In CMBS, non-agency issuance6 declined in 2020 to $64 billion, half the level in 2019. In 2021, we expect similar issuance levels of $60 to $65 billion with conservative underwriting and a strong economic recovery firming investor demand. AAA-rated CMBS delivered strong total (10.5%) and excess returns (1%) in 2020 in the Bloomberg Barclays CMBS Index. More credit-sensitive BBB-rated CMBS tranches underperformed Treasuries, though, by -6%. Investor demand for more recent vintage BBB paper rebounded in the second half, while the 2012 to 2018 vintages have seen slower recoveries. We expect CMBS loan delinquency rates to continue to improve this year; however, conduit deals with higher retail and hotel sector exposure will face continued pressure. Larger SASB deals, on the other hand, should benefit greatly from well-capitalized institutional sponsorship. The opportunity set for discounted junior tranches is unusually ample for investors like BBH performing deep credit research on seasoned CMBS pools.
Given the combination of heavy issuance and attractive spreads, BBH was highly active in structured markets this quarter, purchasing just under $1 billion of non-traditional ABS across accounts and funds. Below are more notable additions.
This quarter, we began investing in recurring revenue ABS. These are securitizations of middle market loan pools to growth-stage “Software as a Service” (SAAS) companies. Direct lenders underwrite these loans based on their contracted recurring revenues rather than earnings before interest, taxes, depreciation, and amortization (EBITDA). These companies typically have revenues of more than $15 million, are growing rapidly, and so have passed the early stage of startup risk. Revenues are tied to subscription services that are essential to the operations of end-users – they are “sticky”. Golub Capital issued the first recurring revenue ABS deal in 2019 and this quarter issued their second, GCPAF 2020-1A. Since 2013, Golub has realized zero losses on their recurring revenue book. Single-A rated senior and BBB-rated junior notes were issued with substantial credit enhancement of 38% and 29%, respectively. We participated in these at spreads to Treasuries of 290 bps and 420 bps, respectively.
Similarly, Alliance Bernstein issued their first recurring revenue ABS, ABDLF 2020-1A, with a two-year reinvestment period. They also have a spotless record lending since 2011. We participated in the A-rated senior notes and BBB-rated junior notes spreads to Treasuries of 296 bps and 471 bps, respectively.
It was a brisk issuance quarter in middle market CLOs for these same lenders. The deals we were involved in are all new “post-COVID” deals; i.e., are clean of any troubled loans related to the pandemic. Alliance Bernstein issued ABPCI 2020-9A, a new-issue middle market CLO with a 3-year reinvestment period. Alliance Bernstein is a highly-experienced middle market lender specializing in first-lien lending and they hold all the equity beneath their CLO debt. We were in the A-rated and BBB-rated tranches at spreads of 400 bps and 620 bps to 3-month London Interbank Offering Rate (LIBOR), respectively.
NXT Capital issued NXTC 2020-1A, a new-issue middle market with a 3-year reinvestment period. NXT Capital, a subsidiary of ORIX Corp, is another seasoned first lien direct lender that holds the equity under their CLOs. We participated in the AAA and A-rated tranches at spreads of 185 bps and 335 bps to 3-month LIBOR, respectively.
Golub issued its second TALF-eligible CLO (GCTLF 2020-2A), a new-issue static middle market CLO. We took advantage of the AAA and A-rated tranches issued at spreads of 185 and 365 bps to 3-month LIBOR, respectively.
SYMP 2020-23A is a new-issue post-COVID bank-syndicated CLO portfolio managed by Symphony, a subsidiary of Nuveen/TIAA. We were in the BBB- rated tranche (3-year reinvestment period) at a spread of 430 bps over 3-month LIBOR.
BBH was also a major participant in the corporate debt of business development corporations (BDCs), another attractive corner of the direct lending market. Although the notes hold a general rather than secured claim on a BDC’s direct loan assets, the high asset coverage of BDC notes is similar to ABS notes. Total debt-to-loan assets are low – ranging from only 35% to 55% - and are capped by law at 66%. BDC notes hold up to the same or tougher stress cases as our ABS and CLO holdings. We purchased BBB-rated debt from the BDCs of Blackstone GSO, Owl Rock, and Stellus Capital at spread of 290 bps, 350 bps, and 440 bps over Treasuries, respectively, as well as A-rated debt from Gladstone Capital at 475 bps over Treasuries.
BBH also helped lead the first “dark fiber” ABS securitization this quarter, FIBER 2020-1A, issued by Summit Infrastructure Group. The notes are secured by all present and future lease cashflows generated on a lightly-utilized underground fiber network located in Northern and Central Virginia (“Data Center Alley”). Summit IG’s primary business is to provide local interconnections for the critical infrastructure of Cloud carriers (Amazon, Google, Microsoft) and large-scale enterprise clients. We participated in the 5-year A- and BBB-rated classes at spreads of 190 bps and 280 bps to Treasuries, respectively.
We were also involved in MCA 2020-1, the third collateralized fund obligation (CFO) issued by CUNA, a leading insurer to U.S. credit unions. The CFO is backed by a diverse seasoned portfolio of private equity fund investments, originated by CUNA Mutual under its alternatives portfolio. Three-year A- and BBB-rated tranches were issued at spreads to Treasuries of 310 bps and 410 bps, respectively.
Aircraft ABS made a surprisingly swift market return with BJETS 2020-1A, backed by a closed pool of full-recourse corporate jet loans and leases to high-grade corporations and wealthy individuals. Issuer Global Jet Capital is a lift-out of GE Capital’s business jet leasing team and portfolio and, in total contrast with the experience of commercial aircraft lessors, has had zero delinquencies through the pandemic. We were in the 4-year A- and BBB-rated tranches at spreads to Treasuries of 273 bps and 371 bps, respectively.
Midcap issued its fourth venture debt ABS deal (MDCP 2020-4A), secured by loans to venture capital-backed, publicly traded life sciences and technology companies. We took advantage of the 3.5-year A- and BBB-rated tranches with spreads to Treasuries of 208 bps and 400 bps, respectively.
We were also involved in bricks-and-mortar personal consumer loan ABS issued by Republic Finance. Notes rated AA, A, and BBB came at spreads of 220 bps, 325 bps, and 382 bps over Treasuries, respectively.
We continue to find very attractive AAA-rated opportunities across many ABS asset types. We participated in the unique premium finance ABS shelf of PFS at 80 bps, in a senior tranche of Credit Acceptance’s subprime auto program at 110 bps, and in several servicer advance ABS classes at 90 bps to 110 bps over Treasuries.
The CMBS market, with more tentative sponsorship, currently offers unusually attractive opportunities on value and credit grounds. We participated in BFLD 2020-OBRK, a floating rate CMBS collateralized by an open-air super regional mall Oakbrook Center in Chicago’s suburbs. The AAA-rated senior note had a notably conservative appraisal loan-to-value (LTV) of only 26% and came at 205 bps over 1-month LIBOR.
We also invested in a CRE CLO issued by market leader Blackstone Mortgage Trust (NYSE: BXMT). BXMT 2020-FL3 is a $1 billion issue collateralized by 71 properties. We participated in AAA and A-rated notes at 140 bps and 255 bps over 1-month LIBOR offering credit enhancement of 48% and 24%, respectively, on top of borrower average equity of 33%.
Saving the best for last, for accounts eligible for unrated issues, we participated in the subordinate B-piece of agency CMBS transaction FREMF 2020-KL06, which comprised the lower 8% of the $411 million issue. An unusually well-structured Freddie K deal, the senior mortgage loan is cross-collateralized by a 10-property multifamily portfolio located across six states, fully leased, and with an estimated market LTV of only 66%. The 9-year note has a yield of 8.8%.
An allocation to structured credit allocation can provide welcome yield and credit advantages in the new year
Back in March of 2020, we drew confidence from our many direct conversations with the senior management teams of our issuers. It has been gratifying to see our credit performance expectations confirmed in monthly remittance reports over the last nine months. With the exception of aircraft ABS, we now see little scope for impairments or downgrades across the entire ABS market. We continue to expect investment grade tranches of CMBS and CLOs to perform. Yet compensation available across structured credit remains compelling: in absolute terms, against the norm of the last decade, and versus a broader credit market near historically low value. As BBH’s Structured Strategy exemplifies, a short duration portfolio of non-traditional ABS, diversified across 20 subsectors, and with an average A-rating, can provide investors a yield over 4%.
To our investors, we look forward to describing this rich opportunity set with its durable credits7 in the new year.
Portfolio Management Team
Neil Hohmann, PhD
Head of Structured Products
Structured Products Trading
Andrew P. Hofer
Head of Taxable Fixed Income