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Capital Markets

Synthetic ABS: Volatile ABX index stymies tranches

A lack of comfort with the new product, and muted risk appetite for the asset class, resulted in thin market conditions for the newly launched ABX tranches – called TABX. The thunder of the much-anticipated start to TABX was stolen by the dramatic price falls in the ABX. Although the pace of innovation in the synthetic ABS sector has been nothing short of breathtaking – in a little over a year the market has developed indices, single-name CDS and now tranches – the latest innovation comes at a time when dealers’ view of the technology is far from clear-cut.

"Several dealers are not at the right level of readiness because there are technicalities in the ABS product that are very different to the credit (iTraxx) product – modelling, behaviour, operational aspects of handling the flow," says Georges Assi, global co-head of CDO and structured credit at Lehman Brothers.

Only a limited number of the 16 or so dealers that are involved in TABX were making two-way markets during the early days of the product. Deutsche, Lehman, Merrill Lynch and JPMorgan were among those that were widely believed to be active market participants. However, banks such as Bear Stearns, Morgan Stanley and UBS said they were also involved.

"I think it’s not surprising – you saw the transition from models to market in credit correlation, which was easier to translate as most people’s models were roughly similar, ie, base correlation," says a structured credit veteran. "The problem with ABS is that it’s even more complicated – everyone’s view on that asset class is different. Not only are you going from model to market but you are going from multiple models to market. It will be very interesting to see how this thing unfolds."

Not only is it difficult to use a correlation framework to evaluate sub-prime ABS.

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