Funding agreement-backed note issuance levels reached a record $11.8 billion in the first quarter of 2005 according to a Standard & Poor's Ratings Services' research report. The numbers reflected a 70% increase from volume reported in 4Q04 and an 11% raise compared with the same quarter the previous year, SunAmerica Life Insurance Co. was the largest issuer of funding agreement-backed notes year-to-date with $2.3 billion of issuance. Allstate Life Insurance Co. followed in second place with $1.1 billion and General Electric Capital Assurance Co. came in third with $300 million in total volume generated, the report added.

These types of investments - issued by a SPV reliant on a funding agreement to make scheduled payments - were less popular with U.S. investors back in the late 90's, said Gary Martucci, an analyst at S&P and co-author of the report.

"The period from 1996 to 1999 was one of unusually high returns in the equity markets," Martucci explained. "This was a time when an investor could make 20% to 30% per annum investing in an S&P 500 Index Fund."

Buying a 7% investment didn't attract many U.S. investors to the market for funding agreement or guaranteed investment contract-backed medium-term notes, Martucci said.

In addition to the uncertainty of how U.S. investors would respond to the GICs, regulatory matters further pushed dealers to sell the notes abroad.

"Issuers and dealers were concerned that U.S. insurance regulators might regard the notes as insurance contracts hence subject to insurance regulation," said Martucci. "This means that the notes could only be sold by insurance agents or brokers, not bond sales representatives."

In 1998, AIG SunAmerica, John Hancock and Principal Financial Group were the only three companies issuing GICs, said Martucci. After several companies came on board in 1999 and 2000, issuance levels rose from $6 billion to $14 billion to $20 billion, he added.

"All of a sudden there were over 20 companies writing these types of obligations," Martucci said. "It started becoming a larger portion of certain companies' businesses and it was a revenue generator for them."

In addition, equity markets experienced a significant reversal from 2000 to 2002 when the S&P 500 return became negative, Martucci said. "When the equity market began experiencing negative returns in 2000, people were much more comfortable with fixed-income investments," noted Martucci.

GICs also offered new names, since insurance companies, and especially mutual fund companies, don't usually issue a lot of debt investors tended to fill their portfolios with a particular name, he explained.

"Because companies run what is called a concentration limit', they don't want to put all of their eggs in one basket," said Martucci. "A prudent investor limits concentration on any one credit." Despite GIC's rapid expansion last year, the phenomenon might die down just as swiftly, Martucci said.

"The negative of GICs is that this is a business that can go away quickly," said Martucci. "This month there is going to be very little issuance because of a combination of certain events out there," he predicted.

The downgrade of AIG, the credit concerns surrounding General Motors Corp. and the tightening of credit spreads, are likely to have an impact on the GIC issuance levels, he added.

Copyright 2005 Thomson Media Inc. All Rights Reserved.

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