There’s been a dripfeed of concerning information over the past few months — this piece from Semafor, and downgrades for 777 Re a linked reinsurer, in November and February. The situation kicked up a gear two weeks ago, as Leadenhall Capital Partners, a longtime investor in insurance-linked securities, insurance warrants and other insurance-related transactions, sued 777 in the Southern District of New York.

Find the court documents here, some coverage here and here. Now, according to the FT, it has called in the restructuring experts, but is still fighting the SDNY lawsuit and still attempting to purchase Everton.

The Leadenhall lawsuit alleges that 777 Partners raised financing with multiple counterparties secured by the same assets, while the insurer downgrades reference “affiliated assets” — 777 has been originating various portfolios funded by the reinsurer’s capital.

Captive reinsurers funding alternative asset origination is a familar pattern across alternative asset managers, from Apollo-Athene onwards, but the allegations of being “an illegal and unsecured personal piggy bank” in the Leadenhall lawsuit are quite different.

The lawsuit references structured settlements (injured parties or lottery winners) aviation leasing (subject to another lawsuit), and a string of other legal difficulties.

What’s not yet been discussed is the connection between 777 Partners and the UK mortgage market.

This runs through an entity called Senior Capital, which serves as an intermediary platform between originators of equity release mortgages (UK originators include more 2 life and onefamily) and funders through securitisation.

We briefly wrote about it here; the idea is to pre-parcel the mortgages in insurer-friendly matching adjustment tranches, and keep the residuals.

Selling equity release mortgages to lifers is also a popular trade, though this is generally done in whole loan format. Solvency II, the insurance regulation, gives insurers a strong incentive to buy bonds with fixed cashflows (though the UK is loosening things up), but turning a pool of whole loans into a fixed tranche means allocating the potential variability elsewhere, creating an expensive tranche elsewhere in the structure.

Senior Capital’s UK-based securitisation entities are called TAMI Securitisation 1, 2, and 2.5, and TAMI Senior Securitisation 2.

According to filings for Senior Securitisation 2, 777 Re is the retention holder, with an entity called Transatlantic Lifetime Mortgages Limited as seller and servicer.

In TAMI 2, a warehouse entity, Transatlantic Lifetime Mortgages is noted as the seller and sub loan provider, with Citias a senior lender.

Transatlantic Lifetime Mortgages has Steve Pasko, founder and managing partner at 777, listed as a director. Pasko is one of the defendants in the Leadenhall suit against 777.

Accounts list £49.86m in assets at the end of 2022 (before the latest crop of deals) with £46m in liabilities, while charges against the company (indicating secured debt) are held by Atlantic Coast Life Insurance Company and ACM Delegate LLC respectively.

Atlantic Coast is a part of the A-Cap group, which the Leadenhall lawsuit says is “the wizard of Oz behind the 777 Partner’s curtain” and “puppeteer to the 777 Partners marionette”.

A-Cap disagrees, and its position on the matter can be found here, in a transcript of a webinar from chairman and CEO Kenneth King, also a defendant in the Leadenhall lawsuit.

He says that A-Cap and 777 “are not affiliates by any definition. A-Cap is a lender to 777 for businesses outside the reinsurance relationship, and A-Cap is a ceding company to 777 as a reinsurer”.

None of this smells especially good, but does it really matter?

Perhaps it’s an opportunity. There’s no suggestion of a problem with any of the origination being passed through these entities.

We reached out to more 2 life, who said: “Senior Capital are one of our six funding partners, and we are pleased to confirm that there have been no issues with our funding arrangements”, so it’s all copasetic.

Still, if 777 Re or A-Cap or both (whatever the relations between them) are trying to raise cash quickly, though, perhaps these mortgages are better quality or more readily saleable than say, a bundle of aircraft leases?

Equity release is a bit of a specialist market, but there are plenty of lifers with plenty of capital who could show a decent bid.

Challenge for the challengers

Allica Bank, a UK lender focused on SMEs, has been contemplating a Significant Risk Transfer (SRT) deal for……longer than my son has been alive? Longer than the term in office of a Conservative prime minister? Quite a while anyway.

The attractions are clear, but so are the problems. For a fast-growing pre-IPO bank, especially with a high risk-intensity specialism like SME lending, cutting regulatory capital before listing should mean better economics. Less dilutive capital raising or a better valuation or both could be on the table. An SRT deal literally raises regulatory capital, but it also demonstrates access to another source of capital, so that potential shareholders may take comfort from the availability of this avenue as the business grows.

But it’s a big hurdle for a new bank to get a deal done. A new bank has much less performance data to provide to investors (though a brand new tech stack probably helps extract the relevant information more quickly). It likely has a smaller, and perhaps less experienced treasury and finance function. This can cut both ways though, since a big part of getting a debut SRT done is coordination across functions, which can be harder in a megabank than in a startup lender.

Allica, at least, did not have a problem with in-house expertise. Jeremy Hermant, a former SRT structurer at Santander and latterly the British Business Bank, was on staff running the process, though he left earlier this year, according to the FCA register. Few other startup lenders can count on this level of expertise in-house, though there are plenty of institutions willing to help; boutiques A&M and Alantra, with their SRT efforts led by StormHarbouralumni Robert Bradbury and Francesco Diserra respectively, have made something of a speciality of this activity.

The Allica deal has other challenges. The collateral is SME loans backed by commercial real estate, which is fairly niche. Small balance CRE cash deals from Finance Ireland and Together certainly have a following, but rather less of a following than their resi transactions. And much depends on exactly what the small business is; property development lending can end up chucked in the SME bucket (for the better regulatory treatment), which is quite a different profile than a shop or a cafe.

Set against that were the economics, which, according to several investors who’d been shown it, were very attractive! As a standardised approach bank (IRB authorisation also relies on portfolio history, and can be at least as painful as an SRT debut) it offered a very thick tranche, at a margin well-above market. One iteration we heard was a 20% tranche with a margin above 15%, though it’s not clear if that’s been revised since. Allica’s startup cost of capital probably gave it more room to offer some juice!

For a startup bank supported by a financial investor with an active credit arm (Allica was anchored by Warwick Capital Partners, later joined by Atalaya Capital Management), it might seem natural to turn first to a shareholder. But regulatory rules prevent a linked shareholder from controlling the SRT investment; the idea is the bank should not be reluctant to claim protection from the protection seller, and a linked shareholder-investor could mean it’s simply an arb to undercapitalise the bank in question.

Allica isn’t the only unlisted bank in the SRT market (consider the mighty Klarna), and lack of listing isn’t a problem. Disclosure at the corporate level might be patchier, but SRT investors can generally get hold of the information they require (and have a more intimate knowledge of a bank’s underwriting than almost anyone outside the institution).

The Allica deal is not yet finalised, but it’s close, and it’s been an epic journey. But what’s less clear is why go down the synthetic route? Challenger banks have been active in cash risk transfer for years. It’s less challenging to execute, will attract a wider audience, and it’s easier to distribute the risk. There’s far less regulatory complexity during the execution process, no issue about involving the shareholders, and it requires less coordination across the institution.

Disclosure: I was a fixed term deposit customer at Allica until earlier this year. The tech was seamless and the rate was good!

Still hungry

A few years back, I remember discussing what would sate Pimco’s appetite for consumer asset mortgages. Eating an elephant like the Kensington backbook, on the back of a blue whale like UKAR’s Project Jupiter seemed like quite the feast.

But from the perspective of Pimco’s giant Income Fund, these are more like tapas (keen for Barcelona). There’s still an excellent chance that Pimco will be the best bid for RMBS bonds, entire RMBS transactions, or indeed entire mortgage portfolios. The Income Fund end of the giant west coast asset manager tends to go for performing-ish assets, with the hardcore NPL stuff going into BRAVO (Bank Restructuring and Value Opportunities, a top acronym).

But they need not be performing particularly well, as long as the price is right. Pimco is now three for three in Lloyds legacy asset portfolios. The £3bn Bridgegate Funding, at the beginning of 2023, is the largest of the series, and includes some of the worst-performing assets ever baked into a ‘performing’ RMBS, with a meaningful number of them beyond final mortgage repayment date. Performer Funding at the end of 2023 was another monster, this time securitising the Lloyds unsecured consumer lending portfolio, but Lloyds then pressed ahead with a third sale this year, on an old book (18 years average seasoning) of mostly self-certified interest-only mortgages.

The process went quiet earlier this year, but now the new securitisation Barrow Funding indicates Pimco has come back to scoop it up! The presence of S&P on the deal, meanwhile, suggests the agency’s screwup, disclosed earlier this year, is now just water under the Bridge(gate).

Selling to funds other than Pimco generates more bonds, more liquidity, more active sales, more trading, more general securitisation goodness. But the Pimco bid is just extremely compelling!

We understand Pimco has also won the process for RNHB’s legacy portfolio. We discussed ‘Project Galibier” earlier this year, at which point it appeared Pimco and Apollo were in the lead, with some interest from Rothesay as well. RNHB is a Dutch buy-to-let and small balance CRE lender, majority owned by CarVal with a minority from Arrow Global.

Like Kensington, the sale process sought to split the back book of mainly securitised mortgages from the origination platform; the actual assets in the sale process are the junior notes and risk retention pieces for the Dutch Property Finance securitsations. Pimco can call and refinance the deals at its leisure as the FORDs come due.

CLOs are bad

I haven’t been covering CLOs much in this column, as I now have a full suite of excellent CLO-focused colleagues running a fully-fledged subscriber news service (give us a call if you’re interested in a trial).

A piece that particularly caught my eye from them this week looks at how CLO documentation shapes restructuring approaches (reach out for a copy).

Recent European restructurings have often taken the approach of converting senior secured cash pay debt into HoldCo PIK notes, cutting the interest burden but avoiding principal writedowns. This suits CLOs participating in the process, since they would have mostly been holding the loans at par, and tweaking the PIK structure with some cash pay element might allow it to avoid the limited PIK bucket. Staple any reorg equity to this, and it constitutes a restructured obligation, rather than equity, for better collateral treatment overall.

Notable examples include cinema chain Vue, mattress firm Hilding Anders, cruise/ferry operator Hurtigruten, and telco Tele Columbus. The striking thing about these, though, is that the first three firms were into second restructurings only a year or so after the first.

The legal dexterity of a CLO-friendly restructuring is impressive to behold, but it does kind of look like trying to put together a process with CLOs (thanks to the new flex in CLO docs allowing them to stay invested instead of sell out to the distressed debt buyer base) makes a restructuring less comprehensive and less durable.

Perhaps this is good for the lenders, but it’s surely bad for the companies, and possibly for economic performance more generally.

The ideal restructuring is a one-time comprehensive rework of a capital structure, putting the company back on its feet. Double or treble restructurings (hello Codere!) create uncertainty among suppliers and employers, cost huge amounts in legal and advisory fees, and absorb management and shareholder focus. Good corporate medicine should be short and sharp, and allow management to get straight back out there into the operational turnaround, leaving the financial engineering in the rear view mirror.