MetLife Investment Management speaks to SCI about the year ahead

Q: What’s your general outlook for the structured finance sector in 2019?

William Moretti, head of structured finance, MetLife Investment Management: “On the whole, I’d say that structured finance is in a much better position to face another potential downturn than it was in 2007, before the last crisis. There have been a number of structural improvements to transactions and regulations - like risk retention - have helped to improve the quality of deals further and to prevent the likelihood that structured finance will be impacted in the next downturn to the same magnitude as in the prior crisis.”

Q: If there is a downturn in the sector, where will it come from?

Moretti: “Should there be a downturn, it will likely stem from the corporate space, unlike the prior crisis which stemmed from the consumer space. The US consumer remains healthy, along with supportive housing fundamentals. We view consumer and residential sectors as more defensive than CLO and CMBS given that the latter have a higher correlation to the corporate sector.

Q: Are you optimistic on consumer credit, in general, even in the sub-prime space?

Moretti: “In the personal loan space, there may be an uptick in defaults but we don’t think this will be across the board. Instead it might be more related to certain issuers that lack the ability to service certain loans or that have gone down the credit spectrum in terms of lending criteria. The subprime consumer is certainly more susceptible to a downturn, of course, but the subprime consumer is far healthier than it was pre-crisis, due to the greater restraints on lending and general consumer deleveraging.”

Q: What’s your outlook on CLOs this year in the face of predictions of reduced issuance and a potential uptick in defaults?

Poorvi Dholakia, structured finance strategist, MetLife Investment Management: “We don’t see a high risk of defaults coming through in CLOs this year, largely because a big uptick in leveraged loan defaults is unlikely. Post-crisis CLOs are also very well structured, with higher credit enhancement than pre-crisis. They should therefore be resilient even in the face of a severe downturn.”

Q: Is it possible we will see divergence in manager performance in a downturn?

Dholakia: “It is possible that we may see greater manager differentiation with, for example, some of the smaller, less experienced managers showing worse performance than larger more well-known managers that have greater expertise and infrastructure. Manager selection may therefore be more important moving into 2019.”

Q: Do you expect CLO issuance to decline this year?

Dholakia: “While CLO issuance is predicted to be down this year, it hit record levels of new issuance in 2018 of US$130bn and similar in refi/resets. It’s expected to be around US$100bn this year which would still be high.

Q: What will drive issuance dynamics this year?

Dholakia: “There is a risk of supply going down if the CLO arbitrage is pressured, amongst other things. However with lower supply, spreads will likely compress, which in-turn would improve CLO arbitrage and thereby CLO supply. In addition, the macroeconomic climate could alter investor appetite for risk assets in general and may look to position into more defensive assets. Further, the impetus to buy floating rate products could get impacted with a lower probability of future rate hikes from the Fed, similar to what we saw during December of last year.”

Are there any specific challenges the structured finance sector will face in 2019?

Francisco Paez, head of structured finance credit, MetLife Investment Management: “In general we don’t think that we’ll see huge asset specific issues in 2019. Most challenges to structured finance will likely come from macroeconomic factors but these may strain the industry.”

Are challenges going to be different in Europe and the rest of the world?

Paez: “We see a different dynamic in Europe where, for one thing, we think the European market will likely struggle issuance-wise in the first part of the year with the new Securitisation Regulation. However, on a positive note, there may be more of a move for issuers to look at securitisation as a source of funding, particularly with the tapering of QE programmes. This is particularly true in the UK where the funding for lending scheme has come to an end, so banks may well have more impetus to issue RMBS transactions. We also have some focus on Australian issuance. Interestingly, while Japanese investors are familiar players in the US CLO market they have been looking more closely at Australian securitisations and may change the demand-supply dynamics in that market. On the fundamental side, in the UK and in Australia there has been some dip in house prices recently which is a bit of a concern although, we’re mainly constructive on the UK and Australia securitization markets.”

On areas of growth/opportunity in 2019:

Dholakia: “In terms of growth areas, non-agency RMBS is likely to be an area of increased issuance and we expect upward of US$100bn this year. There are compelling opportunities within the reperforming loan space at the current spread levels. We see opportunities in the CLO space too where you can pick up good spreads to compensate for the extra risk – currently AAA CLOs offer higher yields relative to 10-year CMBS AAAs given the benefit from higher Libor rate, for example. Esoterics are also an area of interest and we may invest there with a pick-up in spreads. Similarly, BBB autos, for example, are attractive given their shorter duration profile and upgrade potential.”

Where could innovation come from in the structured finance sector in the years ahead?

Moretti: “When thinking about the future of securitisation more long term, I think that one of the biggest drivers of innovation over the next five years will be in the greater incorporation of technology.  Namely this will be in the tokenisation of the securitisation process through the use of blockchain, resulting in a greater range of collateral being securitised and greater issuance across a range of asset classes. “

Richard Budden