not expected to slosh to it from the 06-1 series. While the new series will be more liquid than the previous series, total outstanding volume is not expected to go to zero for many years, UBS analysts said. The index will also not switch on Wednesday from its current 20-name format to include more names, as some market players had hoped.
"Rolling is not a very complicated thing for people to do, and the dealers have also made an effort to help prepare clients," said Ben Logan, a director within Markit Group's product development group, which serves as the index's administrator. In a transparency boosting effort, dealers will continue to quote prices for the first index on a daily basis, he said.
Markit on Jan.19, along with 16 investment banks, launched the synthetic ABS index of U.S. home equity ABS, called the ABX.HE. The ABX.HE is comprised of five sub-indices referencing 20 tranches of subprime RMBS reference obligations ranging from triple-A to triple-B minus. A new index series is released semiannually (the first index referenced pools that closed in the 2H05, this series will reference those closed in the first half of this year); and the rules for selecting asset pools remain the same.
A number of eyes are trained on the continued performance of the ABX.HE 06:1 as its more seasoned reference obligations continue to mature and show their true colors - and how the two indices will trade relative to one another.
Lehman Brothers said last week it expects the existing series would trade up in price relative to the new series, "since investors looking to hedge housing risk are expected to roll their shorts into the new index." Meanwhile, long accounts - particularly dealers - are expected to remain long the old index in order to hedge against single-name positions from the 2H05 vintage, Lehman said. According to UBS, the most likely imbalance in the ABX.HE index market is long ABX.HE 06-1 deals that are locked up in CDO deals and won't be unwound for "many years," causing the other side of those positions to be stuck in a "short squeeze."
Over the last several months, dealers had been working to decide if and when the home equity ABS synthetic index should incorporate more than the 20 deals it currently references. Those interested in either creating a new index product or increasing the number of subprime deals included in each series of the ABX.HE index - perhaps to as many as 50 or 100 - said it was necessary to promote correlation trading. But some worried that changing the index too soon after it began trading in mid-January could cause some investors to pull out. Ultimately, that sentiment won out, industry sources said, although the idea will likely be introduced again in the future.
When the index rolls this week, a fresh set of new-issue deals will essentially double the amount of securities available for market players to reference - a fact that some say could be enough to deepen index liquidity over time, sparing the need for more than 20 names. Others point out, however, that it might create more pressure on certain vintages and heighten the effects of higher correlation. Because each new series will represent a vintage, investors will now be able to go short one vintage and long another. However, UBS wrote last week that the demand for putting on those trades will depend on the carry differential implied by the difference in the fixed rates for the two sets of indices.
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