The European Central Bank (ECB) revealed changes to its repo liquidity program last week. The moves are intended to make the repo liquidity option less appealing for ABS issuers.
However, market sources said that while the moves will bring more punitive charges, banks might still find the ECB's lifeline a cheaper option as the current credit crisis intensifies. This is because of the way the program's readily available liquidity compares with what the wholesale capital markets have on offer.
"The impression we had that the ECB got a bit concerned in respect to the immense size of ABS funding proved to be right," Unicredit analysts said. "The haircut announced yesterday is obviously designed to curb further ABS funding. In the end, it is a restrictive monetary policy action as it makes ABS funding more expensive and it limits the theoretically available amount of funding."
Under the new terms, banks looking to repo ABS paper will have to pay an extra 10% and funding will rise by two basis points, based on the current 20 basis points spread between repo and Euribor. The impact on these products is therefore small. Previously, three- to five-year floating rate paper was subjected to a haircut of around 5.5%. With the changes incorporated, all market-traded European ABS will be haircut at 12%.
ABS that is not market traded, like the retained deals that have flooded the market over the past year, will have a further 5% added. Products with the "theoretical value" that is likely to apply to CDOs will also get a further 5% markdown.
This 16.4% haircut falls more in line with the liquidity advance amounts of the Bank of England's (BofE) special liquidity facility, which also applies along with the extra 5% markdown for more illiquid assets. The changes will take effect from February 1, 2009.
The other major change by the ECB was a tightening of the relationship between banks and pledged assets. Banks will no longer be permitted to post ABS paper for which they act as currency swap counterparty. The new rules also prohibit any ABS where the seller provides liquidity support of more than 20% of the nominal value of the security; analysts said that this specifically targets ABCP, which conduits are usually 100% backstopped by the sponsor bank.
The ECB will also require that any ABS posted as collateral be publicly rated and accompanied by a rating agency pre-sale report, as well as ongoing quarterly transaction and performance updates.
Market analysts said that the new rules are unlikely to dissuade banks from using the ECB program as a funding substitute. "We see the deeper financing haircuts posing as a risk (albeit modestly) to European ABS market technicals, but as a greater threat to banking sector liquidity, particularly of course to the marginal banks that became heavily reliant on the repo window," Deutsche Bank analysts said. "Our analysis suggests that this change alone is unlikely to compel many banks to return to the securitization capital markets."
Deutsche Bank added that the ECB window, even with the changes incorporated, remains the most cost-efficient funding option if borrowers give no consideration to the term or duration of financing, as the BofE's SLS does. The SLS looks comparably attractive, considering that it provides longer-term funding.
"Term wholesale financing through either securitization or unsecured senior bank debt remains noticeably more expensive (ignoring duration)," analysts said. "We therefore expect Euro-ABS issuers to continue tapping the ECB's window going forward."
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