ING Investment Management has more than E250 billion in assets under management of which about E12 billion is in asset-backed securities. Based in The Hague, The Netherlands, the E1 billion Global ABS Fund is co-managed by Erik Jan van Bergen, and Bas Kragten. Kragten joined ING six months ago from NIB Capital Asset Management where he was responsible for a E2 billion ABS portfolio. Van Bergen has been with ING for 12 years.
BW: How would you describe the fund's strategy?
BK: ING follows a strict investment process based on a thorough fundamental issuer selection methodology. In the assessment of individual transactions, ING has developed a strict three-step approach. Transactions are reviewed by assets--type of collateral, cashflow generating capacity, stress testing, structure--structural integrity, suitability, structural protection, legal issues, third-party exposure assessment and servicer and originator analysis. In addition, there is a top down allocation of risk budget to sectors and countries/regions on a global basis. This process is completed by a proprietary credit surveillance process.
In addition to the public securitization markets, we are active in the private placement markets where especially smaller transactions get executed. This offers better documentation as well as higher yields.
BW: What are the major challenges you face in the current market environment?
BK: The major challenges we currently face are to insulate the portfolios we manage from headline and event risk. Therefore, we focus primarily on transactions with highly granular [i.e. a large number of loans, mortgages, etc.] asset pools. The law of the large numbers is important and allows us to perform an actuarial analysis. If you combine this with thorough management of servicer/third-party risk, we can create an investment opportunity, which offers stability as well as an attractive yield. In addition to that, the structural changes in the global markets, especially in the areas of accounting and Basle II, offer both challenges as well as opportunities.
BW: What asset classes are you avoiding and why?
BK: Given the strategic direction of the fund, the inclusion of CDOs, whole business securitizations and commercial mortgage-backed securities with large individual borrower concentrations is rare. Experience has shown that the ratings of these structures are potentially volatile. In addition, liquidity risks are substantial.
We also worry about some innovative structures like CDOs of hedge funds and private equity. These structures are becoming such complex animals. We question whether the markets truly can get a grip on all the moving parts and risk profile of these structures, which are put together on the basis of highly sophisticated credit modeling techniques and frequently unproven assumptions.
BW: What kind of service are you getting from the sell-side in terms of secondary trading?
BK: Liquidity in the ABS markets is improving, however not to the levels we would like. Tradability in some sectors, especially the ones like CDOs, is disappointing in this risk-averse market climate. The name of the game is avoiding headline risk and to spot portfolio deterioration as soon as possible. If you're too late, the Street will not be there to take the position off your books at a decent price.
BW: What have you been adding to your portfolio lately?
BK: We have been focusing primarily on the residential mortgage and consumer loans sectors. Recent transactions we liked were the Spanish consumer loan transaction from Santander Centro Hispano as well as the RMBS out of Italy from IntesaBCI. We are careful on mezzanine tranches out of the U.K. master trust issues as the pools continue to be characterized by very low seasoning [i.e. newly originated mortgages] and high loan-to-value ratios due to the revolving character of the structure [i.e. new mortgages can be substituted in the pool for those that pre-pay]. The static pool transactions have our preference.
BW: What developments have you noticed during the few last years?
BK: The inclusion of ABS in fixed-income or specific credit portfolios in Europe is becoming more popular but is still not mainstream. The majority of investors still are banks, conduits and structured investment vehicles (SIVs). The problem for a lot of institutional investors is that the benchmarks (Lehman Brothers Aggregate and Salomon Smith Barney Big) do not include ABS. The reasons behind this are, amongst others, the floating rate character of the largest part of the market as well as the still opaque collateral information and hence mark to market valuations. Institutions are gradually including some ABS in their portfolios on an opportunistic basis.
BW: Why should a fixed-income mandate include asset-backed securities?
BK: The inclusion of ABS in fixed-income portfolios can offer relatively high spreads, which have shown a relatively stable pattern over the last years. ABS investments will offer further diversification of risk to alternative assets classes. ABS has shown very stable credit quality as expressed in low rating migration figures in the volatile last three years.