Longtime aircraft ABS issuer Carlyle Aviation Management Ltd recently priced the first securitization backed by commercial aircraft since the start of Russia’s invasion of Ukraine, but the deal’s terms suggest the market remains cautious despite a full pipeline of potential transactions.
Aircraft ABS reached record volume in terms of debt issuance in 2019, at just shy of $10 billion, and it was expected to notch another record in 2020. The onset of COVID-19 and the ensuing economic slowdown, however, halted airline flights and subsequently aircraft ABS, which picked up again in May 2021 and soared throughout the rest of the year.
High hopes for 2022 crashed when Russia invaded the Ukraine, which left hundreds of aircraft stranded in Russia that may be lost. Further complicating matters has been the rapid rise in interest rates and fuel costs, leaving the commercial aircraft ABS market in limbo until Carlyle Aviation’s $522 million AASET 2022-1 transaction was issued June 9.
Aviation sector consolidation, including Carlyle Aviation’s acquisitions of AMCK Aviation and Fly Leasing, and Chorus Aviation Capital’s purchase of Falko Regional Aircraft, could lead to more aviation ABS deals, according to Lewis Leslie, manager of regional aircraft for IBA Group, a London-based firm that provides appraisal and consulting services to the aircraft industry.
A Turbulent Market
But while ABS deals may be forthcoming, there are caveats, according to Leslie. “IBA expects that due to the large write-downs coming from the likes of Air Lease Corporation and AerCap, it may be the case that some of the largest lessors abstain this year,” he said.
The economic terms of Carlyle Aviation’s AASET 2022-1 indicate that investors may still have concerns about the airline industry’s health.
The transaction was led by Goldman Sachs as the sole structuring agent, global coordinator and a joint lead bookrunner with BNP Paribas, Natixis Securities Americas, RBC Capital Markets, SG Americas Securities and SMBC Nikko Securities Americas as joint lead bookrunners—a list of powerhouse global banks. Even so, the single tranche of debt rated single A by Kroll Bond Rating Agency (KBRA) priced below par, at 98.196, and at a spread of 350 basis points, for a coupon of 6.00%, according to Finsight. The last AASET deal priced in November 2021 at 99.99 and a spread of 145 basis points, which was well below guidance, providing a coupon of 2.80%
The recent deal “did price at what was perceived as wide, although not unexpectedly so, said Niels Jensen, partner and co-head of Vinson & Elkins’ aviation finance team. “From initial feedback, this pricing level does not suggest issuers will rush into the market and try to offer other ABS deals right away—again, not unexpectedly.”
Leverage on the recent deal’s single tranche was 67.0%, compared to the 2021 deal’s 69.0% on the $541.2 million tranche rated ‘A’ by KBRA, and 79.0% on the $78.4 million, BBB-rated piece. The lower loan-to-value (LTV) was likely a factor in the recent deal’s single tranche structure.
“At this LTV, there is no room for subordinated tranches at the moment,” Jensen said.
Aviation ABS deals in the foreseeable future will likely also have fewer subordinated tranches if investors continue to seek lower LTVs, since less leverage makes it difficult to support riskier tranches.
“If your interest expense has doubled compared to a year ago, that leaves less cashflow for the more heavily subordinated classes, not to mention it eating into any equity return,” Jensen said.
Lease rents are typically set at the outset of the lease and do not adjust as interest rates rise.
Proceeds from the notes will be used to acquire a portfolio of 25 aircraft on lease or expected to be on lease to 12 lessees located in 11 jurisdictions.
Investors are wary about the AASET 2022-1 deal despite what KBRA called “credit positive features” introduced in aviation ABS transactions in 2021. Those include minimum-number-of-aircraft and collection tests, and a higher utilization trigger and disposition paydown amount. Positive structural features, KBRA says, include a three-month debt-service coverage ratio (DSCR) and faster amortization.
Alan Greenblatt, managing director at KBRA, said that while there are approximately 500 aircraft trapped in Russia, their estimated $10 billion market value represents only 5% of the global total. Many lessors have Russia exposure in just the single digit percentages. Carlyle’s recent deal has no exposure to Russia.
The economic slowdown stemming from the COVID-19 pandemic had a much bigger impact aviation ABS deals, Greenblatt said, because it resulted in delinquencies and deferrals of more than 50% in some transactions. A few deals actually tapped their liquidity facilities, which typically cover interest shortfalls on the investment-grade tranches, and all have since all been repaid.
Nevertheless, Russia’s invasion has highlighted geopolitical risk and upcoming deals will likely feature aircraft leased to airlines in relatively low risk jurisdictions, Leslie said, adding that investors’ increasing ESG focus will weight deal portfolios toward newer aircraft with updated technology aboard. KRBA notes that the AASET 2022-1 portfolio is younger compared to other Carlyle deals.
Jensen said that Russia’s Aeroflot airline was very attractive to investors until as late as last year, and its sudden removal from the market has prompted some lessors and investors to re-evaluate geopolitical risk. Market participants will balance those risks against the pricing, leverage and other metrics of deals entering the market to determine whether to invest.
“We know there’s no shortage of issuers that would love to tap the market again,” he said. “If investors see it as still attractive, you may see a lot of issuers rush to market in a very short window later this year.”
