03/06/2009

More Issuers Scramble as Card Payments Lag

Deteriorating borrower performance has forced American Express, Citigroup and First National Bank of Omaha to divert cashflows from securitized credit cards into special reserve accounts - and more drastic moves could follow.

The so-called cash trapping was triggered by a slide in excess spreads, the money remaining in securitization pools after bondholders have been paid. Under normal circumstances, those funds would be the issuers' to keep. But if excess spreads fall to minimums established in bond covenants, those cashflows must be set aside to create cushions against investor losses.

Typically, those "triggers" are 4-5%.

Amex trapped $1.5 million for two series of fixed-rate bonds in February, after the deals' excess spreads fell below a 5% threshold. Unless those spreads rebound, the lender must increase the reserve to $22 million. Citi started trapping cash on deals from its Citibank Credit Card Issuance Trust in January, when excess spreads dipped below a 4.5% minimum. Some deals from an older Citi trust were already trapping cash last year. First National Bank of Omaha, meanwhile, started trapping last month, when spreads on its First National Master Note Trust dipped to 3.8%.

The maneuvers mirror those taken by several other credit-card lenders in recent months, as weakening consumer credit has sent ripples through securitization trusts. Ultimately, the issuers will want to restore their excess spreads, so they can resume pocketing the left-over cashflows.

To achieve that goal, Amex and Citi may follow the lead of Bank of America, which this week added a first-loss piece to two trusts while employing a once-obscure mechanism called the "discount option." But First National Bank of Omaha says it has no such plans, blaming its need to trap cash on a temporary increase in its cost of funding.

Discount options allow issuers to book some incoming principal payments as finance changes, thus creating the appearance of added yields on their asset pools. Investors said most card lenders have conceded that they are considering the move.

J.P. Morgan is probably among them. Its Chase Credit Card Master Trust, 2008-1, was in danger of having to trap cash after posting an excess spread of 4.6% in February. Other Chase deals are hovering around 5%.

Spreads on certain Discover issues are also around 5%, in some cases rebounding after months below that level. And spreads on one deal from PNC Bank's National City unit fell below 4% in February, while another is around 5%.

Average excess spreads among securitized credit card accounts declined to 5.7% at the end of January, from 6.4% in December, according to S&P (see article on this page). Oddly, BofA, which started trapping cash in November, was able to stop last month after its excess spreads rose independently of its discounting move.

Meanwhile, investors are skeptical about the added protections offered by maneuvers like discounting and additions of first-loss pieces, both of which affect the structure of outstanding deals. They say that on top of serving as proof that a collateral pool is already under stress, such moves sound alarms that irreversible trouble could be on the way.

"To me, you either know how to run the business or you don't," one buysider said. "We've always felt that, if you can't manage it well, then an extra 1-2% of yield doesn't change your risk."

The thought is that there's only so much time an issuer can buy. If underlying asset performance continues deteriorating, issuers who were able to stop trapping cash may eventually have to do so again, or could even face early-amortization scenarios.

On the other hand, one card lender said discounting is "an indication that the firm is standing behind ABS investors and committed to them . . . While enhancements won't make a trust invulnerable, [they] substantially improve the performance and make it very unlikely that you would confront an early amortization in that trust."

Most buysiders also say that early unwinding of deals is unlikely, even if it means issuers have to take repeated steps to prop up their asset pools. There's only so much that a lender can discount its cashflows, however, as the tactic eats into lending capacity.

Aside from those sorts of moves, most credit-card lenders have already sought to boost excess spreads through means that don't entail structural adjustments. For instance, many have cut off weaker borrowers, reduced credit lines, instituted higher standards for new accounts or hiked interest rates and fees.

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