DundeeWealth joins the growing list of financial services firms that have had to admit that they have significant holdings of out-of-favour asset-backed commercial paper(ABCP). It also said none of the mutual funds of Dundee’s subsidiary Dynamic Mutual Funds has any exposure to ABCP or CDO subprime exposure.
Earlier this week, National Bank bought back more than $2 billion in ABCP from its mutual funds arm and since then a slew of other companies, including Meritas Financial and Industrial Alliance, have assured investors that they will do the same.
All of which begs the question: is the ABCP risk overblown?
In many of these transactions, a corporation is moving the ABCP from subsidiaries to the parent holding company, but there has been no commitment to actually sell it. Generally, companies exposed to non-bank ABCP are standing behind the underlying quality of those assets, saying the primary problem is simply a liquidity issue.
Right now, the paper is far from worthless. Defenders say only a small amount of U.S. subprime exposure in some of the ABCP has killed market demand for all issues. Most of the underlying debt assets themselves have a low risk of default.
Most of the third-party ABCP was rated by DBRS and given the rating agency’s highest score of R-1(high)- the equivalent of AAA rating for bonds. While the agency has taken some heat for this, it stands behind its rating of the non-bank-sponsored ABCP conduits.
“We believe ABCP conduits continue to be of high quality,” says DBRS spokesperson Caroline Creighton, but she declined to speculate as to why banks and other companies are distancing themselves from ABCP as an asset.
Companies that have bought back third-party ABCP have highlighted that they remain confident of DBRS’s ratings, for now. Gary Hawton, CEO of Meritas Financial, which announced on Wednesday that the company would buy back all of the ABCP, says he thinks the issue is about liquidity and not the quality of the assets.
“There has not been a revision from DBRS in terms of rating the underlying assets. You’re looking at R-1 high and I think in a few cases R-1 mid assets,” he says. “I think a lot of people also thought there was no liquidity issue with the initial paper; however I still believe that this is more of liquidity issue than an asset quality issue. That doesn’t mean there isn’t or may not be some asset quality issues at some point in the future.
Unless investors start buying, this is likely little consolation to Coventree Inc. As of Wednesday the company had been able to re-issue $450 million new ABCP to cover the $3.3 billion of the ABCP it sponsored. It maintains its ABCP issues are quality investments, and only 4% of the ABCP and other debt issued by Coventree-sponsored conduits are backed by assets related to U.S. subprime mortgages.
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Unlike actual lenders, Coventree says it only sponsors ABCP and does not hold any of the underlying assets. Essentially, the ABCP is useless in helping Coventree raise money to cover the maturing ABCP issues, unless investors come back.
“The assets in such Coventree-sponsored conduits and other SPEs are not owned by Coventree and therefore cannot be used by Coventree in its business nor are they available to meet the obligations of Coventree to its creditors,” the company said yesterday.
If there’s no reason to sell, companies that have yet to commit to reducing their ABCP exposure likely won’t, says industry analyst Dan Hallet from Dan Hallet & Associates.
“Money market funds offered by other firms with recent exposure to Coventree ABCP(i.e., Cooperators Life, Canada Life, Northwest Mutual Funds, Mavrix Fund Management, and a handful of others)have yet to come forward with any similar confirmation or commitment,” he says. “Then again, as long as the funds don’t have to sell the ABCP and the above noted agreement buys enough time to get past the liquidity crunch, they may be able to keep it all quiet with no reputation damage or investor losses.”
Filed by Mark Noble, Advisor.ca, mark.noble@advisor.rogers.com.