European ABS faces tests, opportunities - BarCap

By Richard Barley

LONDON, Jan 3 (Reuters) - The European asset-backed securities market faces testing times in 2008, with issuance set for a further sharp decline and a long list of worries preventing any swift recovery, Barclays Capital analysts said on Thursday.

Opportunities on a global basis include, for those who can stomach the mark-to-market risk and have a long-term investment horizon, triple-A rated U.S. subprime mortgage bonds backed by 2005, 2006 and 2007 vintage mortgages, they said.

For those with lower risk appetites, triple-A UK and Dutch residential mortgage backed securities remain in favour.

But the market -- a key means of raising funding for consumer finance -- is still dominated by sentiment and technical factors, making this kind of relative value investing a tricky prospect, they said.

"We hope 2008 will be a mirror image of 2007," said Hans Vrensen, head of European securitisation research at BarCap, referring to a first half that holds most of the bad news and the second half being devoted to recovery.

"But we think it will probably be more messy than that ... There's no silver-bullet solution," he said.

The cover of Barclays' 2008 global securitisation outlook publication vividly depicts the task the sector faces: it shows an icebreaker ploughing its way through a frozen sea, matching the conditions in the ABS market after the subprime crisis spread to hurt sentiment on all structured bonds.

The collateral backing European ABS is still performing well, but concerns about economic turmoil may lead to ratings downgrades on some deals, the analysts warned.

Among those sectors offering poor relative value are Irish and Spanish residential mortgage backed securities, the analysts said.

ISSUANCE TO DROP

European asset-backed issuance is set to reach 185 billion euros ($273.1 billion) in 2008, down 43 percent on 2007, Barclays forecasts, although issuance of covered bonds -- backed by pools of assets that remain on the borrower's balance sheet -- is set to rise 26 percent to 190 billion euros. "We are effectively going back a few years in the market's development," Vrensen said.

A key concern is the timing of that supply that does emerge. "A lot of banks still have a pipeline in place. It's going to be important that the market doesn't get flooded," he said.

But with 1.3 trillion euros of European ABS outstanding, this could be a chance for secondary market trading to develop and play a more significant role than in the past, he said.

This faces its own problems, however, with plans to introduce new tradeable indexes potentially stymied by fears that they could be used by investors outside the market to take short positions, further hindering the recovery of prices. (Editing by Louise Ireland)