By Leslie Kramer
The auto asset-backed securities market has been the hottest sector in the ABS market all year, at least in part because the sector has been around for 25 years, so investors tend to understand it, according to Stuart Litwin, partner and co-head of securitization at Mayer Brown. But unprecedented regulation in the sector could present hurdles, said Litwin, who will be moderating today's Funding Challenges Facing Automakers and the Future of Auto ABS panel.
"The issuers have been flocking to the market," said Litwin. Virtually all of the captive finance subsidiaries of the auto manufacturers have issued in the auto ABS market this year, he noted. In general, interest rates have been low and the spreads on top of the benchmark interest rates have been extremely low, so issuers are finding market conditions to be favorable. One factor, however, that could change the ABS landscape is the "unprecedented level of new and proposed rules that are currently being considered by the [Securities and Exchange Commission] and the bank regulators," according to Litwin. The types of deals and the process for getting those deals done will look very different than what auto ABS deals looked like before the financial crisis, Litwin claims.
One of the main changes that current issuers will have to cope with is the new rules relating to risk retention. The Dodd-Frank Wall Street Reform and Consumer Protection Act will require issuers of asset-backed securities to retain a 5% interest in receivables for the securities. The SEC and bank regulators also came out with proposed rules. "The comment period has now ended, and final rules could be out in 2012," Litwin said. There will also be changes made to Regulation AB and related changes to the offering process, he noted. Some of those changes would potentially require more loan-level data or greater disclosure about the portfolios than what is currently being provided.
Other changes in the process of asset-backed offerings include having all the documents on file with the SEC and having a period of five business days before being able to sell the securities, so that investors will have time to digest all the information and understand the transaction before buying it, said Litwin. Additionally, the SEC is considering making all of the disclosure rules that apply to public ABS offerings applicable to private deals.
As part of a separate set of rules, the SEC is considering requiring issuers of ABS to provide investors with a waterfall computer program model that would enable investors to change loss and prepayment assumptions to show them what the cash flows in a transaction would look like. "Most issuers thought it would be difficult and costly to do, and the SEC has removed that proposal from its current rulemaking, but the SEC said recently that the waterfall computer program idea is still on table," noted Litwin.
In terms of auto sales, the panel will also address the issue of how the Origin Equipment Managers' (OEM) sales volume and vehicle values have, and will continue to, impact ABS transactions. "The auto industry has recovered well and quickly from the bankruptcy period of a couple years ago, in terms of wholesale transactions and continues to perform well, said Mike Babick, senior v.p. at rating agency DBRS.
OEM's have been helped by the rationalization of production at the manufacturing level, basically manufacturers are producing automobiles at a more sensible level, as production is now more driven by sales demand than the prior practice of keeping the factories producing, due to former labor agreements, Babick explained.
"Statistics show that before the wave of bankruptcies in the auto industry, the amount of autos that dealers had on their lots versus what they have today was much lower, which means that dealers are turning over inventory at a quicker level, so they are healthier, because they have fewer cars to sell in a reasonable timeframe," said Babick.
In general, the lease penetration rates, or the percentage of vehicles that are leased, are down slightly, because historically more vehicles were coming off their leases and entering the used vehicle market. "So we are seeing a lot fewer cars coming off the lease at this stage, which is contributing to a stronger used car market, with car values being up," Babick said.