Two giants of the subprime securitization world, Conseco Finance and Advanta Corp., may not only have survived their near-death experiences from last year, but are beginning to see the light at the end of the tunnel, sources say.
In addition to skyrocketing stock prices for each company since the beginning of the year, investors were paying close attention last week to a significant rally in the trading of Conseco paper: two-year notes were trading four to five points tighter; the company's outstanding paper was trading at distressed levels only a few months ago. While there may not always be a direct correlation between stock price and bond performance - stock price is usually determined by other economic factors - ABS investors were nonetheless intrigued by each company's respective rebound.
"Their corporate debt has really started to take off, so this could be the start of something," said Michael Hoeh, an ABS and MBS money manager at Dreyfus Corp. "The company is turning the corner."
Indeed, Conseco's stock price is up more than 25% year-to-date, and up more than 60% since mid-December (from $9/share to $15.06/share), according to a company memo. Advanta's stock - certainly boosted by the recent sale of its mortgage business to J.P. Morgan Chase (JPMC) - is up 59% year-to-date, leading some observers to believe that the company may also be coming out of the woods. From a low of 6 1/8 on Nov. 22 of last year, Advanta's stock was at 14, just days after the announcement of the Chase purchase.
"When stock prices go up like that, investors certainly view that as a positive, and it usually means the company's bonds are doing okay," said Dan Castro, the head of asset-backed research at Merrill Lynch. "After all, the bond holders get paid before the equity holders do - the equity guys are the last guys to get paid. Moreover, ABS are credit-enhanced, and perform even better than a company's unsecured debt."
"Both of these companies will survive and likely rise out of the ranks of fallen angels," added Michael Youngblood, managing director of real estate research at Banc of America Securities. "Conseco's CEO] Gary Wendt has put in place an ambitious but feasible approach to rebuild the company's finances by this year, and they are right on schedule."
Moreover, with a slowing economy, investors are most worried about the looming spectre of bankruptcy, so the increase in equity price can certainly be construed as a positive. "Last year, Conseco was rated one of the worst performing stocks by S&P," said another investor. "But now they have brought in some really smart people and made some material changes as they emerge from near-bankruptcy. I think there is definitely the possibility of a bright future here."
A New Start for Conseco
From a collateral-risk standpoint, however, not much has changed for Conseco; after all, it is still primarily an insurance company, and subject to the ups and downs of that sector. However, analysts say that the mortgage unit had represented as much as 35% of the company's business at its peak, and certainly comprised a large part of the securitization universe. However, there are many signals that the company is getting a better liquidity position recently, implementing improvements to its underwriting process and building market confidence once again.
"I would say that I'm cautiously optimistic about Conseco," said a rating agency debt analyst who has been following the company. "At least for their finance company side, there has been a lot of restructuring and new hires, and they are not all that focused on volume. I would say that they have gotten past some of their problems and there are brighter prospects."
"The problems were really with the accounting methods for these companies, rather than a lack of competence of origination or diligence in servicing these products," said BofA's Youngblood. "The firms booked retained interest at prepayment speeds that were patently too slow. When market conditions compelled them to re-mark at more realistic speeds, it wiped out the firms' equity. There really were not operational issues here. Advanta and Conseco Finance were two fine operators."
And they may soon reclaim their reputation in the securitization markets: Industry observers are calling the decision of Conseco's board to elect former GE Capital executive Gary Wendt as the company's chairman and CEO an "inspired decision." In a relatively short span of time, Wendt has enacted a "Restoration Plan" that has brought the company further away from financial danger. Since early September of last year, the market value of many of the company's bonds was up between 30% and 40%.
Advanta: A Secret Sale That Saved a Company
In Advanta's case, the sale of its mortgage business to JPMC will provided the company with real cash and allowed management to focus on other businesses. Observers are calling the deal a "win-win" situation, as Advanta's stock has spiked and its debt is being paid off, while JPMC could very well be positioned to be the premier mortgage banking company in the world, as it is building one of the largest residential mortgage lender and servicer platforms.
With the proceeds received from the sale, Advanta intends to pay off the medium-term notes that are currently outstanding, and the company should be able to further deleverage over the next few quarters as maturing debt is not replaced, according to Thomson Financial First Call.
Following the transaction with JPMC, however, the company's business card unit will account for the majority of Advanta's operation, with the leasing business as a minor contributor. While the sale of the mortgage business is a significant positive for Advanta, the company has only reaffirmed a 30% to 50% target growth rate for the business-card operation, making it difficult to determine the outlook for that particular business.
"The outlook [for Advanta] is good, not great," said an analyst report from Prudential Securities. "Although we believe the possibility exists for such growth, given the weakening operating environment, we remain skeptical."
Even more sketchy were the ghostly details of the sale to Chase. Not only was the transaction shrouded in secrecy, but the market cap on Advanta's stock at the time of the sale was less than $300 million (it is now $345 million), while Chase Manhattan Mortgage Corp. agreed to pay $1.6 billion for Advanta Mortgage's assets. Moreover, Advanta Mortgage had $15.8 billion in servicing on its books, (about $8 billion of which is Advanta's "owned" servicing) and Chase had been Advanta's biggest subservicing client. The servicing assets, therefore, were sold for roughly 10% of the value of the servicing on the books.
"This is just a bit strange," an investor commented. "Nobody is saying a word about it."
Small Business Cards
Similar to last year, Advanta is looking at three deals for 2001 out of its small business credit card portfolio.
"When we originally launched the public securitization program, we had planned on doing three deals pretty quickly out of the gate, to refinance our existing portfolio," said Michael Coco, head of securitization at Advanta.
Having already placed the first two public deals, Coco anticipates bringing the next one within a month or two. Advanta expects doing three deals before the end of the year, depending on portfolio growth.
Advanta announced last week that its business card portfolio, at $1.66 billion, grew 66% year-over-year. Advanta expects between 30% and 50% growth in the portfolio this year, depending in large upon economic conditions.
"It's still not a drastically big portfolio, so a 30% to 50% growth there we think is achievable, based on the responses we are getting on our solicitations," Coco said.
The company expects to issue guidance in mid February as to how its portfolios are performing with respect to a slowing economy, as well as the seasoning of the portfolios.
"I think most issuers are expecting to see some increase in delinquencies, at least in the first six months of the year," Coco said. "I think we expect to see some of the same. I think it's reasonable to expect to see some increase in delinquencies."
The company brought three business card deals to market last year, two public and one private, for approximately $1.1 billion in proceeds.