The index comprises a family of five sub-indexes, each of which consists of a basket of 20 CDSs referencing US sub-prime home equity securities. As with the Dow Jones CDX and iTraxx families of credit derivative indexes, the ABX index will roll every six months.
Unlike the corporate CDS indexes, the ABX contract component trades are reference obligation-specific, rather than entity-specific. Also, unlike corporate bonds which are bullet maturity, ABS bonds amortise at variable rates over the life of the instrument. An International Swaps and Derivatives Associations pay-as-you-go template, the standard for US residential mortgage-backed securities, references each bond. Traditional credit events, as they apply to the pay-as-you-go contract, do not form part of the index contract. Hence all settlements will occur through the floating payment mechanism covering interest shortfalls, principal shortfalls and write-downs.
“We expect ABX to build liquidity and transparency in the synthetic asset-backed market, attracting global investors that seek exposure to this asset class, both on the buy-side and sell-side,” says Kevin Gould, executive vice-president and head of data products and analytics at UK-based pricing and valuation provider Markit. Markit will be the administration, calculation, and marketing agent for ABX.
There are already 17 market-makers in the index including ABN Amro, Barclays Capital, Deutsche Bank, Goldman Sachs and JP Morgan. Future synthetic ABS indexes may include credit card, auto loan and student loan ABSs.
"The CDS of ABS market has grown at a rapid pace over the past six months, and we have seen increasing appetite among clients for a way to take a synthetic view on ABS. ABX is a direct response to that demand, and gives clients an efficient, standardised tool with which to quickly gain exposure to this asset class," says Bradford Levy, a managing director in Goldman Sachs' firm-wide ebusiness group and acting chairman of CDS IndexCo, a consortium of 16 investment banks licensed to be market makers in the Dow Jones CDX indexes.