04/02/2010

Bullish Streak Continues for European MBS

The market for European mortgage bonds is approaching a milestone in its recovery from the credit crisis.

In the past few weeks, traders in the region have seen secondary-market prices for five-year home-loan securities with triple-A ratings increase to an average of 92 cents on the dollar from 89.5 cents. That works out to a spread of 110 bp over Libor for deals backed by U.K. credits and 108 bp over Euribor for Dutch pools.

Now industry players are turning their attention to a €700 million ($950 million) tranche of 4.9-year senior securities from a deal that Rabobank unit Obvion is set to price soon - saying the class could fetch a spread of less than 100 bp over Euribor. That's a key resistance level that hasn't typically been broken among benchmark five-year bonds since 2008, before the already-damaged financial market went into a tailspin.

Obvion's deal, backed by Dutch mortgages, totals €1 billion overall. It also includes a €240 million senior piece with a shorter maturity that is expected to price around 80 bp over Euribor, along with €60 million of junior securities that the Utrecht, Netherlands, lender plans to retain. Rabo and Societe Generale are serving as underwriters.

The values of European mortgage bonds began climbing back from their credit-crisis lows several months ago, amid light open-market supply. Those gains were interrupted early this year as investors mulled the possibility that fiscal strains in Greece, Ireland, Italy, Portugal, and Spain might create a contagion elsewhere. But industry participants are interpreting the results of recent secondary-market trades and the expected pricing of the Obvion deal to mean that buyersiders are shrugging off those concerns.

Fitch downgraded Portugal's sovereign debt by one notch on March 24, to "AA-," while eurozone nations are working with the International Monetary Fund to put together a rescue package that would prevent a default in Greece.

A growing new-deal flow also supports the idea that mortgage-bond issuers in Europe sense a more receptive investor audience. Obvion's issue is making the rounds a week after Fortis Bank completed a €7.5 billion Dutch-mortgage securitization - pricing a €3 billion class of senior five-year securities at 112 bp over Euribor and keeping the rest for itself. Lloyds Banking and RBS also have offerings in the pipeline.

According to a March 22 report from Henderson Global Investors, three distinct groups of buyers have emerged: Those pursuing senior pieces of new deals; those focused on secondary trading of paper from routine issuers; and traders of distressed junior securities.

In many cases, prices on junior bonds - especially short-dated ones - are rising faster than those on senior issues, thanks to aggressive bids from fund managers. But prices can range from as little as 10 cents on the dollar to as much as 90 cents. "It's all over the place," one investor said.

Looking forward, traders expect new deals to serve as benchmarks for secondary activity.

In the U.S., where a few deals are also in the works, secondary prices for private-label mortgage bonds rose 1-2 cents in each of the past two weeks. Five-year senior classes of jumbo-loan deals are now trading around 88 cents on the dollar.

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