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April 12, 2013 Asset-Backed 2 ALERT JP Morgan Maps Next MBS Issue J.P. Morgan is moving quickly to float its next jumbo-mortgage securitization. After pricing its first such deal in years on March 25, the bank is aiming to complete a follow-up offering of undisclosed size by the end of June — proceeding with plans to establish a routine issuance program. It already has an initial blueprint for the transaction in hand, and has been showing it to Fitch, DBRS and Kroll. The same agencies rated the $616.3 million deal that J.P. Morgan completed last month. Moody’s and S&P didn’t grade that offering, and it’s unclear whether they’ll get an opportunity to weigh in on the upcoming one. Moody’s seems a less-likely candidate. J.P. Morgan declined to retain the agency for the March transaction after it refused to give triple-A grades to the offering’s senior classes, citing concerns over how long investors are given to pursue claims involving loans that fail to meet representations and warranties. And the bank apparently remains miffed. S&P, meanwhile, was pulled from the March deal after saying it would assign top ratings to the senior securities only if they were supported by subordinate classes equal to more than 8% of the issue’s overall balance. That’s more than the agency required for offerings from Credit Suisse and Redwood Trust, and likewise exceeded the 7.4% subordination level assigned to J.P. Morgan by Fitch, DBRS and Kroll. While J.P. Morgan and S&P have discussed the matter further since then, there’s no word on whether they reached an agreement. Issuers in the U.S. have completed eight jumbo-mortgage securitizations totaling $3.4 billion this year, according to Asset-Backed Alert’s ABS Database. That’s about a third of total production for the asset class since the credit crisis. Other issuers in the second-quarter pipeline include Credit Suisse, Everbank and Redwood, which began shopping a $463 million transaction on April 2. Citigroup also has a $300 millionplus securitization in the works, although the timing remains unknown. Discover Pressed for Junior Paper Nudged by investors, Discover is giving serious thought to issuing more subordinate tranches from its credit-card securitization trust. In the wake of the financial crisis, card bonds carrying below-triple-A grades were few and far between, as investors demanded yields on junior paper that were too costly for most issuers. That began to change last year, though, as yield-starved buysiders showed a greater willingness to bear the risk. Following in the footsteps of American Express and GE Capital, Discover in November issued a $250 million securitization made up of a single tranche of subordinate paper, rated A1/AA+/A- by Moody’s, S&P and Fitch. Its most recent deal, a $1.7 billion offering that priced Feb. 6, was entirely triple-Arated. Since then, sources said, investors have put increasing pressure on the Riverwoods, Ill., company to conduct future offerings of subordinate tranches. Discover issues about once a quarter. One factor motivating investors, beside the promise of higher returns, is the fact that card-bond collateral has performed well. Indeed, credit card charge-off and delinquency rates — key indicators of bond performance — are near their lowest levels ever, according to an index maintained by Moody’s. Still, issuers remain wary about increasing production of subordinate bonds. So far this year, only one such offering has taken place — a $555.6 million securitization by American Express on March 14 that included both senior and junior tranches. In that case, Amex sold two subordinate slices totaling $55.5 million — one rated single-A, the other triple-B. Europe CLO Pros Hail New Approach A European collateralized loan obligation that Pramerica Fixed Income priced April 10 is expected to serve as a model for such deals going forward, with the collateral pool including both high-yield corporate bonds and leveraged loans. The thinking is that the approach could help in efforts to revive Europe’s moribund CLO market, which has seen only a handful of deals since the financial crisis. Investec Bank is teeing up a deal, joining Apollo Management, BNY Mellon unit Alcentra, Carlyle Group, New Amsterdam Capital and 3i Debt Management among the firms expected to issue European collateralized loan obligations this year. “I haven’t seen it like this in a couple of years,” one source said of the renewed optimism. “It’s getting to the point where if there is consistent flow, you have to be out there as well if you’re going to be taken as a serious issuer.” Pramerica’s €300 million ($395 million) offering was just the second “CLO 2.0” in Europe — industry jargon for a new deal structure that includes a range of investor protections. But the most striking thing about the deal is its investment parameters: Up to 40% of the assets can be high-yield European corporate bonds, making for an unusual collateral mix of securities and loans. Investors can expect that to be a standard feature of European CLOs for the foreseeable future, sources said. That’s significant because a key reason for the dearth of European CLOs in recent years has been a severe shortage of leveraged loans. Loan-origination volume for the first two months of the year plummeted to less than €1 billion in 2009, after reaching €31.3 billion in 2006. Last year, €4.1 billion of leveraged loans were issued in January and February. More recently, origination has increased substantially, to more than €10 billion in the first two months of this year, according to S&P. That, coupled with the inclusion of corporate bonds in the collateral pools, has led to forecasts of as many as a dozen CLOs being issued in Europe by yearend. Barclays ran the books on the Pramerica deal, dubbed Dryden 27 Euro CLO. The only previous CLO 2.0 offering in Europe was a €300.5 million offering that Cairn Capital priced Feb. 20 via Credit Suisse.
April 12, 2013 Asset-Backed 3 ALERT CLO Issuers Grumble Over S&P Stance S&P’s recent warnings about deteriorating quality among collateralized loan obligation pools are being met with increased agitation from issuers who fault the agency’s rating methods. The complaints became especially amplified after S&P said last week that it expects to increase the credit protections required to earn triple-A grades on CLOs underpinned by certain types of loans, while separately releasing an April 5 report that voiced concerns about weakening credit profiles among such deals. The issuers’ main gripe: that the agency has consistently underestimated the amount of money that managers stand to recover when a collateral account defaults. While the dispute has been developing for some time, S&P’s decision to lower the boom prompted a quick retaliation by some issuers. They include Apollo Management, which plans to leave the agency off its next CLO. Apollo has issued seven CLOs totaling $2.9 billion dating back to 2010, each of which was graded by S&P and Moody’s. This time, it will be Moody’s and Fitch. Sources said dissatisfaction with S&P’s methods also might explain why a March 26 deal from GoldenTree Asset Management came without a rating from the agency. That $669 million issue, sold under the New York firm’s GoldenTree Loan Opportunities brand, also carried marks from Moody’s and Fitch. While GoldenTree has occasionally launched CLOs through other programs without S&P’s blessing, last month’s transaction marked the first time in the 11-year history of GoldenTree Loan Opportunities that the agency wasn’t engaged. All told, the series has produced seven deals adding up to $4.5 billion. That issuers are forgoing S&P ratings isn’t necessarily a surprise, as the agency has acknowledged that it expects to lose some market share over its stance. But the fact that high-profile issuers already are dropping the agency demonstrates the depth of the division. As CLO volume exploded in recent years, S&P emerged as the most active rating agency in the sector. Given that status, issuers have had little choice but to grudgingly include the shop’s recovery projections in their deal documents — following its borrower-by-borrower assumptions rather than setting a single recovery target for the entire asset pool. They also have had to leave out certain borrowers that score poorly in S&P’s recovery forecasts, even if the issuers’ own analysis suggests a positive outcome. In recent days, however, more and more managers have said privately that they’ve had enough. “For years we’ve had an issue with how they derive recovery rates,” one manager said. “It’s very simplistic and inaccurate. As a result, they show very low recovery rates on highly rated loans.” Much of the head-butting involves so-called covenant-lite loans, which are credits that limit the actions lenders can take when borrowers run into trouble. While last week’s report from S&P broadly addressed concerns that the credit cycle is entering a decline, the agency emphasized that growing use of covlite loans as CLO collateral in particular has been dampening its outlook. That’s partly because recoveries among those assets could become especially difficult in a downturn. S&P says its view is supported by the fact that it rates more corporate borrowers than anyone else, and that ratings among cov-lite borrowers have been falling. It plans to stick with its approach. Managers counter that S&P is guessing where credit quality is headed, adding that cov-lite assets typically have performed well and can help them assemble collateral pools at a time when leveraged-loan supply has lagged demand. They additionally point out that most CLOs contain enough subordination to protect senior investors even under pessimistic recovery scenarios, and suggest the agency underestimates the amount of cash on borrowers’ balance sheets. Some also accuse S&P of taking an overly cautious tack in response to the $5 billion lawsuit it is facing from the U.S. Department of Justice. That complaint, filed in February in U.S. District Court in Los Angeles, accuses the shop of bolstering its market share prior to the credit crisis by knowingly assigning high grades to mortgage bonds and collateralized debt obligations with weak asset pools. BTG Sells Mortgage-Bond Holdings BTG Pactual Asset Management has been taking profits on its holdings of non-agency mortgage bonds, following a steep increase in the values of those instruments. The asset sales have flowed from the shop’s BTG Pactual Distressed Mortgage Fund, which so far this year has cut the volume of private-label home-loan securities in its portfolio to $315 million from $400 million. The vehicle now holds 75 such positions, down from 112, according to a letter distributed to investors on March 28. Looking forward, BTG plans to continue taking advantage of what it calls “lofty price levels” in the market. “Our primary motivation was to take some profits while disposing of less liquid positions,” the firm’s managers wrote. Despite the maneuvering, the manager noted that it believes it still has enough positions to benefit if bond prices keep moving up and ample buying power should values decline. Its 2-year-old vehicle gained nearly 46% in 2012, ranking in the upper echelon of-mortgage bond funds, and followed up with a 7.4% gain for the first two months of this year. However, BTG has been warning shareholders that it would be difficult to repeat last year’s performance — while acknowledging that it is too early to exit the trade all together. The fund runs $260 million of equity, boosting its buying power through the use of leverage. Unless your company holds a multi-user license, it is a violation of U.S. copyright law to photocopy or reproduce any part of this publication, or forward it electronically, without first obtaining permission from Asset-Backed Alert. For details about licenses, contact JoAnn Tassie at 201-234-3980 or jtassie@hspnews.com.
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