Mortgage lenders are beginning to adopt new structures that allow them to raise short-term capital from the asset-backed market by putting pools of sub-prime loans into single-seller conduits. The structures are noteworthy because they strip out prepayment risk, which is of particular concern for investors now. For their part, lenders are setting up these conduits to bridge the gap between when they originate and sell collateral.
Unlike term deals, single-seller conduits feature a revolving pool of assets. This makes the transactions a lot safer for investors, since delinquency rates rise over time as loans become more seasoned, according to Taruna Reddy, an analyst at Moody's Investors Service.
The structure is another weapon in the arsenal of issuers, which are seeking as many ways to finance themselves now so they can keep origination levels up, according to market professionals. Centex Corp. was the first to put sub-prime loans into a conduit and recently upsized its conduit to $2.5 billion. Others have been set up of late, including one from Ameriquest Mortgage; sell-side bankers and rating agency officials say as many as six similar offerings are in the works. "They are starting to take off because once investors understand the mechanics of these deals, they realize it's a very elegant structure," says Larry Angelilli, head of corporate finance at Centex in Dallas. The structures offer bonds in a bullet structure, which is attractive for investors in subordinates who fear the cash flows they receive will be shut off by prepayments.
The structure is different from traditional commercial paper securitizations because, unlike in prior CP deals, these are putting sub-prime loans--which last year accounted for more than half of the term securitization market's issuance--into the conduits. Yet, these deals are short, similar to CP transactions. Furthermore, in that way, they are a hybrid of the two traditional asset-backed methods.
"The advantage for issuers is that there is more liquidity for them. If they just take out a warehouse line, they are not in the market. It's another way for them to be in the ABS market and diversify," explains Moody's Reddy.