One of the CDO market's best innovators, AXA Investment Management, is said to have a first-of-its-kind, actively managed single-tranche issuance vehicle in the works via JPMorgan Securities.
According to sources, the transaction is being called ARIA, in line with other AXA musically inspired deal names. Through JPMorgan's management, ARIA can continually issue new series designed to meet specific risk and rating appetites in just about any currency. All ST issuances will reference the AXA actively managed portfolio.
Like most synthetic securitizations, issuances from ARIA will not be part of a waterfall structure, and the deal will not issue equity. Rather than taking on the risk of the nominal size of the portfolio, ST issuances from ARIA will reference the "sensitivity" of the portfolio. Theoretically, by placing single tranches with investors, JPMorgan is delta hedging its risk to the AXA-managed exposures. It is understood that ARIA trading gains will be added to subordination.
Most of the features of ARIA resemble those found in other ST CDOs. The actively managed aspect of the deal is what makes it particularly unique.
The glory years of Jazz
Though party to one of the more battered vintages of investment-grade corporate CDOs, AXA Jazz CDO I, which began ramping up in late 2001, has piloted the credit cycle quite successfully. In fact, by some measures, the deal is more solid now than it was at new issue.
So how did AXA buck the trend? Jazz, by all accounts, is a heavily managed deal. In fact, one source looking at the bonds called it a "trading machine." In essence, Jazz is a virtual cash and derivative brokerage, with tranched-out cashflows and a credit-rated trading book. Jazz I has reportedly made more than a thousand trades since launch.
According to sources at Moody's Investors Service, at the end of April Jazz showed a weighted average rating factor of 316, compared with 313 when the deal closed in January 2002. Jazz's diversity score has increased to 75 from 63 while its senior O/C level is more or less flat to new issue. The equity has returned 17% annually.
At a recent CDO conference hosted in New York by Bear Stearns, AXA's Laurent Gueunier cited the success of Jazz versus its vintage to argue the merits in actively managed CDOs.
"For us, credit has to be managed," Gueunier said. "We have been asked to do a static portfolio deal, but we don't know how to do that."
At launch, the transaction was in every way an innovation to the market, with many features still difficult to replicate. At the time, managed synthetic arbitrage deals were a rather new development, as the market had historically been made up of static balance-sheet deals.
Also a novelty, Jazz I was considered the first CDO to include a significant portion of both cash bonds and synthetic exposures. This allows the manager to purchase protection on bonds it owns, shorting them to hedge the portfolio. Conversely, Jazz also has the ability to be long a credit in three ways. The CDO can have a cash position in a company, sell credit protection against the bonds and further trade into the return of the bonds by entering into a total return swap. It's understood that total return swaps are still rare inclusion in CDOs.
Currently, Jazz I includes about 33% cash. While Jazz I referenced investment-grade corporates, Jazz II, which launched in late 2002, includes the same flexibility but adds cash ABS to the mix of corporates and derivatives. ABS, mostly European, makes up about 40% of the deal.
In the Jazz CDOs, AXA keeps trading gains in the coupon rather than realizing them as cash gains and passing them through the structure.
"Instead of realizing trading gains in cash, we keep them as a spread differential between the original and the unwound position when we hedge an exposure with a credit derivative," Gueunier said. "Instead of paying equity right away, we are giving it regularly through the coupon payment, enabling future stable cashflows and rating stability."
AXA has three other deals outstanding, since 2002 - Khaleej CDO I, a $1.25 billion deal of hybrid CDS and ABS; Tempo CDO I, a $1 billion synthetic ABS; and, most recently, Overture CDO I, a $1.5 billion deal of hybrid CDS and bonds.
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