higher, but trouble could lie ahead

The asset-backed component of the Lehman Brothers index finished the first half in the black, the firm reported last week, but returns have diminished in recent months. Within ABS, the manufactured housing sector has had the greatest returns, with an index adjusted return of 184 basis points year-to-date.

The index as a whole returned eight basis points in June versus Treasuries, capping off a quarter in which returns totaled 39 basis points. Year-to-date, the Lehman ABS index has 120 basis points in excess returns.

Manufactured housing has been helped by the fact that most of the news breaking in the first half of the year from sector behemoth Conseco Finance has been fairly positive. Also, continued swap spread tightening versus Treasuries has inflated gains. M.H. spreads have come in 12 to 18 basis points in the second quarter alone, while swap spreads have tightened 24 basis points in the one-year part of the curve.

The auto loan sector has realized 75 basis points of excess returns thus far in 2002 - 31 of which came in the second quarter, and 11 in June alone. Credit card ABS returned 95 basis points in the first six months - 21 basis points in the second quarter and 2 in June.

After a strong start, the home equity sector has had 107 basis points of returns this year, with just 17 coming in the second quarter and 11 in June. Stranded cost paper has returned 131 basis points to date - 25 in the quarter and had a negative (minus two basis points) return in June.

With manufactured housing lenders able to avoid the corporate blowups that have plagued the financial world of late, researchers at Merrill Lynch see this as the make-or-break point for the sector. Following the March announcement that Conseco would exit the wholesale lending business of making floorplan loans to its retail distributors, a cash crunch and uncertain resale values are the main threats to the sector in the near term.

Merrill theorizes that a successful wind down of the Green Tree Floorplan Receivables Master Trust 1999-1 shows that dealers have found alternate liquidity sources, and that the industry may have turned the corner towards stability. On the other hand, should Conseco have difficulty collecting from its retail dealers the payment of the entire balances of their respective loans, the dealers may be forced to either liquidate inventory or work out a payment plan with Conseco that could delay coupon payments to ABS bondholders.

Moody's has already downgraded the A class of GTFRMT 1999-1 to Aa2' from Aaa' and the class B tranche to Baa3', from A2'.

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