While the subprime meltdown kept reverberating through global credit markets during the past two weeks, a breakthrough transaction quietly priced in Brazil, and ironically, the deal is a securitization of residential mortgages.
On August 10, Banco ABN Amro Real sold a R$99.3 million ($48.8 million) RMBS, with the R$86.4 million senior piece going for 9.57% over the Taxa Referencial de Juros (TRJ), a savings deposit index, according to a market source familiar with the deal. The yield means the deal priced at a premium of 101.59, testament to the appetite for this novel instrument, while the rest of the world was caught in the subprime whirligig. Retail investors bought into a third of the senior notes, with banks grabbing the rest.
Fitch Ratings gave the senior piece a AA(bra)' rating on the national scale.
The transaction is apparently the first 15-year domestic deal from a nonpublic entity and the first security linked to the TRJ. But there's another reason it might one day be remembered as a watershed: It is the first RMBS in Brazil from a commercial bank in recent memory. A market dominated by construction companies cranking out tiny volumes could start witnessing the arrival of the big boys.
While the environment in Brazil is much more conducive today to bank-driven RMBS than only a couple of years ago, there are still obstacles to building a sector the size of Mexico's or of other advanced emerging markets.
One of the most welcome recent changes in Brazil is the introduction of the fiduciary lien. In a fiduciary lien, the bank holds the title, which streamlines the process of foreclosure by making it more difficult for a defaulted borrower to go to the courts to forestall a home's repossession. This contrasts markedly with the traditional mortgage in Brazil, where foreclosure typically takes seven to eight years, according to Bernardo Costa, an analyst with Fitch Ratings. A bank can repossess a house with a fiduciary lien in as quickly as a year, although the process can take up to two years if the bank attempts to reschedule the borrower's debt payments. The fiduciary lien was created in 1997 but started to catch on only in the past few years.
In the case of ABN's deal, fiduciary liens consist of 30% of the underlying pool, while traditional mortgages make up the other 70%. But with current origination skewed to fiduciary liens, future RMBS are expected to hold more and more of this type of loan.
More confident in their ability to enforce a defaulted fiduciary lien, banks have been able to improve terms for borrowers. That, coupled with falling interest rates, has sped up origination. Also, retail investors now enjoy an exemption on withholding tax for any RMBS they hold. This was clearly a draw for retail buyers in ABN's deal, according to the market source. This class of investor might prove a reliable base of buy-siders for future RMBS as well.
A few wrinkles remain, however. A particularly irritating one for bank originators is a local regulation requiring them to keep 65% of their assets in real estate-related investments. As these are broadly defined, the assets don't have to be mortgages. But the rule still acts as a disincentive to sweep mortgages off the balance sheet. Some players are hoping that once regulators see an RMBS market starting to function, banks can effectively lobby to have this rule eliminated or changed in order to foster more securitization.
A recent report by Standard & Poor's also cited the lack of standardization and regulatory uncertainty as two other hurdles to an active RMBS market.
Most RMBS so far in Brazil have come from construction companies. Often they originate the loan to a borrower while the project is still being built, according to Costa. Since they don't have the same credit checks or salary verification systems as banks, this is a way the lender can protect itself against shaky borrowers. "If [the borrower] defaults during the construction, you don't have to kick anyone out," Costa said.
ABN Amro's transaction was backed by a pool of fiduciary liens and traditional mortgages with a weighted average seasoning of 27.3 months, a weighted average LTV of 43.67%, and an average property value of R$323,086. The property value corresponds mostly to mid-to-high income borrowers, with 80% of the mortgages located in the state of Sao Paulo. Costa said that a good deal of the borrowers were existing ABN clients, and that the bank had a reliable internal scoring system for them.
Oliveira Trust is the fiduciary agent on ABN's deal, a role analogous to the backup trustee in the U.S. Brazilian Securities, the securitization company that issued the deal, also performs trustee functions.
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