The 1.2 billion ($1.5 billion) Portuguese RMBS deal Lusitano Mortgages No. 3 proved to be the talk of the European market last week, as its record tight spreads pulled in the secondary even further.

The 5.7-year triple-As, totaling 1.14 billion, priced at three-month Euribor plus 13 basis points - which was one basis point inside the already tight 5.2-year triple-As in the Permanent 6 deal from the previous week.

The remaining three tranches for the Lusitano deal came with a 7.2-year average life. The double-As priced at plus 23, the single-As at plus 33, and the triple-Bs at plus 65. The deal, which is for Banco Espirito Santo, was led by ABN Amro, Calyon Securities, Lehman Brothers and ESI.

Several analysts and traders described the tight pricing as a surprise. But a few were less startled, citing the lack of RMBS issuance so far this quarter and the scarcity of Portuguese mortgages in particular. One said Lusitano was the first Portuguese RMBS deal to price this year.

"Portugal as an economy is not doing as well as some of the other European economies and that does reflect in the performance of some deals that are outstanding," said Chris Ames, head of structured credit research for BNP Paribas in London. "But the fact is, it does represent geographic diversity and that tends to make deals trade very tight. We've seen that with deals from Greece as well."

Still, the Lusitano triple-As promptly traded at 12 basis points, causing the secondary market to come in along with it. That left many players re-evaluating RMBS spreads in general.

"The market is in some ways shocked by what happened," one trader said. A deal like Lusitano, backed by mortgages from a small jurisdiction, would generally trade a basis point wider than other RMBS, he said.

"The whole market is thinking: If Lusitano trades at 12, should the rest of the market go to 11?" this trader said. "Not enough volume has traded to say whether this is a new level yet. If there is enough supply in the primary market next week, spreads may return to previous levels. That remains to be seen next week."

But some are speculating that RMBS triple-As in the five-year range could tighten to single digits by the first quarter of next year, particularly since the risk weighting will be 7% under Basel II, he said.

At least one analyst cautioned overeager investors not to go too low. The Royal Bank of Scotland's Ron Thompson expressed concern about the secondary tightening and urged investors to be careful in their valuation. "We've grown a little nervous about embedded optionality in some of these bonds, along with higher than expected speeds," Thompson said. "In secondary markets, a number of high-coupon bonds are trading at price levels that seem very aggressive in light of these factors."

Last week saw very little primary issuance in what has been an unusually slow November so far. The 380 million ($490 million) ABF Finance 2, via Dresdner Kleinwort Wasserstein and Lehman Brothers, was one of the few deals that priced other than Lusitano. The Italian lease deal hit the low end of tightened price talk, with the 4.2-year, triple-A rated Class A, worth 354.3 million, finishing at three-month Euribor plus 16 basis points. The 13.3 million Class B, with a 7.4-year average life and double-A ratings, priced at plus 27 basis points. Class C came in at plus 43 basis points for its 10.6 million in 7.5 year, single-A rated notes. There was no pricing information on the triple-B rated Class D. The deal, which was for ABF Leasing, had a provisional pool that consisted of 95.3% real estate, 3.9% equipment and just under 1% autos.

One analyst said deals totaling 1.8 billion($2.3 billion) had priced as of Thursday last week, a dramatic drop from previous weeks when issuance consistently hovered around the 6 bllion($7.75 billion).

"November is usually a strong month. Last year, 30 billion priced in November. But this year, only 7.2 billion priced for the month so far, and approximately 6 billion of that came from one deal last week, Permanent 6," one trader said, noting that investors got busy in the secondary market to compensate for the primary lull.

Analysts and traders predicted the primary market will pick up again next week, with a new pub deal for Spirit Group expected to be the focus. The GBP1.25 billion($2.3 billion) deal was said to be structured with GBP700 million in AAA' rated paper wrapped by Ambac and GBP550 million with BBB+' ratings. Barclays Capital, Citigroup Global Markets, Goldman Sachs and Royal Bank of Scotland were believed to be the leads.

Copyright 2004 Thomson Media Inc. All Rights Reserved.

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