Long-time ABS investment house Structured Finance Advisors (SFA) is moving away from the "flawed models" of the CDO market and will soon launch a new investment find - dubbed the SFA Managed Account Program - which SFA President and founder Joe Lorusso is pitching as "the anti-CDO product." The target launch date for the fund is 4Q03.
"The CDO formula is faulty," Lorusso said. "We can see now, that from the start, the model was doomed for failure." Instead of collecting fees for its collateral manager role, SFA will be compensated with a flat-rate base management fee and quarterly performance bonuses, essentially an incentive clause based on agreed-upon performance triggers.
SFA was reportedly approached earlier this year to act as collateral manager for a planned CDO, a role SFA declined. Don't expect to see SFA as collateral manager on any new-issue CDOs in the near future, either, "not until the model corrects itself," Lorusso added.
SFA, which has issued and acts as collateral manager on three structured-finance CDOs since June 2000, has had four classes of SFA CABS I, issued in June 2000, downgraded by Fitch Ratings and two classes downgraded by Moody's Investors Service. Also, two of the subordinated classes of SFA CABS II, issued in May 2001, have been placed on watch for a downgrade by Fitch.
By contrast, SFA CABS III, issued in June 2002, has performed as anticipated, with not so much as a negative watch placed on any of its classes. Larusso expects some classes to be upgraded in the future.
Lorusso blamed the cookie-cutter approach taken by the rating agencies as being limiting in regard to when and how asset managers act, therefore leading to the performance of SFA's CDOs. Preset rating factors and diversity scores created a "rating agency handcuff," restricting the asset manager from making the most economic decision, in his view.
The Managed Account Program, by contrast, allows investors seeking diversity into ABS the opportunity to take advantage of SFA's 10-year history as an ABS-focused investment manager, without being locked into an instrument as the collateral backing it falters. And unlike most hedge funds investing in ABS, the investor takes an active role in its position.
"The client determines the specifics," noted senior managing director Jennifer Quisenberry, who oversees transaction sourcing and analysis, as well as monitors portfolio compliance for SFA. "We tailor the investments to a particular client's ratings parameters, sector allocations and desired yield targets," she added.
This, SFA claims, will reduce significantly, if not eliminate altogether, the "surprise factor" of a tripped performance trigger. "It's like getting a call in the middle of the night, telling you that underlying collateral downgrades have hit a trigger, but as an asset manager, corrective actions on the part of the manager are limited," Lorusso said.
This fund essentially returns SFA to its advisory roots, as its experience has primarily been in investment management for institutional clients, which it has done sine its inception in 1993. Its client base for the new Managed Account Program is primarily mid-sized institutional investors. "These investors benefit the most from our analytics experience and SFA's 400-plus deal database, compiled over the last 10-years," Lorusso explained.
For example, Quisenberry noted how SFA eliminated its exposure to an undisclosed distressed ABS issuer, beginning eight months ago. Noticing discrepancies in the servicing reports and the deal documentation, she claims that SFA arranged an accelerated amortization of its holdings, receiving its final principal payment shortly before the headline event emerged.
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