As market participants move forward into 2008, many have hopes of liquidity returning to the ABS market. To this end, increased deal transparency is paramount to bringing investors back into the space, market sources said.
Part of the discussion about bringing greater clarity to the market has been the idea of centralizing and standardizing deal information. Among the suggestions floating around is the idea of a central data file repository for future issuance that would provide the market with a public databank, sources said.
When a new structure is set up, the information would be placed into a repository that can be accessed by the entire market, instead of just the investors in the transaction. "If you are thinking of getting into something or you are looking for additional metrics on products, [with a central repository] you have a lot more information available to you," said Douglas Long, executive vice president of business strategy at Principia Partners. "And the more information that people have, whether it is the structurers or the investors, is only going to help them in the process as long as they understand the information and it is presented in a common form."
Creating a standard for transaction information is another suggestion garnering support from the market. While the ideal would be to have one vendor model for almost all of the underlying deal collateral, there are always going to be specialist providers who are really focused on information in a particular sector, Long said.
"So for an investor, it is really about integrating the multiple data sources into a single way of managing their portfolio as well as providing consistent approaches to the assumptions and stresses you make across your entire portfolio rather than a deal-by-deal basis," Long said. He also said it is important that investors not just take a static view of the data but that they are able to stress their assumptions on the underlying collateral and see how it affects what they are going to buy.
In maintaining the performance of the RMBS collateral underlying these securitizations, standardized surveillance is also beneficial, according to the American Securitization Forum (ASF). In December 2007, the ASF published a framework for standard and customary servicing procedures for subprime loans. The guidance should streamline the servicers' efforts to curb their losses and will maximize trust proceeds to investors so that such proceeds would be more than those typically realized through foreclosure, the ASF said in the report. Additionally, the association introduced new definitions and reporting standards for securitized residential mortgages that have been modified.
While part of the push for increased transparency appears to be driven by an effort from the ASF and the European Securitization Forum, Long said, the market is going to be the driver for investors in conduits and other types of vehicles.
"No one is going to invest in something if you do not disclose and provide the necessary level of transparency," Long said. "If you are buying something, you want to know what you are getting involved in, especially after you have seen what has happened in the market."
A structure that may not benefit from increased transparency is a SIV with market value triggers. "While the market may bring a SIV-like structure back, it won't be as leveraged, will not have the same market triggers and will have a much more diverse pool of funding," Long said.
More Attention to Detail
While CLOs have traditionally been easier to interpret because of the amount of public reporting from companies in the corporate loan market, the lack of liquidity in the CLO market has stalled issuance.
The rising default rate and heightened risk aversion resulting from the collapse of the subprime market has prompted investors to look at CLOs with a more cautious eye. Some of the current structures are so aggressive that if issuers' cash flows do not increase in the subsequent years, their ability to service their debt could be severely compromised, Wachovia Securities analysts said in a recent report. This has made the deal prospectuses even more vital, market participants said.
According to Randy Schwimmer, head of capital markets at Churchill Financial, the problem is not that the information isn't there, but that people aren't reading it. "In the broadly syndicated market, until the meltdown last summer, buyers were barely opening the books. They'd say, Good company, good sponsor, good yield, good rating. Where do I sign?'"
Now, when buyers look at investing in CLOs - from the AAA' to BB' tranches -they zoom in on the underlying assets, Schwimmer said. "They ask How much of this portfolio is second lien? Covenant lite? How much weighting in cyclicals such as housing, automotives or retail?'"
Potential investors also are now intensely focused on the track record of the asset manager, Schwimmer said. "How experienced are they in operating successfully through downturns? Track record is critical: Investors look for top portfolio managers who perform in all economic cycles. Whether it's a buyer's or seller's market, good underwriting is always good underwriting," Schwimmer said.
Confidence in Ratings
The lack of transparency in the rating process has been the most publicized gripe of the market, as rating agencies continue to face scrutiny over their methodologies. One rating agency employee joked: "Come visit us in our new bulletproof booth at the ASF conference."
But the agencies said that they are being proactive with market criticism and adjusting their rating methodologies and reporting accordingly. On the RMBS side, Fitch Ratings said it will be extending the use of regional factors in its mortgage loan analysis. Together with University Financial Associates, Fitch will begin to provide quarterly updates of its regional factors in the coming weeks, said Glenn Costello, managing director in residential mortgage backed securities at Fitch.
In addition to its extended regional analysis, the originator review will be a more important focus for the rating agency, who will begin to issue presale reports on the prime loan side as it has previously been doing for subprime loans.
Increased communication with the market has also been a major focus of the rating agencies as they continue to publish additional commentary on updated rating actions, statistics on rating transactions and monthly updates and forecasts in industries like RMBS.
"The point of all of this is to make really clear to people how we approach the rating process and what assumptions we are making," said Claire Robinson, senior managing director at Moody's Investors Service. "We are trying to be very careful to be very clear to people what our point of view is and the assumptions that underlie our analysis. That way, people can decide whether or not they agree with us."
Fitch plans to continue its trend towards more opinion commentary, said Kevin Duignan, managing director in asset backed securities at Fitch. This includes looking at other consumer ABS sectors that may be impacted by current market conditions, including the private student loan sector. "Investors want to know more than just the rating. Increasingly, they want an opinion on where performance is headed."
Both rating agencies said that they will continue to hold conference calls and teleconferences. Private meetings with senior staffers have also allowed market participants to talk specifically about their portfolios.
Some of the questions filtering in to the rating agency include inquiries over how methodologies and input assumptions are applied to surveillance, said Jonathan Polansky, group managing director at Moody's. "Sometimes it is investors. But in CDOs, it may be managers asking questions to help answer their investors."
In an effort to create a more transparent market, many investors say that they should be provided with the same information the rating agencies are given, especially in the level of detail. "There's so much talk about transparency," Schwimmer said. "Theoretically, investors should receive similar information as the rating agencies. But there are often competitive or confidentiality reasons why that's just not practical."
Combating complaints about opacity on the CDO side, Fitch said it will continue to put out rating actions and commentaries, as well as continue to utilize its modified default probability, increased correlation assumptions and decreased recovery rate modeling assumptions for structured finance CDO reviews. The rating agency also put out a heat map, which they maintain is beneficial in determining how pervasive the downgrades were by SF CDO type and vintage. For investors whose structures were not rated by Fitch, they are able to compare the data for similarities in their own deals. Fitch also said it expects to issue an exposure draft on corporate CDO criteria in the coming weeks.
In Moody's monthly CDO surveillance brief, the rating agency has started to include a list of CDOs that have had an event of default, which has been a fairly hot topic, Polansky said.
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