With the completion of the $155 million Western Massachusetts Electric securitization early this week, stranded-cost issuance is expected to drop off in the near term, sources say, capping off a robust early-2001 pipeline that produced more than $7 billion in year-to-date issuance for the sector.
At the rate of one or more deals per month, total stranded-cost proceeds have been in line to slightly greater than most analysts' expectations.
"Now we see scarcity value in this sector," said Peter DiMartino, head of ABS research at Salomon Smith Barney, who notes that approximately 70% of the year's supply is out of the way. "In anticipation of the pipeline emptying we have seen the effect pricing of stranded cost paper, particularly in the long end."
DiMartino was one of the more bullish analysts as early as last year, with estimates of $10 billion in stranded-cost supply for 2001, and credits the spike in issuance for the additional supply seen this year.
And technicals are positive for rate-reduction bond (RRB) holders: Unlike credit card or auto loans, there is a limit to the supply of stranded costs. "Once we get past these issues, that's it. These dynamics bode well for (RRB) price stability," DiMartino added.
The remaining deals, from units of CMS Energy, TXU Corp., AEP, Reliant Energy and GPU Inc., are expected to total about $3 billion, pushing volume for the year to over $10 billion. Timing for these offerings is uncertain though, as the transactions are held up in court proceedings and subject to Securities and Exchange Commission review.
DiMartino dubbed the remaining deals as "wild cards," as there's no certainty how many of them will get done this calendar year.
California: helping the sector?
Overall performance in the sector has been stellar so far, numerous sources noted, following last year's meager supply. Analysts such as DiMartino and Barclays Capital's Jeff Salmon are recommending longer-term RRBs, even at the cost of shorter, more liquid credit card paper.
DiMartino estimates that 10-year stranded cost paper has tightened 10 basis points from the start of the year, from levels in the high 40 basis point area to the high 30 (to low 40) basis point areas versus comparable swaps. Barclay's Salmon concurs, noting in a recent research report that comparable credit card paper lags RRBs by 14 to 24 in yield, recommending "investors juice' up the paltry yields of short auto and credit card ABS by buying longer duration fixed-rate RRB."
Ironically, the trouble in California has helped inform investors of the virtues of RRBs, primarily the non-bypassable transition charge tacked onto energy consumer bills. These deals have true-up mechanisms, allowing the charge to be adjusted to meet cashflow needs of the bonds. As a result, non-California utilities have seen strong demand that has continued into secondary trading.
Salmon added that following the recent PG&E Corp.'s Chapter 11, California-based RRB spreads widened 15 to 20 basis points, even as both Moody's Investors Service and Standard & Poor's have affirmed the triple-A ratings on the California stranded cost securitizations.
DiMartino credits the headline risk-driven widening as having a positive effect on non-California paper. The widening that followed the announcements of continued trouble for the utilities "forced out some RRB buyers - there was too much heat in the kitchen - in turn creating opportunities for others by making the non-California paper more appealing."
Prior to the completion of the year's first deal, a $2.5 billion offering from New Jersey-based PSE&G, investors' concerns with the asset class centered around the utility's ability to navigate in a deregulated environment, where exposure to increased energy costs were starting to surface in California.
Following the completion of its offering, PSE&G CFO Robert Busch credited the California troubles as helping investors differentiate the regulatory environments in various states. Primarily he noted how few generation plants had been built in California in recent years, leading to the incapacity to handle increased demand.
PSE&G, however, should have fewer problems adjusting to the open market environment, Busch said, due to New Jersey's generation capacity. Future issuance will be led by the state of Texas, with three deals in the pipeline, and New Jersey, with two deals. Dallas-based TXU plans to securitize $1.6 billion in October, currently held up pending approval from the Public Utility Commission of Texas. At dispute are both the size and amortization schedule of the offering.
All of the remaining deals in the pipeline should see adequate interest, according to DiMartino. "The remaining deals in the pipeline should command strong investor interest, depending on the structure. The wider the amortization window, the wider a deal will price," he said.
Also tied up by TXU are smaller deals from Reliant Energy and AEP unit Central P&L. New Jersey-based Atlantic City Gas & Electric, a unit of Conectiv and GPU unit Jersey Central P&L plan to securitize a total of approximately $1 billion between them.
But timing for many of these deals is not in the hands of the issuers, as John Murphy, executive director of corporate finance for CMS Energy Corp., said about his company's plans to securitize $475 million of stranded costs: "It is safe to say that we hope to price in 2001, but that's for the courts to decide."