ABP is the pension fund for government and educational employers and employees in the Netherlands. With approximately E142 billion in assets under management ABP is one of the top three pension funds in the world. ABP Investments' Interest Plus Fund Europe has E24 billion in fixed-income assets under management, E2.1 billion of which is in asset-backed securities.
All of ABP's ABS investments are managed in-house. Pieter Prins is the fund manager of the Interest Plus Fund Europe (IPFE). Hikmet Sevdican andAmir Maani Shirazi are the portfolio managers for the ABS portion of the portfolio.
Describe your investment strategy. Are you considering making any changes?
The portfolio has a low turnover, mainly due to the fact that we are in the position where we are expanding the portfolio, so we are not selling that much. We plan to grow the allocation to ABS further. It's a strategic choice to expand and we will probably continue to do so.
We invest in more granular transactions, for example within the retail segment [i.e. residential mortgage-backed securities, credit cards, auto loans, personal loans] we invest in deals with minimum of 500 exposures. In consumer credit deals, we go down to the triple-B level. We also invest in collateralized debt obligations of loans to small- and medium-sized enterprises, which give exposure to 1,500 to 2,000 separate borrowers. We are also buying CDOs from the leveraged loans sector, which offer low event risk at a triple-A level due to both high recoveries and credit enhancement.
Another part of our investment strategy is to monitor economic indicators. Unemployment and interest rates are important when looking at the sub-prime mortgage and loan sectors. We also use macro-economic indicators such as affordability and debt-to-income ratios to compare for example Spain and the U.K.
A very important aspect of our strategy is evaluating rating agency methodologies. We look to see, for example, how ratings agencies penalize deals for lack of information availability. Lack of information availability can cause a penalty that makes issuers put more credit enhancement into a deal than may actually be needed. We also compare the agency methodologies among themselves, because each has its own type of analysis and therefore its own type of interpretation of risk. The different methodologies give us the opportunity to find relative value, since one approach can be more stringent than the others.
As a pension fund, what is the attraction of asset-backed securities?
The ABS portfolio is part of the IPFE, which is benchmarked against the Lehman Brothers Euro Aggregate Index with 10% Governments. A part of this index consists of covered bonds (e.g. Pfandbrief). The ABS portfolio gives us the opportunity to generate additional carry above this asset class.
As a pension fund we can afford to have some illiquidity in our portfolio. We want to be able to analyze exposures, but don't necessarily need the liquidity, which is an advantage to us. European ABS, especially the lower-rated credits, have benefits of spread pick-up and offer low volatility.
The strategic position in ABS gives us diversification both in terms of types of assets and geography, a spread advantage over similarly rated pfandbrief. We also can move down the credit curve, while maintaining ratings stability.
Have you been observing spread tiering in European asset-backed securities? Has it affected your investment strategy?
About one year ago, investors were focusing on spread tiering between deals from different countries. They were looking at the difference between the U.K., Italy, Spain and the Netherlands, but we decided to look at the quality of the deals' underlying asset pools and the quality of the originator, not where the deal comes from. Now, investors are seeing spread differences more between issuers than between countries.
What are the major challenges you face in the current market environment?
The difficulty in this environment is the worsening macro-economic trends. Anticipating where downgrades might occur is a major challenge, i.e. which asset classes are going to be hit first. It is important to assess if we can still go down the credit curve in these sectors. So far, we are seeing some problems in the German RMBS sector where the Provide Gems deal has been put on negative watch.
Spread widening may first occur on unsecured consumer loans and there may be a buying opportunity there. At the moment, however, those deals are still too tight. We are also watching house prices in Holland, because there are some concerns prices may fall in the future.
What asset classes are you avoiding and why?
As mentioned earlier, we invest in more granular transactions. Therefore we avoid CDOs where there is large exposure to single borrower corporate names. CDOs backed by corporate names would be an overlap with corporate portfolio managers that invest in those names already. We also avoid whole business securitizations, due to the exposure to the event risk of one single company. We are investigating commercial mortgage-backed securities at the moment, but we are concerned about single loan and real estate risk and the deals are not very granular.
What have you been adding to your portfolio lately?
Recently we have been adding some asset classes like non-performing loans and non-conforming RMBS deals. In the past, U.K. non-conforming RMBS deals did not have euro tranches. Being a euro-denominated investor, we didn't invest because the currency swap was too expensive. But, now that these deals have euro tranches, this is also part of our investment spectrum. We have also been buying Italian lease transactions. Those deals widened because of recent over-issuance in the sector, and they are now tightening again.
What kind of service are you getting from the sell-side in terms of allocation in the primary market and secondary trading?
In the primary market, the investment banks know we are a large ticket investor and we have communicated that to the market. We have a few good relationships with these banks. The portfolio is E2.1 billion and the minimum ticket would be about E20 million. Especially down the credit curve tranches can be as small as E20 million, a large portion of that tranche would be a requirement. Furthermore, monitoring a large number of smaller positions is too time consuming.
Do you use sell-side research, why or why not? Which house offers the best research?
We do use sell-side research, because it is useful to compare what different banks are writing on the same topic. We do not depend on sell-side research to make our decisions. Conversations with ratings agencies are our main driver to understand a transaction.