The hidden dangers of loose credit are emerging, and the U.S. bond market sounds the alarm! Two "top-performing" companies suddenly collapse

Media reports indicate that U.S. bond investors have issued warnings regarding the loosening lending standards in the credit market, as two companies that were considered to be in good condition just weeks ago have recently found themselves in trouble.

Earlier this month, the collapse of subprime auto loan company Tricolor Holdings, along with the automotive parts supplier First Brands Group beginning to consider bankruptcy proceedings, caught investors off guard. Tricolor had received a clean AAA rating when borrowing in the credit market, while First Brands' on-balance-sheet and off-balance-sheet financing could total as much as $10 billion, having almost refinanced last month.

Media reports state that investors initially intended to view these two incidents as isolated cases, but when considered together, they reveal cracks within the credit market. Since the financial crisis, traditional banks have gradually retreated, and the credit market has become a key source of financing for consumers and businesses.

Traders and investors have told the media that they are beginning to question the current risk control mechanisms, believing that these mechanisms allowed Tricolor and First Brands to edge toward collapse in such a short time.

An investor who sold Tricolor bonds last week told the media that the company's collapse and the ensuing market turmoil were “one of the worst things he has seen in the asset-backed securities market.”

Both companies utilized asset-backed debt structures (ABS): Tricolor packaged subprime auto loans into bonds, while First Brands pledged accounts receivable to some specialized funds to obtain credit.

The core of ABS is: financing secured by specific assets or loans, including credit card debt, leases for railcars and solar panels, aircraft, or music copyrights. Some investors have indicated that they have recently begun to thoroughly review their portfolios to ensure they are not invested in similarly situated companies and are asking more detailed questions when underwriting new deals.

May Lead to Loss of Luster for ABS Financing

Media reports suggest that U.S. investment banks have increasingly invested in ABS in recent years, claiming that this product is much safer than the junk-rated loans they are accustomed to handling.

However, Tricolor is currently under investigation by the U.S. Department of Justice for alleged fraud, and some investors have long harbored doubts about First Brands' financial reports and accounts receivable financing methods. Now, lenders are beginning to worry that they are unclear about the scale of these off-balance-sheet financings.

Analysts believe that the crises faced by Tricolor and First Brands may cause the once-hot financial sector of ABS to lose its luster. ABS is not a new product, but it has developed rapidly. Large Wall Street institutions such as Apollo Global Management and KKR are continuously developing new lending methods.

This development has previously benefited non-bank lending institutions, as Tricolor took advantage of the strong demand for auto loan-backed bonds to aggressively expand its lending business Approximately $2 billion in funds were issued to Tricolor in the form of loans secured by auto loans, and now these lenders are in trouble. According to two insiders who spoke to the media, the company failed to make interest payments in September, and some lenders are reportedly trying to repossess vehicles.

Major Banks Also Affected

Several large banks have also been affected, including JP Morgan Chase and Fifth Third Bank, which face the risk of losses on auto loans worth hundreds of millions of dollars.

Another investor who has sold packaged Tricolor loans told the media that they never expected banks like JP Morgan to overlook potential financial issues, as JP Morgan is one of the lead underwriters of these debts.

"This is what is truly shocking; JP Morgan is one of the most professional lending institutions in the world. How could they not have discovered this problem?"

Since the financial crisis, global central bank policymakers have been trying to strengthen the banking system, one approach being to shift lending from the regulated banking system to other parts of the financial system.

Media reports indicate that European Central Bank officials received briefings last week, including the rise of non-bank lending institutions like Tricolor and their process of collapse.

Columbia Business School professor Tomasz Piskorski told the media that Tricolor's failure may prompt investors to "be more cautious."

"He stated that rating agencies will be stricter, and credit may become less accessible as a result."

ABS Faces Numerous Issues, Yet Institutions Continue to Invest

Regarding First Brands, its underwriter Jefferies was still marketing a new $6 billion loan deal for the company a few weeks ago, assuring investors that the group still had nearly $1 billion on its books as of March this year.

However, First Brands is now negotiating emergency rescue financing with lenders to fill an imminent funding gap, a process that could ultimately lead to a bankruptcy filing.

The rapid decline in the value of its debt has also shaken the $1.5 trillion U.S. leveraged loan market—First Brands' subordinated bonds traded this week at just "a few cents on the dollar."

Lenders have almost no transparency regarding the "accounts receivable-backed financing" used by First Brands. This type of financing is typically completed by specialized funds, and the process is entirely opaque.

Media reports previously indicated that hedge fund giant Millennium Management and an investment department under Jefferies had provided such financing to First Brands.

Several experts in the accounts receivable financing field told the media that despite the obvious issues in First Brands' financing scheme, some lenders continue to invest because these "seemingly secured" assets offer high yields. One fund manager told the media:

"A large number of people have specifically established accounts receivable funds. When there is too much capital burning a hole in your pocket, you start to take risks. This company always offers the highest returns in the market and can always provide more, with no upper limit."

Despite the rapid sell-off of First Brands' bonds and the collapse of Tricolor, fund managers continue to invest in new ABS.

Insiders revealed to the media that Goldman Sachs is preparing to sell a $300 million asset portfolio this week, consisting of subordinated credit card receivables issued by fintech company Mission Lane.

Dylan Ross, head of asset-backed financing at asset management company TCW, stated to the media that the market's acceptance of such transactions indicates that there is still confidence in asset securitization financing.

"Since the financial crisis, there have been almost no defaults on investment-grade structured products; the issue is not with asset securitization."

Risk Warning and Disclaimer

The market has risks, and investment should be cautious. This article does not constitute personal investment advice and does not take into account the specific investment objectives, financial situation, or needs of individual users. Users should consider whether any opinions, views, or conclusions in this article align with their specific circumstances. Investing based on this is at your own risk