Fixed Income Viewpoint
Asset-Backed Securities – April 2014
Sector Rating: Market Perform Relative Value
3-Year: Market Perform 5-Year: Market Perform
Spread View – In Q1/14, large Canadian bankcard ABS has outperformed deposit notes in the five-year part of the curve as exhibited by the 12 bps (14.5%) tightening in credit card ABS spreads compared with the 7 bps (8.5%) tightening for bank deposit notes. Bankcard ABS currently trades ~6 bps through comparable deposit notes, which is the tightest level seen so far in 2014 but still off by ~5-6 bps from the levels seen early last year. We believe credit card ABS will continue to trade through deposit notes given the expectation for manageable ABS new issuance and for the Canadian banks to be active in the unsecured wholesale funding markets in 2014. Furthermore, we believe asset-backed securities will be outside the range of liabilities covered under the bail-in powers.
Credit Curve – Credit card ABS trades wider in the short end of the curve at ~1 bp back of deposit notes compared to ~6 bps through in the 5-year part of the curve.
Sector Value – We believe Glacier Credit Card Trust looks at- tractive in light of its announcement on August 8, 2013, that it intends to seek a financial partner for its $4.4 billion credit card portfolio. The Glacier 5-year indicative credit spreads are ~7 bps back of the large bank card programs, which could tighten if the Trust gets support from a large Canadian bank.
Recommendation
Top Pick – From a fundamental perspective, our top pick in credit card ABS is Golden Credit Card Trust (RBC sponsored) with its leading collateral performance (lowest charge-off level, second-highest excess spread, second-highest payment rate and best-in-class “capacity” measure as of January 2014) and solid bond liquidity.
Risks
Regulatory – In the 2014 Budget, the government announced that it will work with stakeholders to reduce credit card acceptance fees for merchants, while encouraging merchants to lower prices to consumers. We are not surprised by the government’s inten- tions to reduce credit card acceptance fees for merchants given the Competition Tribunal argued that the proper solution to the concerns raised by the Commissioner of Competition is through a regulatory framework. We do not expect a resolution to this issue over the near term; however, a potential reduction in credit card acceptance fees would reduce portfolio yield.
New Issuance – Total ABS
issuance so far in 2014 is $1.7
billion compared to $3.1 billion
in the same period last year.
This consists of US$1.0 billion
dual tranche (2014-1 & 2014-2)
issue from Golden and $644
million 2014-R2 transaction
from FAST. In 2014, we expect
total term ABS issuance to
decline to $6–7 billion across
all currencies, which includes
credit card ABS issuance of
~$4 billion, auto ABS of ~$1
billion and other ABS issuance
(Hollis & Genesis) of $1–2 bil-
lion. That being said, we could
see a greater use of ABS funding if these securities remain outside the range of liabilities covered under the bail-in powers.
External – Canadian light vehicle sales remain strong with sales up 1% y/y to 357.6k as of March 2014. Growth was driven mainly by Asian manufacturers with sales up +5.0% y/y. Meanwhile, North American automakers lagged slightly with combined sales down 2.4% y/y mainly due to Ford (-7.6%) and GM (-4.6%), and partially offset by Chrysler (+4.5%). BMO Economics forecasts sales to be ~1.71 million in 2014, down slightly from 1.74 million in 2013.
Trading Liquidity – Large Canadian bank credit card ABS continues to have the best secondary trading by virtue of their large amount of outstanding securities. Retail auto ABS has limited liquidity with only 11 deals totalling ~$2.7 billion.
Credit Profile
Sector Collateral Performance – Credit card collateral perfor- mance remains strong heading into 2014. In January, payment rate declined slightly y/y to 35.09% from 35.53% in January 2013 primarily due to Cards II (-433 bps y/y). Meanwhile, charge-offs remained below 4% for the fifth consecutive month at 3.61%, the lowest level since 2007. We continue to expect charge-offs to remain low over the near term given stable delinquencies.
Sector Fundamentals – Consumer insolvencies have been rela- tively stable in the last 12 months as a 4.8% y/y rise in proposals was offset by a 4.1% y/y drop in bankruptcies. Finally, BMO Economics forecasts Canadian GDP to increase by 2.3% and the unemployment rate to fall to 6.9% in 2014, which we believe should keep bankruptcies and charge-offs low.
Credit Ratings – We do not expect any rating actions on existing Canadian credit card and retail auto loan ABS.
George Lazarevski, CFA
BMO Nesbitt Burns Inc. george.lazarevski@bmo.com (416) 359-7488