Securitizations of consumer loans have rebounded, but whether the business can outlast the government sweeteners that have lured investors back to the market is an open question.
If an unsubsidized market does emerge, it is likely to be smaller and more sober than the previous one.
For starters, the basic architecture of securitization is being reshaped.
A crucial part of the Obama administration's proposed overhaul of financial regulation is a requirement that issuers retain an interest in securitizations.
In addition, new accounting rules will make it harder to move assets off balance sheets. Such transfers, which allowed financial institutions to hold less capital, were a big motivation of securitization in the past.
Still, the funding needs served by securitization are enormous, and some observers say basic reasons for the transactions like debt pricing that can lower the cost of funds for lenders remain in place.
"At the end of the day I don't even know if issuers can fund themselves entirely without securitization," said Sanjay Sakhrani, an analyst at KBW's Keefe, Bruyette & Woods."I don't know if they could fund entirely with deposits."
The issuance of ABS has rebounded sharply since the March launch of the Term Asset-Backed Securities Loan Facility (TALF), a government program originally designed to provide up to $200 billion to buy bonds backed by consumer and small-business receivables.
In the credit card sector, issuance has recovered from a five-month drought and has totaled more than $22 billion since the TALF launch, according to Barclays. At an annual rate, that is roughly in line with volumes from 2001 to 2006.
Credit card portfolios are shrinking, at least in part because of declining demand by consumers who have been hit by a sharp erosion in household wealth and are saving more. But the facility has spelled relief for an industry that has been working to shift toward deposits in addition to leaning on other emergency federal programs.
In a report published this month, Ajay Rajadhyaksha, the head of Barclays' U.S. fixed-income and securitized product strategy group, wrote that the increase in purchases of consumer asset-backed bonds by investors that did not use Talf loans and offerings outside the facility "at tight spreads is indicative of growing investor comfort" with the sector. Still, "the real test will be the ability of the market to continue to operate without the lure of cheap leverage."
Myron Glucksman, a structured finance consultant and a former managing director in Citigroup, said TALF investments have "limited downside and a lot of upside" the program boosts returns through leverage and caps losses at cash investments, because the loans from the Federal Reserve Board are nonrecourse.
Without that incentive, "investors would have a hard time right now getting comfortable, given that delinquencies are continuing to rise," Glucksman said.
Joshua Rosner, the managing director of Graham Fisher & Co., put it this way: "The only reason that we're seeing the liquidity in the market that we're seeing is because the government is offering outrageously large subsidized returns to institutional investors."
In a speech this month, William Dudley, the president of the Federal Reserve Bank of New York, which runs the facility, said it was too soon to tell whether the program "will turn out to be a Band-Aid providing temporary support to otherwise defunct securitization markets or a bridge to an ultimately revived and vital securitization market."
Glucksman said a true comeback for asset-backed securities will depend on "how fast investors get comfortable with the risks on consumer assets" like credit cards and auto loans. "At some point, I think investors will understand both markets better, and there will be more clarity in terms of the losses."
Sakhrani agreed that "a better sense of where the inflection point is on credit" is needed.
Of course, some of the devices that absorbed copious amounts of asset-backed securities during the boom, like collateralized debt obligations and structured investment vehicles, were wiped out by the market crisis.
"I suspect that we will discover that some parts of the securitization market will return and prove viable, even without government support," Dudley said. "But other parts of these markets were fundamentally flawed, and they will not survive, nor should they."
Jason Kravitt, a partner with Mayer Brown and a longtime securitization lawyer, said regulatory reform must seek a difficult balance between re-establishing investor faith in asset-backed securities and allowing lenders to free up capital.
If regulators required issuers to retain too large an interest, or an interest "too low in the priority ladder, then you would completely defeat the ability of securitization to create extra credit, because it would be as if it stayed on your own balance sheet and you had to finance it yourself," Kravitt said.
The Obama administration's proposed requirement that issuers retain 5% of the credit risk "seems like a good number," but it depends on where in the credit structure the retained risk is required, he said.
The proposal is correct to give regulators the latitude to devise specific risk retention requirements, Kravitt said. "I don't think it's possible to write a 5% rule that applies to every structure, to every type of securitization."
Joseph Mason, a finance professor at Louisiana State University, said the popular notion that issuers should have more "skin in the game" gets it backward.