Asias structured finance markets faced the biggest threat to their existence in 2008. After the chaos in the US mortgage-backed market, global disillusionment with structured products quickly reached Asia, with painful secondary market levels scaring away investors and testing bankers faith in the model.
Prospects for 2009 depend in large part upon the role that governments and regulators are prepared to play, and here two markets stand out from the crowd Australia and China.
The Australian market is well established and highly mature, but faced a serious threat to its development in 2008, while Chinas is small and embryonic with the potential to grow exponentially. Regulators in both countries showed their commitment in the second half of the year.
While Australian investors absorbed only one deal in the first quarter a dual-currency issue from St. Georges Crusade programme the Chinese market continued on a wave of issuance it had been experiencing since the last quarter of 2007. Quarterly issuance volumes jumped from Rmb4.2bn in the third quarter of 2007 to more than Rmb12bn in each of the following three month periods. Banks were coming to the market for the first time, developing the nascent structured finance market along the way. However, the market ground to a halt in April, when the Chinese government stopped approving new asset backed security issues.
The China Banking Regulatory Commission (CBRC), the state regulator, was taking a slow-and-steady approach to the development of the market, permitting infrequent deals under its pilot scheme, which it has been using to test an ABS market in China. Bankers say that the CBRC grew wary of the market as the global credit crisis continued to spiral.
However, after a five month hiatus, the regulator in October allowed three deals in quick succession: a pair of CLOs from China Citic Bank and China Merchants Bank, and a securitisation of loans to small-and-medium enterprises from China Zheshang Bank.
Surfing the AOFM waveThe Australian market took an opposite course to its Chinese counterpart last year. It began at a snails pace, but then picked up in the middle of the year, faltering again in the last quarter. But in contrast with the Chinese governments unsure approach to the structured finance market, the Australian Treasury has resolutely supported the structured finance market giving it an injection of adrenalin with an A$8bn investment plan.
The package was designed to improve competition in the mortgage market, rather than prop up the MBS market specifically but to work it will have to revive the flagging securitisation market, a key source of funding for Australias home lenders.
"We think its a very important and positive initiative," says Richard Lovell, director of securitisation at Westpac in Sydney. "Its important there is someone in the market willing to act as a cornerstone investor. It means there is more certainty for issuers when they are putting together a deal that they will actually be able to sell it. This certainty is also important for potential investors."
The governments attempt to position itself as a cornerstone investor, encouraging other investors to join in transactions the government is investing in, worked with the first two deals it bought. The Australian Office of Financial Management (AOFM) bought about A$500m in deals from FirstMac and Members Equity, and both deals had outside investment of around A$100m. Bankers in the country are hoping that once the remaining A$7bn has been invested, more investors will be comfortable coming to the market.
Whereas the government is trying to coax market participants to continue with their business in Australia, in China the government is looking to cope with surging demand.
Although the Chinese market appeared to get back on track with the three deals approved after the lengthy lay-off, bankers say that the regulator now has tracked enough deals for it to review the pilot scheme and introduce permanent legislation. This may lead to another delay while the details are worked out.
Bankers are hoping the CBRC rewrites the pilot scheme to allow interest rate swaps in the structuring of deals. While there is an interest rate swap market in China, the use of special purpose vehicles makes it hard to use these swaps for ABS deals because of the difficulty of getting approval for swaps.
"Only financial institutions can engage in swaps. We had the license in place, but the trustee didnt so the regulator didnt allow it," says Lesi Zuo, the Hong Kong-based head of securitisation for North East Asia at Standard Chartered, which arranged the CLOs for Citic and China Merchants.
"What the investor should take is the credit risk, not the interest rate risk," he says. "Most investors outside of China would not take that risk."
Some bankers have also criticised the government for limiting both origination and investment in the ABS market to financial institutions, with commercial banks so far being the only ones to issue meaning that risks stay within the banking system.
"The pilot scheme is governed only by the CBRC at the moment, so unless they expand who regulates the market then only banks will be able to issue," says Fang Jian, a senior lawyer at Linklaters in Shanghai. "Until there is a unified regulator, the market is unlikely to develop. Im not optimistic that in the near-term any progress will be made."
Progress may be slow, but China and Australia have shown a real interest in developing their structured finance markets, and that bodes well for the future.