Early Amortization Triggers
Definition
Early amortization (EA) triggers are contractual events that force revolving ABS structures (credit cards, auto loans, trade receivables) to halt new purchases and begin rapid principal paydown to senior noteholders. Common triggers include: excess spread falling below minimum thresholds (typically 3-4% for credit cards), default rates exceeding covenanted limits (often 8-10% for credit cards, 4-5% for auto), servicer termination, and seller/originator bankruptcy. Upon trigger, all principal collections flow directly to paying down senior notes rather than purchasing new receivables, rapidly deleveraging the structure and protecting senior investors.
Why it matters
Early amortization mechanics saved senior ABS investors billions during 2008-2009. As subprime credit card defaults spiked above 12%, EA triggers activated across dozens of structures, halting receivable purchases and directing all collections to senior notes. Senior notes paid off in 12-18 months instead of 3-5 years, exiting before losses eroded subordination. Without EA triggers, senior notes would have remained exposed as defaults continued rising. However, EA triggers also accelerated failures—subordinated notes and equity were wiped out as asset bases shrank and interest income vanished. Understanding EA triggers is critical for any revolving structure analysis—they represent the 'circuit breaker' protecting senior debt at the expense of junior capital.
Common misconceptions
- •Early amortization isn't optional or discretionary—triggers are contractual and automatic. Trustees have no choice but to implement once conditions are met.
- •EA triggers don't require defaults to occur. Excess spread falling below thresholds (even with zero defaults) can trigger EA if margins compress sufficiently.
- •Triggering EA doesn't mean the deal defaulted. It's a protective mechanism that often prevents default by deleveraging before losses consume subordination.
Technical details
Common EA trigger types and thresholds
Excess spread trigger: Most common for credit cards. Excess spread = (Portfolio Yield - Charge-Offs - Servicing Fees - Note Interest) ÷ Principal Balance. Typical trigger: excess spread falls below 3-4% for 3 consecutive months. Example: Portfolio at 18% APR, charge-offs 8%, servicing 2%, note interest 6% = 2% excess spread → EA triggered as below 3% threshold.
Default/delinquency trigger: Default rate exceeding specified percentage for defined period. Credit cards: typically 8-10% default rate over 3 months. Auto loans: 4-5% cumulative loss rate. Trade receivables: 5-6% delinquency rate over 60 days. Measured as rolling average to avoid monthly volatility.
Servicer/seller bankruptcy: Automatic EA if servicer files bankruptcy or originator experiences insolvency. Protects against operational disruption and potential commingling of funds. No cure period—immediate trigger upon filing.
Minimum seller's interest: Seller must maintain minimum percentage of receivables (typically 5-10% of pool). If seller's stake falls below threshold, EA triggers. Ensures seller has 'skin in the game' and alignment with investors. Measured monthly.
EA mechanics and cash flow changes
Pre-EA (revolving period): Principal collections used to purchase new receivables maintaining constant pool size. Interest collections pay note interest and fees with excess to equity. Pool size typically $500M-$2B for credit cards. Monthly purchases equal monthly paydowns keeping pool balanced.
Post-EA (amortization): All principal collections flow to paying down senior notes in strict priority. Class A (senior) receives 100% of collections until fully paid, then Class B, then Class C. No new purchases permitted. Pool shrinks monthly by net paydowns (~$50-100M monthly for $1B pool).
Amortization timeline: Typical credit card pool amortizes 12-24 months post-EA depending on payment rate. Auto loans faster (6-12 months) due to fixed payment schedules. Trade receivables variable (3-18 months) depending on receivable terms and customer payment patterns.
Interest payment impact: Note interest continues accruing during EA. However, if pool yields fall below note interest rates, interest shortfalls can occur on junior notes. Senior notes typically have overcollateralization protecting against shortfalls. Junior notes may defer interest or experience writedowns.
Investor impact by tranche
Senior notes (AAA/AA): EA is protective mechanism. Early principal return reduces duration and credit exposure. May receive par repayment within 12-18 months versus 3-5 year expected life. Duration compression creates reinvestment risk but eliminates default risk. Net positive outcome for senior holders.
Mezzanine notes (A/BBB): Mixed impact. Earlier principal return reduces loss exposure but interest income ceases sooner. If EA triggered by rising defaults, mezz notes face risk of principal impairment as losses erode subordination during amortization period. Outcome depends on severity of trigger event.
Subordinated notes/equity: EA typically destroys value. Interest income ceases immediately. Asset base shrinks eliminating fee income. If EA triggered by defaults, subordinated capital absorbs losses first and may be fully written down. Even if no defaults, present value destroyed by eliminating future cash flows.
Real example - 2008 credit card ABS: Senior notes paid off at par in 12-18 months. Mezz notes experienced 20-40% writedowns as charge-offs continued during amortization. Subordinated bonds and equity written to zero in most structures as losses exceeded subordination levels.
EA trigger management and behavior
Pre-emptive actions by sponsors: Monitoring excess spread and default rates closely. If approaching EA triggers, sponsors may: (1) Increase seller's interest to improve credit metrics, (2) Buy back higher-risk receivables to improve pool quality, (3) Negotiate with noteholders to amend trigger levels (requires supermajority consent, rarely successful), (4) Accelerate charge-offs to clear pipeline before EA triggers.
Market signaling: EA triggers signal significant stress. Credit rating downgrades typically follow within 30-60 days. Secondary market prices decline sharply even for senior notes due to uncertainty. Counterparties may terminate trading relationships. Regulatory scrutiny intensifies. Can create bank-run dynamics on originator.
Structural variations: Soft EA vs Hard EA. Soft EA allows continued purchases up to mandatory principal paydown amounts. Hard EA immediately halts all purchases. Most modern deals use hard EA for cleaner mechanics and better senior protection. Some deals have 'optional early amortization' allowing originator to trigger voluntarily before hard triggers hit.
Cross-default implications: EA trigger in one securitization can trigger cross-default provisions in related structures. If originator has multiple programs, EA in one often cascades to others due to shared servicer, shared seller's interest, or cross-default language. Created systemic effects during 2008 crisis.