NEW YORK - The capital markets swung its doors wide open to the aviation industry last year, allowing close to $5 billion in issuance. Still, the securitization market could go a lot further if it could allow more flexibility within the deal structures, said panelists at the Third Annual UBS Transportation Structured Debt Conference held here last week.
In an afternoon session on capital markets issues for the aviation sector, several panelists objected to the often rigid nature of aviation securitization structures. Aviation Capital Group, a subsidiary of Pacific LifeCorp, does not get financing directly from its parent company. Therefore, the firm has tapped the aircraft ABS market three times since 2000, raising $3.5 billion, said Richard Baudouin, a managing director there.
"We look at it as a very robust type of financing," said Baudouin. Yet the ABS structure, he said, presents a lot of difficulties to issuing companies like his that want to pull assets out of a deal once they are in.
This is particularly true in the older securitizations, especially those backed by aircrafts with a limited user base and carry very heavy transition costs, said Aengus Kelly, group treasurer for the Amsterdam-based aircraft leasing company AerCap Group. Sometimes the best way to avoid those costs is to convert some of the aircraft, part them out and scrap them.
"Because of the lack of flexibility in the structure you can't do that," Kelly said, adding that unless the issuing company is willing to do a costly and time-consuming not holder consent, "you're stuck with the structure." Future securitization techniques have to be more flexible, said Kelly.
Costly hedging
The downturn in aviation ABS after the 9/11 terrorist attacks also highlighted rigid hedging policies, which became a very expensive problem for some issuers, according to AerCap's Kelly. Currently, with a flat yield curve, things are going well for investors executing certain swaps. Although some investors are concerned about what would happen when rates rise, the contrary is true for AerCap. The company's underlying leases on aircraft ABS deals are floating rate, while the bonds that it pays to noteholders are fixed rate.
Very often, a deal's hedging policy is set in stone from the very beginning, and it is very important for companies to work with the rating agencies and the wrap providers. The last deal before 9/11 had a mark-to-market swap at one point that was over $100 million negative.
"That is an astronomical amount of money for those transactions," said Kelly. "It kills the whole structure of the deal for a long time to come."
For the next 18 months, especially as securitization techniques become more sophisticated, AerCap will focus a lot of energy on working with investors to give deal servicers more flexibility to work around these issues, while maintaining the seniority of the waterfall structure, said Kelly. "It is in the best interests of everyone to have more flexibility built into these structures," he said.
Otherwise, companies looking to tap the securitization market have to be very patient with the deal structuring process, which can run up to a year, said Dave Wilson, senior vice president of the asset management group at GE Commercial Finance Aviation Service. Recalling the Leased Investment Flight Trust deal from June 2001, Wilson said after a year's worth of work, during which GE Commercial incurred about $20 million in fees leading up to the deal, the underwriter decided to price the deal at 2 p.m. on the pricing day. That day, the Federal Reserve was due to release its Beige Book, and the underwriter decided to move the pricing up by 10 minutes, to avert any potentially negative spillover onto the deal from the equity and bond markets.
Other panelists concurred, notably Brian Harvey, a senior vice president of aircraft and debt trading for aircraft leasing company RBS Aviation Capital. With a portfolio of aircraft leases on about 161 airplanes, RBS Aviation is a prime target for securitization business, but Harvey said that strictness in deal structures and execution risk are some of the issues that are keeping his firm out of the market. A subsidiary of the Royal Bank of Scotland, RBS Aviation Capital gets funding for both the equity and debt components of its capital structure from its parent company.
Lengthy process
"These transactions do take a long time, and the market is very fickle," said Harvey. "For an institution to get tied around doing a large-scale transaction and have the market turn around six months later has significant ramifications for us."
The aviation ABS market should also get used to seeing more deals with monoline wraps, and sometimes two bond insurers, because investors have reacted well to them.
"What we are faced with are large, lumpy transactions," said Kenneth Degen, a managing director at Financial Guaranty Insurance Co., who oversees all commercial asset securitization there. It is a significant obligation for any monoline to take down $1.5 billion of a deal, even if it is on a deal's senior position. Also, there are not a lot of options for them to sell that risk off, even if they were to tap the reinsurance market.
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