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“Securitization: Past, Present and Future” What It Is. Where It Came From. Where It’s Going.

SECURITIZATION COLLOQUIUM. “Securitization: Past, Present and Future” What It Is. Where It Came From. Where It’s Going. Kellogg Graduate School of Management April 28, 2003. Joseph M. Donovan Managing Director and Group Head. Yes. Maybe. No. Autos Credit Cards Home Equities

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“Securitization: Past, Present and Future” What It Is. Where It Came From. Where It’s Going.

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  1. SECURITIZATION COLLOQUIUM “Securitization: Past, Present and Future” What It Is. Where It Came From. Where It’s Going. Kellogg Graduate School of ManagementApril 28, 2003 Joseph M. Donovan Managing Director and Group Head

  2. Yes Maybe No • Autos • Credit Cards • Home Equities • Equipment Leases • Student Loans • CBO/CLOs • Future Export Rec.’s • Tax Liens • Disney Film Library • Bowie Bonds • Secured Debt • Commodity Backed WHAT IS AN ASSET BACKED SECURITY? • A fixed income instrument designed to capture the cash flow and credit attributes of a specific pool of assets (loans, receivables) • Enhanced to achieve high ratings or target a particular buyer • Examples of Assets

  3. WHAT IS AN ASSET BACKED SECURITY? Company Individual Assets (Loans, Receivables) on Company’s Balance Sheet Rights to future cash flows Future cash flows Cash proceeds today Trust or SPV Bond Investors Purchase bonds (cash today) “Excess” future cash flows Credit enhancement

  4. WHAT IS AN ASSET BACKED SECURITY? • Sources of Credit Enhancement • Internal • The assets • Excess interest • Spread or reserve accounts • Subordinated classes • External • Seller’s limited guaranty • Third-party LOC/surety bond

  5. The Early Years:1985-1994

  6. I. THE EARLY YEARS: 1985-1994 • In 1985 the ABS Market was born, first with autos . . . ($ in Billions) Auto Source: Thomson Financial Securities Data, Credit Suisse First Boston, Public/144A ABS Annual Issuance

  7. I. THE EARLY YEARS: 1985-1994 • …then with credit cards ($ in Billions) Auto Credit Cards Source: Thomson Financial Securities Data, Credit Suisse First Boston, Public/144A ABS Annual Issuance

  8. I. THE EARLY YEARS: 1985-1994 • Auto & Credit Cards - The Fundamental Structures Autos: Liquidating pool generally in existence at closing Average Life(20 months) Expected Final Callable Legal Final Months

  9. I. THE EARLY YEARS: 1985-1994 • Auto & Credit Cards - The Fundamental Structures Credit Cards: Designed to accommodate short-lived assetsFuture originations must meet established parameters RECEIVABLES BALANCE 107 MINIMUM SELLER'S INTEREST 100 PEPCO FUTURE REVOLVING PERIOD STEP DOWN PERIOD TERM SERIES 200X-1 36 60 MONTH

  10. I. THE EARLY YEARS: 1985-1994 • Back to the Evolution of the Market ($ in Billions) Auto Credit Cards Other Source: Thomson Financial Securities Data, Credit Suisse First Boston, Public/144A ABS Annual Issuance

  11. I. THE EARLY YEARS: 1985-1994 • 1985-1994: Top ABS Issuers Source: Domestic Public and 144A Asset Backed Issues, Thomson Financial Securities Data, CSFB.

  12. I. THE EARLY YEARS: 1985-1994 • Why Securitize? • Cheaper source of capital • Improved leverage • Perfect matched funding • Fund growth • Access new investors • Origination discipline

  13. I. THE EARLY YEARS: 1985-1994 • Why Invest in ABS? • Extremely high credit quality • Yield pick-up over corporates • Liquid market • Limited “event risk” • Asset diversification • Relatively predictable cashflow

  14. The Middle Years:1995-1997a.k.a. “The Gain on Sale” Years

  15. I. THE GAIN ON SALE YEARS • Public/144A ABS Annual Issuance, 1985-1998 ($ in Billions) 35% CAGR Source: Thomson Financial Securities Data.

  16. I. THE GAIN ON SALE YEARS • Public/144A ABS Annual Issuance, 1994-1998 ($ in Billions) Source: Thomson Financial Securities Data.

  17. I. THE GAIN ON SALE YEARS • 1995-1997: Selected ABS Issuers Source: Domestic Public and 144A Asset Backed Issues, Thomson Financial Securities Data, Bloomberg.

  18. The Later Years:1998-2002Maturity/Stability

  19. I. THE LATER YEARS • Public/144A ABS Annual Issuance, 1985-2002 ($ in Billions) Source: Thomson Financial Securities Data, Credit Suisse First Boston

  20. I. THE LATER YEARS • Public/144A ABS Annual Issuance, 1998-2002 ($ in Billions) Source: Thomson Financial Securities Data, Credit Suisse First Boston

  21. I. THE LATER YEARS • 1998-2002: Top 10 ABS Issuers Source: Domestic Public and 144A Asset Backed Issues (excluding CDO’s), Thomson Financial Securities Data.

  22. 2002: Enron “SPE” is not a 4-Letter Word

  23. II. The Present

  24. II. THE PRESENT • Cumulative Public ABS Issuance ($ in Billions) $2 Trillion PAST 10 YEARS: 23% CAGR $1 Trillion $500 Billion $100 Billion Source: Thomson Financial Securities Data.

  25. II. THE PRESENT • Cumulative Public ABS Issuance ($ in Billions) $2 Trillion $1 Trillion Europe $500 Billion $100 Billion Source: Thomson Financial Securities Data.

  26. II. THE PRESENT • Relative Market Size ($ in Billions) Source: Thomson Financial Securities Data.

  27. II. THE PRESENT • Relative Market Size ($ in Billions) Source: Thomson Financial Securities Data.

  28. II. THE PRESENT • ABCP Overview ($ in Billions) Source: Federal Reserve.

  29. II. THE PRESENT • ABCP Overview ($ in Billions) Total Unsecured CP ABCP Source: Federal Reserve.

  30. III. The Future

  31. III. THE FUTURE • CSFB’s 2003 Projected ABS Issuance Source: Credit Suisse First Boston.

  32. III. THE FUTURE • Observation # 1: • Securitization has permanently changed the dynamics of consumer and commercial lending… • Lowered/eliminated barriers to entry • Access to capital/cost of capital • Ratings • Size/balance sheet • Experience • Resulted in increased competition • Price • Credit • Two value added components remain • Origination • Servicing

  33. III. THE FUTURE • Observation # 1: • But not without problems… • Access • Amresco • Autobond Acceptance • CFS • Cityscape • Conseco • ContiFinancial • FirstPlus • First Alliance • IMC Mortgage • Jayhawk Acceptance • NAL Financial Group • National Century • NextCard • Southern Pacific • UCFC • To name a few

  34. 19872001 Credit card industry $80 bil $490 bilTop 10 market share 40% 85%% securitized <1% 50% III. THE FUTURE • Observation # 2: • Everybody’s doing “it”!

  35. III. THE FUTURE • Observation # 2: • Everybody’s doing “it”! ($ in Billions) Source: Thomson Financial Securities Data, Credit Suisse First Boston. Includes retail and wholesale issuance.

  36. III. THE FUTURE • Observation # 2: • Everybody’s doing “it”! ($ in Billions) Source: Credit Suisse First Boston.

  37. III. THE FUTURE • Structures are proven and accepted • Significant downside protection vs. secured debt • Large, healthy investor base • Observation # 3: • The equity market (and Congress) may not understand “gain on sale accounting” or SPE’s but the debt market understands securitization

  38. III. THE FUTURE • Observation # 3: Stability for Borrowers 2-Year Treasury Yield A2 Industrial A2 Financial Source: Bloomberg, Credit Suisse First Boston.

  39. 70 60 50 40 Secured Spread (BPs) 30 20 10 0 III. THE FUTURE • Observation # 3: • Ford Unsecured vs. Secured Spreads 5-Year Unsecured Ford Spreads 2-Year “AAA” Ford ABS Spreads Source: Credit Suisse First Boston.

  40. HSBC Merger Announcement “AAA” Household Home Equity Spreads III. THE FUTURE • Observation # 3: • Household Unsecured vs. Secured Spreads 10-Year Unsecured Household Spreads Source: Credit Suisse First Boston.

  41. Providian Metris Metris Providian Metris Metris Providian III. THE FUTURE • Observation # 4: • Tiering, Tiering and More Tiering 3-YR Triple-A Credit Card Spread Comparison (spread to 1ML) Spread to 1ML (bps) Source: Credit Suisse First Boston.

  42. III. THE FUTURE • Observation # 5: • Securitization creates inherent stability and liquidity for certain borrowers • International Harvester / Navistar • Chrysler / DCX • Tyco / CIT • Conseco / Green Tree • Mexico / Emerging Markets

  43. III. THE FUTURE • Observation # 6: • Securitization’s effect on the buyside will continue to grow • Observation # 6: • Dedicated investors • New investors • CBOs • ABCP • CBOs as an asset gathering tool

  44. Indeed, CBOs have become so key to the junk market that companies planning offerings frequently tailor the securities to the tastes of the CBOs. “It’s the sell side and buy side working together to try and make a more efficient market…” The rise of CBO has made a huge difference for the junk market. “The enormous amount of CBO activity has been a key factor in absorbing new supply” of junk issues… - Wall Street Journal - 5/24/99 Wall Street Journal - 5/24/99 III. THE FUTURE • Observation # 6: • Securitization’s effect on the buyside will continue to grow

  45. III. THE FUTURE • Observation # 6: • CBO/CLO Annual Issuance 1996 – 2002 ($ in billions) Source: Credit Suisse First Boston.

  46. Residential Mortgages MBS Consumer Loans ABS Commercial Mortgages CMBS/Conduits Small Business Loans SBA/SBL/Franchise Senior Unsecured Loans CLOs Mezzanine/Venture Capital CBOs III. THE FUTURE • Observation # 7: • Commoditization and disintermediation of commercial banks will continue, particularly with any secured loan products • The Virtual Bank Regulatory Capital Arbitrage

  47. IN CONCLUSION • Securitization has become a permanent financing alternative with implications not only for the cost of capital but also for how certain types of assets will be originated and serviced in the future.

  48. Thank You

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