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Private Credit 

Owen Sanderson

I’ve just been off for a month of paternity leave and, on returning refreshed and not-exactly-rested, I see that you lot have apparently fixed the market? 

Our cup runs over with new securitisations, with a wide range of asset classes from the ultra-prime Bavarian Sky and Saecure STS issues to specialist lenders in the UK and Europe, full stack distributions, STS, non-STS, CLOs, including a couple of debuts, credit cards, subprime autos, refis, new financings, just a broad sweep across European securitisation. On an unscientific sampling of distribution stats and demand levels, it looks like most deals came to market with minimal drama — healthy coverage at the senior levels, modest tightening to fair value, bunfights on some small mezz tranches but clean absorption. Well done everyone!

It seems like the action is set to continue. We’re aware of a few private marketing processes and some decent pipeline to come ahead of the IMN/Afme Global ABS Conference, with UK collateral well represented — prime and non-conforming RMBS, plus a healthy CLO pipeline. 

Lloyds announced one of the prime transactions on Thursday morning, a deal from the dusted off Permanent Master Issuer trust, which has been extensively overhauled and redocumented. Old provisions from the Funding 1 vehicle are gone, the mezz is all gone (the structure is now just class Z and triple-A) and some of the swaps have been reworked. That’s a positive signal; why go through the whole project if Perma is only going to do the odd keeping-in-touch transaction?

In spread terms though, it doesn’t look like there’s been much action while I was away. Performance has been healthy, but not like everyone’s been issuing into a screaming rally — here’s a couple of charts from Bank of America to underline the point. Everything is tighter, and that’s happened despite a bucketload of supply, but a finger-in-the-air spread number isn’t going to be miles off where it would have been before my nappy-changing sojourn.

So the supply surge is not, most likely, about locking in peculiarly advantageous funding conditions. 

Instead, it’s likely a recovery from a hangover — specifically, the bank failures which rocked the market in March. 

Q2 is usually a strong period for supply anyway, with more familiar asset classes and issuers pushing to get chunks of their financing done ahead of the conference in June, but perhaps there’s even more crammed into this window than usual. As one syndicate banker put it, “everything is a month late thanks to the bank failures”.

The bank failures still seem to be piling up, and underline the logic of “print when you can not when you want” — even if there’s no obvious iceberg ahead in Q3, the experience of the mini-Budget and the collapse of SVB, Credit Suisse and the other US regionals shows how quickly the market can turn.

There are also some tentative signs of softness. Pierpont 2023-1 (named, like the fictional bank in HBO’s “Industry”, for John Pierpont Morgan) is a prime BTL portfolio of LendInvest mortgages purchased from the originator by JP Morgan, and the senior notes last week landed in line with the equally prime Foundation Home Loans portfolio in Twin Bridges 2023-1 at the back end of April.

But the mezz was appreciably wider, at 190/260/365 vs 210/310/395 for classes B/C/D. The tranching is slightly different, but if anything that makes the difference more stark — Pierpont slips a class E in at the bottom of the stack. 

This doesn’t make too much difference to the overall cost of capital for the deal — the important thing is the fat 88% triple-A at the market tight of 110 — but it’s an interesting dynamic.

There’s arguably a premium for a purchased portfolio, but what this should be is an open question. The theory goes something like “third party purchasers are more likely to be doing this as a trade, rather than their core business, so present more extension risk”. Risk retention softens this risk (JPM can’t walk away) and in any case, it’s not quite such a clear distinction between originator-led deals and purchased portfolios.

Lots of originators who are indeed building long-term substantial mortgage lending business reliant on securitisation markets are also willing to sell call rights if the price is right. LendInvest itself has been selling the residuals in Mortimer 2020-1 and 2021-1 lately, through processes managed by Citigroup. After last year’s uncertainty for the specialist lender sector, 2023 brings a clearer line of sight on valuations and UK market performance, and the bid out there is strong.

LendInvest positioned itself as a capital-lite asset manager at the time of IPO, and it doesn’t have a deep-pocketed PE shop dripping in cash — when there’s a chance to recycle capital, it’s prudent to do so.

Charter Court Financial Services regularly placed its resids with third parties (leading to at least one missed call) as did others who aren’t listed and don’t have to disclose — when the bid is right, why not sell and deconsolidate? 

Talk for yet another prime BTL transaction, TwentyFour Asset Management’s Hops Hill No. 3, looks rather closer to Pierpoint than Twin Bridges at L200s/L300s/h300s-400 for B/C/D. This is also a technically a purchased portfolio for a financial investor, though the sponsor relies just as much as any pureplay originator on good relations with the securitisation market.

Rather than a portfolio premium, it’s more likely that we’re at a bit of inflection point for mezz.

Investors don’t want to chase bonds aggressively tighter, they want to see a healthy level at IPTs to shake out interest and attention. Syndication strategy for the remainder of the month’s supply probably means starting wide and building momentum.

The asset class which is conspicuously absent from the market flowering, though, is CMBS. That’s also where the bulk of the credit issues in European securitised products are likely to occur, and where investors are dusting off their post-GFC playbooks.

Two transactions which have been much discussed in this column are FROSN 2018, which saw a loan default after a botched extension negotiation, and Deco 2019-RAM. The assets in FROSN are 60 or so mostly office properties in Finland, owned by Blackstone, and they’ve just been marked down a long way — €345.8m rather than the €513.5m in December 2021.

As per Bank of America research, “the LTV is now ca. 86% by our estimate. The projected debt yield is 8.4%, which is roughly double the all-in interest rate of 4.21% (2.45% margin + 1.76% Euribor).

We think FROSN can afford to service interest over an extended workout period but could be exposed to principal losses if the properties lose further value. We think capex is key to preserving value and attracting tenants. €12.9mn of capex loan remains unspent in our understanding.”

But I guess this illustrates that the class A notes were absolutely right to hold Blackstone’s feet to the fire — they’re still miles in the money, they needed something pretty sweet to back the loan extension, and they didn’t get it.

Investors also got the upper hand in Deco 2019-RAM. Qatar-backed sponsor Cale Street tried to run a discounted tender, offering to buy up to £50m of notes to delever the transaction. Very few investors hit the bid, with just £3m tendered, and as we said at the time, the tender signalled that the sponsor had a few spare quid around to address the refinancing….so why not hold out for par?

In fact there was a further £21m hiding down the back of the sofa, allowing a £71m equity injection, plus a further voluntary prepayment of £6.75m from the Cash Trap Account and the Debt Service Account. This brings the deal back into compliance with its tests, and so the waivers have also been dropped. 

Taken together this brings the debt stack down below £50m, an eminently refinanceable and high quality level….but how’s Cale Street going to make a return chucking big tickets like this into UK shopping centres?

Many of the other near-term CMBS maturities are in better shape. Devonshire Square, just around the corner from 9fin’s office, backs Taurus 2018-2 UK. Despite a nice big WeWork (now rated Triple C) as one of the anchors, an LTV in the low 20s means that the loan maturity later this month should be easily addressed.

Again per Bank of America, “Of the 27 loans due to mature in 2023 and 2024….five loans have LTVs below 50% and six loans have debt yields above 14%. These include the Devonshire Square (Taurus 2018-UK2), Phoenix (ELoC 32) and Bel-Air (Taurus 2018-IT1) loans.”

CMBS, though, is not a standalone market — no institution in Europe relies on CMBS being open. Instead, it’s just one of many tools or structures used to own and leverage CRE exposures. Corporate REITs using high yield bonds or bank debt compete with sponsors, CRE debt funds compete with banks, and can use fund-level leverage or loan-on-loan structures to juice things further. 

So CMBS prospects are determined not just by the dynamics within CMBS, but also the pressures elsewhere in the complex of CRE financing. Several high yield issuers active in DACH markets have come under sustained pressure in the past couple of years, and are unlikely to have a cost of capital competitive with CMBS (we’re seeing, say, Peach Property’s €300m notes at YTW north of 15%).

That could easily squeeze some assets into CMBS, even if there’s still an overhang of legacy CMBS workouts to push through. 

My child was born on the day of IMN’s CLO conference (probably wise to turn to down the invitation to moderate a panel), and I also missed out on the Creditflux event. But other than furiously meeting and greeting, it seems the CLO market has also been printing since I’ve been out, with five trades priced (Cordatus XXVII, Albacore V, BlackRock XIV, Anchorage 8 and Palmer Square 2023-1) and a seemingly healthy pipeline to come.

Most promisingly, we’ve got a real genuine debut out there, in the form of Signal Harmonic CLO I, the first deal from Signal Capital Partners. At last year’s IMN event, Signal was sniffing around some hiring opportunities, after Rajat Mittal came on board from BlueBay to lead leveraged credit, and soon afterwards flagged its intention to get into the European CLO game.

It’s a well known real estate, credit and special situations platform, started by a team from Deutsche Bank’s structured finance business, so I’m sure they have the credit skills. But there isn’t a huge track record in European par loans to point to. In this respect the Signal debut is distinct from Canyon’s (see my chat with Canyon’s Erik Miller here) and from M&G, also soft-marketing its return to European CLOs. M&G hasn’t had a CLO platform since before the global financial crisis, but it does have a big loan investing team, and a long track record managing European leveraged loans through SMAs.

There’s a definite price premium involved — last we heard, Signal’s senior notes were talked at 210 bps, well back of the market for more established managers (Palmer Square landed at 190 bps in one of its actively managed deals last week). But that’s a sign of a healthy market; it’s a risk to take on a new manager, manager style has probably never been more important, and shops that want to build out a CLO business know they’ll be paying up a little at the beginning.

For more established managers, it doesn’t look like the equation has changed too much. Euro loan supply has been lacklustre, with small add-ons and A&E requests dominant, and visible M&A doesn’t suggest a big reversal any time soon. Syndicated markets cheered the decision of Copeland (Emerson Climate Technologies) to go down the distributed route, but there wasn’t much for euro CLOs in there, with a massive dollar tranche and a fixed rate euro note.

So there’s still too much CLO supply, not enough loan issuance, and arbitrage that’s adequate but hardly stellar. Single B issuance is, however, creeping back into play, with BlackRock and CVC Credit printing a class F, and Bain Capital Credit drawing down on last year’s 2022-2 F note. The 1200 bps DM for CVC and BlackRock shows that it’s not a cheap proposition, and Palmer Square, Anchorage and AlbaCore opted against it. As it tips into viable territory, that means a little more leverage, a little less capital required to do deals, and a marginal move to broader market activity.

Aegon Asset Management’s acquisition of the NIBC CLO platform, which issues the North Westerly shelf, is also pretty interesting. Sadly no purchase price was provided, so we can’t pick over the economics of mid-sized European CLO management. CLO M&A has been a live topic for years, but true consolidation still seems elusive — the flow of debut managers into the market is running well ahead of manager combinations, and the Aegon transaction is no exception. Aegon is a well-established US CLO manager, but brand-new to Europe (other than as a tranche buyer).

There does seem to be a definite direction of travel away from bank-owned CLO management, though. Commerzbank’s Bosphorus shelf has been revitalised since the sale to Cross Ocean Partners. MV Credit remains affiliated to Natixis, but it’s at several layers of remove from the bank itself.

Other than that, the bank platforms in Europe are BNP Paribas Asset Management, with five CLOs in Europe, and of course the giant Credit Suisse Asset Management operation, with more than 60 CLOs across US and Europe. From an M&A perspective, the latter is probably more interesting, given the, uh, difficulties in the broader Credit Suisse group. The asset management unit isn’t part of the bank that collapsed, but it is part of the broader sale to UBS (and, indeed, the most appealing part for UBS). 

But does UBS want the CLO management piece? Leveraged finance is a smaller part of the modern-day UBS DNA, and presumably if UBS actually wanted a CLO platform, it could have happily started one at any point in the last decade or so. As a CLO manager, its rep hasn’t been particularly tarnished by the events at Credit Suisse’s bank, but the overall brand name doesn’t have quite the same resonance it once did, and given the rapid pace of UBS’s takeover, it may not have decided what to do with the Madison Park shelf. In other words, if you have the capital, make an offer! It’s a golden opportunity to be one of the biggest CLO managers in the world.

Not going to do all the news from the last month, but one item that did stand out was news that IDB Invest is looking at the risk transfer market. IDB Invest is a multilateral development bank focused on lending to Latin America and the Caribbean, and, as its Aa1/AA+/AAA ratings suggest, it’s pretty well capitalised.

The context is a landmark deal from 2018, known as Room2Run, which saw Mariner Investment (now Newmarket Capital) do a deal with African Development Bank to free up capital. My old shop wrote quite a lot about the transaction, and it created a huge stir in the development bank community at the time (a breakfast session discussing the deal at the 2018 IMF Meetings in Bali was standing room only). Here’s some info on the deal from Newmarket, and from SCI’s writeup of the deal and award for arranger Mizuho.

Anyway, in the slipstream of this transaction it seemed like other MDBs would follow, especially those with a primarily EM-focus. MDBs are often well capitalised in theory, but less so in practice, as much of it is callable capital rather than paid-in, and management teams would like options to keep lending without having to actually draw down on member state commitments. Hence turning to risk transfer.

But in the five years since, it’s mostly been crickets. African Development Bank did another transaction with a set of insurers and the UK government, referencing sovereign risk, but there hasn’t been another infra lending deal with a fund counterparty, despite the best efforts of the Newmarket team, so it’s a pretty big move than IDB Invest is looking. 

According to its investor presentation, it’s been building up capital since 2015, with total paid-in capital increasing from $706m in 2015 to a target of $2.7bn in 2025. But as of this year, member contributions cease, with the remainder of the capital top-up coming from transfers from parent IDB — so perhaps there’s an incentive to eke out some more? Apparently there’s also a grant coming in from various philanthropic organizations to fund the heavy duty internal processes ahead of getting a risk transfer deal done.

MDBs are more familiar as risk transfer investors or guarantors on the other side of the table — EIB’s European Investment Fund unit is the largest investor in European SME risk transfer deals, while Washington’s IFC is also active, though with a different focus. 

These institutions may be reluctant to touch the market as issuers, though as Newmarket/Risk Control’s paper points out, if you leave out the EIB’s callable capital, it actually has negative lending headroom on a RWA basis to keep its triple-A rating.

I don’t know what the capital consumption on its own mezz/first loss risk transfer investments is, but maybe it could free up some capital by a deal referencing this book? You could call it….CDO squared?

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