Aircraft securitization cleared for take-off.

Since the first aircraft asset-backed security (ABS) came to market in 1992, the market has grown to more than $17.4 billion in public, private and international securitizations as of August 2000 (Exhibit 1). Since its introduction, aircraft ABS has grown at a 41.2% compound annual growth rate (CAGR). The number of aircraft securitizations, which has averaged just two transactions a year since 1996, may increase to more than three times that number in 2000. As an emerging asset class, aircraft ABS enjoy a growing awareness in the ABS investor community, supported by expanded ABS research and secondary market liquidity. Fundamental to aircraft ABS is the ability to model a transaction to attract investment-grade and high-yield investors to securities with ratings ranging from AA to BB. Aircraft ABS offer investors attractive spreads versus other ABS, a phenomenon that will likely diminish as the sector grows.

Investor consideration is being driven by demonstrative pool performance, increasing disclosure regarding collateral quality and innovative structures. Investors can now more easily differentiate between transactions, deal sponsors and servicers. Credit spreads are expected to converge around loan-to-value (LTV) ratios consistent with assigned ratings.

I. INTRODUCTION

Since the first aircraft asset-backed security (ABS) came to market in 1992, the market has grown to more than $17.4 billion in public, private and international securitizations as of August 2000 (Exhibit 1). Since its introduction, aircraft ABS has grown at a 41.2% compound annual growth rate (CAGR). The number of aircraft securitizations, which has averaged just two transactions a year since 1996, may increase to more than three times that number in 2000. Five deals have already been brought to market this year (Exhibit 1). As an emerging asset class, aircraft ABS enjoy a growing awareness in the ABS investor community, supported by expanded ABS research and secondary market liquidity. Fundamental to aircraft ABS is the ability to model a transaction to attract investment-grade and high-yield investors to securities with ratings ranging from AA to RB. Aircraft ABS offer investors attractive spreads versus other ABS, a phenomenon that will likely diminish as the sector grows.

Investor consideration is being driven by demonstrative pool performance, increasing disclosure regarding collateral quality and innovative structures. Investors can now more easily differentiate between transactions, deal sponsors and servicers. Credit spreads are expected to converge around loan-to-value (LTV) ratios consistent with assigned ratings.

The key elements of an aircraft securitization are 1) deal sponsorship, 2) the servicer, 3) the collateral backing the securities and 4) lessee credits. Because each aircraft type represents a significant capital investment, the servicer's ability to maximize future cash flows earned from the aircraft and minimize losses is critical to portfolio performance. Losses, expressed through bad-debt expense, and reduced lease rates can arise from either remarketing events associated with defaulted leases or off-lease aircraft.

Of the transactions that have entered the market, the number of aircraft in a portfolio ranges from 11 to 229. An average portfolio includes 25-35 aircraft. Due to the value of each asset, with the range of appraised value for a single aircraft of $5 million-$70 million or more, an understanding of the difference between the more accepted traditional leasing assets and those that are less liquid is essential. A few less liquid aircraft in a portfolio, given the capital-intensive nature of these assets, could reduce initial overcollateralization or cause losses on the rated subordination tranches of a transaction.

A. Why the Growing Need for Securitizations?

The Boeing Co. predicts more than $1.5 trillion in new aircraft will be delivered over the next 20 years. Background supports the predictability of aircraft demand based on the same degree of long-term predictable traffic growth driven by growth in the gross domestic product (GDP). Traffic growth is the most significant factor driving manufacturing, airline operations and financing needs.

Securitization provides a reliable, long-term flexible source of aircraft funding for this cyclical industry. In addition, the use of the capital markets brings a wider universe of investors whose diversity and breadth of investment appetite meet the aircraft finance market's continuous need for capital.

B. Trend toward Operating Leasing

The trend toward operating leasing is propelling an increase in aircraft ABS transactions. An operating lessor can reduce its risk by diversifying its portfolio across equipment type and lessees while raising long-term debt financing through securitization. This diversification allows for the efficient matching of long-term assets and liabilities. Such diversified pools of equipment and lessees are the foundation of aircraft ABS.

The number of leased aircraft in commercial fleets (including finance leases) rose t 43.4% in 1998. The proportion of operating leases in airline fleets is predicted to grow from the current level of 25% to 35% as early as 2006. Although this trend reflects growth in passenger traffic in developing markets such as Asia and Latin America, it also mirrors the use of operating leases by strong and secondary carriers in developed and developing markets.

III. SECURITY DYNAMICS

The leading contributors to a reduction in cash flow in any aircraft ABS transation are a reduction in the value of the aircraft, reduced lease rates and increased aircraft remarketing time following a lessee delinquency or lease expiry. The credit quality of the lessee pool in an aircraft portfolio will drive varying rates of default frequency and require either more frequent releasing events or the restructuring of contractual cash flows. Thus, to a large extent, liquid collateral allows lessors to rely on rapid aircraft redeployment following a default or lease expiry. However, during a severe economic downturn it can still be difficult for a lessor to remarket even the most liquid aircraft to a new lessee. Indeed, the remarketing time on liquid aircraft increases to 30 days on average during an economic downturn from 10 days under normal market conditions. By contrast, a lessor may need to lease a less liquid aircraft to a weaker credit or, in many cases, a riskier start-up carrier if the aircraft is to be moved at all.

A. Factors Driving the Repayment of Aircraft ABS

An analysis of aircraft ABS begins with the following factors:

* Asset resilience and transferability. Aircraft ABS focus on liquid aircraft types with a low risk of technological obsolescence and a large and diversified installed operator base.

* Portfolio diversification. Due to the capital-intensive nature of this asset class, it is important to reduce the risks associated with the default of one or more lessees.

* Servicer's market breadth and financial strength. The operational capability and experience of the servicer should be reflected in any managed aircraft portfolio. Long-term viability through direct or indirect financial condition (backing) must be evident.

B. Evolution of Aircraft ABS Analytics

The market's analysis of aircraft ABS transactions is still evolving. There has been a steady though noticeable shift in the evaluation of collateral, lessees and servicers by rating agencies and investors. The drivers behind each of the principal risk components increasingly being explored include:

* Individual aircraft (narrowbody/widebody, user base, age [in certain cases, the number of cycles], technology, engine, appraised value, maintenance condition and year of production)

* Current market volatility or lease rate volatility

* Residual performance of individual aircraft and the portfolios

* Lessee exposure

* Credit quality and servicer risk

C. Aircraft Specifications

When the aircraft ABS market commenced in 1996, the focus was principally on the mix between narrowbody and widebody and Stage II versus Stage III. Today, these issues are complemented by the analysis of an installed base, the number of aircraft in service and the number of operators. Also analyzed is whether the aircraft is part of a family of aircraft that shares common operating and maintenance features, which provide efficiencies to the airline.

When considering a portfolio, a macroanalysis of pool composition is necessary. Given that each asset in an aircraft portfolio is capital-intensive, an evaluation of two similar-sized portfolios, one of which has less desirable aircraft types, whether by number of less liquid narrowbody aircraft or widebody types, shows the same level of leverage cannot be sustained at the targeted rating level. This is particularly true for small niche lessors of smaller securitized portfolios. Here, the lessor's portfolio of clients may be too small to remarket a widebody quickly. The smaller securitized pool's performance can be adversely affected by a single widebody type or weaker narrowbody types.

All else being equal (lessee concentrations commensurate with credit risk), a portfolio comprising less volatile, highly liquid modern technology narrowbody aircraft--a mainstream aircraft--should produce a more sustainable stream of cash flows compared with a portfolio evenly split between a more volatile mix of widebodies and high-demand narrowbodies. Portfolios can be evaluated based on a distribution of residual performance across a 25-year horizon to compare likely portfolio performance.

The greater volatility of weaker narrowbody types or widebodies can only be mitigated through increasing portfolio size and obtaining a more experienced servicer. A lessor or servicer should have demonstrative experience in managing widebody aircraft. For example, known managers capable of efficiently managing widebody aircraft are mega-lessors GE Capital Aviation Services (GECAS) and International Lease Finance Corp. (ILFC). Where any securitization portfolio includes widebody aircraft, it would still be the case that a combination of related lessee default events or lease expiries might cause a material reduction in cumulative pool revenue versus that expected to meet the debt service. This was seen in Morgan Stanley Aircraft Finance's securitized pool, when the lease rate earned on a remarketed B747-300 aircraft, post default, fell 80%, materially reducing the collateral pool's revenue stream against what was expected.

The above discussion can best be expressed by arriving at appropriate residual value curves for each aircraft and the aggregate portfolio. In this way, residual value curvesserve as the leading indicators of cash flow.

D. Key Concepts Affecting Residuals

Aircraft ABS performance depends on the leasing and releasing revenue for debt amortization. Thus, the aircraft's residual value is the basis for an adequate stream of cash flow. As a typical lease term is 3-7 years, which is much shorter than the expected amortization phase of a transaction (7-15 years), each aircraft must be either released several times over the life of the transaction or sold. Usually, releasing is preferable, however, sometimes the servicer, with the approval of the issuer's board of directors, may find it more beneficial for the trust to sell an aircraft.

* The economic useful life of a commercial passenger jet aircraft is 25-35 years, with extensions to 40 years if converted to freight use.

* The assumed residual value is low (15%-25%) at Year 25, excluding inflation.

* The assumed scrap value is at least 5% of original costs, excluding inflation.

Historical data obtained from the CASE Aviation database, which addresses the economic useful life of Western-built commercial jet aircraft (aircraft are typically retired owing to economic and political reasons rather than physical reasons), shows approximately 50% of the world's fleet remained in commercial operation after 25 years from the year of production. (This database contains the operating histories of more than 60,000 commercial aircraft including all commercial Western-built jet aircraft manufactured since 1949 and tracks all major events in their lives.) Factoring in those aircraft that have received further investment in the form of conversion to freighter or engine enhancement, the survival rate increases to 83%.

This historical data can be viewed as capturing the kinds of event risk--fleet rollovers, new regulations and/or technological advancements--that will affect the economic life of any aircraft type. In summary, the data shows that for those aircraft still operating at Year 25, without capital improvements, the average residual retention was 15% (excluding inflation), with narrowbodies and widebodies at 17% and 8%, respectively. Thus, portfolios weighted to narrowbodies should produce more sustainable cash flows based on stronger residual performance over a 25-year period and at Year 25.

E. Portfolio Credit Matters

One widely accepted operating lease market theory is that lessee credit is not significant; so as long as the right aircraft are chosen, cash flow performance can be immune to credit performance. Although we believe asset value is the ultimate determinant of cumulative cash flow in aircraft ABS transactions, we do not agree that credit is insignificant. Consistent underwriting policies are critical to maintaining a proper mix of credit exposure associated with the yield earned on individual aircraft. Taking two equally diversified portfolios, the one with better credits should outperform the portfolio of weaker credits backed by the same liquid aircraft types. This is due to reduced defaults and remarketing events over a large proportion of a transaction's life. Evidence is inconclusive that lease rates are consistently high enough at carriers in weaker financial condition, even for a mobile asset such as aircraft, to offset bad-debt expenses and restructurings that consume significant resources of large and niche lessors. To compensate, portfolios should include a diversified mix, so lessees with implied ratings of single B or less are offset by better credits to obtain a higher rating on the securitization.

F. Servicing Credit Matters

The clearest shift in market perspective has been in connection with the need for sustainable servicer credit. Investors are requiring a clear alignment between servicer credit and capability and the long-term ratings on the securities. Servicer evaluation needs to reveal a positive alignment between its experience and resources and the portfolio under management. Where these factors have not been aligned, access to the largest possible universe of investors is reduced. In this case, a commensurate increase in the required yield on securities would be required or lower leverage ratios may be achieved.

IV. AIRCRAFT OPERATING LESSORS--THE NEED FOR EMERGING SEGMENTATION

Securitization allows smaller lessors to accomplish origination economies of scale, which enhance operating profitability. Aircraft securitization, however, should not negate the financial strength of an operating lessor. After the debt from a securitization is paid in full, the lessor or servicer (the originator) may benefit from residual cash flow, which is an incentive to maximize cash flow from collateral performance.

Market rationalization caused by increased liquidity will only be maintained if lessor management avoids a funding dependency on securitization and correctiy accounts for retained risk. For this reason, successful lessors must access multiple sources of capital, thus reducing the correlation risk between the lessor and assets under management.

A. Prominent Participants

The primary lessors--GECAS and ILFC-are also the industry's most highly regarded servicers. Both are considered strong credits and have a substantial commitment to the aircraft leasing business.

Lessors of new aircraft (typically major lessors). Lessors of new aircraft may earn attractive returns because they can acquire aircraft at discounted prices through bulk purchase and enjoy a relatively low cost of capital. In addition, manufacturers' warranties contribute to reduced maintenance costs. These savings can then be channeled through to the lessee in the form of lower lease rates.

Lessors of new aircraft include Boullioun Aviation Services, Inc., Ansett Worldwide Aviation Services, GATX Flightlease, debis AirFinance B.V., The CIT Group, Inc., GECAS and ILFC, as well as various financial institutions.

Lessors of midlife assets (typically medium-sized lessors). Midlife-asset lessors require a higher level of operating/releasing capabilities (e.g., aircraft age of six or more years). These lessors are better able to establish portfolios that combine trade-offs between lease yield, aircraft type and lessee risk due to the growth of the operating lease market.

Midlife-asset lessors include the AerFi Group, the Aviation Capital Group, the Pembroke Group, The CIT Group, CS Aviation Services, Inc., Heller Financial, Inc., ORIX Corp., Oasis International Leasing Co., Pegasus Aviation Inc., Triton Aviation Services Ltd. and Babcock & Brown LP.

Lessors of end-of-life assets (typically smaller lessors). Such lessors primarily handle aircraft 20 years or older. Lessors in this market segment have the expertise to refurbish, scrap, upgrade (hushkit) or convert aircraft for alternative uses. These aircraft are often purchased while still on lease, in passenger configuration and with the expectation the aircraft are prime candidates for freighter conversion.

End-of-life asset lessors include Aerolease Inc., The Finova Group, Inc., and Pegasus Aviation.

B. Competition among Aircraft Lessors

Securitization helps level the playing field in terms of access to capital and the cost of such capital. To date, issuers have achieved blended financing costs, reflecting BBB to single A operating lease risk. Much of the competition is based principally on the availability of aircraft, lease terms and relationships.

However, small operating lessors enjoy strong relationships with their lessees, as evidenced by a high proportion of renewal business. Many successful niche lessors maintain a flexible, customer-oriented approach to the business. Thus, pools of highly liquid aircraft serviced by niche lessors can produce levels of lease revenue comparable to that of a larger lessor.

C. Lessor Considerations of Potential Lessees

The items most frequently checked in the due diligence process are the lessee's credit quality and financial position, management's industry experience, the route structure, systems and operations, the competition, the ownership structure, maintenance capabilities and existing and future fleet mix. Lessors also evaluate the political and legal environment of the associated countries to assess potential repossession difficulties.

D. Narrowbody and Widebody Characteristics

When examining aircraft types and their associated markets, the differences between narrowbodies and widebodies are significant. Narrowbody, or single-aisle aircraft, constitute 73% of the world fleet. They have a wide operator base, typically a capacity of 100-200 passengers and ranges of up to 3,500 miles. They are used on short- and medium-haul routes. Narrowbody aircraft typically have less volatile lease rates than widebody aircraft.

Airlines have generally accommodated growth by adding departures and arrivals to existing hubs, thereby benefitting through compound traffic growth. Narrowbody aircraft fulfill this growth strategy best because they can efficiently service short-haul, high-frequency flights.

Widebody, or twin-aisle aircraft, constitute 27% of the world fleet. They typically have a small operator base, large capacity (up to 450 passengers) and operate over international and transcontinental ranges of up to 8,000 miles. Lease rates are more volatile than for narrowbodies owing to lower demand and sensitivity to economic cycles.

Widebody aircraft can only take advantage of their low operating costs per available seat mile if they achieve the necessary break-even load factor specific to the airline. When the economy is soft and business travel contracts, an airline's ability to operate widebody aircraft profitably is difficult. These risk attributes were seen recently during the Asian financial crisis. As a result of that crisis, Malaysia Airlines, Philippine Airlines and PT Garuda Indonesia, among others, were forced to return aircraft to their lessors, thereby creating an oversupply of widebodies in the market. With respect to the operating lease business, the repossession and remarketing efforts in connection with widebody aircraft can be costly. Often, airlines customize the interiors of widebodies and the necessary reconfigurations make remarketing the aircraft difficult.

More detailed descriptions of narrowbody and widebody aircraft can be found in the appendix.

E. Other Significant Aircraft Types

Because of their distinctive missions and operating fundamentals, freighter and regional aircraft require independent analysis by investors. Each aircraft has distinct economics that present different risks to investors. Economics dictate the freight market is generally best served by used, lower-cost, older passenger aircraft that have been converted. Freighters (after conversion) and, to a lesser extent, regional aircraft are generally considered to have shorter useful lives. However, as both of these aircraft types operate in markets with higher growth rates than the traditional passenger jet market, the operating cash flow and residual performance of these aircraft are receiving new consideration. We expect both of these aircraft types to increase as a proportion of collateral pools.

Securitization ratings depend largely on operator and model diversification. This assessment overlooks the benefits of efficiency gained through specialization. An expertise in freighters and regional aircraft or older aircraft in general can create deserved market consideration. A securitization of regional aircraft consisting of turboprops and regional jets manufactured by Bombardier Inc. was completed in 1998. Also in 1998, BAe Systems removed its balance-sheet exposure to turboprops and regional jets through a rated transaction. In 1999, a rated deal for only one aircraft type, the DC-8 (originally manufactured in 1967-1971), was brought to market by Aerolease Inc. A breakdown of the most common freighter aircraft can be found in the appendix.

F. The Servicer's Role and Key Characteristics

The servicer plays a vital role in aircraft ABS. Besides collecting the monthly lease payments, the servicer maximizes cash flow from existing leases and minimizes losses due to defaulted leases or the redeployment of aircraft at lease expiry. The ability of the servicer to keep aircraft on lease, swiftly remarket aircraft and dispose of aircraft where appropriate to maximize residual value is critical in maximizing cash flows to repay the securities.

Investors should evaluate many key variables when assessing the effectiveness of an appointed servicer and a backup servicer, if necessary, in an aircraft ABS transaction. These variables include:

* Cumulative operating lease experience of key employees

* Financial strength or backing

* Remarketing history

* Number of years the servicer has been in business

* Size of the servicer's total portfolio and the ratio of aircraft to employees

* Number and depth of the servicer's airline relationships

* Ability of the appointed servicer to manage the aircraft backing the securities

* Servicer's geographic breadth, if applicable

A backup servicer is routinely required by the rating agencies for those transactions where the primary servicer is a small lessor. A backup servicer might need to provide credit or operating support to a small lessor.

G. Appraisals

The rating agencies require at least three desktop appraisals on a portfolio of aircraft to be securitized. When evaluating an aircraft, whether establishing base values or current market values, all aircraft appraisers use the standard definitions developed by the International Society of Transport Aircraft Trading (ISTAT) in 1994 as well as their own methodology.

Differences in base valuation opinions from appraisers are more prominent on less liquid, less predictable aircraft types. In the Morgan Stanley Aircraft Finance 2000-1 (MSAF) transaction, the issuer dealt with a wide disparity between base values. In this case, investors evaluated a cross-section of appraisals and, where appropriate, disregarded the high and low and averaged the remaining three. Those aircraft with a wide user base and for which a secondary market exists typically exhibit a greater level of consensus among the appraisers.

Differences in an appraiser's opinion of a particular aircraft type, manufacturer type, type variant, configuration, engine type, data on past and current aircraft sales and overall marker conditions affect an aircraft's appraised value. Some difference of opinion as to the future base value curve of an aircraft is to be expected-after all, it is a forecast-whereas differences in current market value appraisals reflecting recent aircraft sales may be attributable to these sales being private transactions for which pricing information is not readily available.

Exhibit 6 compares appraisers' values for six transactions. Those transactions with Airclaims' appraisals have an aggregate 10% difference between values of the other appraisers. Each of the appraised values is essentially an opinion. Neither an average of the values presented nor the high or low can be easily assumed to be an absolute expression of portfolio value. We encourage investors to review the basis for these opinions. No single appraiser is an absolute authority on values of all aircraft types.

V. STRUCTURAL BASICS

Most recent aircraft ABS transactions use a master trust structure. Through the issuance of subsequent subclasses or securities, backed by additional collateral, earlier issued bonds may benefit from greater diversification and reduced cash flow volatility. In each case, either a realized or unrealized reduction in collateral value was mitigated by the addition of collateral and the resultant diversification, allowing a confirmation of the ratings on the earlier issued securities by the rating agencies.

A. Refinancing Notes and Soft Bullet Analytics

The capital structure of a typical aircraft ABS transaction includes either refinancing notes or soft bullet maturities. Although these securities are similar, the refinancing note does not receive any amortization prior to its refinancing date, whereas the soft bullet can receive nominal amortization through its refinancing date. In either case, investors are concerned with the sponsor's (either the servicer or the seller, if different) ability to retain access to the capital markets around the refinancing date.

The issuer's ability to include refinancing notes in its capital structure reflects the need to balance the amortization of more expensive indebtedness with the need to maintain an acceptable LTV on the overall class of bonds of which the refinancing notes are a subclass. In this way, the issuer achieves an optimal cost of debt versus its ability to issue a maximum amount of senior securities.

Revenue from the aircraft over the transaction's s lifetime pays down the ABS. Failure to pay soft bullets by their expected maturity could result in step-up coupons. Refinancings are accomplished via future issuance of additional subclasses to the class being refinanced. These refinancing notes do not represent additional indebtedness and are only issued if the all-in costs are less than the cost of the existing notes plus the step-up.

B. Payment Schedules

Aircraft ABS transactions have been structured using two types of repayment schedules: pro rata and sequential. To date, only one transaction has used a sequential pay structure. Essentially, the pro rata structure allows for an appropriate allocation of lease revenue to each class of notes that is consistent with the targeted rating and the risk characteristics of the collateral. This point can be better expressed by comparison to the sequential structure. In a sequential deal, the senior most securities will evidence extreme robustness, whereas the subordinated indebtedness will exhibit extreme volatility. This is due to the subordinated debt being exposed to the collateral as it ages, combined with cumulative defaults and greater lease rate volatility.

C. Aircraft ABS Spread Advantage versus Credit Card and CDO ABS

Aircraft ABS deals are priced at attractive spreads relative to other ABS transactions, especially the subordinate tranches. Aircraft ABS is an emerging asset class, typically private, and the collateral is not as diverse and therefore not as liquid as other ABS classes. An increasing number of investors, mainly European, have an appetite for longer-term floating-rate paper at existing spread concessions.

Exhibits 9 and 10 compare pricing spreads of recently priced floating-rate aircraft deals and generic floating-rate spreads on credit cards and collateralized debt obligations (CDOs).

Aircraft ABS's spread advantage compared with credit card ABS ranges from as narrow as 24 bps on the AA five-year tranche to as wide as 155 bps on the BBB 10-year tranche. Credit card ABS transactions include a large number of commodity-type assets, whereas aircraft ABS are much less diversified.

Exhibit 10 shows the current spread advantage of aircraft ABS relative to generic CDOs, which may consist of any mix of non-investment-grade collateral. Both of these asset classes have liquidity premiums. Aircraft ABS have a spread advantage of 75 bps on the BBB 10-year and 100 bps on the BB 10-year. However, CDOs have an advantage at the AA level of approximately 23 bps due to a longer average life of 8.8 years compared with five years for aircraft ABS. CDOs also have an advantage at the A level of approximately 15 bps, which is also due to a longer average life of 9.4 years compared with seven years for aircraft ABS paper.

VI. CONCLUSION

The marker's analysis of aircraft ABS transactions is still evolving, and there has been a steady though noticeable shift in the evaluation of collateral by rating agencies and investors. The drivers behind each of the principal risk components--individual aircraft, residual performance, lessee exposure and credit quality, default frequency and servicer risk--are increasingly being explored. Aircraft securitizations are growing in number, coming at attractive spreads and building toward a promising future.

APPENDIX

A. Aircraft Types

The eight most popular aircraft are narrowbodies (Exhibit 11). Some of the most liquid include second- or third-generation B737s, B757s, the A320 family and the MD-80 series. Some smaller widebodies, such as the B767 and the A330-200 (but not the A330-300), are expected to behave more like narrowbodies because of their smaller size and mission flexibility. Aircraft that lack critical mass and a large order book or are concentrated in terms of the number of operators or in geographic regions represent more volatile residual exposure.

Among the world's most widely operated aircraft are the B737-200A and the B727-200A. Because these aircraft are approaching the latter part of their expected useful lives (30-35 years), the benefit of a large user base has begun to diminish. However, the aircraft's residual value has been relatively less sensitive to this trend based on the success of these models. Many mid- to late-production B727-200As and B737-200As will likely be converted to freighter configuration or hushkitted. The classic discontinued B737 models--the -300, -400 and - 500--enjoy a wide user base and attractive operating economics. They also benefit from a relatively young age, which allows them to remain established leasing assets.

B. Narrowbody and Widebody Characteristics

Narrowbody aircraft types include the Boeing 717, 727, 737 and 757; the Airbus 319, 320 and 321; and the McDonnell Douglas (Boeing) DC-9, MD-81, MD-82, MD-83 and MD-90.

B727-200A. This aircraft was considered the backbone of U.S. fleets in the 1970s and 1980s. In recent years, its popularity has declined rapidly as a passenger aircraft in the United States because of newer aircraft offering more efficient fuel performance and lower maintenance costs. However, an abundance of parts support the B727-200A, which has high gross weight (HGW) and high-powered engines (e.g., the JT8D-15/17 Pratt & Whitney [P&W]). These aircraft are well maintained and should remain in passenger service in less developed countries. P&W is motivated to keep the aircraft flying because it provides all the engine types. In addition, lessors believe this aircraft type, particularly the models with heavy wing characteristics, has a future in cargo configuration, for which there is currently no replacement aircraft on the horizon.

B737-200A. This aircraft is an advanced variant of the B737-200. It still has a large user base due to its efficiency and commonality. Up to 70% of its components are similar to those of the later variants. The later model HGW, high-powered, hushkitted and well-maintained aircraft are still in demand.

MD -82/83. The capital costs for this 150-seat aircraft give it excellent long-term operating economics. A fairly active market should continue to exist for the aircraft. However, fleet concentration and disposition plans by some large operators may create a temporary imbalance of supply and demand. New users must emerge to keep values stable. Marginal Stage III compliance will likely affect European demand for this aircraft. Again, P&W (the only engine manufacturer for the MD-82/83) is motivated to keep these aircraft flying.

DC-9-30. This aircraft, while economical, is being squeezed out by regional jets and the B717 on the low end and the A319 and A318 on the high end. The DC-930 shares some commonality with the MD-80, which is not as useful because of its small user base and the increasing passenger load demanded by many of the world's airlines.

B757-200ER. This aircraft is the most versatile 200-seat aircraft for medium and long-haul operations and operates at economical seat-mile costs. The aircraft's versatility can satisfy long/narrow domestic or international routes, serve as a feeder to hub-and-spoke operations and/or provide long-haul narrowbody service from hubs. The aircraft is still being ordered, despite the B757-300 variant, which offers greater passenger payload. Lessors and freight operators foresee the B757 as an eventual freighter replacement for the B727 when it reaches an economical depreciated capital cost. Widebody aircraft types include the Boeing 747,767 and 777; the Airbus 300, 310, 330 and 340; and the McDonnell Douglas (Boeing) DC-10 and MD-11.

B767-300ER. This aircraft should remain a mainstay in worldwide fleets for many years. It will likely replace the DC-10-30s flying today and continue to service the narrower intercontinental point-to-point market. The B767-300ER's ability to achieve a wide user base highlights its ability to merge into the B747-200 market as the number of international gateways has increased in the United States and Western Europe. This has reduced the need for larger widebody lifts out of international gateways such as New York and Chicago. Demand for the B767-300ER should remain firm as the Asian economies resume their long-term growth trends and markets such as the Middle East and Eastern Europe continue to develop.

B747-400. This aircraft typically flies long routes between major markets and will likely be affected in value as more long-haul B777s center the market. The aircraft's long-term outlook has become more volatile due to the likely introduction of the A3XX and Boeing's plan to offer B747 derivatives (e.g., B747-400X, B747X, B747X Stretch) with greater range and passenger load. The aircraft's value could be squeezed by increased demand for the B777 and the A3XX.

B777-200ER. Just as the B767-300ER replaced or reduced the need for the B747-200 along North Atlantic routes, the B777 (and its Airbus competitor, the A340) is having the same impact on the B747-400 in Pacific markets. This aircraft will likely become a mainstay in worldwide fleets. It may take awhile before it becomes widely available and generally affordable to second-tier operators.

A330-200. This popular aircraft competes directly with the B767-300ER. The delivery line is maximized for the foreseeable future, however, production rates are not high and should remain constrained by limited manufacturing capacity. This aircraft may have difficulty capturing market share from the B767-300ER, which already enjoys a large installed customer base.

C. Freighter Aircraft

Almost all major models of Western-built commercial aircraft have associated freighter conversions flying. Among the smaller and larger freighters, the B727-200 and B747-200, respectively, will likely remain the core of the world's jet freighter fleet for years. The DC-8 freighters are expected to remain in freighter configuration for up to 30 years after their conversion from passenger configuration. This would mean some DC-8s will have had a 50-year economic life. Exhibit 14 shows aircraft types by payload capacity.

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Exhibit 1

Aircraft ABS Deals


1992                   1 Deal     417
1993                                0
1994                   1 Deal     854
1995                                0
1996                   2 Deals  4,048
                                  394
1997                   1 Deal     119
1998                   3 Deals  1,050
                                2,437
                                  800
1999                   2 Deals    667
                                1,209
Month-End August 2000  5 Deals    938
                                1,310
                                  720
                                  960
                                   **

Note: Table made from bar graph

*[Unreadable in original source]
Exhibit 2

Aircraft ABS Transactions

    Date  Issuer                      Series   ($mm)

 1  6/92  Aircraft Lease Portfolio    1992-1     417
          Securitization (1)
 2  8/94  Aircraft Lease Portfolio    1994-1     854
          Securitization (1)
 3  3/96  Airplanes Pass-Through      1996-1   4,048
          Trust
 4  6/96  Aircraft Lease Portfolio    1996-1     394
          Securitization
 5  5/97  Pegasus Aircraft Lease      1997-A     119
          Securitization Trust
 6  2/98  Morgan Stanley              1998-1   1,050
          Aircraft Finance
 7  3/98  Airplanes Pass-Through      1996-1R  2,437
          Trust
 8  3/98  Canadian Regional Aircraft  1998-A     770
           Finance Transaction
           (Craft) No. 1 Trust
 9  6/98  AerCo Ltd.                  1998-1     800
10  3/99  Pegasus Aircraft Lease      1999-1     667
          Securitization Trust
11  4/99  Aircraft Finance            1999-1   1,209
          Trust
12  3/00  Pegasus Aircraft Lease      1999-1     938
          Securitization Trust
13  3/00  Morgan Stanley              2000-1   1,310
          Aircraft Finance
14  6/00  Triton Aviation             2000-1     720
          Finance

15  7/00  AerCo Ltd.                  2000-1     960
16  8/00  Embarcadero Aircraft        2000-1     745
          Securitization Trust
          (EAST 2000)

    Date  Issuer                      Seller

 1  6/92  Aircraft Lease Portfolio    GPA Group
          Securitization (1)
 2  8/94  Aircraft Lease Portfolio    GPA Group
          Securitization (1)
 3  3/96  Airplanes Pass-Through      GPA Group
          Trust
 4  6/96  Aircraft Lease Portfolio    GPA Group
          Securitization
 5  5/97  Pegasus Aircraft Lease      Pacific Avlation, Inc.
          Securitization Trust
 6  2/98  Morgan Stanley              Morgan Stanley
          Aircraft Finance            Asset Finance
 7  3/98  Airplanes Pass-Through      GPA Group
          Trust
 8  3/98  Canadian Regional Aircraft  Bombardier Inc.
           Finance Transaction
           (Craft) No. 1 Trust
 9  6/98  AerCo Ltd.                  GPA Group
10  3/99  Pegasus Aircraft Lease      Pegasus Aviation Inc.
          Securitization Trust
11  4/99  Aircraft Finance            GE Capital Aviation
          Trust                       Services
12  3/00  Pegasus Aircraft Lease      Pegasus Aviation Inc.
          Securitization Trust
13  3/00  Morgan Stanley              Morgan Stanley
          Aircraft Finance            Asset Finance
14  6/00  Triton Aviation             Triton Aviation
          Finance                     Finance

15  7/00  AerCo Ltd.                  AerFi Group (3)
16  8/00  Embarcadero Aircraft        Lehman Brothers Inc. and
          Securitization Trust         GATX Capital Corp.
          (EAST 2000)

    Date  Issuer                      Servicer

 1  6/92  Aircraft Lease Portfolio    GPA Group (2)
          Securitization (1)
 2  8/94  Aircraft Lease Portfolio    GE Capital Aviation
          Securitization (1)          Services
 3  3/96  Airplanes Pass-Through      GE Capital Aviation
          Trust                       Services
 4  6/96  Aircraft Lease Portfolio    Babcock & Brown LP
          Securitization
 5  5/97  Pegasus Aircraft Lease      Pegasus Aviation Inc.
          Securitization Trust
 6  2/98  Morgan Stanley              International Lease
          Aircraft Finance            Finance Corp.
 7  3/98  Airplanes Pass-Through      GE Capital Aviation
          Trust                       Services
 8  3/98  Canadian Regional Aircraft  Bombardler Inc.
           Finance Transaction
           (Craft) No. 1 Trust
 9  6/98  AerCo Ltd.                  Babcock & Brown LP
10  3/99  Pegasus Aircraft Lease      Pegasus Aviation Inc.
          Securitization Trust
11  4/99  Aircraft Finance            GE Capital Aviation
          Trust                       Services
12  3/00  Pegasus Aircraft Lease      Pegasus Aviation Inc.
          Securitization Trust
13  3/00  Morgan Stanley              International Lease
          Aircraft Finance            Finance Corp.
14  6/00  Triton Aviation             International Lease
          Finance                     Finance Corp. and Triton
                                      Aviation Services Ltd.
15  7/00  AerCo Ltd.                  AerFi Group
16  8/00  Embarcadero Aircraft        GATX Capital Corp.
          Securitization Trust
          (EAST 2000)

(1.)Notes redeemed.

(2.)In 1993, GE Capital Aviation Services took over as servicer for the
GPA Group.

(3.)AerFi was formerly part of the GPA Group.

Source: First Union Securities, Inc.
Exhibit 3

Finance and Operating Leased Aircraft versus Owned Aircraft (Chart 2)

      Owned  Leased

1989  61.6%  38.4%
1992  57.1%  42.9%
1995  55.8%  44.2%
1998  56.6%  43.4%

Note: Leased aircraft include those with operating and finance leases.

Source: AvSoft Ltd.'s AirCraft Analytical System and First Union
Securities, Inc.

Note: Table made from bar graph
Exhibit 4

Operating Lessors by No. of Aircraft in Portfolio

                                               No. of
Position  Name                                Aircraft

    1     GE Capital Aviation Services          985
    2     International Lease Finance Corp.     510
    3     The CIT Group, Inc.                   260
    4     GATX Flightlease                      229
    5     Pegasus Aviation Inc.                 206
    6     Babcock & Brown LP                    123
    7     The Pembroke Group                    109
    8     Ansett Worldwide Aviation Services    105
    9     AerFi Group                           104
   10     debis AirFinance B.V.                 100
   11     Boullioun Aviation Services, Inc./
           Singapore Aircraft Leasing
           Enterprise (SALE)                     71
   12     Tritron Aviation Services Ltd.         63
   13     Morgan Stanley Asset Finance           61
   14     Aviation Capital Group                 47
   15     Airbus Asset Management                45
   16     ORIX Corp.                             42

Source: Air Finance Journal and First Union Securities, Inc.
Exhibit 5

Examples of Specific Deals and Their Appraisals

                                             BK         Airclaims
Transaction                          AISI  Assoc.  MBA    Ltd.     AVAC

ALPS Pass-Through Trust 1994-1        X      X              X
Airplanes Pass-Through Trust 1996-1   X      X              X
Pegasus Aircraft Lease                X      X              X
Securitization Trust 1997-A
Morgan Stanley Aircraft Finance       X      X              X
1998-1
AerCo Ltd. Notes 1998-1               X      X              X
Pegasus Aviation Lease                X      X      X
Securitization 1999-1
Aircraft Finance Trust 1999-1         X      X      X
Pegasus Aviation Lease                X      X      X
Securitization II 2000-1
Morgan Stanley Aircraft Finance       X      X      X       X      X
2000-1
Triton Aviation Finance 2000-1        X      X      X
AerCo Ltd. Notes 2000-1               X      X              X
Embarcadero Aircraft Securitization   X      X      X
Trust 2000-1

AISI: Aircraft Information Services, Inc.

AVAC: Aircraft Value Analysis Co.

BK Assoc.: BK Associates, Inc.

MBA: Morten Beyer & Agnew.

Source: First Union Securities, Inc
Exhibit 6

Appraiser Value Comparison

Deal                                   ($mm)   Appraiser

Embarcadero Aircraft Securitization
 Trust (EAST 2000)
  Low                                  893.14  MBA
  Medium                               894.66  BK Associates, Inc.
  High                                 921.03  AISI

AerCo Ltd. Notes 00-1
  Low                                1,465.00  Airclaims Ltd.
  Medium                             1,558.00  BK Associates, Inc.
  High                               1,605.00  AISI

Morgan Stanley Aircraft Finance
 00-1
  Low                                1,833.70  Airclaims Ltd.
                                     1,884.60  AVAC
  Medium                             2,059.20  BK Associates, Inc.
                                     2,103.10  MBA
  High                               2,107.20  AISI

Aircraft Finance Trust 99-1
  Low                                1,288.60  BK Associates, Inc.
  Medium                             1,299.43  MBA
  High                               1,379.90  AISI

AerCo Ltd. Notes 98-1
  Low                                  890.27  Airclaims Ltd.
  Medium                               981.27  BK Associates, Inc.
  High                                 984.38  AISI

Morgan Stanley Aircraft Finance
 98-1
  Low                                1,048.00  Airclaims Ltd.
  Medium                             1,142.00  BK Associates, Inc.
  High                               1,157.00  AISI

Deal                                 Difference  Spread

Embarcadero Aircraft Securitization
 Trust (EAST 2000)
  Low                                  99.83%
  Medium                              100.00%      3%
  High                                102.86%

AerCo Ltd. Notes 00-1
  Low                                  94.03%
  Medium                              100.00%      9%
  High                                102.93%

Morgan Stanley Aircraft Finance
 00-1
  Low                                  89.05%

  Medium                              100.00%     13%

  High                                102.28%

Aircraft Finance Trust 99-1
  Low                                  99.17%
  Medium                              100.00%      6%
  High                                105.83%

AerCo Ltd. Notes 98-1
  Low                                  90.73%
  Medium                              100.00%     10%
  High                                100.32%

Morgan Stanley Aircraft Finance
 98-1
  Low                                  91.77%
  Medium                              100.00%     10%
  High                                101.30%

AISI: Aircraft Information Services Inc.

AVAC: Aircraft Value Analysis Co.

MBA: Morten Beyer & Agnew.

Source: First Union Securities, Inc.
Exhibit 7

Aircraft ABS Initial LTV Comparison at Different Rating Levels

Tranche  Ratings  EAST 2000 *  AerCo 2000  Triton 2000  MSAF 2000

   A       AA        54.7         62.1        55.0         66.0
   B        A        69.5         71.7        65.3         73.7
   C       BBB       79.0         81.9         74          81.2
   D       BB        83.9      Not Issued  Not Issued   Not Issued

Tranche  PALS 2000-1  AFT 1999  AerCo 1998

   A       64.2         65.6       63.5
   B       72.6 **      74.6       72.1
   C       81.0 **      82.2       80.6
   D       90.2 **      86.8    Not Issued

ABS: Asset-backed securities.

Note: It is standard practice for the initial loan-to-value (LTV) to
represent the aggregate appraised value of the aircraft, the expected
amount of liquidity reserve and the total amount of security deposits
reimbursable to lessees.

* Standard & Poor's Corp.'s Structured Finance Presale Report
recommended credit support.

** Only rated by Fitch, Inc.

Source: Rating agencies.
Exhibit 8

Declining Balance of Notes

       Expected    Weighted     Legal
       Maturity  Average Life   Final
Class  (years)     (years)     (months)

 A1     15.5 *       4.0         300
 A2      4.9         2.4         300
  B     12.8         7.4         300
  C     15.0         9.5         300
  D     15.0         7.2         300

* If the aircraft are not refinanced.

Source: First Union Securities, Inc.
Exhibit 9

Aircraft ABS Spread Advantage over Credit Card ABS (As of third qtr.
2000)

                   Aircraft ABS       Credit   Aircraft
                                     Card     ABS Spread
                 Term     Spread    Spread    Advantage
Class Rating   (years)    (bps)     (bps)       (bps)

     AA          2.0        44        15          29
     AA          5.0        52        28          24
     A           6.5       105        40          65
    BBB          5.0       185        70         115
    BBB          7.0       205        85         120
    BBB         10.0       275       120         155

ABS: Asset-backed securities.

Source: First Union Securities, Inc.
Exhibit 10

Aircraft ABS Spread Advantage over CDOs (As of third quarter 2000)

                    Aircraft ABS                CDOs
              Average Life  Spread     Term     Spread
Class Rating    (years)     (bps)     (years)   (bps)

     AA            5          52        8.8       75
     A             7         105        9.4      120
    BBB           10         275        9.9      200
     BB           10         700       10.4      600

                Aircraft ABS
              Spread Advangage
Class Rating       (bps)

     AA             -23
     A              -15
    BBB              75
     BB             100

ABS: Asset-backed securities

CDOs: Collateralized debt obligations

Source: First Union Securities, Inc.
Exhibit 11

Top 35 Aircraft by the Number in Service

                      Narrowbody   Aircraft     No.
                         (N)/         in        of              Average
   Aircraft Type     Widebody (W)   Service  Operators  Orders    Age

 1 B737-300 *              N         1,072     118         0       9.3
 2 B737-200A *             N          829      162         0      20.9
 3 B727-200A *             N          816      155         0      23.2
 4 B757-200                N          812       67        70       8.0
 5 A320-200                N          780       84       517       5.7
 6 MD-82 * /MD-83 *        N        590/265    31/27     0/0    12.4/8.4
 7 DC-9-30 *               N          505       38         0      29.1
 8 B737-400 *              N          482       72         0       7.2
 9 B747-400                W          415       32        40       6.2
10 B767-300ER              W          413       64        57       6.2
11 B737-500 *              N          388       40         0       6.6
12 B737-800                N          223       35       411       0.9
13 A319                    N          214       20       359       1.6
14 B737-700                N          194       29       355       1.1
15 B747-200B *             W          170       31         0      21.8
16 B777-200ER              W          170       20       153       1.6
17 A310-300                W          166       47         0       9.7
18 A300-600R               W          160       22         1       7.8
19 MD-88 *                 N          157        7         0       9.4
20 A340-300                W          147       21        53       3.3
21 DC-10-30 *              W          137       34         0      22.7
22 B767-200 *              W          128       13         0      15.7
23 B747-200F *             W          120       30         0      18.5
24 MD-11 *                 W          118       20         0       6.4
25 MD-90-30                N          110       11         3       2.5
26 B767-300                W          101        8         1       8.6
27 B767-200ER              W           98       26        10      11.7
28 MD-81 *                 N           93       14         0      14.9
29 A300B4-200 *            W           72       22         0      18.1
30 A321-200                N           62       19       153       1.5
31 B747-300 *              W           58       20         0      24.5
32 A330-200                W           58       16        69       0.8
33 B747-300 *              W           58       15         0      14.3
34 DC-10-30F *             W           48        9         0      20.6
35 A310-200 *              W           43       16         0      14.8

Note: Data as of March 2000.

* Out of production.

Source: GRA Aviation Specialist, Inc., and First Union Securities, Inc.
Exhibit 14

Payload Capacity for Various Freighter Aircraft

                  Medium        Medium
    Small       Narrowbody     Widebody        Large
  Freighter      60,000-       70,000-        Widebody

< 60,000 lbs.  120,000 lbs.  140,000 lbs.  > 140,000 lbs.
  B727-100F     B757-200F      A300B4F       B747-200F
  B727-200F      DC-8-50F     A300-600F      B747-300F
B727-200ADV.F    DC-8-60F     A310-200F      B747-400F
  B737-200F      DC-8-70F     B767-200F      DC-10-30F
  B737-300F                   B767-300F        MD-11F
  DC-9-30F

Source: First Union Securities, Inc.

ACKNOWLEDGMENT 

The author appreciates the contributions and insights of Mark Tuminello, director in First Union's Asset Securitization Division, and the assistance of Fred Klein, president of GRA Aviation Specialists, Inc.; Juan O'Callahan, principal of JOCR; Michael Metcalf, chairman, president and CEO of Flightplan International and Mark Sheridan, senior analyst at Airclaims Ltd.

ALLISON RENDALL After joining First Union Securities in June 1998, Allison worked as the Securitization Division's Transportation Group working on the origination, structuring and execution of various investment banking transactions including asset-backed securities, commercial paper warehouse facilities and syndicated corporate debt facilities. Rendall joined the Fixed Income Research Group in April 2000. In the Fixed Income Research Group, Rendall covered all asset classes with primary responsibility for the transportation, consumer, and collateralized debt obligation securitization markets. Rendall received a Bachelor of Science in business administration and finance and graduated with honors from the University of North Carolina at Charlotte and she is currently pursuing an MBA at Vanderbilt University's Owen Graduate School of Management.