TwentyFour Asset Management
As we wrote on Friday, one of our biggest takeaways from last week’s Global ABS conference was the growing number of prospective new issuers in the market.
Increasingly we are seeing new mortgage and consumer lenders looking to fund themselves in the ABS market, an interesting development that has everything to do with capital charges making banks less competitive. In the last few years we have seen new lending platforms from all across Europe, everything from technology based platforms to peer-to-peer and alternative non-prime lenders. The growth trend is not limited to mortgages; we have talked about the growing number of CLO managers in Europe many times (over 50 now), but we are seeing a growing number of fintech firms as well, such as France’s Younited, which has recently issued its first consumer ABS deals.
Overall this is a positive trend, both for consumers and investors. This offers us more diversification and we have seen some great new lenders from the Netherlands (a country with probably the tightest mortgage regulation), Scandinavia and France. New UK lenders like Atom Bank, Chartercourt and Precise have also issued RMBS transactions.
One has to wonder if the market is big enough for so many new lenders, and inevitably there will be some consolidation. Tesco Bank, for example, has stopped its mortgage lending activities and is considering a sale of its £3.7bn book.
Although we welcome the diversification, we have to be realistic that there are only a handful of ways for new lenders to compete with the established players in the market. Technology (speeding up execution), price and product standards are the main tools for new lenders to win market share. Doing due diligence on new lenders takes a lot more time than it does for names like Coventry or Nationwide. We spend a lot of time scrutinising origination and servicing processes, but we also want to make sure that a particular lender will still be around in five years’ time. ABS is default remote from the lender, but that doesn’t mean there won’t be price volatility in the bonds if said lender is under stress (see for example Co-op Bank a few years ago).
Some of the new technology in the space is here to stay, and it’s something we can get comfortable with as long it’s done in the right way. Pricing is a function of cost of funding and competition, but weakening lending standards is something we keep a sharp eye on. Though we haven’t seen much of this yet, just last week we looked at a new lender in the UK that already has over 30% of its exposure to borrowers with recent county court judgements, or CCJs. These are borrowers that have already defaulted on a liability, such as a phone bill or mail order. Investors have to wonder if they really want or need to own this kind of risk so late in the cycle.
Like every other market, ABS is not immune to late cycle behaviour from borrowers and new players trying to take a piece of the pie. We have seen increased leverage in the corporate space, high levels of debt for sovereigns, and weak documentation in high yield and leverage loans. And while we believe the cycle will last a few more years (and that mortgage defaults will be limited), volatility has increased and will probably increase further, especially for weaker names. We have high hopes for some of the high quality prime lenders we have met, but due diligence is critical to making sure we avoid future skeletons.