Issuer Credit Quality and the Price of Asset Backed Securities

We examine the initial coupon spread of ABS issued between 1995 and 2008, and find appreciable tiering between the spreads of different sponsors, controlling for other security characteristics. Nonetheless, our analysis indicates that investors may have overlooked beneficial information about sponsors when pricing ABS. Securities spreads were actually higher for some better-rated sponsors, whose bonds had a longer time before downgrade, and these spreads had only a weakly negative relationship with overall time to downgrade the issuers' securities. However, investors did provide lower spreads for deals where the sponsor acted as servicer and underwriter, consistent with those deals having better incentives and a longer time to downgrade. These results may reflect ABS buyers who underwrote bonds based on other characteristics of issuers unrelated to risk, such as likelihood of early payment or MBS sponsors. We show that deal incentives were priced at least to some extent. Nonetheless, these results suggest that relevant information about the quality of ABS sponsors may not have been fully appreciated by the buyers.