Even though the home equity and mortgage sectors of the securitization markets have experienced dramatic tightening since 3Q03, there is still room for appreciation in 2004, depending on where investors place their bets. In a pair of conference calls last week, researchers from Credit Suisse First Boston and UBS gave their respective opinions as to where value lies in the current market, and they shared surprisingly similar opinions.
Tom Zimmerman, home equity researcher at UBS, noted that unlike other sectors of the ABS market, home equity spreads have yet to reach the all-time tight levels seen throughout mid-2002. This, combined with the continued tiering experienced among issuers, leads to opportunities, Zimmerman added.
"The top tier in the sector, Chase [Manhattan], [GMAC-RFC] RASC, routinely trade 5 to 10 basis points tight to the next tier down in credit," Zimmerman said. "There is tiering by both originator and collateral, and there is value down in credit right now."
Investing in home equity subordinates should prove profitable in the near term, according to Zimmerman, who noted that because the immense demand of late is driving CDOs currently ramping up, "spreads may tighten because a CDO manager, who may be 80% to 85% ramped up, will likely pay up to complete [the initial investment period]."
CSFB's head of mortgage strategy, Satish Mansukhani, also recommended a move down in credit for investors to find hidden value. But in particular, Mansukhani cited Alt-A subordinates.
Both researchers recommended Wall Steet. principal finance conduit paper as offering the best value in the current market. CSFB's Mansukhani named his own firm's (as well as similar dealer shelf) issuance as offering a yield pickup and protection from extension.
"The CSFB Alt-A conduit offers a 10 to 12 basis point pickup versus CMO structures," said CSFB's Mansukhani. "And the structure can withstand a 300 to 400 basis point rise in interest rates."
The advantage of the dealer shelf supply is that it's viewed as second tier for reasons that, while justified during the trend's incipient stages, are no longer true, according to research from Zimmerman.
"Many investors point out adverse selection in the pools, performance of third-party servicers and a lack of liquidity for the names," Zimmerman said. The reduced liquidity, he explained, was due primarily to investment banks typically acting as sole managers so distribution via co-managers is nonexistent.
"Now, after the last two years of supply, the collateral between the dealer shelf and even the standard originator is almost identical; servicer performance is closely watched and most secondary trading desks view them as homogenous," he added.
CSFB, meanwhile, favors Alt-A product to home equity or subprime MBS, in part because its non-conformance status leads to cheaper levels.
"Both prime jumbo MBS and subprime MBS, which are at the opposite ends of the credit spectrum, have full documentation, owner occupants, and are single properties," CSFB's Mansukhani said. "Alt-A, by nature, lacks one of the above."
As the Alt-A market grew, so did the types of Alt-A mortgage products lenders offered. "Alt-A is now in all mortgage sectors, 30-year and 15- year fixed-rate, as well as 3/1, 5/1 and 7/1 ARM product," Mansukhani said, illustrating the vast opportunities available in Alt-A.