Evolution of Amortizing Asset Securitization - Securitization.Net

Canadian ABS/MBS
Research
www.cibcwm.com/research
SECURITIZATION FILES April 10, 2000
Peter Weldon
416-956-3211
Funding long
term amortizing
assets is a
structuring
challenge
• Semi-annual
pay bullets,
rather than
amortizing
notes, are most
favoured by
investors
Nature of the
challenge
• Securitization of
amortizing
assets may
result in much
higher carrying
costs associated
with the longer
principal
accumulation
period
Evolution of Amortizing Asset
Securitization
Joanna Zapior, CFA
416-594-8498
Tina Lai
416-956-6273
Trevor Bateman,CA
416-594-7992
Geoff Watson, CFA
416-594-8146
Semi-annual pay bullet bonds represent the most liquid type of term instrument in the
Canadian capital markets. Semi-annual pay bullet ABS have capitalized on the
preferences of Canadian bond investors for structured products with payment
characteristics similar to those of government and corporate bonds . This preference is
clearly illustrated in chart #1, where we show that the bullet spread is significantly tighter than
the comparable amortizer spread.
Consumer receivables (credit cards, leases, loans, mortgages, and lines of credit)
represent the most readily securitizable assets in any market. They combine the highest
level of obligor diversification and homogeneity with the availability of long term, historical
performance data. Virtually all consumer receivables are monthly-pay amortizing assets.
Finding cost effective structures to facilitate the funding of monthly-pay longer-term
amortizing assets with semi-annual pay bullets represents a critical structuring challenge
in the Canadian market. In our view, future growth in securitization will stem largely from
longer-term monthly-pay amortizing assets. Many of these assets reside on the balance sheets
of the Schedule I banks.
Until recently, the underlying assets of almost all semi-annual pay bullet ABS had been
revolving pools of short-term monthly-pay assets such as credit cards, lines of credit and
six-month mortgages. Such assets fit the semi-annual pay bullet structure due to the shorter
accumulation periods necessary to repay the principal at maturity, and the resulting low cost of
carry to the originator. Examples of some of these structures are in table #1.
Longer-term amortizing assets (mortgages, leases and loans) have proven difficult to
structure as semi-annual pay bullets because of the much higher carrying costs associated
with the longer principal accumulation period. Historically, originators of longer-term
assets have been precluded from participating in the semi-annual pay bullet ABS market and
forced to rely on less liquid monthly pass-through ABS or the ABCP (commercial paper)
market.
Mortgage, loan and lease securitization has been done with term structures that only dealt
with the prepayability of the assets and not the fundamental problem of monthly
contractual principal payments. As the securitization market has continued to mature, a
number of different structures have emerged. Table #2 briefly summarizes the development
of monthly-pay term amortizing structures.

New issue
volumes and
spreads reflect
investor
sentiment
Revolving
pools of
short-term
assets are
easily
structured to
fund in the
semi-annual
pay bullet
ABS
market…
…and their
desirability is
reflected in
tight spreads
2
Table #1 demonstrates the depth of the market for semi-annual pay bullet ABS, in which
issuance since 1997 has exceeded $11 billion. Each of the deals shown in table #1 was backed
by a revolving pool of short-term assets, allowing the structure to remain efficient for the
originator while satisfying the expectations of investors.
Chart #1 shows how spreads are wider for Pride Trust, a monthly-pay pool of high quality
mortgages written by HSBC Bank of Canada, than they are for Golden Credit Card Trust, a
semi-annual pay pool of credit card receivables generated by the Royal Bank of Canada. It
appears that structure dictates spreads to a large degree.
Table #1 - Chronology of Semi-Annual Pay Bullet Bonds Backed by Revolving
Assets Since 1997
Issue Originator Asset Class Amount
Master Credit Card Trust Bank of Montreal Credit card receivables 2,000mm
Canadian Credit Card Trust National Bank of Canada Credit card receivables 700mm
Cards Trust Canadian Imperial Bank Credit card receivables 1,325mm
of Commerce
York Receivables Trust Toronto Dominion Bank Credit card receivables 1,125mm
Sears Canada Receivables Trust Sears Canada Inc. Credit card receivables 600mm
Trillium Credit Card Trust Bank of Nova Scotia Credit card receivables 940mm
Canadian Residential Mortgage Canada Trustco
Six-month mortgages 257mm
Trust (CRMT)
Mortgage Company
Golden Credit Card Trust Royal Bank of Canada Credit card receivables 1,100mm
Canadian Tire Receivables Trust Canadian Tire
Acceptance Limited
Credit card receivables 200mm
Hollis Receivables Term Trust Bank of Nova Scotia Personal lines of credit 2,090mm
Genesis Trust Canada Trustco
Mortgage Company
Personal lines of credit 1,820mm
Note : Sears total is 925mm, 600mm of which has been completed since 1997
Chart #1 - Spread Comparison Between Monthly-Pay Amortizer and Semi-
Annual Bullet
63
58
53
48
43
38
33
Pride Trust
Golden Credit Card Trust
November-99 January-00 March-00
CIBC World Markets
April 10, 2000

The
challenge for
structurers
has been to
satisfy the
needs of both
the originator
and the
investor
• Cost
efficiency
versus cash
flow certainty
and liquidity
Recent
structures
reflect the
investor
preference for
semi-annual
pay bullets
3
The structural evolution of funding of longer-term assets is shown in table #2. The structures
have continued to reflect the trade-off between the needs of the originator, which can be
summarized as “cost efficiency” and those of the investors, which boil down to “cash flow
certainty and liquidity”.
Table #2 – Structural Evolution of Monthly Amortizing Structures
Pay-Through with Accumulation Accounts – Ace Trust (1993)
In this structure the term note repayment occurred according to a fixed amortization schedule, and a cash
reserve account collected excess cash flow from assets. Term debt did not amortize until short-term debt
was repaid. The pay-through structure gave investors certainty as to the timing of cash flows but was
expensive for the originator who assumed the prepayment risk.
Pass-Through Notes – Fairview Trust (1994)
In the pass-through structure the prepayment risk was passed on to the investor. Excess cash was used to
repay short-term debt, then the term notes. The defining feature was the absence of cash buildup in the
accumulation account making the structure efficient for the originator. Liquidity was limited for this type
of structure given the small group of investors willing to assume the uncertain timing of cash flows.
Sequential-Pass-through Notes – Case Canada Receivables Inc. (1995)
A series of three issues of senior and subordinated co-ownership certificates, each of which was effectively
a pass-through note. The cash accumulation problem was remedied for the originator but investors bore
some of the prepayment risk.
Pay-Through/Pass-Through – Pride Trust (1999)
This issue amounted to a hybrid of the two structures with 70% of the pool funded with pay-through notes
and the remaining 30% funded with a pass-through offering. The pay-through notes marketed to investors
were monthly-pay amortizing notes. The fixed amortization schedule for the pay-through notes was
protected from prepayments by the pass-through notes which absorbed all incremental principal payments
until they were paid down, and a swap with a “AA” counter party.
As the frequency of semi-annual pay bullet ABS issuance has increased over the last two years,
capacity for monthly-pay amortizing structures has contracted and spreads continue to be
wide relative to the more liquid semi-annual pay bullet ABS issues. In order to return greater
efficiency to the funding of longer-term monthly-pay amortizing assets, structures can be
created that protect investors from prepayments and retire maturing semi-annual pay
bullet bonds with asset-backed commercial paper. These structures maximize the portion
of total funding that enjoys the liquidity of the bullet bond market and minimize the
negative carry associated with the amortizing nature of the assets. One such example is
the HART issue described in the next section.
Structures such as HART should be as attractive to investors as the revolving pool semi-annual
pay bullet ABS structures. Both are high quality (“AAA”) and will benefit from the increasing
demand for highly rated semi-annual pay bullet bonds.
Despite having the highest credit rating available, revolving semi-annual pay bullet ABS
structures trade at a yield spread over Government of Canada benchmarks. This reflects a
structuring premium that arises, at least in part, from the interest rate risk introduced by the
presence of the early amortization mechanism required for a “AAA” rating. Longer-term
monthly-pay amortizing structures cannot accommodate, nor do they require, early
amortization.
Accordingly, assuming identical credit quality as reflected by the identical ratings and the
development of market liquidity at least equal to bank-originated, revolving pool semi-annual
pay bullet ABS issues completed to date, it is plausible that these new semi-annual pay bullet
structures could ultimately trade tighter than the revolving pool semi-annual pay bullets.
CIBC World Markets
April 10, 2000

HART features
semi-annual
pay bullets and
is structured to
a “AAA” rating
level
HART has been
designed as a
semi-annual
pay bullet to
satisfy
increased
demand for this
type of bond
• Funds from
scheduled and
unscheduled
prepayments will
be used to
reduce
commercial
paper
outstanding
• The key
structural
evolution is the
retiring of the
semi-annual pay
bullet bonds via
the issuance of
commercial
paper
Potential size
constraint is
offset by the
size of the
potential asset
pool
4
The HART structure is designed specifically to tap into the demand for semi-annual pay bullet
bonds by using a combination of commercial paper and an accumulation account to mitigate
the risks associated with monthly-pay amortizing assets that typically require holding excess
cash in the structure.
HART is backed by a low loss portfolio of auto loans and is structured to the “AAA” rating
level using standard credit enhancement features. These include 4% overcollateralization, a 1%
cash account and a yield supplement amount that synthetically creates excess portfolio spread
equal to 1%.
HART acquired, using the proceeds of the sale of securities, two co-ownership interests in
purchased loans (net book value of $499,996,757), the support account and the yield
supplement amount. The proceeds of the sale of the semi-annual pay bullet Series 2000-1,
Class A-1 and Class A-2 Notes were used to purchase the 2000-1 co-ownership interest.
A second co-ownership interest (the Series A Co-Ownership Interest) was purchased through
the issuance of $280,769,231 of Series A Notes, which consist of asset-backed commercial
paper issued by HART.
As the Trust receives both scheduled and unscheduled principal payments, the funds will be
used to pay down the commercial paper. The possibility of negative carry exists in the event
that prepayments are faster than expected such that the commercial paper is paid down more
quickly than anticipated. If this occurs, the excess will be held in an accumulation account and
used to make the bullet maturity payments on the Notes as required.
The risk of investments made with the cash balances in the accumulation account yielding less
than the weighted average coupon payable is eliminated through a swap with a “AA” rated
financial institution. The floating rate on the investments is paid out in favor of receiving a
fixed rate equal to the weighted average coupon rate on the Notes.
The bullet principal maturity payments will be made to investors on the targeted principal
distribution dates. On these dates, HART will use the balance in the accumulation account, if
any, and the proceeds of issuance of additional Series A commercial paper, as necessary, to
make the required principal payment. Any risk that HART will not be able to raise additional
Series A commercial paper is mitigated through a committed refinancing facility provided by
two “AA” rated banks. Retiring the semi-annual pay bullet bonds via the issuance of
commercial paper is a significant structural innovation, in that it permits HART to make
the bullet maturity payments with little risk that significant amounts of cash will need to
be accumulated and held within the structure. The potential cost of negative carry for the
originator is reduced and the investor appetite for semi-annual pay bullet ABS is met.
The HART structure ensures that the offering provides safety of principal and eliminates much
of the re-investment risk often associated with securitized long-term amortizing assets. One
constraint for a structure such as this is the relatively small size of the issue. The need for
commercial paper tranches large enough to absorb all scheduled and unscheduled principal
payments limits the portion of an asset portfolio that can be funded with semi-annual pay bullet
ABS. Nevertheless, the size of the monthly-pay amortizing asset pools in Canada indicates that
there is significant potential for the continued offering of securities of this nature.
CIBC World Markets
April 10, 2000

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CIBC World Markets
April 10, 2000