Unlike the start of last year, when uncertainty reigned, the outlook for the U.S. ABS market is notably positive this year. Some are even predicting a rebound in the beleaguered manufactured housing sector.
New issue supply is expected to be flat as interest rates rise in the second half of 2004. Value will be found in off-the-run sectors and weaker names, following the spread tightening seen in on-the-run asset classes throughout 2003.
Although there is a general consensus among research strategists that 2004 issuance will not deviate from 2003 volume by more than 5% in either direction, there is variance in what the largest asset class - mortgage-related collateral - will total. Potential auto loan and credit card ABS supply is fairly constant among the experts, as are student loan volume predictions (see chart p. 7).
Student loan volume, however, is seen as increasing from its breakout year in 2003. On average, student loan ABS is predicted at $42.5 billion, versus the roughly $35 billion seen last year. The development of private student loan products, as well as continued refinance originations, will fuel this growth, experts say. Borrowers are insulated from interest rate increases until the July 1, 2004 reset date for FFELP loans.
Credit card volume will be driven by refinancing needs, which should be substantial in 2004. Banc One Capital Markets estimates that aggregate refinancing needs for credit card issuers sits at roughly $60 billion.
Most experts expect auto loan ABS to rebound from its lower-than-anticipated issuance volume in 2003, as many U.S. captive lenders scaled down securitization activity. For example, DaimlerChrysler and Ford Motor Credit each tapped the market just twice last year, totaling $3.9 billion and $5.7 billion, respectively. Also, the development of a whole loan market for auto collateral (see story p. 8) may offer an attractive alternative for captive auto lenders.
It seems that whether or not overall ABS issuance increases or decreases depends on mortgage-related supply. Although the consensus is that interest rates will rise this year, some are calling for continued growth in the sector.
Banc One is among the minority that believe mortgage ABS supply will grow this year, predicting a street-high of $228 billion. Banc One cites originator migration into new mortgage products, such as hybrid ARMs, and a slower-than-expected rate increase, as perpetuating refinance activity.
Banc One also factors in the outstanding 2/18 ARM collateral, which is set to roll out of its fixed period in 2004. "We estimate over two-thirds of the outstanding collateral currently in the market is hybrid ARM product," BOCM writes in its 2004 outlook.
At the other end of the spectrum, Citigroup Global Markets and Nomura Securities predict mortgage originations will slow, as interest rates rise.
"It doesn't matter if originators want to do more business," notes Nomura's Mark Adelson. "If interest rates increase, borrowers decrease."
Citigroup Global Markets sees additional dynamics factoring into the equation. "The flattening of the swap curve later in 2004 will make securitizations less attractive, possibly prompting a decline of the securitization rate, as lenders with large balance sheets decide to keep the loans on their books," Citigroup pens.
Researchers at both JPMorgan Securities and Nomura recommend investors look at the manufactured housing sector, now that its troubles are seemingly behind it. While new-issue supply is not expected to make up a substantial proportion of 2004 volume, headline-widened spreads, combined with new funding sources for the three largest issuers, may signal a recovery.
JPMorgan recommends a modest overweight in MH for 2004 across the yield curve, thanks to the reorganized Oakwood Homes and Vanderbilt Mortgage. Additionally, dealer inventories are now at "more manageable
levels from the excesses of the late 90s," researchers note. According to statistics from the U.S. Census Bureau, MH dealer inventory has declined to roughly 50,000 units, versus the 90,000 units seen from 1996 through 1999. New shipments of manufactured houses, meanwhile, is under 100,000 units as of September, compared to highs topping 350,000 in the 1996 to 1999 period.
Nomura points to new structural innovations that will likely emerge in any new issue MH ABS as a reason to buy.
Banc One also cautions that while headline risk has been limited as of late, investors should not be fooled that it no longer poses a threat. "For ABS investors, headline risk is like death and taxes - though it may be dormant for now, it will come back when it is least expected," researchers explain.
Specifically Citigroup recommends investors shy away from ABS issued by The Metris Companies, as the troubled issuer is not out of the woods yet. "Without access to the bank deposit market, it has no certain source of refinancing at this point," notes Citigroup researchers.