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A round up of this week's structured credit news
Moody's completes SIV capital note review
Moody's has confirmed, downgraded or placed on review for possible downgrade the ratings of 79 debt programmes (with a total nominal amount of approximately US$130bn) from across 20 SIVs. The move follows the completion of its review of capital notes which began on 7 November.
The significant additional deterioration in market value of assets across the SIV sector observed since 7 November has resulted in the expansion of Moody's original review to include the senior debt ratings of some vehicles. The agency will continue to closely monitor SIV ratings, taking actions on individual vehicles as warranted. In its monitoring of the ratings, Moody's pays particular attention to the evolving liquidity situation of each vehicle, changes in portfolio market value and the vehicle's prospects for restructuring.
In recent weeks, Moody's has observed material declines in market value across most asset classes in SIV portfolios. These asset classes include financials (which represent on average 38% of SIV portfolios), ABS (16%), CDOs (12%, including CDOs of ABS at 1.4%). Financial institutions debt suffered an average price decline of 1.6% from 19 October to 23 November, ABS 0.7%, CDOs (excluding CDOs of ABS) 0.5% and CDOs of ABS 22%. Furthermore, the continued inability to issue ABCP or MTNs causes mark-to-market losses to be realised when assets are liquidated to meet maturing ABCP and MTNs.
The restructured vehicles affected by Moody's rating actions include: Carrera Capital Finance (whose senior notes are now fully protected against market-value risk by committed liquidity provided by HSH Nordbank); and Harrier Finance and Kestrel Funding (which have been provided with a funding facility that permits the redemption of senior debt as it falls due).
Vehicles with ratings downgraded or placed on watch negative include: Asscher Finance; Beta Finance Corporation; Centauri Corporation; Cheyne Finance; Cullinan Finance; Dorada Corporation; Five Finance Corporation; Hudson-Thames Capital; Links Finance Corporation; Nightingale Finance; Orion Finance Corporation; Premier Asset Collateralised Entity (PACE); Sedna Finance Corporation; Tango Finance; Victoria Finance; Whistlejacket Capital; White Pine Corporation; and Zela Finance Corporation.
In addition, Fitch Ratings downgraded the second priority senior notes issued from the MTN programmes of Sedna Finance to triple-C on watch negative from single-A.
Fitch reports on CDO EODs
Unprecedented negative performance in both the US sub-prime RMBS and SF CDO sectors will lead to an increasing likelihood of CDO event of defaults (EODs), according to Derivative Fitch in a new report (see also this week's Research Notes for more on EODs).
Derivative Fitch has received two EOD notices to date, with the number likely to increase. SF CDOs and CDO-squared transactions originated in 2006 and this year are the most vulnerable to EODs, according to Fitch senior director Beth Nugent, although EOD risk does not stop with these vintages.
"The rights and remedies of an event of default are unique to each transaction; therefore, investors should properly examine and interpret the documents of their investments in order to fully understand the effects of an event of default," she says. "Better understanding of EOD documentation is especially important at this juncture. Should US sub-prime RMBS performance continue to deteriorate, Derivative Fitch expects to see further collateral downgrades that could put more SF CDOs at risk of triggering event of defaults."
In an EOD, the controlling class on a transaction can vote to either accelerate payments to noteholders or to liquidate assets. Both scenarios are accounted for in Derivative Fitch's CDO analysis. For transactions where an EOD has been triggered or is imminent, the agency assumes that the controlling class will vote to accelerate note payment.
Fitch will model the priority of payments that is affected upon an EOD acceleration in its cashflow analysis. This approach may yield a more favourable credit opinion of the senior notes if the priority of payments directs all interest and principal proceeds to redeem these senior notes. However, if the controlling class does not vote to accelerate or votes to liquidate the transaction, the agency will revise its assumptions, which may result in a rating adjustment.
Freeze for sub-prime interest rates?
The US Treasury secretary has, together with a few banks, embarked on a new project called the 'Hope Now Alliance', which seeks to temporarily (for as long as five to seven years) freeze sub-prime interest rates at current levels. Financial institutions will likely set the criteria that divide sub-prime borrowers into three groups: those who can continue to make their payments even if rates rise; those who cannot afford their mortgages even if rates stay steady; and those who could keep their homes if the maturity date of their mortgages were extended or the interest rates remained at the teaser rates. Only the third group would be eligible for help under the plan.
The US Treasury secretary rightly acknowledges that the loan servicer does not have the legal right to modify loans, some of which are distributed globally, and that the right to loan modification lies squarely with the investor. In the case of sub-prime and Alt-A mortgages, US$700bn lie with the banks as whole loans, while the other US$1.5bn lie packaged as CDOs.
According to analysts at BNP Paribas, the first hurdle of the plan is therefore one of legality, while the secondary issue is how to modify loans packaged within CDOs. By modifying the loans and keeping rates constant at a lower level, the holders of lower rated tranches could be starved of any cashflow, driving the deals rapidly into default. Loan modification would also alter the terms of default and it is likely that senior tranches would loose their credit enhancement.
Thirdly, say the analysts, it is likely that a borrower falling under group one may prefer to qualify under group three and play the system to their advantage. Perversely, this may encourage more borrowers to delay their interest and principal payments, in the hope that the banks will offer better refinancing terms. How this lower interest rate gets accounted for on bank balance sheets from an accounting perspective is also debatable, as the loss in income is almost non-recoverable.
From a long-term perspective, the scheme could forestall foreclosures, such that impaired assets do not keep increasing on bank balance sheets. By not allowing foreclosures, the banks may inadvertently put a temporary floor under house prices.
Moody's reports on ABX
In the first in a series of reports that will examine the credit drivers of the home equity ABX index, Moody's says that the performance of the index closely tracks the credit performance of the larger universe of sub-prime mortgage deals. Summarising ABX credit performance through October 2007, the agency says that there has been a continued rise in serious delinquencies across the three 2006 and 2007 series of the index examined in the report – and more are likely on the way.
"Interest rate resets in an environment with limited refinancing opportunities might lead to a steeper jump in delinquencies in the coming months," says Moody's analyst Karandeep Bains, author of the report.
At the same time, the tighter lending conditions and a scarcity of credit that have limited the ability of borrowers to refinance their loans have led to a slowdown in prepayments. For now, cumulative loss levels on the loan pools underlying the ABX deals continue to be low despite a large pipeline of delinquencies, says Moody's.
However, a growing number of deals are falling below their overcollateralisation targets as losses start to materialise. Summarising rating actions on the deals that underlie these indices, Moody's notes it has not taken any negative rating actions on any of the Aaa-rated tranches in the index.
But the number of rating downgrades increases not only for the lower rating levels within each index, but also at the same rating level for each successive version of the ABX index. For example, only 10% of the Aa-rated tranches backing the 2006-2 ABX index are on review for downgrade, as opposed to 65% of the tranches backing the 2007-1 index.
As for loan pool credit characteristics that may have an impact on the performance of the deals that underlie the ABX, Moody's finds little correlation between either FICO scores or LTV ratios and the level of future delinquencies in the pools. By contrast, there is stronger correlation between deal delinquencies and the percentage of borrowers in the deal with full documentation loans, as well as between delinquencies and the loan originator.
Rating action for REIT CDOs
Moody's has placed or left on review for downgrade notes issued by 11 REIT-related CDOs. The rating actions were prompted by severe and continued credit deterioration in the residential mortgage REIT and homebuilder sectors.
The affected CDOs (Taberna Preferred Funding II through to VII, Attentus CDO I through to III, Kodiak CDO I and Trapeza CDO X) have significant exposure to these sectors, ranging from approximately 25% to 50% of their aggregate portfolio balances. Moody's rating actions also reflect liquidity concerns for some of the issuers, primarily residential mortgage REITs, whose securities are contained in the portfolios underlying these CDOs, as well as uncertainties over final workout values for defaulted assets in the underlying collateral pool.
The transactions also have exposure to real estate through equity REITs, real estate operating companies (REOCs) and CMBS. This exposure can range from 25% to 50% of the aggregate portfolio balance of the CDOs.
To date, Moody's has not seen any material deterioration in these sectors. Furthermore, the agency currently has not seen any substantial deterioration in the bank and insurance Trups sectors.
Moody's has rated 103 US Trups CDOs. The size of the US Trups CDO market is almost US$55bn, the portfolios of which are comprised of 70% bank assets, 12% insurance assets, and 18% REIT, REOC, and CMBS assets.
Rating actions for SIV-lites
S&P has lowered and retained on credit watch negative its ratings on the CP, Mezz Tier 1 and Mezz Tier 2 notes issued by Sachsen Funding I from A1+ to A3, from triple-B minus to triple-C minus and from single-B minus to triple-C minus respectively. It has also lowered and retained on watch negative its ratings on the Class A2, B1 and B2 notes issued by Duke Funding High Grade II from triple-B to triple-C minus, from triple-B minus to triple-C minus an from single-B minus to triple-C minus.
The rating actions on Sachsen Funding and Duke Funding are based on updated current portfolio values and the increased likelihood of enforcement. If the vehicles were to liquidate all their assets at the current market valuations reported by the manager, it is highly unlikely that all tranches would be repaid in full.
In addition, Moody's has downgraded the Mezz notes issued by Duke Funding High Grade II, as well as those issued by Triaxx Funding High Grade I. The rating action reflects continued deterioration in market value of the portfolio, which consists of prime RMBS with a preponderance of Alt-A mortgages, together with uncertainty about the renewal of existing repurchase facilities that provide liquidity to the vehicle and the potential restructuring of the transaction.
The US$149.4m Class C notes issued by Triaxx Funding account for 55.4% of the underlying pool of a Taiwanese transaction, which has also been subject to Moody's rating action as a result of the downgrade. The Class A1, B1 and B2 notes (worth NTD8.96bn) from E.Sun Bank 2007-1 CBO have in turn been downgraded.
More German mezz SME CLOs hit
Moody's has placed under review for possible downgrade multiple classes of notes from across five German mezzanine SME CLOs after defaults occurred in their underlying portfolios. The move follows the negative watch placements of PREPS 06-1 and 05-2 (see last week's round up).
The rating action affects the Class B notes issued by H.E.A.T Mezzanine I-2005 (which has suffered its second default since inception, totalling 3.6% of the portfolio); Classes A to E of CB MezzCAP Limited Partnership (third default, at 15.5% of the portfolio); the Class Bs of PREPS 2004-2 (second default, at 4.1%); the Class Bs of StaGe Mezzanine (second default, at 9.1%); and Classes A to D of FORCE 2005-1 Limited Partnership (second default and first repayment, at 6.7% of the portfolio). Moody's will actively monitor these deals in the coming weeks.
TriOptima reaches four million
Provider of post-trade processing services TriOptima has announced that more than 15 institutions were reconciling over four million OTC derivative transactions through triResolve, its portfolio reconciliation service. Launched earlier this year, triResolve has seen smaller dealers and hedge funds joining the largest OTC derivative dealers subscribing to TriOptima's ground-breaking service.
"TriResolve offers us the advantage of easy, automated reconciliations against some of our largest counterparties. We are able to identify and resolve discrepancies in both positions and valuations," comments Chris Harris, md of operations at KBC AIM, a global multi-strategy hedge fund manager with over US$1bn in assets under management.
While all triResolve subscribers utilise the automated, web-based service to reconcile with each other on a weekly or bi-weekly basis, some also regularly submit portfolios of 100 or more non-subscribing counterparties as an alternative to manual spread sheet analysis. Portfolios regularly submitted to triResolve typically achieve very high auto-match levels, allowing institutions to focus exclusively on exceptions in their collateral management process.
Collateralisation of OTC derivative portfolios is a major risk mitigation technique for substantially reducing credit risk and managing counterparty credit exposure. Accurate portfolio reconciliation is the foundation for collateral management.
"In periods of market turbulence like we have experienced recently, triResolve provides precise information about the status of counterparty portfolios for easy resolution of collateral management issues," comments Henrik Nilsson, head of business development at TriOptima. "Information from the service allows counterparties to zero in on specific areas of dispute, whether it be trade population or valuation related, quickly and efficiently."
TriResolve transforms portfolio reconciliation into a proactive process. Its unique network community approach facilitates close collaboration between institutions and internally within an institution. Regular, ongoing triResolve reconciliations reduce collateral disputes, operational costs and errors in credit exposure calculation.
Another tender offer for QWIL
Queen's Walk Investment Limited has sent a circular to eligible shareholders detailing its proposed tender offer to purchase up to 24.99% of its ordinary shares and thereby to return a maximum of €15m in cash to shareholders. The tender offer will be open from 4 December to 17 December 2007 and is being made at a price per existing ordinary share in issue of up to €6.30.
The maximum price represents a premium of approximately 35.48% over the middle market closing price of €4.65 per ordinary share on 30 November 2007. The tender offer is conditional on the approval of shareholders at the extraordinary general meeting of the company to be held on 8 January 2008.