Lehman Brothers's collapse has set back the recovery in European ABCP, as it gave the already jittery investor base more reason to stay away.
"The ABCP market had been one of the first to start to recover from the subprime crisis," said Jean-David Cirotteau, a securitization analyst at Societe Generale. "In May 2008, volumes had stabilized at around $740 billion outstanding on a seasonally-adjusted basis. Although spreads remained wide, volumes had started to bottom out this summer."
However, Cirotteau said that the latest development in the Lehman crisis has severely impaired this recovery. He explained that money market funds facing losses resulting from the bank's default have fled from ABCP paper in the past week. "This is primarily explained by the sharp increase in counterparty risk, with financials paper also feeling the pain," he said.
Overnight spreads rose from flat to 50 basis points for financials and from 30 basis points to 270 basis points for ABCP, according to SocGen.
Kevin Hawken, a partner in the finance group at Mayer Brown, said that while in "traditional" ABCP programs investors' exposure to the underlying assets is tempered by the full liquidity support provided by the banks, lately some banks have proved vulnerable. Banks might have difficulty getting liquidity, and investors have learned to sometimes expect bad surprises from seemingly safe investments.
"Many money market funds had already fled the ABCP market. Some of them had found themselves holding defaulted ABCP issued by SIVs, and it is not surprising that the terrible events of the last ten days would put more investors off," Hawken said. However, he added that, "ABCP remains a good product and will come back in the medium term, probably with improved 'transparency.'"
Still, it is hard to see good news for issuers and sponsors yet, according to Hawken. In the short-term, investors who take the time to study sponsors and programs can make better returns than their less intrepid rivals.
Cirotteau added that the various announcements by the Federal Reserve and the U.S. administration should gradually bring the market back to less-stressed levels. U.S. money market mutual funds hold an estimated $234 billion of ABCP (12% of their assets) and $69 billion of GSE discount notes.
To overcome the market turmoil, the Fed announced that it would lend to banks to finance their repurchase of high-quality ABCP from these funds, and that it would buy GSE discount paper in open market desk operations.
Many European ABCP programs have been set up to sell European assets in the U.S. market; these should see some alleviation via the Fed program as well.
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