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Dutch tackle more legacy US RMBS with second auction

Tue, 7th Jan 2014 20:09


By Adam Tempkin

NEW YORK, Jan 7 (IFR) - The Dutch State Treasury Agency's second auction of legacy US RMBS will likely comprise better-performing bonds and be more weighted towards fixed-rate mortgage bonds as collateral.

It announced on Monday that it would sell off at least USD2.5bn more of the US RMBS portfolio the government acquired as part of the financial crisis bailout of Dutch bank ING.

"The DSTA is likely targeting higher-quality bonds in the upcoming second auction and in fact may be trying to attract more institutional investors, including insurance companies, this time around," John Sim, head of non-agency mortgage bond strategy at JP Morgan, told IFR.

"I would think that what's left over in the ING portfolio mainly comprises prime ARM and Alt-A fixed-rate RMBS, with bond prices potentially in the USD80 to USD90 range."

In December it auctioned off USD5.1bn of its legacy ING portfolio - mostly pay-option ARM collateral - leaving mainly fixed-rate Alt-A and prime residential mortgage bonds remaining.

That auction was the largest sale of legacy US mortgage risk to the secondary market from a large European bank since Lloyds sold a US$8.7bn list in May 2013.

Five broker-dealers were invited to the December auction conducted by BlackRock, which is also running the upcoming sale.

Bank of America Merrill Lynch won a majority share of USD1.849bn, followed by Goldman Sachs (USD1.269bn), Morgan Stanley (USD788m), Credit Suisse (US$659m) and Deutsche Bank (USD553m).

The banks quickly sold about two-thirds of the bonds on to investors, who have been clamoring for legacy US RMBS debt as valuations increase amid a recovery in US home prices.

Demand for the second DSTA auction is expected to be just as strong, based on the double-digit returns up for grabs.

In 2013, legacy subprime paper returned nearly 30%, and dented Alt-A and option ARM paper returned around 20%, according to JP Morgan analysts.

TRADING WELL

The last auction was heavily weighted towards pay option ARM RMBS paper, which accounts for nearly half of the overall ING portfolio based on current face balance, according to Interactive Data.

"The remaining portfolio experienced a meaningful shift toward fixed-rate collateral, with more than 50% now in this subsector, up from only 37% previously," wrote David Varano, an analyst at the financial-data firm, in a new report.

"Regarding underlying loan credit quality, the DSTA portfolio appears to have been left with better-performing securities in the wake of the first bid list sale."

According to JP Morgan's Sim, 92% of the December auction comprised riskier pay-option ARM collateral. But the higher quality paper left over may still have an audience.

"Traditional asset managers want higher quality paper, so the second auction may attract insurance company money that seeks the equivalent of NAIC-1 or NAIC-2 rated paper," Sim said.

"The current risk-reward scenario may favor higher-quality paper because investors are not getting paid enough to take on the increased risks of lower-tier paper."

The DSTA expects to be able to divest the remaining assets within a period of 12 months.

On a weighted-average basis, the bonds sold last month had an evaluated price of roughly USD60, compared with a higher average of USD84 for the remaining portfolio.

The higher price likely reflects that the bonds were originally higher in the capital structure, with adequate credit enhancement and strong structural support.

About 32% of the remaining portfolio comprises Alt-A fixed-rate paper, while 30% is prime adjustable-rate.

Only 2% now comprises pay-option ARM paper, which accounted for 43% before the previous sale, Interactive Data said.

The last bid list reportedly traded very well, with investors taking down roughly 65% of the bonds, according to FINRA's publicly available Trade Reporting and Compliance Engine data.

The other 35% stayed with dealers, which are still trying to sell it down. (Reporting by Adam Tempkin; Editing by Marc Carnegie)



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