The term subprime has become squarely placed in the "ad nauseam" sphere of usage - with sources at European investment banks becoming sick of hearing about (and talking about) the stateside debacle.
As a result, firms are beginning to derive ways to pass on riskier residential mortgages as bankable - although rating agencies say they aren't fooled.
Enter the "alternative" Pan-European RMBS. The finest example, Deutsche Bank's Eurohome Mortgages 2007, involves a 300 million ($41.4 million) portfolio of mortgages from Italy and Germany. Seen as a good solution for dealing with RMBS based on the bank's riskier loans, the deal has its fair share of critics, who charge that DB is simply trying to repackage less-than-prime as prime.
"There will be more diversification across more jurisdictions," said an analyst at a European investment bank, on the future of RMBS. "But this kind of pan-European deal does not get rid of the current problems with lenders, who are getting overly aggressive."
The analyst added that he felt Deutsche Bank derived Eurohome Mortgages as a quick fix for quick profit, and as an easy boon to shareholders, whereas other banks, such as his, were looking at longer-term deals. He offered as proof the Eurohome's relatively small size and added he felt the wide spreads were indicative of a deal that was riskier than it seemed on paper. "They are selling subprime as prime," the source bluntly added.
Sources at Deutsche dismissed those allegations, adding that there is no all-encompassing definition of subprime on the Continent. Furthermore, the Eurohome deal's transparency prevents any trickery.
Indeed, Martin Lenhard, an analyst at Moody's Investors Service, clarified that the rating agency classified Eurohome as prime, and added that the deal originated well before the subprime situation in the U.S. developed.
"For Eurohome Mortgages, it is a niche-market deal, with 102% LTV in Germany and around 73% LTV in Italy," Lenhard said. He explained that German borrowers in the pool have put down little or no equity, but they have good incomes that can absorb higher monthly installments.
A major difference compared with the bank's existing mortgage lending business is that these loans mainly originated via brokers instead of through the branch network, thus earning the "alternative" title.
At any rate, Deutsche is not intending to slow its latest RMBS measures, whether classified as nonconforming, alternative or some other terminology. "We expect to see further growth of such nonmainstream' mortgage businesses in Europe - that is, mortgages based on expanded lending criteria but limited generally to prime borrowers," the bank said of its future plans.
Subprime in Slow Motion?
Fitch Ratings released a report in early February 2007 entitled Adverse Credit Labels in UK Non-Conforming RMBS. In that report, Fitch declared that 50% of mortgages are "indefinable" in the U.K. and are tweaking rating methodology to deal with new RMBS structures.
Such is the condition across Europe, where U.S. subprime contagion has yet to materialize, but there is still heavy subprime contagion mentally. Some investors fear that, though the symptoms may be different, the illness is the same.
"In general, the market is tough, as there are hardly any takers of risk, especially for subprime RMBS," said Alex Lazanas, head of ABS trading at Societe Generale. "The case for contagion of the U.K. subprime market from the U.S. situation has changed from fundamentals are different, so potential widening is mainly due to headline risk' to real credit risk is increasing, so let's reduce exposure.'"
This happened, Lazanas said, as confidence in the ability to refinance in the current higher interest-rate environment has faded, in the light of concerns about house price increases.
The effort to reduce exposure has also taken its toll on sectors that are in oversupply, such as CMBS and Spanish RMBS, which have also recently been in the spotlight. The former have been in the news due to incidents of structural mishaps or collateral underperformance, whereas Spanish RMBS have been hit by concerns over a slowdown of the local real estate market.
As a result, "protection offers in subordinated tranches are as scarce," Lazanas said, "as in the case of subprime RMBS."
Over the the last few months, U.K. nonconforming triple-B bond spreads have gone from 90 to 130 basis points, and credit default swap spreads have almost doubled, from 100 to nearly 200 basis points (see Europe market story p.28). In the past couple of weeks, cash spreads widened a further 10 basis points, and even CDS offers at 200 basis points have vanished. Liquidity is thin, and only a small number of clients are selectively adding risk, according to SocGen traders.
Fitch also has its worries that market problems are filtering through to securitizations, as many lenders have offered "near prime" securitizations over the last year, according to a report. "Unfortunately, the definitions of near-prime and various other nonconforming categories are not standardized across the industry, so such labels alone do not offer investors a consistent picture of the types of loans that make up the portfolios," said the rating agency.
Checking Growth
The European Securitization Forum (ESF) also weighed in on the issue of future forms of alternative and nonconforming Pan-European RMBS. The institution believes that firms should continue to look for more ways to package ABS deals, but warned against getting too pushy.
The ESF, in fact, is encouraging changes to the existing European regulatory infrastructure to encourage greater levels of nonconforming Pan-European RMBS origination, according to Rick Watson, managing director and head of the ESF.
"We want the market to develop, but it needs to develop gradually. Capital markets need to be properly regulated and enforced," Watson said. "There are still obstacles, as there are 25 member states in the EU, all with their own consumer mortgage regulations."
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