Prodigal asset class returns
In Europe, a revival of securitisation is almost fully rehabilitated and now being touted by many as the product that will save the corporate world from a credit crunch by providing bank lenders with an offload facility. What are the prospects for this much-maligned market?
For years after the financial crisis, the mere mention of the word provoked fear and loathing in Brussels and Frankfurt. To European legislators, securitisation meant asset-backed securities, an asset class tainted by its links to subprime American home loans. When those mortgages went toxic in 2007, they sowed the seeds of a global financial crisis whose impact still continues to reverberate across the continent.
Despite undergoing a “near-death experience” in 2008 and 2009, said Alexandre Vigier, head of financial institutions securitisations, Europe, at Credit Agricole, when new issuance slowed to a virtual halt, the market somehow endured, much as rats or cockroaches outlast nuclear blasts.
That it survived at all despite a supremely hostile regulatory environment is testament, said Vigier, to its role as a “unique and diversifying funding source [that remains] invaluable for certain issuers”. It also benefited from the fact that simpler types of securitisation – those with less risk and opacity and fewer layers – continued to be favoured by a stubborn group of investors.
But that aside, the downsizing of a once vibrant asset class is astonishing when viewed from any angle. Having recovered to a post-crisis high in 2011, when new issuance reached US$128bn, the industry slumped anew, falling to US$105bn in 2012, and US$87bn in 2013. Bankers sold US$57.3bn through the first nine months of 2014, against US$59.3bn in the same period a year earlier, according to data from Thomson Reuters.
“European securitisation has been moribund since the 2008 financial crisis,” said Tom Budd, co-partner-in-charge in London at law firm Gibson Dunn.
Yet the night, as the saying goes, is always darkest before the dawn. The market may not entirely have risen off the slab, but more investors, notably in the relatively underdeveloped European market, are keen to buy asset-backed paper than at any point in the post-crisis era.
Losing the hostility
There is, said Laurent Mitaty, global head of securitisation at Societe Generale, a “lot of buying appetite” among investors “keen to buy ABS paper”. Yet that demand is not being met by supply, which continues to be choked off by the relatively high cost of issuance and, until recently, by the undisguised animosity of European lawmakers.
Yet that could all be about to change. In early October, regulators edged closer to approving the securitisation of more assets, notably auto, consumer and small-business loans. The draft of a measure drawn up by EU financial services chief Michel Barnier pointed to a future in which eurozone lenders would be permitted to issue a wider range of asset-backed paper.
The rules provide a fascinating insight into how quickly regional thinking about ABS has changed. European legislators are loath to fully endorse an asset class they long ago learned to abhor.
But they recognise the pressing need to inject more capital into the flagging eurozone economy, and to find new ways to help firms meet their funding needs by tapping markets, rather than capital-constrained lenders. Nor is issuance the only factor to guide thinking here. New regulations were drawn up with a secondary purpose in mind: to help make regional lenders better at withstanding shocks.
Proponents hailed the decision, which comes at a time when eurozone nation-states are under threat of slipping into recession, some for a second or a third time.
Damian Thompson, head of asset-backed finance, Europe, at RBS, said the move was “long-term very positive for a number of reasons. Our view is that it brings other investors to the table: investors who may not have looked at these products since the financial crisis, or may never have looked at them”.
It was also, Thompson said, likely to “transform” the market, by heaping pressure on regulators across Europe to make the asset class more accessible and investible. Thompson points directly to Solvency II and Basell III capital regulations, both of which remain, he said, “very unsympathetic to asset-backed issuances”.
The new regulations should lead to a “broader range of investors piling in, as well as new investors – pension funds, money-market funds – who, for a variety of reasons, have circumvented this product”.
The return to life of a once-demonised asset class comes at a curious time. Europe has tentatively embraced its return in large part because it has come to be grudgingly viewed by growth-hungry politicians as a necessary evil (as opposed to its previous role as “evil personified”). And despite the eurozone’s bumpy economic performance in recent years, there are hopes that burgeoning growth rates in key economies like the US and the UK are here to stay.
“There’s less fear in general about the global economy,” said Alejandro Gonzalez-Ruiz, head of special situations and alternative assets at fixed income manager StormHarbour. “The outlook is still cautious but less defensive. People [are] realising that ABS – with some exceptions – are a very solid asset.”
Brussels is also treading in the well-worn footsteps of Washington. In the dog days of the financial crisis, the Federal Reserve rolled out its Term Asset-Backed Securities Loan Facility, or TALF, a programme that allowed any buyer of asset-backed paper to take a relatively low-interest loan from the Fed, and to use it to buy qualifying securitisation.
That helped underpin the revival of the auto ABS market, which in turn “brought spreads back, allowing TALF to be wound down two years after being introduced”, said Lynn Maxwell, managing director, structured financing, at HSBC. “It was welcome in that it provided backstop liquidity in the market.”
Maxwell said she was “optimistic” that the European Central Bank’s ABS purchase plan, set for rollout in the months ahead, would have “a similar effect on European ABS. From a markets perspective, having backstop secondary market liquidity from the ECB for certain types of ABS is a genuine game-changer”.
Indeed, in conversations for this article, that often rather hackneyed phrase – game-changer – came up time and again. It was used by Credit Agricole’s Vigier, who said the eurozone’s central bank’s rekindled ABS programme would help to “redevelop the market” and would also lead to the revival of residential mortgage-backed securities.
Getting its mojo back
For Allen Appen, head of financial institutions DCM, EMEA, at Barclays, a revived securitisation market will regain its relevance not solely as a funding market, but as “a market that banks and non-banks access to source a composite of funding, leverage and capital capacity”.
HSBC’s Maxwell said the market was finally “headed in the right direction. There are positive signs on the regulatory side, and discussion surrounding banks’ liquidity coverage ratios. Both the [Bank of England] and the ECB are proving very supportive of securitisation, so we have really turned a corner in the past few months. This is still early days, but at least the dialogue is at a much more constructive level than it was a year ago”.
A year ago, the mere suggestion of the return of asset-backed securities to the European financial mainstream would have provoked hysterical laughter in Brussels. It remained a wounded asset class, kept in a cage in the cellar and denied food or water. Yet that was before the threat of a double-dip recession in Germany and a triple-dip slump in France, and the realisation among regulators that it was now or never.
In many ways, the timing could not have been better. European lenders still face the daunting challenge of passing stress tests and an asset quality review in the months ahead. But regulators were also mindful of the fact that banks had finally “managed to remove most of their legacy assets from their balance sheet”, said a London-based syndicate banker, ensuring that “securitisation had become a slightly more affordable proposition”.
The road ahead remains bumpy though. But for the first time in years, securitisation is no longer a dirty word. It is once again an asset class that needs Europe, and is needed in return.
“I think the next months will be fascinating as we don’t know what precisely is going to happen,” said RBS’s Thompson. “We are more positive on the asset class’s medium and long-term outlook.”