Market Wrap

Excess Spread — Energy rescue, take the price, SRT summer

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

Take it or leave it

You wouldn’t call market conditions in European securitisation healthy right now, but three deals printing in the week to Wednesday — BPCE Consumer Loans 2022, NewDay Funding 2022-2, and Together 2022-1ST1 — is a pretty good week even by the pre-crisis run rate (others may yet emerge from their private marketing processes).

Even more constructive, all these deals are par deals, structured with market coupons reflecting current conditions, rather than pre-sell off levels. NewDay and Together, prolific securitisers which rely on the market, are showing that they can make transactions work with spreads where they are (650 bps over Sonia, in the case of NewDay’s class ‘D’ note).

Together, if anything, has accelerated its issuance plans in the grim markets of the summer, with back to back deals from its second lien and CRE shelves at the end of May, making three transactions in two months. Last year’s debut first lien transaction came in September, but it may be that the treasury team see nothing particularly good likely to happen between now and then, and its better to take the price that’s on offer now.

If times are tough, better to ship in funding when you can, and make sure there’s plenty of liquidity available. Together has something of a niche position in mortgage origination, so it doesn’t have to slug it out to be cheapest to deliver for a middle of the fairway five year BTL mortgage, but with the disruption rising rates have caused in the specialist lending market, better to be well funded and nimble in case there’s market share going spare.

Neither NewDay nor Together ventured to sell a tranche below investment grade, a departure from the practice in happier times. NewDay’s retained class ‘E’ and ‘F’ carry 700 bps and 750 bps coupons, with Together’s class ‘E’ at 500 bps. When NewDay chose to place its E and F in April at 535 bps and 575 bps we thought it was brutal, but it’s been a brutal three months in markets.

Still, at these levels ABS is still cheaper than the alternatives — both fund at a corporate level with high yield bonds, a considerably more closed market than ABS right now, with NewDay’s 7.375% 2024s in a 12% context, and Together’s 5.25% 2027s around 8.5%. Rising Sonia will help to close the gap through the life of the ABS notes, but securitisation still looks cheaper.

Approach to market was also….cautious, particularly in the case of NewDay. Leads disclosed protected orders for half of the class ‘C’ and ‘D’, and the class ‘B’ disappeared entirely from the capital structure, swallowed by an extra-large class ‘A’ loan note, with 43% credit enhancement compared to the 49% in the last deal from the shelf.

As with other anchored transactions, the presence of the loan note structure suggests a US bank treasury, and with Citi on the ticket, we may need to look no further for the home of these bonds. Put that together, and NewDay’s leads only had £42m of bonds to place to bring this one home — resulting in extremely healthy 3.9x and 2.4x coverage levels on the skinny slices of available mezz.

Together’s deal didn’t have anything as obvious as a loan note in the senior, but joint lead BNP Paribas did take a big slice of the senior notes in Together’s second lien deal in May (and was happy to do so in bond form; Citi wanted a loan note). But even when it’s not buying the bonds outright, BNPP is a core member of the Together banking group and one of the biggest RMBS shops in market, so it might not be wise not to infer too much from its presence.

Anchors underwater

CLO syndication is happening, but the line between “in market” and “not in market” is as blurry as it’s ever been — discussions about the best ways to chip away at the warehouse backlog continue, and we can expect transactions to surface and resurface as managers and equity explore different execution strategies.

My former colleague Richard Metcalf wrote a nice piece about the potential for splitting warehouses last week (IFR subscription required), the idea being to cut the proportion of old-price loans in a facility, and increase the firepower to buy current priced deals.

It’s something most managers with stuck warehouses will have looked at. Sound Point, prior to going down the static route, certainly contemplated this approach, and it makes a lot of sense, to a manager. Twice as many deals is twice as nice, even if, as Richard points out, there’s probably a case for a hefty discount on fees.

The downside, however, comes from the capital providers — splitting warehouses means more equity, at a time when warehouse equity providers would very much like some of their money back. Going down the static route allows equity to get out of the situation, rather than throw more money into the CLO pit. Banks with stuck warehouses may also need some convincing to crank up their exposure, rather than term out deals and clean up their balance sheets.

While I was away, my management pinged through the pricing details on Anchorage Capital Europe 6, noting the huge plunge in senior spreads between Investcorp’s Harvest XXIX the previous week at 160 bps and Anchorage at 212 bps. Even this level understates the scale of the slide…though Morgan Stanley didn’t disclose any discount margins, we understand the triple-A was placed below par for a 225 bps DM. From my vantage point on the beach Anchorage did indeed appear cheap, but on further examination, it was pretty much on market, and the issue is the pricing and execution strictures of Norinchukin Bank, which anchored the Harvest seniors.

Even a couple of weeks before pricing, it looked like NoChu was through the secondary market, but that’s just how it does business. It agrees a level and sticks to it, sometimes for better, definitely for worse given the recent backdrop. A NoChu-anchored deal also has to come to market when the Japanese bank says go….a day is appointed, and if Cross is puking again, tough.

If you just looked at the primary prints, you’d be dizzy from the apparent volatility, as Blackstone Credit followed Anchorage this week with Clonstone Park, a deal that takes us back down again, with the triple A tranche placed at 170 bps, but split between a €60m bond piece and a €148m loan note.

Wednesday was a pretty good day in risk markets, as the Nordstream 1 pipeline opened back up, but it wasn’t 55 bps at Triple A good — this is another old anchor level heading out to market unchanged, and massively through secondary.

A loan note generally means a bank treasury of some kind, and historically a US bank (Bank of America and State Street did a flurry of loan note CLOs in spring of 2019). This transaction disclosed “sizeable lead interest” from arranger BNP Paribas in the triple-A… we discussed in relation to Deutsche Bank and Sound Point, keeping some triple-A in house is a good way for arrangers to get their CLO pipeline moving.

The fixed rate note, at 4.25% vs Anchorage’s 6%, also looks like a potentially legacy level, though other bits of mezz look more on-market. At the bottom of the stack, the 20 point discount on the class F looks pretty horrible, but it’s a conventional 1.5 non-call / 4.5 reinvestment period deal, so at least Blackstone won’t be paying away the 20 points immediately.

Tentacles everywhere

Sometimes you get wind of a deal that’s just very very cool, and this is one of those — a transaction which solves a thorny problem, which demonstrates legal and structural flair, which threads a complicated regulatory needle, and which gestures at a way that the capital markets can benefit society. I’ve done a formal and fullsome writeup for 9fin subscribers here, but I’m going to give the skinny for Excess Spread too.

When a UK energy company collapses, as a staggering 31 of them did in 2021 and 2022, customers need to keep their lights on and their gas flowing - retail customers shouldn’t have to do corporate due diligence before signing an energy contract. So customers will be scooped up by a regulatory process called the “Supplier of Last Resort”, in which energy regulator Ofgem picks a company to take on the customer from the collapse.

Because this is generally a money-losing proposition - the customers are contracted to pay less for their energy than it costs, hence the collapse - there’s a compensation mechanism, which pays back the “Supplier of Last Resort” from a general levy across all energy customers. The Supplier of Last Resort (that’s the energy company which took on the money-losing customers) therefore gets a book of receivables based on how much it expects to get back from the levy…..can you see where this going?

The levy payments don’t come in for up to a year, and come direct from other energy companies, as they collect their customers’ bills. Meanwhile, energy costs are spiralling, companies need to pay the spot costs of fulfilling their current contracts, and even the firms which are still standing are hurting pretty bad.

So what if you could buy these receivables outright, infusing an energy company with cash in its hour of need?

One thing which makes this hard is that these are pretty weird receivables. For one thing, until this March, they were not even assignable to any third party - only energy companies which were the Supplier of Last Resort had a right to them. They are exposures created out of regulatory whole cloth….they only exist because Ofgem decided this is how Suppliers of Last Resort should be compensated. What Ofgem gives, it can take away (under certain conditions). It must enforce payment. It can set the terms of assignment.

The unusual regulatory collateral reminds me a little of the abortive “Slots securitisation” for British Airways - landing rights, or “slots” can only be held by an airline and there’s a whole parallel regulatory structure governing their assignment. Securing bonds on this asset meant finding some random airline with about three aeroplanes which could step in (in theory!) to run BA’s LHR-JFK routes, one of the busiest and most lucrative routes in long haul air travel, in the event that bondholders needed to enforce. Anyway, I digress slightly. That was a cool deal too, shame about the outcome.

This time the outcome was considerably better — Barclays provided nearly £700m of financing to Octopus Energy, reinforcing Octopus’s balance sheet as it took on more than half a million customers following the collapse of Avro Energy last year. This meant literally rewriting the regulatory system, working with Ofgem to allow assignment of the Supplier of Last Resort receivables, providing template transaction structures and explaining how third party financing could help prop up a struggling energy system.

This letter is probably the crucial document running through the details of the new assignment framework, and explaining the difficulties in the asset class and how Ofgem might manage it.

The “third party” institution referenced within is, of course, Barclays.

While this particular trade solved a particular problem for Octopus, the issues in the UK energy sector haven’t gone away, and bill payers are still feeling the pain for the levy on their bills — £94 and counting. The costs of working out Bulb Energy (by far the biggest failure) could run up to £4bn, we hear, with any potential buyers for the firm, now in “Special Administration” likely to be laser-focused on the mismatch between customer payments and energy costs.

Financing one energy company is cool, but injecting some capital into the whole sector would be especially cool. Even cooler would if, unlike the Barclays-Octopus deal which was for a year, it could spread the costs of bailing out the energy sector over several years — interposing capital markets financing to lessen the upfront hit to struggling customers hurting from the cost-of-living crisis.

Summer of SRT

July is the season for risk transfer markets to take a victory lap — lots of deals will be pushed for completion for the half year balance sheet at June 30, leaving July as the ideal time to open the kimono a little and explain what’s been happening.

Accordingly, we have some interesting deals to discuss!

Standard Chartered and PGGM are about as top tier as things come in risk transfer — PGGM (now partnered with Swedish pension fund Alecta) is the largest investor by far in the SRT market, and Standard Chartered one of the most enthusiastic issuers, with a programme stretching back 15 years.

The UK-headquartered bank has a wholesale loan book heavily skewed to the emerging markets and to trade finance, meaning its transactions offer useful diversification to the large corporates supply that’s the bread and butter of risk transfer for European banks. StanChart deals also tend to be more liquid than other risk transfer, which is a pretty low bar to clear….it just means they might actually change hands.

Anyway, the new deal is significant because, according to the release, it “enables Standard Chartered to be the first bank to benefit from capital relief in Hong Kong in the Bank’s calculation of its capital adequacy ratios”.

Presumably Standard Chartered has wanted to get this done for a while, given its enthuasiasm for the product and substantial exposures in Hong Kong. It sounds like lots of work went in to getting the regulator comfortable — per Barend van Drooge, deputy head of credit and insurance-linked transactions at PGGM: “Realising this risk sharing transaction milestone with Standard Chartered is extra special, considering the two institutions have worked closely together in holding numerous dialogues with the local regulator, resulting in the introduction of such credit risk sharing transactions in the region. We hope to continue such dialogues with regulators across the region to further open up Asian markets for credit risk sharing transactions.”

Hong Kong’s regulator has been publishing relatively supportive-sounding papers since 2016 at least…there’s guidance and also here…I confess I didn’t read all 50 pages of guidance, but it certainly looks like it’s been willing to contemplate development of an SRT market. Still, there’s a wide gulf between a guidance paper and actual deal approval, which StanChart has now crossed.

PGGM also did Helaba’s debut deal, structured by Citi, an STS transaction covering a €2.1bn book of corporate loans. It looks like a relatively straightforward large corps issue, but Helaba is a sizeable bank, and it’s good to broaden the issuer pool.

Alantra brings news of a triple header for Piraeus Bank, with a mortgage deal (the first to be executed in Greece) sold to two investors, a corporate deal with the European Guarantee Fund, and an “other exposures” transaction about which the release is silent.

Looking further back, there’s another debut to celebrate, with Polish bank Getin Noble issuing a housing community loan transaction. There have been Polish transactions before, but mostly out of Santander’s local unit, arranged by Steve Gandy’s prolific SRT team, and concluded with international institutions including the IFC and EIF.

Getin Noble is also a pretty fascinating institution, if you haven’t been following the Polish banking market closely.

If you don’t know anything about it, have a guess on the capital ratio — 8%? 10%? 16%?

If you guessed 0.5%, pat yourself on the back — it’s an institution in deep trouble, relying on regulatory forbearance to keep operating, and it’s got a bit of a history. Have a look through Fitch’s May comment for a quick rundown on the situation, but the bank’s Swiss franc mortgage book is a big part of the problem.

Anyway, it’s fair to say that Getin Noble is need of capital, probably a lot more than SRT can provide, but every little helps, and equity markets are in no condition to welcome a rescue rights from an emerging market bank.

It tried to access SRT markets once already, working with JP Morgan on a transaction to cover the trouble Swiss franc portfolio around the back end of 2020, but this was blown off course by market conditions, and the transaction was dropped.

Getin Noble explored an outright sale of the housing community loan portfolio it subsequently securitised, but they’re basically high duration assets — low yield and long dated — so the likely price this year wouldn’t really have helped Getin’s capital position.

SRT, on the other hand, keeps the assets on balance sheet, and keeps the interest income coming in, while squeezing out some much needed capital. But the housing community loans have their own special regulatory structure and legal regime around them, so there was a fair amount of learning required from investors looking at the transaction.

Consultancy Alvarez & Marsal advised on the deal — former StormHarbour structuring head Robert Bradbury joined A&M last year, with a mandate to work on some of the stranger and more interesting edges of securitisation, including SRT structuring.

At A&M his activities fold into a broader financial advisory strategy, following the hire of several members of Deloitte’s portfolio advisory group last year. The portfolio group has advised on various sales of non-core or non-performing assets across Europe, which has a natural connection to securitisation….expect to see more from A&M down the road.

The counterparty wasn’t disclosed, but we understand it’s a “diversified credit investor that does a lot of higher risk credit positions”, which moved fast at a good price.

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