After an extended trip with some pretty heavy baggage, 2003 marked the return of a strong collateralized debt obligation market. A number of positive influences bolstered CDO performance for the year, analysts reported. Record primary and secondary volumes were seen, and spread tightening was accompanied by overall improvement in the corporate credit environment.
With final tallies signed, sealed and delivered, the CDO market posted tremendous year-over-year growth. By one account, $600 billion notional was issued globally via CDOs, a significant 123% rise over the $269 billion issued in 2002. According to Banc of America Securities, 505 visible CDOs were issued last year. The majority of that growth occurred in synthetic CDOs, where notional volume surged 155%. Also, global cash CDO issuance reached $68.4 billion, a 13% increase year-over-year.
Perhaps most noteworthy: Synthetic CDO issuance saw its largest growth rate ever, with $531.7 billion in visible issuance in 2003; last year, BAS tracked $208.7 billion. The boon was attributed to the growth of single-tranche or STCDOs; some $288 billion of static arbitrage CDOs across 239 visible deals was comprised mostly of single-tranche vehicles. The share of static arbitrage deals grew to 54.2% in 2003, up from 50.7% in 2002. Independently managed share fell to 7.4% in 2003, down from 10.9% in 2002. Balance-sheet volume remained largely unchanged at 38.4%.
Structured finance collateral accounted for 81% of balance-sheet volume in 2003, across 63 deals.
Of the $105.5 billion of 2003 visible global note volume, BAS research indicates the following breakdown of subsectors: cash-multi-sector, 27%; cash-HY CLO, 23%; synthetic balance sheet, 19%; synthetic static arbitrage, 10%; cash balance sheet, 6%; cash TruPS, 6%; synthetic managed, 6%; cash HY, CBO 2%; and cash hedge funds, 1%.
In terms of spreads on CDO liabilities, 2003 was a very compressed year. Triple-As tightened an average of 16 basis points and triple-Bs an average of 40 basis points, analysts found. The greatest CDO spread tightening came from IG synthetics, with triple-As tightening 50 basis points and triple-Bs tightening 140 basis points.
"More leveraged positions ... particularly equity...benefited the greatest from collateral outperformance," noted Lang Gibson, director of structured credit research at BAS. Gibson noted the robust CDO supply was particularly impressive in light of the war-related uncertainly in the first half of 2003, accompanied by FASB consolidation concerns and the compression in excess spread.
March was the busiest single month last year for global new issues for synthetics, with about $94 billion, while December was for cash, with about $12 billion.
According to analysts at RBS Greenwich Capital, collateralized debt obligations have seen this substantial growth because they are viewed as a relatively new, attractive vehicle to gain exposure to the fixed-income markets.
But RBS' Fred Matera, managing director, expects spreads to catch up to collateral. "Those interested in CDO equity should consider investments off of deals that ramped up at the wider levels seen in the latter part of 2003," he said, citing when asset spreads were much wider.
The secondary market should continue to evolve with more transparency and marginally more liquidity, according to RBS research. The firm anticipates steady issuance in the $60 billion range for funded arbitrage CDOs, with SF-backed deals comprising close to half of issuance and leverage loan deals one-quarter to one-third of that level.
BAS predicts 2004 will be driven by structural innovations and the inclusion of buckets for collateral with relatively high spreads for a given rating. Gibson and his team predict less issuance in stand-alone STCDOs. On the cash side, multi-sector CBOs and HY CLOs are expected to dominate supply in the pipeline, they said.
As CDO market volume has grown, so apparently have staff sizes, at least at RBS. The firm's CDO Group recently hired Jason Golush as a senior vice president responsible for CDO, CLO and structured-product trading. This past summer, the firm hired Bruce Steinberg as a managing director responsible for structured-credit products distribution and syndication (see story this page).
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