Even those who were most bullish on the RMBS sector at the start of 2003 were surprised by the actual volume that poured into the market this year. At the halfway mark, several investment houses revised their full-year predictions to account for the anomaly of supply. Currently, however, most researchers doubt this flow can be sustained in 2004.
Is the market right to expect such a slowdown?
According to figures reported by Morgan Stanley, European RMBS issuance to date has surpassed the $100 billion mark. U.K. RMBS issuance accounts for almost half of this figure with Italy, Spain and the Netherlands accounting for 10% to 15% of market activity. But with a rising interest rate environment in the U.K., and the development of the covered bond market throughout Europe, it's hard to imagine volume will be strong heading into the New Year, market analysts said
That said, the European securitization market is seeing growth in other areas and new asset classes, perhaps offsetting the anticipated decline in RMBS.
One new trend shaping up is the rise in term-trade receivables. "On the commercial side, the market has expected growth, particularly from the term-trade receivables sector for some time now," said Olivier Delfour at Fitch Ratings. "We have been seeing more and more prospects and an increased number of transactions that went live or were about to go live this year."
Fitch had expected this sector to take off for some time now and, judging by increasing inquiries, next year could finally see some healthy issuance in the sector. However, the concerns remain the same, said Delfour, still contemplating the seller/servicer risk inherent in these structures. "You can structure around all the financial exposure but it's very difficult to totally structure out the operational risks, and this is something that we pay a lot of attention to," he said.
A number of these trade receivable structures have historically been funded through the ABCP market. But changing dynamics for the conduits - be it Basle II or the cost of liquidity - have made this market less appealing to originators.
"These corporates have a large amount of trade receivables and are not as sensitive as banks to the amount of collateralization needed," explained Delfour. "They mainly aim to secure funding, and many of the banks who were doing conduit trade receivables are now pitching the term market to corporates as a good opportunity."
The asset class has been slow to make it to the term market for a few reasons. In addition to the aforementioned seller/servicer concerns, it is always somewhat difficult and time-consuming to bring a first-time issuer to term. These companies are generally not equipped with the necessary means of reporting, tracking and invoicing on the operational side. The requirements here for a term transaction can far exceed the level and immediacy of information actually needed by the company to run its own business, noted Delfour.
Fitch has rated a few transactions for investment-grade sellers but has recently seen increasing interest from non-investment-grade names. The universe of corporates interested in executing this type of transaction is shifting from the big investment-grade utility-type corporates to the SME level, said Delfour.
"Usually the lower you are on the credit spectrum, the more you have to overcome the operational risks issue, and obviously the seller/servicer risk becomes more material," he said.
Furthermore, investors will have to become more comfortable with corporate risk.
Although there is more confidence in the corporate sector, it is likely that traditional ABS investors would still be hesitant to view structures with linkage to non-investment-grade corporates. But because the typical deal size that is being shopped around is limited to the 100 million to 300 million sterling pound mark, there's no need for a massive investor base.
"Your typical credit card, residential and SIV investor is not a natural - even on the triple-A level - buyer of corporate securitization right now," said Delfour. "It's largely a different investor base that is more aware of the corporate world. If you are ready to take some risk on a name, why not take a highly rated security with very indirect risk to that name and still get a decent yield?"
A myriad of assets
The market for the securitization of inventory is also showing signs of growth. Past deals in Europe include the Belgium diamond stock securitization and Rosy Blue and Marne et Champagne's wine-barrel financing, both executed in 2002.
There are a myriad of assets to consider but the originator risk continues to be a point of concern in these transactions, said Delfour.
"It's really the bankers leading volumes here because at the moment securitization is not a well-known funding solution for a corporate so it's up to the banker to identify some targets and pitch the potential for a structured-finance transaction. It's often likely to be a banker that holds significant lines in these companies and uses the deals as a form of takeout as well."
Investors seemed to take to this year's Air France EETC executed through Credit Lyonnais - also outside of the mainstream ABS market. Despite a general negative outlook on the sector (from rating agencies and bank analysts alike), Air France managed to successfully execute its deal. There continues to be inquiries for future EETC-type transactions from other airlines, Fitch's Delfour said.
On the government and infrastructure securitization side, Italy should continue hitting the market, and similar projects are expected to arise in Europe. Italy's latest foray was a E4 billion (US$4.8 billion) transaction from the Italian high-speed railway funding note program. Structurers expect to fund a total of E25 billion (US$30 billion) through the program.
Last week, new talks circled of the French Autoroute network securitizing its future toll-road revenues to help maintain transport infrastructure for the next 15 years. In the U.K., a number of rolling-stock train deals will need to be refinanced in 2004 and should add some sizeable volumes in that sector, said Delfour.
Enough to make up for an RMBS slowdown?
Although most analysts believe RMBS will no longer be the dominant sector in 2004, it's unlikely that these up-and-coming contenders, or all of them collectively, will churn out enough paper to match the level of RMBS in 2003. "If indeed residential volumes come down next year, it's unlikely that ABS volumes would pick up the slack," said Delfour.
The big issuers on the consumer side are in credit cards, largely dominated by what is considered a matured base of U.K. issuers. While there's potential for a couple of new names to enter the market next year, it's unlikely to add any significant growth to this market. Continental Europeans continue to slowly make a transition from debit-card usage to credit cards, but hitting critical mass in continental portfolios seems a bit down the line.
Though Delfour expects an increase in consumer lending and auto loans, it won't be anything compared to the residential markets.
Still, analysts at Dresdner are expecting a strong 2004. The bank believes ABS/CDOs remain attractive when compared to other asset classes. Dresdner predicts next year's calendar to exceed the E200 billion (US$243 billion) mark.