Market Wrap

Excess Spread - Apollo on the march, high Fidelity, Kensington on the block

Owen Sanderson's avatar
  1. Owen Sanderson
12 min read

Sun worship

Apollo’s not exactly a new kid on the block — it was one of the first to securitise legacy non-conforming mortgages post-crisis, in their Alba 2011 and Alba 2012 deals — but we hear it’s ramping up its European mortgage activity in a big way, fuelled by the stream of cash pouring out of its Athene and Athora insurance companies.

The biggest statement in this area was the purchase of Foundation Home Loans from Fortress, announced in July, which brings in a £3bn book of mostly UK buy-to-let assets. But it’s said to be sniffing around other specialist lending portfolios as well, approaching lenders about tying up new streams of mortgage loans to fund with Athene’s cash. There’s money to be made rotating from the low-yielding corporate bonds often included in insurance portfolios into higher yielding esoteric or longer dated assets

Various friends of the publication have described it as “hoovering up risk”, “buying everything that isn’t nailed down” and so on, though the question is, as ever, whether it is paying the right price for the assets it is purchasing. 

Either way, it’s probably going to be bad news for the broader securitisation industry — unlike the Apollo of old, or any sponsor running a more traditional strategy, it doesn’t need to eke out the maximum leverage available against its portfolios, using securitisation to fund the purchases. The problem is too much of their own cash to spend, not funding purchases with someone else’s money. In a sense, the whole Athene and Athora vehicles act as a giant levered permanent capital pools, so there’s no need to source leverage at the asset level.

Add to this the likes of Pimco, which securitises portfolios purely for its own internal purposes, and the other insurers actively buying whole loan portfolios across Europe, and the pickings are getting slimmer for traditional securitisation investors looking for bonds to buy. 

Legacy assets are being funded by the insurers, bank assets by the deposits and central bank lines, leaving public securitisation with the fintechs and not much else besides.

And it could get worse. According to Sky News, Europe’s most frequent mortgage issuer, and grand dame of the UK RMBS market, Kensington is up for sale, with Morgan Stanley on the sellside. It’s been owned by Blackstone and TPG since 2014, so it’s certainly a plausible time for the sponsors to look to monetise — call it a five year hold plus a bit of Covid delay — and several other specialist lenders have also traded this year. Sky’s Mark Kleinman suggests this could mean a breakup of Kensington, with the mortgage portfolios and servicing business heading in different directions.

But if the Kensington mortgages books disappear off the market into a giant fund or insurer, such as Athene or Athora, that’s another big loss for securitisation investors. Finsbury Square, Kensington’s specialist prime shelf, has been a frequent issuer of relatively liquid standardised RMBS, and a key source of supply — the latest edition, Finsbury Square 2021-2, was in market this week through Lloyds, BNP Paribas and National Australia Bank. Kensington’s treasury team are consummate pros and advocates for the market, leading the way on labelled debt structures in UK RMBS, and regularly on the road seeking to expand the buyer base for European securitised products — it’d be a shame to see their mortgage book disappear from the market. 

In other respects, Apollo is still playing a more traditional levered PE game. Apollo reemerged into the Irish NPL market earlier this year, beating Cerberus and Lone Star, the two market leaders, to AIB Group’s Project Oak resi book. Now, as with the Lone Star deals, that portfolio is coming out in the securitisation market, in the form of Portman Square 2021-NPL1, announced last week and in the market via Goldman Sachs.

There’s a racing certainty, too, that Apollo is going to be a part of the nascent European CRE CLO market, which we discussed last week. A gentle poke around in the documents for Apollo’s REIT reveals a vehicle called the Barclays Private Securitization, closed last year, which swaps Barclays’ previous repo-based financings for Apollo’s European CRE loans for a securitisation structure.

According to the REIT’s reporting, this is a pretty nice trade — it “eliminates daily margining provisions and grants us significant discretion to modify certain terms of the underlying collateral including waiving certain loan-level covenant breaches and deferring or waiving of debt service payments for up to 18-months. The securitization includes LTV based covenants with significant headroom to previous levels included in the Barclays Facility.”

It’s quite sizeable, too, with $1.45bn outstanding, according to the Q3 numbers - up from $850m-equivalent at the end of 2020. Barclays might be perfectly happy keeping this exposure on the balance sheet — but if there’s an attractive bond market exit available, some of these loans might see the light of day soon.

High Fidelity

Fidelity printed it's sort-of debut CLO, Fidelity Grand Harbour 2021-1 (the first since the old MeDirect loans team moved over to Fidelity) this week through Barclays, a hotly anticipated issue partly for its innovative ESG features

While not an explicitly “Article 8-aligned” issue (managers are still racing to be first to that title), it does build in a hard documentation trigger on a “maintain or improve” basis, linked to the ESG scoring of the underlying portfolio.

But this doesn’t seem to have driven furious demand for the new issue, which came at 100 bps for the senior notes and 960 bps on the single-B. Down the stack it was 175/2.15%/250/360/650.

Compare this to the last Barclays deal, the upsized Sound Point VII, which came at 96/175/2.1%/320/640/930 last week, and the execution looks a little lacklustre, especially given the strong performance of Grand Harbour 2019-1, the outstanding CLO managed by the same team. The new Fidelity deal even appears to be a stronger structure than other recent issues, with a chunky 39% par sub at the senior level, pushing against the trend of degradation seen of late.

So what’s behind it? Barclays refused to discuss it, but traditionally “debut” issuers pay a spread to more established names, though that hasn’t been the case for several of last year’s new names. There’s typically a longer marketing period for a new-ish manager than the latest cookie cutter Redding Ridge or Blackstone Credit issue, and some investors may have to add their name to approved managers lists.

But probably a bigger difference is the size and style of the CLO platform itself. Although Fidelity is one of world’s largest asset managers in liquid equities and fixed income, it’s not huge in alternatives, meaning less captive money available for equity, and no credit fund that can plug gaps and add price tension lower down a CLO capital structure. 

The relatively small size of the CLO platform may also make it harder to focus investor attention, against the backdrop of a market that remains active and is likely to carry on printing deals late into the year.

Some of the week’s other CLO new issues are also worth a look — particularly Rockford Tower 2021-2 from King Street Capital Management, since this deal ditches the fixed rate B-2 tranche usually included in European CLOs. 

The rationale for this piece of the capital structure is to provide a natural hedge for the fixed rate bonds typically included alongside floating rate loans in a European portfolio — bringing greater portfolio diversity to a historically limited European loan market. Certain managers, PGIM being the best-known, have always leant hard on the bond market, flagging this as a strength of their CLO platform, but almost every manager has a bucket for up to 10% fixed rate assets.

Older Rockford Tower deals have certainly included a sprinkling of fixed rate bonds, so King Street isn’t a purist about it pursuing floating rate, but breaking up the class B makes for smaller, less liquid tranches, and class B-2 sizes have generally been declining — they generally make up 2%-3% of a capital structure, to set against the up to 10% fixed rate bucket. In PGIM’s last deal, the reset of Dryden 69, fixed rate tranches accounted for 8.6%, with a fixed rate class C-2 as well as a large B-2.

We’ve not seen the docs on Rockford Tower 2021-2, but S&P analyst Sandeep Chana, speaking at a CLO conference this week, highlighted the generally declining size of fixed rate tranches and the preference for using caps or swaps to hedge interest rate risk, instead of building this into the liability stack.

There’s also a little weirdness in BlackRock European CLO XII, priced at a punchy 94 bps this week through Natixis. The single A-rated class C has been split into two, with a €10m C-2 note featuring a bespoke 265 bps unfloored Euribor spread until the end of the non-call period, before reverting to a floored spread identical to that in the C-1s (210 bps) after the non-call.

We’ve seen this a couple of times before, and it’s likely just the particular preferences of one investor, but it’s still a little odd — surely there are easier ways to express a rates view than negotiating a private piece of CLO mezz?

Better late than never

The Death of Libor has only been coming since July 2017, and the primary market has been solidly Sonia-based since mid 2019. Nonetheless, the final months of 2021 have brought forth a flurry of urgent notices and solicitations hoping to convert older legacy sterling securitisations from Libor-based coupons to Sonia — some of which have sunk into obscurity, with meetings held on several old Eurosail deals struggling to reach bondholder quorum.

More recent deals are at least better prepared — Deco 2019-RAM (a CMBS on a Derby shopping centre) and Moca 2019-1 (Zopa consumer loans, M&G sponsored) are both working on Sonia consents, but include different consent language, allowing negative consents or servicer discretion rather than quorate bondholder meetings.

The Sonia conversion requires some adjustment to note spreads, as Sonia and Libor are different measurements, with Libor theoretically including an element of bank credit risk. 

The recommended fix for this basis is to add a “Credit Adjustment Spread” to Sonia to bridge the gap — but how large should the spread be? We took a look at some of the Sonia weirdness in the loan market last month, but there’s a fair divergence of approaches in securitisation.

Most of the issues trying to secure a Sonia switch have adopted the ISDA spreads, or “5YHM” in the jargon of the reference rates cottage industry. This was a figure published by ISDA and Bloomberg in March, looking at the historical basis between Sonia and Libor over the last five years, and offering a fixed number as the recommended credit adjustment spread for the various Libor tenors.

Eurohome 2007-1, four Eurosail deals, and Preferred Residential Securities 2006-1 are all taking this view, as are the more recent Ripon and Harben deals. The latter issues, which finance old Bradford & Bingley mortgages, are particularly unfortunate, since they’re very likely to be called at step-up early next year — but still need to go through a consent process, which, if successful, should apply for around a month.

Moca 2019-1 is also looking at the same basic approach, but with a lower spread, given that it’s fixed to 1mL rather than 3mL as in the RMBS transactions. 

Deco-2019 RAM, however, is taking the philosophically opposite approach, trying to look at the “Sonia-Libor interpolated basis” for the extended expected maturity of the notes — forward-looking, in other words, rather than backwards as in the ISDA figures. This comes out at 10.7 bps rather than 11.9 bps, so the actual economic difference isn’t huge, but it’s pretty different.

Lastly, Landmark Mortgages No. 1, 2, and 3 have landed at the same adjustment spread as the legacy issues — 0.1193% — but with quite different branding. They will use “Kensington synthetic Libor”, which is, as it happens, just Sonia plus the ISDA-recommended CAS.

Swiss finish

Swiss ABS markets were never the most dynamic segment of the market, but over the past few years there’s been a steady stream of Swiss franc-denominated auto and credit card deals, imaginatively named Swiss Car and Swiss Card. These were generally sold domestically, thanks in part to Swiss withholding tax rules, and so had various structural elements which set them apart from the usual European ABS conventions. Senior bonds were generally fixed rate, and minimum denominations were well below the institutional sizes prevailing in European ABS — reflecting the prevalence of private bank and retail money in Swiss franc bond markets, as well as a more relaxed regulatory attitude about allowing retail bond money into complex products.

But now it looks like this small market could be in danger of drying up all the way. AMAG Leasing, one of the main sponsors of Swissie auto ABS, has now structured a Swiss franc conditional pass through covered bond, backed by auto loans.

It’s quite the feat to get a deal like this done — conditional pass-through covered bond structures, which help with maturity matching and rating agency efficiency, have fallen out of favour in euro covered bonds, and in any case, almost exclusively deal with mortgage collateral. Various schemes and plans to launch covered bonds backed by other asset classes have been floated over the years, but these structures remain vanishingly rare.

Switzerland, however, has a much deeper and more committed covered bond investor base than it does for ABS. Two of the key rates benchmarks in Swissie fixed income come from programmatic issuers Pfandbriefbank and Pfandbriefzentrale, which pump out liquid covered bonds across highly developed yield curves, offering an alternative to scarce Confederation of Switzerland bonds. Swissie investors have also looked for years at covered bonds from foreign issuers, during periods when the basis swap arb out of the currency works properly for issuers.

This long tradition may override the strangeness of a covered bond backed by auto loans — and signal the likely demise of the small Swiss ABS market in the near future.

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