Structurers of synthetic collateralized debt obligations referencing asset-backed securities have begun to look further down the ABS capital structure to include mezzanine notes instead of only referencing AAA and AA rated assets. Michael Gerity, senior director at Fitch Ratings in New York, said the ratings agency has begun to rate deals including single A or BBB rated ABS. The new structures have a weighted average rating of single A, with reference assets including a diverse range of instruments, such as CDOs, commercial mortgage-backed securities, residential mortgage-backed securities, credit cards and student loans, he noted.
Matthew Zola, co-head of North American structured credit at Morgan Stanley in New York, explained that the search to generate higher yield in a tight credit spread environment is driving the trend. It is already common in cash structures, such as collateralized bond obligations, to purchase lower parts of the ABS capital structure, he noted. Increasing liquidity in credit derivatives referencing ABS is also opening up opportunities for structurers to include swaps referencing a wider variety of ABS, he added.
Robert Shi, managing director in global credit products at the Royal Bank of Canada in New York, agrees that liquidity in swaps referencing ABS is improving, but argues it still has some way to go. Unlike the cash market, synthetic structures continue to have a problem of divergence in terms of credit definitions. Lower-rated ABS also can have a less predictable weighted average life than AAA or AA rated assets, he said.
