Collapse in the Eurozone ABS activity

The ABS market in the Eurozone has shrunk dramatically. There is no paper to be found and investors are trying to figure out what's going on.

Bloomberg: - Frank Erik Meijer, who buys asset- backed securities [ABS] for Aegon Asset Management Holding BV, wanted 1 billion euros ($1.2 billion) of bonds tied to car loans. Two weeks later, his brokers had raised 2 percent of that amount.

“There are, simply, no sellers,” Meijer, who’s been investing in Europe’s securitization market for seven years, said in an interview from The Hague, Netherlands.

Sales of bonds backed by mortgages, auto loans and credit- card payments have plunged about 80 percent in the five years since the financial crisis started, which is bad news for politicians counting on consumer spending to rescue the continent from recession. It’s also a problem for investors such as Meijer, who favor the top-rated bonds as a safe, higher- yielding alternative to German debt and other haven assets.

Asset-backed bond sales fell to 41.9 billion euros for the year through Aug. 6, from 50.5 billion euros in the same period of 2011 and compared with a record 509 billion euros in 2006, JPMorgan Chase & Co. data show. The drought is forcing investors to accept the lowest yields in five years on some securities.

So where is all the euro denominated ABS paper? Two trends in the Eurozone are responsible for this collapse in ABS activity.

1. Clearly the economic slowdown has reduced demand for consumer loans. With fewer loans to build collateral pools, secularization has slowed.

The ECB (bank survey): - Net demand for consumer credit continued to decline strongly in the second quarter of 2012, at -27% according to euro area banks, compared with -26% in the previous survey round. According to euro area banks, the protracted decline was mainly driven by less household spending on durable goods (-28%, unchanged from the first quarter of 2012) and a decrease in consumer confidence (-26%, compared with -28% in the first quarter of 2012).

2. Eurozone banks can't or don't want to sell ABS bonds. The majority of banks in the Eurozone periphery nations (and some in France) have securitized all the consumer loans on their balance sheets they could - particularly where they could get an investment grade rating. But instead of selling these bonds, they posted them with the Eurosystem (the ECB) as collateral in order to obtain financing. This practice became widespread as the ECB expanded collateral eligibility rules and the dependence on the ECB funding increased.

The ECB: - In addition to the ABSs that are already eligible for use as collateral in Eurosystem operations, the Eurosystem will consider the following ABSs as eligible:

1. Auto loan, leasing and consumer finance ABSs and ABSs backed by commercial mortgages (CMBSs) which have a second-best rating of at least “single A” [1] in the Eurosystem’s harmonised credit scale, at issuance and at all times subsequently. These ABSs will be subject to a valuation haircut of 16%.

2. Residential mortgage-backed securities (RMBSs), securities backed by loans to small and medium-sized enterprises (SMEs), auto loan, leasing and consumer finance ABSs and CMBSs which have a second-best rating of at least “triple B” [2] in the Eurosystem’s harmonised credit scale, at issuance and at all times subsequently. RMBSs, securities backed by loans to SMEs, and auto loan, leasing and consumer finance ABSs would be subject to a valuation haircut of 26%, while CMBSs would be subject to a valuation haircut of 32%.

These bonds are "trapped" at the National Central Banks and will likely not see the light of day (dependence on the ECB funding is not going away any time soon).

But even banks in the Eurozone core nations do not want to sell their consumer loans. With rates in those nations at or even below zero and demand for loans from consumers weakening, these banks need to hold on to consumer loans they have to provide them with much needed interest income.

SoberLook.com