In a quarter punctuated by sharply deteriorating subprime mortgage collateral, some CDO underwriters, such as Merrill Lynch, posted substantial gains in year-over-year volume. Meanwhile, others took a noticeable turn in the opposite direction, according to Thomson Financial 1Q07 manager activity rankings.
For some underwriters, the amount of subprime collateral they had sitting in warehouse lines dictated exactly how aggressive they were in marketing deals, sources said last week.
Merrill's lead in CDO underwriting grew to such a proportion that in the first quarter, the firm sold more than one in five deals that came to market. At the other end of the spectrum, Deutsche Bank fell to sixth place in the first quarter from a second-place finish a year earlier, its underwriting volume dropping 36% to $5.8 billion from more than $9 billion in the first quarter of 2006, according to Thomson. Similarly, Credit Suisse's underwriting volume fell 47% to $3.6 billion for an 11th place finish in the first quarter, down from $6.8 billion and a fourth place finish a year earlier.
Overall, U.S. CDO volume grew to $92.8 billion in the first quarter, up 39% from the $66.8 billion in deals sold to the market a year earlier. The first quarter saw 146 deals, compared with 138 in the first quarter of 2006, according to Thomson.
Market participants characterized the force behind the surge in CDO issuance as a mixture of continued investor demand and, particularly toward the end of the quarter, a rush to package home equity loans into CDOs before the sector deteriorated further. "Most likely they'll lose a lot less closing a deal at a loss than if they liquidate that deal's warehouse line," one source said.
Market reaction to the worsening HEL performance resulted in mark-to-market losses on collateral, liquidations and increased difficulty in placing deals as the quarter came to a close. A number of CDO warehouse providers froze or tightened credit lines for subprime mortgage collateral - which has been a major source of fuel for U.S. CDO issuance. Other banks only accepted collateral sourced in-house. Spreads of double-A-minus, single-A-minus, triple-B-minus and double-B-rated CDOs have widened by 65, 125, 175, and 250 basis points, respectively, during the past month, Anthony Thompson, head of global CDO research at Deutsche Bank Securities, said in a report last week. As of last week, structured finance CDOs accounted for 56% of U.S. issuance year to date, compared with 48% of issuance last year, according to JPMorgan Chase Securities.
Merrill Lynch was rumored to have the largest exposure to subprime sitting in its warehouse lines when the market's decline rapidly accelerated last quarter. Sources said avoiding additional MTM losses was the reason Merrill pushed the collateral into CDOs and out to investors as quickly as possible. Adding credence to this rumor, the investment bank hired top ABS CDO salesman Craig Lipsay away from Morgan Stanley amid the frenzy.
Merrill more than doubled both the number of deals it brought to the market and its total dollar volume of issuance. Merrill bankers sold 25 CDOs totaling $21.3 billion in the three months ending March 31, compared with 11 deals totaling $9.2 billion a year earlier, according to Thomson. The investment bank increased its market share to 22.9% from 13.8% in the first quarter of 2006.
Citigroup's CDO team rose to second place from a third place finish a year ago, bringing 19 deals totaling $12.9 billion and a 13.9% market share. Citi last year sold 15 deals totaling $7 billion and a 10.4% market share.
Wachovia Corp. accelerated to a third-place finish - jumping seven spots from a 10th-place finish in the first quarter of 2006. Wachovia acted as underwriter on 12 deals totaling $7.3 billion and a 7.9% market share, compared with only seven deals totaling $2.7 billion and a 4% market share during the same period last year.
UBS and Barclays Capital rounded out fourth and fifth places. UBS brought 10 deals totaling $6.8 billion and a 7.4% market share, compared with 16 deals totaling $4.8 billion and a 7.3% market share last year. Barclays brought six deals totaling $6.4 billion, equivalent to a 6.9% market share in the first quarter.
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