In 2018, abnormal will remain normal for Euro ABS
Last year was a strange one for European ABS, with negative yielding euro paper and the securitization of higher risk credit titillating the market, but with extraordinary monetary policy set to continue in the eurozone, and economic fundamentals improving across the continent, these trends will likely continue in 2018.
The emergence of negative yielding euro paper wasn’t greeted warmly by many ABS buyers in 2017, with many market participants telling GlobalCapital through the course of the year that there was no value left in the European market.
But this didn’t stop spreads from continuing to come in, as investors from other asset classes swept into securitization to take up any slack left by traditional players.
Accentuating this trend is the ECB, which remains an anchor investor for high quality securitizations, and was used by sellers last year to drive down spreads.
The central bank will continue to purchase ABS paper in 2018, although its actual buying efforts last year were minimal compared to its public sector, covered bond and corporate purchases, and it will remain in the background when sellers are negotiating spread levels with private sector buyers.
For many investors some high quality ABS will also continue to be an alternative to cash, negative yielding but less negative than holding funds on deposit with the ECB.
This will surely mean that yield starved investors will likely have to continue to seek out riskier assets for greater returns, while improving economic fundamentals across Europe could lead to greater appetite for non-performing loan securitizations. Sellers of NPLs which have been reluctant to come to market so far will come under renewed pressure from the continent’s regulators to cut their exposure, meaning dealflow should continue.
Full capital stack transactions, another rarer feature of the post-crisis landscape, will also likely see more attention this year given the sheer levels of oversubscription in deals offering mezzanine and junior notes at the tail-end of 2017.
Investors wanting more yield but who might be less willing to take on the sort of risk attached to an NPL deal might be happier to go down the credit stack in a deal where they would normally be happy to buy the senior notes.
It would seem that further full stack issuance across asset classes meets the needs of issuers and investors in many cases and should continue to do so this year.
Continental investors and issuers will likely look to the UK to see whether spreads normalise as monetary policy tightens, given a rising interest rate environment and the end of the Bank of England’s term funding scheme in February.
Although TFS is a four year funding scheme, some RMBS issuers have already come to market in anticipation of its end and a steady supply of prime RMBS paper could send spreads wider as greater volume tests the depth of the UK market.
If this is the case, more dual currency deals, appealing to a US investor base, would solve the problem of market depth in sterling, and would be another 2017 trend that will become more common this year.
These factors point to more of the same for ABS buyers this year but this new normal remains divorced from most years post-crisis.
A seismic economic change, or a recession in Europe, would almost certainly alter these dynamics and with both corporate and household debt soaring, the market should keep a watchful eye on economic fundamentals and be prepared for any macro shocks might still be lurking.