The two-month-old synthetic index for home equity ABS is arguably becoming less volatile and more transparent as an increasing number of investors move into the sector and a wider array of data becomes available in order to track pricing patterns, according to market participants. Furthermore, investor expectations of a softer landing for the housing market is expected to ease widespread credit concerns in the near-term, according to JPMorgan Securities.
Meanwhile, tiering within the single-name home equity ABS credit default swap market has become more pronounced, a trend that is exacerbated as hedge funds look to sell protection on the lowest-rated tranches in the capital structure and as CDO managers sell protection on the highest rated pieces, according to traders at Deutsche Bank. This is a situation that has left dealers with an unattractive basis trade on their books and has resulted in more CDO managers have turning their attention to cash new issue deals or to the index, they added.
JPMorgan announced last week that it will begin tracking spreads and pricing for the ABX.HE indices. The firm will also start focusing on single-name ABCDS and the cash home equity loan ABS market in a monthly report. The first such report revealed that spreads for the triple-B tranche on the index closely mirrored single name prices until late February. By early March, spreads on the triple-B ABX.HE index tranche reached more than 140 basis points, while single-name spreads trailed behind at roughly 100 basis points, showing what appears to be the widest divergence to date. Meanwhile, triple-B minus index spreads indicated the widest gap from single-name spreads in late January, when the triple-B minus index spread topped out at more than 280 basis points, about 20 basis points above the 260 basis point spread shown at the same time for single-name triple-B minus home equity ABS swaps,
Overall, home equity loan ABS spreads across the cash and synthetic markets have tightened since the mid-January launch of the ABX.HE, according to JPMorgan. Volatility experienced early in the life of the index has subsided as more investors, such as macro hedge funds and corporate CDS investors, have poured money into the sector. Imbalances between those investors wishing to express a negative view on the subprime housing market and those with more bearish views on the sector was cause for initial mismatches in supply and demand fundamentals in early index trading. Aside from the single-A ABX.HE sub index, where there are fewer natural buyers, prices on the indices have consistently rose to reach new highs, JPMorgan found, and the spread between bids and asking prices has narrowed - indicating a less volatile environment.
Both cash and synthetic HE ABS spreads have continued to tighten in recent weeks. JPMorgan data shows the spread differential between home equity cash and CDS spreads has stayed near zero for the single-A tranche, while triple-B and triple-B minus spreads have proven more volatile. The basis between synthetic and cash reached more than 60 basis points in October before dipping to almost negative 70 basis points in December, for example.
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