FIG Watch: B&B takes back ownership

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By:
Alex Chambers
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Bradford & Bingley’s treasurer, Peter Green, and head of capital markets and securitization, Mark Winter, want to regain ownership from investment banks of their institution’s dialogue with investors. They are following a simple strategy of diversifying the investor base. Allied to a remarkable level of transparency during the printing of new issues, this is already reaping its rewards. Alex Chambers reports.

Peter Green and Mark Winter, Bradford and Bingley
Peter Green (left) and Mark Winter: seeking greater control over the marketing and sales of Bradford & Bingley’s bonds
It was not so long ago that Bradford & Bingley was an unloved, at least by the wholesale markets, former building society. The bank was maligned by investors’ poor understanding of the true nature of its business and was under pressure from the rating agencies for its business strategy, in particular its shift into specialist mortgage lending. Furthermore, following a precipitous drop in funds raised via deposit in 2003, its short-term rating was subsequently cut from A1 to A2 by Standard & Poor’s; Fitch reduced its long-term rating by one notch to A.

“One impact of the S&P downgrade was to reduce the potential size of the market for B&B Eurobonds. We had already issued standalone securitizations and issued our first covered bond the week after the B&B rating adjustment,” says Peter Green, treasurer.

Bradford & Bingley re-engineered its retail funding both through the branch network and by the introduction of an internet offering. That has brought in about £2.5 billion of additional deposits in the past couple of years. The bank also enhanced the role of secured funding by establishing a covered bond programme in 2004.

“We have continued to develop secured funding sources that now represent over 50% of our annual funding, with wholesale and retail representing approximately 25% each,” says Green.

Mark Winter, head of capital markets and securitization, joined the bank more recently than Green, in April 2005. In addition to further pursuing the diversification strategy, Winter believes that it is imperative for the bank to be firmly in charge of having a direct dialogue with investors.

“I want to take greater control over the marketing and sales of our bonds,” he says. “Investment banks have become too influential in how bonds are sold into the market.” But Winter says that investment banks are a necessary part of the relationship between an issuer and the investor community for reasons of structuring, rating agency work, syndicate desk, secondary trading and investor roadshows.

Talking to B&B and other funding teams it is clear that although the investment banks have a well-meaning agenda, it does not necessarily suit financial institution’s requirements. Both Green and Winter are highly experienced officials who have a deep understanding of the market. B&B is not attracted by overly aggressive funding offered in a pitch book.

Banks might pride themselves on being able to squeeze that last basis point out of the market but some borrowers, such as B&B, believe this to be counterproductive to their long-term objectives. Such an approach has little effect when blended into overall funding costs and in the long term leads to disaffection among investors, something that Winter is particularly keen to avoid.

In normal circumstances, B&B raises between £4 billion and £6 billion ($10.9 billion) each year across the capital markets. Since it is a mortgage bank specializing in the UK buy-to-let market, it uses secured funding as a natural route.

S&P has a conservative stance on the buy-to-let sector. Green says: “Their principal concern is that it has not been through a housing market recession, but consistently over the last several years buy-to-let lending has outperformed on arrears and repossessions in relation to prime lending, reflecting the low LTVs and the better income profile of our customers.”

Consequently B&B is required to boost credit enhancement on both its securitizations and covered bonds. Furthermore, the market has historically demanded a premium to ordinary owner/occupier residential mortgage collateral.

“There’s rating agency arbitrage in our paper, which a number of investors who’ve done their own analysis now see. For covered bonds and securitization we typically have to provide greater credit enhancement than prime RMBS as well as slightly increased yield, thus being penalized twice.”

The premium over both prime RMBS and traditional mortgage-backed covered bonds is starting to close.

“Non-deal-specific investor work is extremely important to us and we accordingly roadshow frequently. It’s important to explain to existing and potential investors about the buy-to-let product and its creditworthiness, which is often misunderstood,” Green says.

Investors used to perceive the buy-to-let sector as a low-quality business. They were unaware that changes to UK law have not only transformed but also improved the nature of this market and boosted the incentive of landlords to maintain the value of their property.

There are various aspects to Winter’s process of wooing investors. Not least are non-deal-related roadshows where he takes the lead in explaining how investors will be allocated bonds during new issues. “What I’m saying to investors is that I want to achieve greater transparency, and that means a greater amount of dialogue, both before a transaction and even during the book-building process. What you won’t see Bradford & Bingley do is to blow the books up to two, three, or even four times oversubscribed and use that as an excuse to tighten the price. We want to achieve fair-value pricing, which means that the investor will want to invest in future issues and, hopefully, support us in difficult markets.”

B&B’s second covered bond transaction, in April, further developed this process. It raised €3 billion and became the first UK bank to use the Swiss market, obtaining SFr550 million ($442 million). The bank’s treasury team talked with about 30 key investors during the book-building process directly.

“That means investors can put in for orders that they want to fill rather than inflating orders because they’re concerned about the allocation process – a silly game that irritates many investors who don’t inflate orders,” says Winter. “We won’t allow too much oversubscription and, therefore, the allocation process should be one where it is easier and fairer to allocate the bonds.”

B&B wants to have the flexibility of using the covered bond programme to sell down private placements. This does represent a challenge in terms of cost-effectiveness. The effort and documentation for a small deal is exactly the same as for a jumbo but Winter believes this can be navigated. The next major development in B&B’s funding strategy will centre on the securitization programme, which is pursued on grounds of liquidity not regulatory capital relief.

“If we consider the balance sheet growth that the group wants to achieve, then we’re going to have to materially increase our funding activity, and that means, out of necessity, involving the US dollar market,” says Green. “So in August we signalled to the US investor community that, subject to market conditions, we would commence a reasonably regular programme of dollar issuance.”

There are also plans to replicate the flexibility of Northern Rock’s Granite RMBS vehicle by allowing B&B’s Aire Valley programme to issue delinked tranches. This would enable B&B to issue, for example, a £1 billion triple-A-rated note without selling subordinate notes, as is the case in a traditional securitization.

“Our funding requirements will grow and we need to start positioning the group for funding in 2007 and 2008. So our next transaction, which has been slated for the first week in August, is likely to have a US targeted dollar tranche,” Green says.

In the senior market, B&B developed with HSBC a product that targets second-tier and third-tier financial institutions in Europe that struggled to get allocated any products in traditional large transactions.

“This is a product targeted directly at smaller financial institutional investors and we incentivize the sales teams to target these smaller-ticket investors, and that has resulted in over 160 new investors to the group,” Winter says.

No dealer panel

When it comes to choosing intermediaries, B&B has various criteria. Highest among these is work banks conduct behind the scenes on non-deal-specific investor meetings. B&B has not yet got a dealer panel. Winter is evaluating investment banks before deciding which will be given status as B&B’s preferred dealers, although he is unlikely to adopt a formal dealer panel. B&B is also likely to eschew the use of co-managers on future transactions.

“I don’t think there’s much value by having co-managers in a transaction,” says Winter. “Many investors are concerned that they would not be given equal treatment when putting orders with co-managers. I think the market has now developed in a way that the old reasons for co-managers, such as market-making responsibilities, are not relevant any more. All banks worthy of consideration for our transactions make markets in our securities.

“If there are particular local reasons why you might include second-tier banks in a transaction, they can still participate as part of the lead manager group, albeit on perhaps different fee arrangements.” 
 
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