As year-end reviews of the CDO market trickle out from the banks and rating agencies, one might best describe the mixed bag of viewpoints as "steady-as-she-goes." While the temptation to pop open a bottle of bubbly was there, market players likely cracked open six-packs instead. Surely there were no $60,000 wine-laden tabs run up in fancy restaurants on New Year's Eve not by CDO pros, at any rate.
According to Moody's Investor Service, the overall U.S. volume of deals it rated was up in 2002, reaching approximately $65 billion versus $57 billion in 2001 (including all but super senior pieces in synthetics). In all, Moody's rated 160 CDOs compared with 151 deals in 2001. The year saw a significant increase in cash-flow CLOs, very few high yield CBOs, and a continuing movement toward synthetic structures. Structured finance-backed and the "other" category made a sizeable chunk of the market, approximately 20% to 25%.
"The growth we saw in the market was in line with our expectations," said Jeremy Gluck, managing director at Moody's. "There was a flight to transactions that have performed better, namely the CLOs and re-securitizations."
Morgan Stanley's CDO analyst Sivan Mahadevan described 2002 as a year of "mixed performance but maturing products," during the bank's ABS/CDO Research Roadshow last week.
However, analysts at UBS Warburg were not so even-keeled. While volume for December 2002 was $8 billion, overall CDOs "limped across the New Year finish line beaten and bloody," analysts wrote in their wrap-up.
As expected in a post-Enron year, FASB concerns helped weigh down the CDO market. JPMorgan Securities analysts noted the CDO market experienced a slowdown "due, in part, to the uncertainty surrounding consolidation of ABCP conduits and CDO special purpose vehicles." Continued ratings pressure also contributed to the market's slow pace.
If there was a CDO record set in 2002, it was for downgrades. Moody's reported that in the U.S. ABS sector, in the first half of 2002, 80% of all asset-backed downgrades were CDOs.
According to researchers at Barclays Capital, "this huge number of negative rating actions is unprecedented," as the total number of downgrades that occurred in the first half of 2002 represent 61% of all CDO downgrades ever. Arbitrage high yield proved to be the riskiest sector, accounting for 75% of all downgraded tranches in the first half of 2002; arbitrage CLOs accounted for 8% of all downgraded tranches. Barclays calculated arbitrage CLO issuance was up from last year, reaching $16.3 billion via 43 transactions (at November's close) compared with $14 billion via 29 transactions in 2001.
As the majority of CDO volume came early in the year, market participants are varied in opinions as to how 2003 will progress. Analysts at UBS said high volume in the first half last year "does not bode well for volumes early in 2003." Structured financed-backed CDOs will continue to grow and high yield CLOs and IG bond CBOs will stabilize, while there is "no sign of life from high yield bond CBOs," UBS said.
Morgan's Mahadevan predicts that issuance from 2001-2002 vintage corporate CDOs will perform well while many ABS CDOs from 1999-2001 will perform poorly.
"Our best opportunities will be found in double-B high yield structures," Mahadevan said. Over the coming months, Morgan's team predicts investors will look for dented-up CDOs that may have been overly punished by the market. Overall, Morgan Stanley anticipates 2003 U.S. ABS issuance to reach $390 billion.
Several CDO analysts made unofficial predictions for U.S. CDO market issuance (excluding synthetics) by dollar volume: Banc One Capital Markets, $65 billion; Credit Suisse First Boston, $50 billion; Deutsche Bank Securities, $50 billion; Nomura Securities, $75 billion. Separately, Merrill Lynch predicts $165 billion, a figure that includes synthetics.