BARCELONA Plagued by tight spreads, participants in the global ABS market are searching for new structures and asset classes to bring about more profitable deals.
That was a common theme among speakers at Information Management Network's global ABS summit held here last week. While the lament over tight spreads is hardly novel, the tone has changed somewhat from last year's gathering, with attendees appearing more resigned to easy money, as they shift their energies from playing by the rules to altering them.
And as the participants await a shift in the currently benign credit cycle, much attention has turned to sourcing with synthetic collateral, maximizing leverage and, in anticipation of a downturn, creating deals with multiple credit views. After all, that is what happens after more than a year of ABS credit spreads that have hovered at or near all-time tights a demand-fed phenomenon that has led many to question the credit quality of new deals. As David Basra, managing director and co-head of European securitization at Citigroup put it, "I'm sorry, but a monkey could have made money in the last four years. But now, going forward, people are going to need to differentiate a little bit."
Loosening credit standards
Panelists agreed that credit standards have indeed loosened, as demand from both new and old market players have continued to prompt a glut of structured finance issuance. "We are seeing credit quality, credit structures, becoming less conservative," said Steve Curry, European head of capital markets at ABN Amro. And while several participants noted that the structured finance market has proved resilient against many factors that afflict the corporate bond market leading to the justification for less risk-based compensation the scale may be beginning to tip too far. They agreed that more attention must be paid and that neither spreads nor credit standards are expected to deviate from their current trends until a so-called credit shock reaches the market.
"Peoples' minds tend to forget about credit flaws in the past," said Pat Kearns, head of credit for the Bank of Montreal. "We are seeing some deals that would not be done otherwise." Time should be spent analyzing deal waterfalls and underlying collateral quality prior to simply stepping a notch or two down in credit in order to pick up a couple basis points of spread, he said. Yet, some have become wary that structural differences in how cash is dispersed throughout the capital structure could mean that triple-A rated tranches will not yield enough to make the investment worthwhile. "I certainly see more and more of a push toward the middle of the credit curve," Curry said.
What looks good
So where do speakers here see the market going, and where are there investments worth purchasing? While many feel that the ABS market is nearing a calmer, more mature state where spreads are expected to stay relatively tight as players become more comfortable with asset performance history there are is still some low-lying fruit.
Panelists said that while structural innovation within the market may not be as "marked" as it has been in past year, it would still occur. Robina Barker-Bennett, managing director at CIBC World Markets, said that most of the new structures in the market incorporate "tweaking around the edges." Structural improvements have been made to new deals both as a result of lessons learned in the past and in order to generate more yield.
"You're not going to get massive (developments) that are going to come in and surprise you," Barker-Bennett said. But one marked development within the European CDO market has been the development within the CLO sector a bastion of yield. "It is the one place where there is good arbitrage left," she said. What's more, the International Swaps and Derivatives Association's release of standard documentation for loan-only credit default swaps is expected to help bolster CLO market issuance.
In terms of specific asset classes poised for growth, Citigroup's Basra pinned the next developments within the market to occur in the pension and insurance sectors, as well as in the emerging markets. "There should be more deals in each of these sectors," he said, adding that the nonperforming loan market in Germany is also set to heat up.
Panelists noted that the nonconforming market in Europe would inevitably pick up steam as borrowers are expected to enter into a more difficult economic environment. In addition to Germany, Italy is beginning to show signs of a pickup in nonconforming borrowing, Curry said.
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