Structured finance slows to a crawl on credit-market jitters

Mon Jun 24, 2013 2:41pm EDT

NEW YORK, June 24 (IFR) - The US structured finance market came to a standstill on Monday as the continued spike in Treasury yields gave rise to a fresh bout of deal-execution uncertainty in the primary market and pushed investors to the sidelines in the secondary market.

There is however still hope for a revival as opportunistic investors are expected to look to invest liquidity in such securities which are still considered "higher quality" despite the current nervousness in credit markets.

As of mid-afternoon on Monday, the usually-active primary asset-backed securities market featured no deals while secondary trades across all securitized assets are now being done only on a negotiated, private basis.

"The secondary market for non-agency RMBS is in price discovery mode and people are trying to find equilibrium, but at this point nobody is going to rush out there one way or another," said Scott Buchta, head of fixed income strategy at Brean Capital.

A paltry US$217.3m in prime and Alt-A non-agency RMBS traded in the secondary market on Monday morning, along with only US$446.3m in ABS bid lists and US$453.7m in CMBS, according to Empirasign Strategies, a capital markets trading database.

Non-agency secondary trading usually runs at more than double that pace on a typical day, while ABS and CMBS trading volume is usually at least 25% more, traders said.

There are still many bid lists labeled as DNTs (Did Not Trade).

"Guys are more realistic about where the market is," and whoever is putting out a bid list knows what they're getting into this week, said one non-agency RMBS trader.

Non-agency RMBS trading volumes extended their weakness in secondary markets, a trend that started several weeks ago before the buildup of speculation about the FOMC retreating from its bond-buying stimulus.

The handful of private mortgage bonds that were trading were roughly two points lower than where the market was trading one week prior, according to analysts at Bank of America Merrill Lynch.

The highest dollar-price non-agency RMBS bonds with medium-term average lives were struggling the most, such as four- or five-year paper priced in the 80-to 90-cents on the dollar range. Other assets, including corporate-bond securities, might be more attractive now than this specific type of RMBS, one trader noted.

CMBS, ABS TRADING SLOWS

Commercial mortgage bond trading was hit as well, continuing a trend that started last week. According to Barclays, spreads on a key benchmark legacy CMBS issue - known as GG10 - are now trading at swaps plus 160bp, 40bp wider than recent tights.

Given the movements in the 10-year Treasury yield, traders are re-adjusting their yield targets - known as "bogies" in trader parlance - and the softer tone is expected to continue till quarter end.

Triple A CMBS bonds trading in the secondary were moving slowly this morning, a trader said, as dealers kept a distance from the market in preparation for quarter-end house-cleaning and month-end redemptions.

"After the dust settles following quarter-end, the market is going to readjust where they need to be from a returns standpoint," a CMBS trader said.

In some ways the market was preparing for this dislocation in market sentiment. A handful of new-issue deals priced wider in recent weeks.

A US$1.25bn conduit from JP Morgan and Barclays priced wide on nearly all of the tranches, with a Triple B minus piece pricing at swaps plus 410bp after price guidance of +400bp, and a 7-year Triple A piece pricing at swaps plus 108bp after initial price thoughts of +100bp.

"We expect a slowdown in the pace of issuance two to three months down the line as loan coupons begin to reflect higher benchmark rates and wider secondary spreads," said Keerthi Raghavan, a CMBS analyst at Barclays.

According to S&P, rising interest rates may decrease issuance of CMBS by US$15bn in 2013, leading to a year-end total of US$65bn instead of the US$80bn originally predicted. About US$38bn in CMBS has already been issued year-to-date. In 2012, there was roughly US$50bn of issuance.

In the agency MBS market, meanwhile, supply was light this morning at US$300m, with drastically rising rates scaring off most investing. Pipelines appeared dead, with 30-year coupons trading at discounts to par.

The gap between Fannie Mae MBS yields and the 10-year Treasury widened to 0.98 percentage point in the morning, the widest since last July 31's +1.069 points. However, it narrowed to 0.95 percentage point by 1pm EST.

The 30-year Fannie Mae current coupon yield stood at 3.61% as of 9:41 am EST, but lowered several basis points to 3.55% as of 1pm EST. The yield stood at 3.441% on Friday afternoon.

In the primary US ABS market, supply is expected to be thin, unlike in a typical June when issuers look to satisfy their quarter-end funding needs.

"Even the most opportunistic market players are staying away right now," said a senior ABS banker.

According to Bank of America ABS strategists, senior classes for auto loan, credit card, equipment, and utility fee ABS are at the wide-end of 12-month trading ranges and at least 20bp wider than the tight-end of the same range.

Bank of America's fixed-rate prime auto spreads for one-, two- and three-year paper were 3bp-5bp wider over the week and last seen at 20bp, 28bp and 33bp, respectively. Fixed-rate equipment spreads with the same tenors were 5bp wider on the week and last quoted at 25bp, 40bp and 45bp.

STILL OPTIMISTIC

A meaningful pickup in the ABS primary market, if any, is expected after the July 4 weekend. Meanwhile, the slowdown in secondary non-agency RMBS trading may be a buying opportunity while prices remain cheap.

"Real money accounts may see this as an opportunity to buy higher quality assets at yields they haven't seen in a while," said Buchta from Brean Capital.

Market players pointed to housing data which continues to come in very strong - a mitigating factor for non-agency RMBS.

In May, existing home sales increased 4.2% month-over-month, which surpassed expectations, according to Chris Flanagan, the head of MBS/ABS research at Bank of America Merrill Lynch.

Moreover, housing turnover increased slightly, another good sign for the market.

Recent weakness "represents a buying opportunity," wrote a team of JP Morgan MBS analysts led by John Sim in a weekly publication.

"Investors are increasingly bullish on housing. A rate sell-off should have a small impact on home price growth. Moreover, we think the reaction to the Fed announcement is overdone."

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