Ever since Apollo’s acquisition of Credit Suisse’s securitized products group was announced on November 15, speculation about why the asset manager has taken such a bold step and how it intends to run the business has been rife.
Apollo has been unwilling to reveal much about exactly how the SPG will operate after the acquisition. An asset manager buying part of an investment bank, whose usual function is to originate securitizations and churn them out into the public market, is not normal.
But it is clear that the major reason for the deal is to give Apollo access to a stream of attractive assets.
Apollo already owns a stable of what it calls origination businesses, and by delving into securitization is increasing its capacity to originate assets.
Marc Rowan, Apollo’s CEO, said during its third quarter earnings call that this was just the type of exposure Apollo was looking for, based on client demand, adding that “securitization is now how America banks”.
“This would be our 14th platform,” Rowan said. “We believe that asset-backed origination has the potential to be as large a market as corporate credit. This is a product set that is primarily investment grade that fits extraordinarily well into our requirements for both our retirement services business and the third party business we are building. [It] would give us access to flow from more than 200 direct clients and accounts.”
Origination will set us apart
A good account of Apollo’s origination platform strategy was given last year by Chris Edson, partner and co-head of US FIG, at an Apollo investor day.
He emphasised that “there is no excess spread left in liquid CUSIP markets. So we believe that we need to originate this directly. This is basically… creating the factory to generate these assets on an ongoing and recurring basis to drive excess spread, and to create these assets at wholesale prices,” he said. “We think it’s much better than standing in line fighting for allocations and effectively paying retail prices.”
In pursuit of this, Apollo has acquired a dozen asset origination businesses, ranging from Donlen, a vehicle fleet leasing company, and Foundation Home Loans, a UK mortgage lender specialising in buy-to-let properties, to Apollo PK Airfinance, which finances aircraft, and High Grade Alpha, which “targets proprietary, large scale investment grade transactions”.
Edson said: “Our companies have really long track records that have really sophisticated management teams with a proven ability to generate stable returns and perform through my multiple cycles.”
He particularly underlined the track record of consistently low losses on the loans and leases these companies had originated.
Edson said “we’re looking to earn an extra couple of 100bp of spread”.
“The first [way] is we’re cutting out intermediaries, we’re cutting out brokers, and we’re going direct,” he said. “Second, we’re providing customised solutions and we’re creating more value for potential counterparties and clients. And that allows us to charge more.”
This, Edson suggested, gave Apollo a different offering from its competitors. “Investing is about a number of things,” he said. “It can be about fundamental analysis, it can be about industry expertise, it can be about patience. But really what it comes down to is having some sort of an edge.”
Another edge, he said, was how Apollo’s FIG, M&A and equity teams worked closely with its credit and underwriting teams. Securization, it can be assumed, will fit into this dynamic in much the same way.
Getting in early
Several investors also told GlobalCapital they thought Apollo wanted to compete for lucrative assets by getting its hands on them at the origination stage, rather than having to wait for a deal to be structured and syndicated.
“They go out [through the SPG] and they’ll do a deal with company X, Y or Z… and no other companies will be able to access that deal any more, because it’s not available, so [they’re] really competing for that deal at the origination point,” said a structured finance investor.
If Apollo could warehouse assets on a balance sheet, structure deals and get them rated, it would essentially have a captive supply of ABS, he said, removing the need for bank involvement and closing the door to competitors.
Insurance companies were particularly keen for higher yielding assets, he argued. By cutting out the middleman, Apollo could supply them in greater quantity.
“Apollo is basically saying that they need to feed the beast, so to speak, and that they want to outperform the competition,” the investor added. “But the only way they are ever going to be able to do that is if they have a unique and differentiated deal source. So what they decided to do is lift out and buy out the securitization business from Credit Suisse.”
However, he thought it was unlikely Apollo would keep the whole SPG business. Its investment bankers would still originate and structure deals, he thought, but Apollo would not need a sales team to sell deals to other institutions.
“What they really probably want are those originators that have the relationships with the issuers and [know] how to structure deals, get them through a rating agency,” he said.
This was echoed by Nigel Batley, consultant at NIB Advisors, who was formerly global head of asset-backed finance at HSBC.
“When you buy a business you are looking for a yield on it, so do you need all those people?” he asked. “I don’t know. Most people buy something with a view to getting a better return than the business has generated, so you’ve either got to sell more, or you’re going to cut costs, those are the two options.”
A portfolio manager within a different structured products team, with an understanding of the deal, said Apollo’s acquisition was a very shrewd decision in the current market.
“This is probably a unique opportunity to pick up a business that’s entirely put together, functioning and has these capabilities,” he said. “To be able to bring that in and use it right off the bat, as opposed to trying to construct something like that from scratch, is very valuable.”
Other market participants agreed that if Apollo wanted to be more heavily involved in this intermediary capital markets activity, this was a great way to go about it.
“What I’ve seen out of [Apollo] currently is a small, subscale origination effort, nothing compared to one that is fully scaled and fully functioning,” said an another investor with knowledge of the business. “That [acquisition] would obviously offer them the opportunity to be able to do that, to the extent that they can do it all in one fell swoop by making an acquisition.”
A spokesperson for Apollo confirmed this to GlobalCapital.
“This was a very good, profitable business, [Credit Suisse] wanted to exit it because they didn’t want to hold all the capital against it,” they said. “It makes a huge amount of sense, given the clients that we serve.”
Unanswered questions
What remains difficult to assess, and which cannot be gleaned from Edson’s description of Apollo’s origination strategy, is whether the securitizations produced its new SPG will be entirely for internal consumption, or whether it will still have surplus product to distribute to third party investors, perhaps through public sales.
Apollo declined to comment on this question.
It would seem unlikely that Apollo’s funds, by themselves, could have enough demand to take down everything that could be produced by Credit Suisse’s securitization business, which has the fourth highest output in the world.
An investment bank’s securitization business is not exactly equivalent to a finance company like Apollo’s Donlen or NewFi Lending. It already sits between such businesses and the capital markets.
Batley believed the most likely answer is that the unit will produce for both internal and external consumption.
“The nature of public markets is a bit difficult at the moment, particularly in Europe, where it is quite expensive and quite difficult,” he said. “If you want to be successful, you’ve got to originate the product, you’ve got to always be there, you’ve got to have an appetite and you’ve got to be able to be creative and thoughtful about how to finance asset pools.”
Firms must then distribute those asset pools, either privately or publicly.
For well known asset classes it is usually preferable to go to the public markets, because they nearly always offer better pricing and a wider range of investors.
“If you’ve got more esoteric asset classes, then maybe you can you distribute them privately to niche investors, but then you’re likely to pay a little bit more [to attract those investors],” Batley said. “But you also get more from the originators of those assets, because they are niche. I think Apollo would be warehousing both of those two things and looking to distribute them to the public markets.”
