From Diversification to ESG: The Evolving Opportunity in ABS
Asset-backed securities (ABS) have attracted increasing interest in recent years as the market has continued to evolve and expand, and as yields across most fixed income markets have trended lower. More recently, through the pandemic-induced volatility and economic slowdown, ABS has proven to be resilient—but in some cases has lagged in its recovery relative to corporate credit, suggesting that now may be a good time for investors to dig in on ABS to understand where the true opportunities lie. In this piece, we provide a brief overview of the securitized universe and discuss why adding or increasing exposure to ABS can be beneficial as part of a broader fixed income allocation.
The securitized market has experienced tremendous growth over the last decade, with over $9 trillion in outstanding securitizations across:
- Mortgage backed securities (MBS)
- Commercial mortgage backed securities (CMBS)
- Residential mortgage-backed securities (RMBS)
- Collateralized loan obligations (CLOs)
At roughly $750 billion, ABS is sizeable in and of itself. Like the broader securitized universe, ABS has evolved significantly as a number of new issuers—many of which are already active in the corporate bond markets—have come to the market seeking financing. Dealer participation has also increased in both the primary and secondary markets, and as follows, more investors have entered the space as well.
Liquidity, by extension, has also improved. While the securitized market is generally perceived to be less liquid than investment grade corporates, liquidity can vary based on factors like sector and position in the capital structure. For instance, higher-rated AAA and AA securities—particularly those in on-the-run ABS sectors like credit cards and autos—tend to be fairly liquid, in many cases on par with corporate credit. Lower-rated BBB and BB securities tend to be less liquid, as do certain asset classes like CMBS, where issuance and trading can be limited given the longer-dated nature of the securities and large institutional (buy-and-hold) buyer base.
Diversification & Unique Exposures
Coming off of a year marked by extreme volatility, one of the most compelling reasons for considering securitized assets is their potential for diversification. Unlike corporate bonds, ABS are collateralized, or backed, by pools of underlying assets such as student loans or aircraft leases. They are issued by special entities that own the underlying assets, and that are separate from the sponsoring companies or originators of those assets. In this capacity, securitized assets represent one of the most effective ways for investors to diversify away from idiosyncratic corporate risk and gain direct exposure to unique parts of the economy, such as the consumer and housing sectors.