Securitization is dead right now, and that is the biggest problem for credit in the developed world. The Fed announced a big boost to its Term Asset Lending Facility (TALF) in a bid to bring down spreads on asset-backed securities, and it looks like the Bank of Canada could follow suit in the coming months. Investors can get in front of this policy change by owning triple-a rated commercial mortgage backed securities (CMBS) and asset backed security (ABS) securities either directly or in Canadian fixed income funds.
CMBS and ABS are essentially securities holding pools of loans, commercial mortgages in the first case and credit cards and auto loans typically in the second case. New issuance of these securities is all but dead because credit has dried up for these types of deals says Chris Kresic Senior Vice President, Investments at Mackenzie Financial Corporation.
Spreads on existing securities have widened considerably, reflecting higher expected default rates but also a liquidity premium too. Tranches of triple-a rated CMBS are trading 450 basis points over government of Canada bonds and a Bank of Montreal (BMO) MasterCard ABS deal is trading 350 basis points over government bonds. This is the spread on existing deals, but the amount of new deals being issued is few to none.
The Bank of Canada only stated in an official press release Monday that given the low level of its overnight rate it would provide additional monetary stimulus through quantitative and credit easing. The “framework” for this policy will be revealed in its April Monetary Policy Report.
Suffice it to say that the need to bring down credit spreads is a high priority for the Bank in order to maintain the flow of credit in the domestic economy. This is a pressing matter not just for new lending but for refinancing of existing CMBS and ABS deals that come due.
Spreads in ABS and CMBS already offer tremendous value says Kresic who remains skeptical that any possible Bank of Canada lending facility would cause spreads to tighten in considerably before the economy recovered.
At the very least, refinancing risk would be diminished and liquidity premiums on these securities would come in, but don’t bet against spread tightening if the Bank throws its weight behind securitized lending.
Even if record default rates do happen on commercial mortgages for example, Kresic says that he would be surprised if most of the triple-A securities at current prices aren’t money good.
This article is tagged with: Investing for Income, REITs, Macro View, Economy, Real Estate, United States
