Rejuvenated European ABS market hopes best is yet to come

European securitization is hoping for more of the same in 2025, after an extraordinary 2024 in which issuance records have tumbled, spreads have held up despite this supply and collateral performance has beaten forecasts.

“In general, issuance has exceeded our expectations, both in terms of market conditions and overall investor demand for various asset types,” says Barbara Rismondo, associate managing director at Moody’s. “Market conditions have been very positive.”

Moreover, most believe the best is yet to come, with regulators making plenty of supportive noises and pressure from elevated interest rates beginning to ease.

Almost two-thirds of respondents to GlobalCapital’s market survey foresee another year of record issuance in 2025. Just 25% expect spreads to widen and 53% expect more investors to enter the market next year.

Some 66% of respondents are happy with the direction of travel on regulation in the EU and say the same about the UK. However, similar percentages feel that neither jurisdiction is moving fast enough.

If good conditions prevail as expected in 2025, there may be room for securitization funded lenders to innovate. As it turned out, 2024 was characterised by a surge in the number of issuers, with standout inaugural deals from solar issuer Enpal and data centre provider Vantage.

Although they were perhaps accompanied by less fanfare, there were also a number UK RMBS debuts.

“The number of active originators using RMBS as a tool is materially different from five or six years ago, and even to two or three years [ago],” says Alastair Bigley, sector lead of European RMBS at S&P. “A number of new entrants have come into the market this year.”

These debuts built on strong overall market conditions, with spreads on buy-to-let and non-conforming paper tightening dramatically, while prime RMBS volumes were higher than in 2023.

“This year has been very different from 2023 [in RMBS], which was probably the low point for the mortgage market,” says Andrew Vickery, partner at Linklaters. “It started in January with the prime lenders straight out of the gates. Specialist lenders soon followed and since then we have seen virtually every segment of the industry accessing the improved liquidity in the markets. With rates tightening and origination levels significantly increasing, we see that trend continuing in 2025.”

Indeed, the UK housing market has started to recover, with Halifax’s House Price Index showing that house prices were back to record highs in October. Bank of England data shows mortgage lending picking up, with volumes in September 2024 up by 49.3% compared with the same month the year before.

The upturn will support RMBS volumes, though there may be a lag.

“We are seeing mixed [collateral] deals [in 2024],” Bigley says. “Traditionally, lenders would keep owner-occupied and buy-to-let deals separate. The reason for [the mixing] is they probably don’t have enough collateral to do two deals. Origination over the past 12 to 18 months has been a little weak, so there is a question mark over volumes in 2025.”

Despite their optimism on volumes overall, survey respondents doubted that the number of European ABS debut issuers in 2025 would match the highs of 2024, with 57% expecting fewer than five new issuers. Still, if conditions remain positive, there are plenty of reasons new issuers would want to try.

“[Doing an RMBS deal] is proof of concept for further equity investment in [specialist lenders],” Vickery says. “Having a public securitization is a great calling card.”

With new issuers came new types of collateral. LiveMore brought the first European deal to contain retirement interest-only mortgages, while Tandem Bank and Equifinance expanded the range of second lien collateral securitization that investors can access. Continuing innovation in the later-life lending sector could be a theme of 2025.

“We expect increased activity in equity release transactions and later-life mortgages,” Moody’s Rismondo says. “Additionally, we might see more use of forward flow agreements by UK non-bank lenders.”

Affordability for first time buyers remains an area of focus in the mortgage market. That could also provide opportunities to offer new products.

“With the end of ‘Help to Buy’, some other products, such as shared ownership, may get a temporary boost to [their] profiles,” S&P’s Bigley says. “Whether it actually translates into deals [is less clear]. Possibly not in 2025, but we have had a lot of questions on it.”

Such deals might carry a CMBS flavour, if backed by new-build blocks of flats, for example. There are some signs of life in that market after a period of dormancy.

“Plain vanilla financing has been getting more expensive,” says Reza Taylor, partner at Linklaters. “That pushes people to look at more structured routes.”

Taylor points to ground rent financings, such as a deal between Morrisons and Song Capital in October, as one sector where there is “a lot happening” and “even more” expected next year.

For the public CMBS market, 2024 was a year of recovery, with four trades marketed plus Vantage’s data centre deal. Logistics featured prominently, accounting for three of the deals, and there was one flexible office transaction.

A modest pick-up is on the cards: 56% of survey respondents expected at least four trades again in 2025; only 17% expected more than six.

However, while new issuance has begun to recover, the performance of existing deals remains under scrutiny. In June, it became clear that Elizabeth Finance 2018 would be the first deal since the 2008 financial crisis to default on a note initially rated triple-A.

Several CMBS deals remain in special servicing, with investors and rating agencies waiting to see how those situations progress, and 35% of survey respondents expect further senior defaults in 2025.

The one sector to defy this cautious tone is data centres, where there is quite a buzz after Vantage’s deal in May. Market participants sense an opportunity for rapid growth.

“A lot of banks have balance sheets full of loans to data centre providers,” says Brian Snow, vice-president at Moody’s. “To provide more capital, they are considering CMBS or ABS and other forms of capital as well.

“It can appeal to different investors. We have seen data centres go into all types of financing, including project finance, ABS [and] CMBS. In the US, ABS is very popular for data centres but, as it grows very quickly, it is migrating to different pockets.”

That could be helpful for those trying to finance data centres, since going down the securitization route does not guarantee demand.

“A lot of people are asking what the depth of the investors is for data centre ABS,” says Elisabeth Johnson, partner at Linklaters. “It’s difficult to say because there hasn’t been the volume of CMBS issuance in Europe.”

What is clear, though, is that the market could be big and it will ramp up in the coming years.

“We have had a significant uptick in data centre investment,” Johnson says. “If the trend in Europe follows the US, we would expect to see the ABS market grow incrementally, or perhaps [significantly], over the next three years.”

There are some risks. The sector has grown quickly, meaning it is an unusually large asset class for one to be still largely untested in European securitization markets.

“Data centre companies are fairly new businesses in rapid growth mode, but with big books of capital and investment to deploy,” Johnson says. “As these deals start to come to public markets, we will see some of the challenges tested through the credit rating process.”

She highlights planning problems, managing fire risks and getting enough power to run the data centre as examples of potential tests.

One of the big fears at the start of 2024 was that interest rises would feed through, with a lag, to borrowers leaving them facing unaffordable payment shocks. For the most part, that has not materialised and market participants are feeling more optimistic about collateral performance in 2025.

“Performance-wise, payment shocks and the rate paradigm shift have been largely contained,” S&P’s Bigley says. “There are segments where that’s not the case, particularly legacy collateral, but, from a new origination perspective, we think the worst is probably over.”

That sentiment is echoed by Rismondo, with Moody’s also keeping a close eye on UK non-prime mortgages.

“Performance has also been strong, showing resilience across Europe,” she says. “However, we have observed some deterioration in UK non-prime assets, leading to an increase in delinquency. We are closely monitoring UK BTL RMBS, as approximately 50% of the collateral in these portfolios is due for refinancing in the next 18 months.”

Much of the collateral that has been deteriorating was acutely exposed to interest rates rising. For example, in the case of legacy mortgages, borrowers often pay a floating rate and have few refinancing options, forcing them to swallow the higher rates.

If interest rates fall further, it should help ease the pressure on that collateral. The signs are promising, with 81% of survey respondents expecting benchmark rates to be between 1% and 3% at the end of next year.

Even before 2024, and in contrast to the rest of the European securitization market, significant risk transfer was already growing — at a clip of about 20% per year since 2020. In SRT deals, banks share the risk on assets with third party investors, releasing capital for further lending.

For SRT, 2024 was another positive year.

“It has been once again a strong year for the SRT market, with notable increased activity in the US,” says Frank Benhamou, risk transfer portfolio manager at Cheyne Capital. “While Canada slightly came back [down] from its heights following 2023’s M&A-driven peak and an early Basel IV implementation, other regions, including Eastern Europe, are showing momentum.

“What was once seen as a niche market has firmly established itself as a more developed sector [and] I expect the growth trajectory to continue next year. SRTs offer a compelling fit for banks, and many institutions are eager to expand their SRT activity.”

Survey respondents agreed, with 53% expecting growth in issuance of between 10% and 30%, in line with recent years. What made 2024 stand out, however, was the rapid expansion of the investor base.

“Some newer investors may have entered the market opportunistically, and it is not certain they will stay,” Benhamou says. “Their sustained involvement will likely depend on the growth of the US market. Although that market has expanded, it has yet to reach the scale some [had] anticipated a bit too optimistically. We believe the US market will continue to develop but this will take time and include structural nuances distinct from Europe.”

SRT’s popularity fits into a broader trend of private credit expanding and taking market share as banks face capital constraints. However, SRT and other bank-originated securitizations also represent a way for the two sectors to work together. Market participants predict an expansion of that collaboration next year.

“The market has seen a number of financial institutions partner up with credit funds to launch direct lending funds, which has been an interesting development,” says Harjeet Lall, partner at Pinsent Masons. “My practice covers a wide range of asset classes. I have really seen the full gamut this year from a lot of activity in trade receivables, especially in the first half of the year and then resi mortgages throughout. I am also seeing more appetite for esoteric assets, primarily driven by credit funds.”

Survey respondents were divided on the main cause of rising issuance this year: 23% put it down to capital constraints on banks, but 30% said liquidity pressures as central bank funding rolls off was most significant. Attractive spreads (23%) and improving regulation (13%) were also identified as factors.

There will be more opportunities for credit funds to seize in 2025. Banks are likely to keep shedding assets in their pursuit of improved returns on equity, while the non-bank lending sector will be boosted by likely lower rates, with 59% of survey respondents expecting lending volumes to rise.

Headwinds do remain, however. Macroeconomic uncertainty still hangs over the market, as well as the possibility of inflation returning, though just 5% of survey respondents predicted policy rates would climb above 6% in 2025.

Securitization beat expectations in 2024 to produce a vintage year across asset classes. Today there is every confidence that the good times can keep on rolling.