While recent legal action and state-sanctioned probes investigating such credit-card companies such as Chase Manhattan Bank, Providian Financial Corp. and Bank One Corp. may not be detrimental to the ratings of asset-backed debt issued by these companies, it is generally believed that this spate of bad press will definitely affect where these bonds trade.
Chase revealed last week that it had been named as a defendant in three of seven actions in an Oklahoma court related to the issuance of securities by now-defunct Commercial Financial Service Inc.
Just a few weeks earlier, Bank One Corp.'s struggling credit-card unit was being investigated by a group of state attorneys general for possibly violating state laws intended to protect consumer privacy. Also this month, Providian said the Connecticut Attorney General's office was investigating the way the credit card company issues cards and bills customers, adding to months of legal inquiries leveled at the company.
While the stock of these companies certainly took a hit, and there is a considerable amount of "headline risk," the fact that some part of the public becomes aware of these probes does not really change things from a rating agency perspective, says Dan Castro, ABS analyst at Merrill Lynch & Co. However, bond trades often widen out considerably.
"It's kind of amusing that sometimes the bad news has nothing to do with the securities or the credit-card portfolio, but it impacts the way they trade," Castro said. "The bonds are specifically designed to be isolated from all that stuff, but people act on their emotions and how they feel sometimes, and they often do not want to have to deal with their boss, so they sell the bonds, and that, in turn, widens out the spreads.
"What should happen and what does happen is not always in synch with each other," he said.
Often portfolio managers find out news about these credit-card companies being sued, and their bosses see that they own these bonds, Castro added. The question arises of why they own bonds of a company that is being sued.
"So they can either defend themselves or they can simply sell the bonds," Castro said. "A lot of guys don't want the headache, and at this time of the year, when you're worried about How are they going to pay me?', they just sell them off."
For the San Francisco-based Providian litigation, there was definitely an impact in the secondary market. The bonds traded off a little bit, Castro says, and there was significant weakness in trading on the news. However, Providian has had legal problems before, and many traders believe that there may be a potential legal liability which might hurt earnings.
"But that case might be close to settling in California, and might extend to Connecticut as well," he said. "If that's the case, whatever widening there was might disappear, so actually, this could be a buying opportunity if you get those bonds at cheaper levels."
However, Castro did not see any differential in how Bank One's asset-backed bonds traded after news hit that the company's First USA credit-card division, already beleaguered by poor earnings, was among half a dozen banks being investigated by attorneys general including Illinois Atty. Gen. Jim Ryan.
"It had no impact on how their master trust trades in the secondary market," Castro said. "We haven't seen anybody go sell it, and it is generally considered a high quality portfolio. It is not a credit issue with Bank One, it is an earnings issue."
As such, the bank is not highly rated and not worried about its viability. Therefore, as an earnings problem, it might have an impact on equity and unsecured debt, but not on the company's ABS bonds.
"Given the strength of its portfolio and the fact that it is not a credit event, it really shouldn't have an impact," Castro added.
For Chase Securities - which is being sued for allegedly being reckless in not knowing that the securities were sold using misleading omissions of relevant fact Castro says that the company's bonds may "trade off a basis [point] or two" but in the end it will go back to where it is supposed to be.