Securitized Credit Market Update

Sadly, no follow through from yesterday’s “Reprieve Rip.” With the resumption of volatility in equity, U.S. Treasury, and swap spread markets, securitized credit markets retreated to pre-reprieve conditions. 

• Bid-offers were elevated and trading activity was limited, despite entering the day on sounder footing and theoretically aided by a dovish CPI print.
• Repo markets were again generally benign, but derisking remained on display in rates related trades, reportedly with both long and short positions getting unwound. 

We did finally get the CLO stack re-racked, after much prodding yesterday afternoon, although it failed to inspire material increase in trading volumes: 

• AAA: 140-165
• AA: 180-205
• A: 210-230
• BBB: 300-400
• BB: 620-1000 

After getting framed tighter yesterday afternoon by dealers (-7 to -10 bp), LCFs in CMBS appeared (to us) to be one of the few markets that held any post-reprieve spread tightening, ending the day in the 105 bp area. This is a nice positive for a sector that has underperformed within securitized this week. CRT also “seemed” to be in this bucket, with most (but not all) flavors -5 to -10 bp inside of pre-reprieve levels. 

In a sign of some modest thawing in financial conditions, some new deals were announced in non-agency residential space, including a prime jumbo deal from JPMorgan and another non-QM deal. ABS new issue markets remained ‘frozen’, at least for now. 

While today disappointed us with a lack of follow-through, it was not totally negative. We are encouraged by the disciplined nature of trading activity within securitized, especially money managers and the dealer community, which should eventually manifest in tighter bid-offers. Furthermore, slimmer new issue pipelines alleviates potential technical pressures that, for example, CMBS had to process through this past week. This dynamic will leave investors with less supply to compete for – a near-term positive for liquidity and spreads. 

We expect tomorrow (Friday) to be a particularly light day in flows, so do not expect those to drive a market update from us. Of course, if something warrants your attention, we will pen it. Otherwise, thank you for your attention and focus getting through this week.

Another day of wild swings in the markets, mainly reflected as a change in tone in securitized, where shades of fear – particularly around rates and the 10yr auction – turned to relief (skeptical?) with “The Reprieve."

• Yet more signs of friction and stress in funding markets to start the day. We sniffed around for stress at repo desks for securitized, but didn’t find anything substantive. It did sound like accounts were de-leveraging, but not via unwinding of securitized trades.
• More agency RMBS selling all morning, tied to MMgrs looking to raise cash. Noted a $1B list of agency RMBS floaters as part of the flow. Speculation it wasn’t to meet redemption pressures, rather to potentially rotate into other sectors. This alleviated post Reprieve and the sector put up some impressive outperformance (still waiting on closing levels at the moment this was penned).
• ABS volumes picked back up today (were lower yesterday), with short duration AAAs accounting for much of the volume (cash raising, we believe).

On the follow of the “Reprieve”, our counterparties have been slow to “re-rack” offer levels (noting they were much more efficient re-racking their bids lower!) even with the spectacular rally in equities. So, trading was limited and there is limited color to share here, unfortunately. We suspect it will arrive in the a.m. after people decompress tonight.

In the meantime, a few updated posts below on some progress in new issue deals and observations during the day that we had:

• A ‘build to rent’ deal from last week that had been sidelined came back into the market in the AM, somewhat surprisingly. Expect to see a progress update tomorrow.
• Another non-QM deal that was refreshed into the market “launched” end of day, with AAAs clearing at +180 (was 175 yesterday, 140s last week).
• In CMBS, a SASB hotel floater that started last week with its AAAs at +175 finally got taken subject at +250; a separate SASB floater deal also cleared the market with its AAAs at +240 (initial price thoughts last week were also 175)
• Some yield based buyers poking their head up in Prime Jumbo and in agency space (Z bonds).
• CLO volumes were again elevated, after the ETFs got cracked again yesterday with meaningful redemptions. See below for BWIC volumes in CLOs today, by rating (source: Bloomberg).
  
  CLO BWICs:
  A: 96,178,000
  AA: 114,590,000
  AAA: 514,705,000
  BB: 37,375,000
  BB: 47,280,000
  GRAND TOTAL: 810,128,000

Mixed signals to post everyone on as we digest a full trading and a fresh market open/morning trading session:

Some evidence of strain in markets emerged: 

• Anecdote of a small-ish insurer having “margin issues” where AAA-CLOs were intended to be their source of liquidity.
• The CLO ETF complex got hit yesterday with the first measurable redemption pressure: JAAA $585MM outflow, JBBB $105MM outflow.
• CLO volume up to ~2X average volume with net selling from investors, although considered ‘manageable’ by all accounts.
• Some blocks of SASB floaters appeared on a bid list this morning, reported as coming from a bank seller.

On the flip side, some opportunistic behavior: 

• Money managers continue to be cited as active and engaged (the “marginal bid”) for situations that emerge; talk that spread widening has “worked,” pulling in fresh buy interest.
• Issuer Annaly printed a non-QM transaction, clearing its AAA bonds at +175bps credit spread into the volatile backdrop.
  • Two other new issue non-QM deals in the market that had “stalled” last week are getting worked with investors today; AAAs also in the 175bps context.
• Hearing of a CLO manager (Elmwood) looking to issue a “print and sprint” on the widening in loan spreads (LSTA now -3ppts off January high), suggesting opportunistic CLO equity is still active.

Additional observations: 

Yet to see much trading activity in Private Credit CLOs, but traders are extrapolating widening in BSL CLOs to the space with AAAs estimated around 175 (BSL AAAs in the 140s, so 30+bps basis in seniors, “not good” by one account).

Broader securitized themes 

• Terribly uncertain backdrop, needless to say, which has weakened sentiment in securitized markets (like all risk markets) dramatically. 
  • This is on display most acutely in the a.m. trading sessions, before firming modestly in p.m. sessions, which has been the pattern so far.
• While trading has been on the light side, by all accounts, we have sensed more ‘dip buyers’ looking for cheaper offers than sellers waiting in the wings for better clarity.
  • Supporting this, the street has emerged overall lighter in terms of balance sheets, generally reporting better buying from money managers and insurance buyers; hedge funds circling, but generally unsuccessful in pulling out risk at their target levels. 
  • Insurers instructing dealers to “keep offers in front of me,” money managers and private equity types looking to “price up portfolio trades.”
  • No forced selling observed, no problems reported in repo books, no portfolio trades whispered or otherwise.

Some sector highlights 

• Agency flows were on the light side Thursday-Friday, with liquidity reassuringly good, estimated by our desk as 1-2 ticks of bid-offer for most of each day, with certain exceptions at points of the day (early mornings, for example). Monday saw the pattern change a bit, with sales in low-coupon spec pools really picking up (one source cited $4.5 billion in secondary selling), perhaps portending some portfolio pressure from other products. With all that noted, the basis has underperformed rates, with down in coupon segments lagging.
• In securitized credit sectors, flows light across sectors, with activity levels in CLOs leading ABS, leading CMBS, leading RMBS.
  • Spread widening occurred first in senior classes, but subs have assuredly followed. 
  • Perhaps predictably, comparably limited widening in senior classes, +5-15bps across sectors, again on light flows. While exceptions in seniors in other sub-sectors assuredly exist, we’d highlight Non-QM RMBS seniors as widening more than most, +35bps since Wednesday.  
  • Spread widening in subs was more consistently measurable: +40bps in subprime auto BBBs, +30bps in CLO BBBs, +30bps to +50bps in CRT B1s, CMBX BBBs +50 to +90.  Some esoteric ABS subs ‘talked’ +30bps to +50bps, but hard to percept in the actual flows (recall ABS reports cusip-level trades via TRACE). 
  • For each of the cash markets above (i.e., everything but CMBX), we suspect these spread moves are mostly extrapolated from [limited] trades on ‘similar’ cusips or simply from weaker bid-sides observed in the market, as opposed to via observed trades or markets being made.

Forward-looking strategic thoughts 

• We see risk to our markets mainly through technicals, specifically the new issue markets, where sizeable pipelines remain. 
  • This is most poignant in CMBS, which has 6 deals in the market in various stages of completion, each of which is vulnerable to stalling out (and getting pulled) unless spreads are widened (2 have already been pulled: NY office deal and a HI Retail, both SASB)
  • This dynamic may also play out in ABS and CLOs over the next 2 weeks where we sense sizeable pipelines that were slated to come to market but could get ‘pulled’.
• In terms of our tactical strategy, we see less in the way of direct fundamental feedback loops from trade wars beyond the eventual potential stagflationary drags, which we characterize as indirect and uncertain.  Conversely, we view the rate drops that have accompanied the risk-off move as a positive direct feedback loop, with the most acute impact fundamentally into mortgage sectors (non-agency RMBS and CMBS). 
• With that premise, high-quality forms of duration should be pursued at attractive spread premiums as opportunities emerge. While we are being patient (limited flows to act on currently), potential examples are Prime Jumbo/Conforming Prime RMBS (Senior PTs, Support Bonds and IG-rated Subs) and CMBS Conduit (up and down the stack depending on strategy and our credit assessment).  High-quality ABS also likely to be an outperformer given strong sponsorship dynamics (Insurers’ focus) and reliable credit behavior (Private Refi Student Loan Seniors and Subs, Prime Auto, ‘Top Tier’ Whole Biz ABS).
  • Security selection will be the key value add by us near term.
• From an asset allocation standpoint, we currently favor non-agency RMBS over CMBS over ABS over CLOs. 
  • However, this is fluid, and we are not shifting prescribed weights until we see improved liquidity and get through (at least) the CMBS pipeline that is currently in the market.  

Macro Inputs

• Tariff Sheriff and DOGE: Now the dominant force within markets, policy actions by the new administration are volatility-inducing, with important implications for geopolitics, Fed policy and economic growth. In our last talking points (2/18), we highlighted tariffs as a ‘new’ macro input, but discussed how dismissive markets were of the initial policy salvos, in part because delays had been granted. One month later, trade wars have deepened with our major trading partners, and more are pending in early April. Layering in ambitious job cuts orchestrated by DOGE (note that estimates vary widely), the collective severity of policy action has surprised market participants while offering no assurance a ‘Trump put’ is anywhere close to reaching its strike price.
  • As the sell-off deepened, securitized markets picked-up some of the beta in broader markets, although direct fundamental feedback loops aren’t apparent. Ultimate inflationary and/or growth impacts may be in the offing, but these remain highly uncertain with only indirect impact on collateral pools across sectors. We link spread moves (see below chart) as correlated to the sharper and now more sustained widening moves experienced in corps. This is further evidenced by the lack of any material credit curve steepening that would likely be on display if credit fears were to get priced into our markets.
• US Labor and CPI: Dismissed by markets as covering pre-policy periods in February, payrolls and CPI were not a source of volatility in markets, despite signals that otherwise may be interpreted as soothing for risk takers. The headline payroll # was close to consensus (+151k vs +160k expected) and the unemployment rate increased a tick (now is at 4.1%) - neither too hot nor too cold. CPI retreated, with the headline and core both posting downside surprises: headline +0.2% MoM vs +0.3% expected and core +0.2% vs +0.3% expected. In each case, market reactions were modest and short-lived relative to policy induced volatility described above.
  • Securitized markets had little to price after these reports, with market discomfort based on more forward-looking implications from above-described policy uncertainty. We note that this hard data likely will keep the Fed on hold and with ‘hawkish dots’ at their March meeting, not ideal for CMBS and RMBS where weaker associated refi impulses keep transaction de-leveraging on the slow side.
• Fed: No Fed meeting since our last note, although one is on tap for this Wednesday, 3/19, as alluded to above. There has been an array of Fed speak, but this has all been overshadowed by the Tariff Sheriff and DOGE. The meeting will get better market focus, particularly given updated Dot Plot and economic projections.
  • Securitized markets (like other risk markets) prefer a dovish tone but are resigned to receiving a hawkish message in light of previously highlighted inflationary and growth dynamics received so far. Remember, a continuation of the ‘higher for longer’ policy rate narrative is positive for yields, in particular floating rate and short duration parts of securitized (CLOs, CRT, ABS).

• As is mostly evidenced in the spreads table, securitized markets have traded wider since our last update. As alluded to, this apparent regime shift has been driven by the volatile macro backdrop, led by equities, which briefly entered correction territory. Correlations have increased across risk markets and securitized sectors have not been immune.
• CMBS has underperformed other securitized sectors, although all sectors have seen spreads widen against the more volatile market backdrop and liquidity is more expensive for those looking to maneuver.
  • We have noted that the -49bps rally in rates (10yr from 4.79 on 1/14 to 4.3 on 3/14) is a definitive ‘good guy’ for credit risk in CMBS, as it reduces refinancing risk for maturing loans.
• Generally, the spread moves have been parallel across the capital stack, with the only measurable credit curve steepening in CLOs. We have even noted some credit curves flattening (subprime auto ABS!). We interpret this as signaling the lack of direct feedback loops into credit behavior of securitized collateral pools from the policy uncertainty impacting other risk markets.
• From a buyer type perspective, total return oriented buyers (money managers, hedge funds) have pulled back in this sell-off, particularly in new issue transactions, driving spread widening as new deals continue to get executed. While insurance investors have tended to be a consistent buyer (the most?), ‘slower’ interest in certain sectors (non-agency RMBS most recently) have been highlighted in market conversations.
  • This has made sectors with particularly heavy issuance more vulnerable, like CMBS which has experienced the largest year-over-year increase across securitized sectors.
  • Post industry conference pockets of particularly heavy issuance (ABS, non-agency RMBS in particular) have also exacerbated spread widening initially catalyzed by the macro backdrop.

A note about risk: The principal risks are generally those attributable to bond investing. Holdings are subject to market, issuer, credit, prepayment, extension, and other risks, and their values may fluctuate. Market risk is the risk that securities may decline in value due to factors affecting the securities markets or particular industries. Issuer risk is the risk that the value of a security may decline for reasons specific to the issuer, such as changes in its financial condition. The strategy invests in mortgage-related securities, which can be paid off early if the borrowers on the underlying mortgages pay off their mortgages sooner than scheduled. If interest rates are falling, the strategy will be forced to reinvest this money at lower yields. Conversely, if interest rates are rising, the expected principal payments will slow, thereby locking in the coupon rate at below market levels and extending the security’s life and duration while reducing its market value.

Outlook

• A regime shift in US risk markets – away from US exceptionalism powered by consumer resilience and AI related corporate spending, and into a less certain outlook for economic growth – appears to be under way.
• The duration of this environment, otherwise negative for credit spreads and excess returns, is highly uncertain with potential powerful policy pro-growth forces (deregulation, tax cuts, less ‘crowding out’ and lower yields) still in the medium-term mix.
• As we iterated last month, focus is a challenge with the volatile backdrop (every week ages us a year!) but ultimately is key. Much of the news has minimal direct impact on securitized markets, even if unsettling on the macro scene, so the largest dislocations that emerge may prove the greatest opportunity.
• Our more traditional pillars for investing (collateral, structure, parties involved, rel-val) continue to reflect supportively as we progress through the year, so it is important to not miss opportunities as they arise. This is particularly the case in primary markets where robust issuance plans may present great opportunities when liquidity is stretched, assuming one’s underwriting remains focused and sound.
• Lastly, as promised we returned safely from our industry conference a couple of weeks ago and we compiled some notes that we are happy to share. Enjoy and let us know if you have any follow-ups.