As the market looks for alternative investment opportunities and new ways to hedge risk, global index operator Markit has taken note.
The company has launched a slew of new products recently, including the MCDX, a muni bond CDS index, which started trading last week. However, not all these products are being received with open arms.
An index referencing auto loan securities was squashed by investors before it got off the ground, sources said. And Markit's latest product, a penultimate AAA' sub-index, has some investors feeling apathetic.
Starting May 14, 2008, a penultimate AAA' sub-index will be added to existing and future ABX.HE indices, which the company says will increase trading liquidity. But not all market players are convinced it will have a significant impact, if at all.
"It might help trading volume to the derivative, but I don't know if it helps the cash market or helps unlock what is going on for holders of cash ABS bonds," a market source said, noting that the launch was a little "anticlimactic." "I sort of shrug my shoulders and say: They weren't able to roll 08-1, they weren't able to do an auto index, so this is something they can probably do with little resistance [from the market].'"
However, the addition of the sub-index will bring liquidity to a different point on the capital structure, while also providing flexibility from a trading perspective, said Ben Logan, managing director of structured finance at Markit. "The triple-A indices are the most actively traded right now. We are creating an index that looks very similar to that, but in which people can also trade in conjunction with another product; for instance, they can long one index and short the other."
Indeed, the more instruments there are to express various opinions on the market, the easier it is [for investors] to layer certain types of risk and be selective with the risk they are willing to take, said Michael Bykhovsky, chief executive officer of FIS Applied Analytics. "This is good for the market in general."
The AAA' sub-index is also the most liquid slice of index right now. While prices have declined, this portion of the index is easier to "wrap one's arms around," in terms of losses, sources said.
While B' pieces are extraordinarily heterogeneous, a good subset of AAA' pieces is still fairly protected, Bykhovsky said. "It is easier to make a judgment on those, and as a result there is less disagreement on where they should trade. When you are buying a B' piece, you are generally buying a lot more risk factors that you can't necessarily lay off."
The new ABX.HE.PENAAA sub-index will reference second to last AAA'-rated bonds from existing ABX reference transactions. The ABX.HE.PENAAA bonds will reference the same pools of assets as the bonds referenced in the ABX.HE.AAA indices, but at a different point on the capital structure. This will be the sixth index within each ABX.HE portfolio, which includes AAA,' AA,' A,' BBB,' BBB-.'
The sub-index will also have the second-longest weighted average life. If two deals have the same weighted average life, the tranche with the largest principal amount at issuance will be used, Barclays Capital analysts Joe Astorina and Glenn Boyd noted in a recent report.
This longer average life will also be one of the main drivers behind interest in the sub-index. "People want to trade AAA' risk in other indices, but with a different duration," a market source said.
The first new index to include the ABX.HE.PENAAA will be the ABX.HE 08-1 index, scheduled to launch in July 2008. The index, which has traditionally rolled on a biannual basis, was postponed in January because not enough deals were eligible for inclusion.
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