Contents

Legislation and litigation

Litigation blues?

SIV Portfolio case breaks new ground

US District Judge Shira Scheindlin's ruling last week that the rating opinions of Moody's and S&P aren't constitutionally protected in the case of the SIV Portfolio vehicle broke new ground. However, in general, securitisation market participants appear to be becoming weary of ongoing litigation in the sector.

The SIV Portfolio case was brought in the Southern District of New York by Abu Dhabi Commercial Bank and King County, Seattle, and involves 11 claims against Moody's and S&P. Rating agencies have historically argued that their rating opinions are protected by the First Amendment, but Judge Scheindlin ruled that the ratings of securities that were distributed to a limited number of investors don't qualify for the same free-speech protection as the more widely distributed ratings of corporate bonds.

However, only one of the initial claims has been allowed to proceed - that for fraud. "On the face of it, this case looks like big news, but the investors involved now have to overcome a high hurdle for the suit to succeed. Fraud is extremely difficult to prove: they will need evidence showing that they were misled. Yet most judges are likely to assume that an investor should have the wherewithal to analyse an investment themselves," argues one lawyer away from the case.

She concedes that the ruling may encourage other potentially litigious investors to seek legal advice, but says that if they haven't got a good enough case in the first place, the decision is unlikely to help. "Besides which, if an investor had been properly misled over a transactions, wouldn't they have already sued the arranger?" she asks. "As ratings are paid for by issuers, it's difficult to identify what an investors' legal nexus would be in suing a rating agency, away from the desire to go after a deep pocket. Most investors are unlikely to want to spend the time and money, and be under the public scrutiny necessary to sue rating agencies."

But one legal expert suggests that, as it's been shown that rating agencies perhaps didn't employ the best models in their transaction analysis, a case could possibly be made that they were negligent in not building stronger stresses into their assumptions - although they are quick to add that this isn't the same as being fraudulent.

"Alternatively, the process of assigning a rating usually involves many rounds of tweaking the documentation between the rating agency and issuer," the legal expert continues. "If they are looking for a cause to sue, an investor could allege that this process is akin to advisory work and therefore the rating agency is deeply involved in structuring and so could be held liable in the same way that banks are. This hasn't been tried yet."

Conflicting interests among noteholders and counterparties, as well as concern over how waterfalls and subordination work in practise have characterised litigation in the securitisation market so far (SCI passim). The lawyer notes that there have been a few instances where an issuer has contacted investors proposing settlements out of court, in particular involving synthetic structures, while a number of other investors continue to "sabre-rattle". Some investors are also said to have purchased a distressed security at a low price, knowing that there is a discrepancy in the documentation, precisely in order to profit from litigation proceedings.

However, the widely-anticipated wave of securitisation-related litigation prompted by the financial crisis is apparently yet to emerge. "The fact is that it takes a long time to litigate and market participants appear to be getting weary; unravelling the Lehman estate, for example, is beginning to feel like 'Groundhog Day'," the lawyer adds.

One issue that the suits have nonetheless highlighted is that some of the assumptions made in securitisation documentation are now having different outcomes to those originally anticipated. The case of triple-C buckets in CLOs is just one example (SCI passim; see also this week's Research Notes).

"It's easy to criticise other people's documentation, but some structures are being shown to simply not work in times of stress," the legal expert concludes. "Whether this will ultimately lead to documentation for future new issues being tightened up is debateable, given the volume of paperwork and the time historically allocated to preparing and doing due diligence on transactions. Out of good will, lawyers will likely try their best, but they're hardly going to admit that they haven't done a good enough job so far."

CS

Legislation and litigation

Approval pending

New draft law could broaden domestic Russian ABS market

A draft law that seeks to address the securing of financial obligations was last week presented to the Russian parliament. Should the draft become law, it is expected to facilitate the domestic securitisation of non-mortgage asset classes in Russia - something that has to-date been impossible.

"Current Russian regulation does not satisfactorily address the pledging of future receivables and assignment of future rights," explains Dmitriy Sobolev, senior associate at Avakian, Tuktarov & Partners in Moscow. "The draft proposal that reached the State Duma seeks to answer these discrepancies. Should the law be passed, it will allow for domestic securitisation of consumer loans, whole business securitisations, etc. The SPVs could be based in Russia or off-shore: the draft doesn't specify."

Although a number of ABS and RMBS collateralised by Russian assets have been completed in the past, only mortgage assets have been subject to domestic securitisation laws. ABS transactions backed by Russian-originated credit cards or leases have used off-shore SPVs and foreign legal structures.

Major Russian banks have been lobbying for this latest draft law to be passed, which has been under development for the past 18 months. "The intentions of the draft are very good for the market, but a key question is how long it will take for the draft proposal to become law, and if it will become law at all," says Irina Penkina, associate director of structured finance at S&P in Moscow. "In some cases, draft proposals are changed as they pass through the Duma and some never become law at all."

However, Sobolev says there is a very good chance that the law will be passed by November, even though it usually takes around two years for bills to pass through the system and become law. "If the law is passed this year, I would expect it to come into effect at the beginning of 2010," he notes.

A handful of domestic RMBS, such as a deal from Moscow Bank for Reconstruction and Development (MBRD) that is due to close this month, have meanwhile been under construction this year following an initiative from the AHML to wrap deals for central bank repo eligibility (see SCI issue 132). But it is not certain that newly-issued Russian domestic ABS would automatically be included on the Lombard List - a list of eligible issuers accepted by the Russian Central Bank for repo facilities.

"The MBRD RMBS obligations have not yet been included on the Lombard List," Sobolev confirms. "There is no automatic inclusion of bonds on this list and each deal is subject to the discretion of the board of directors of the Central Bank."

Penkina adds: "Other Russian banks may follow MBRD's example, but - as the overall economic environment improves - means of accessing financing is becoming easier."

Sobolev suggests that the most likely reason for the small number of RMBS being prepared for repo purposes comes down to the type of financing available via the Lombard List. "Financing available through the Lombard List is very short-term (up to one year). Most issuers are looking for more long-term financing," he concludes.

AC

RMBS

Race against time

PPIP roll-out to drive RMBS demand

With a potential hike in interest rates looming, loan modification programmes in the US mortgage market are racing against time to achieve their objective. Nevertheless, the roll-out of PPIP funds next month is expected to drive demand for RMBS.

"The Fed's purchase of MBS has overall kept spreads low, with the aim of encouraging more refinancing of agency mortgages," says one RMBS trader. "The market had anticipated a significant wave of refinancing to occur, based on what many prepayment models were predicting, but the impact has so far been disappointing."

Although the HAMP and HARP programmes are also helping borrowers with high LTVs to refinance, progress is slow because servicers are taking time to implement loan modifications. According to ABS analysts at JPMorgan, loan modifications per month peaked for most servicers in the beginning of this year, but have decreased sharply in the last three months.

"Though the number of new modifications has been decreasing, the quality of modifications (as measured by payment reductions for the borrower) has been clearly increasing for most servicers," they note. "Earlier modifications had a higher proportion of capitalisations, which often led to payment increases and thus no actual relief."

The trader indicates that prepayments may pick-up in Q4. "But it is still to be determined whether loan modifications are having the desired impact - though you can reasonably assume that, with interest rates remaining constant and modifications being more efficiently applied, they will lead to higher prepayments."

However, he adds: "This could end up becoming a race against time with respect to rising interest rates and the monetisation of government debt. For example, an inflationary environment could significantly slow prepayments down - creating the need for convexity hedges against extension risk and kick-starting a negative feedback loop. There are a number of scenarios that could play out with an equal probability of occurring."

One portfolio manager suggests that the key in such a situation is to be detached from historical information and adjust any expectations to the new data environment. Conceptually, this could be achieved by applying a higher weighting to recent performance based on current statistics and being more subjective around model outcomes, together with using intuition about the direction of the market.

"A fair amount of opportunity remains in the agency market, but subjectivity is an important skill-set at the moment - the opportunity is in the magnitude of the model shortfall," he explains.

Whereas the agency MBS market remains dominated by traders, the imminent launch of PPIP funds will be a buy-and-hold opportunity. Mandated PPIP managers are said to be on track to complete the first round of fund subscriptions next month. "I'm generally optimistic that the PPIP will drive continued demand for non-agency RMBS through Q4 and potentially the next six months," the portfolio manager notes.

He speculates that PPIP fund structures are likely to be a cross between private equity vehicles - with a lock-up of, say, a minimum of three years - and a traditional hedge fund. While this type of investment is geared towards institutional investors, REIT filings by participating managers should also provide retail investors with access to the opportunity.

At the same time, the rally in the securitisation markets appears to be having a knock-on effect on the underlying whole loan space. "The mortgage cycle has a long way to go in terms of potential for increased liquidity: as the securitisation option comes back to the table, it becomes safer to invest in mortgages on a loan-by-loan basis. Equally, as house prices get closer to the bottom, the downside begins to diminish. Negative fundamental performance means that whole loans are essentially a cheap upside option - and there is still a fair amount of time left to benefit," the portfolio manager explains.

CS

Indices

Vintage-specific subprime indices launched

Fitch Solutions has expanded its pricing and valuations platform with the launch of five new ABS CDS broad market indices for US subprime assets. The indices - which are presented as cash prices - provide a total market view of all vintages as well as vintage-specific indices, thus providing a broader insight into the US subprime market, the firm says.

"In general, the synthetic subprime market is still seeing more activity than its cash equivalent and hence can be used as an effective proxy for asset values," says Fitch Solutions md Thomas Aubrey. "Fitch Solutions' new indices will fill a gap by helping market participants with broader trend analysis and improving relative valuation techniques across different asset classes."

The five indices - comprising over 1000 underlying constituents - include the total market index and 04-, 05-, 06- and 07-vintage indices. "The indices have been designed for valuation purposes, rather than as a trading opportunity," explains Aubrey. "Market participants told us they wanted indices that would take a broad market view of the subprime RMBS sector that was consistent over time, without constant changes of constituents."

He adds: "The market is most concerned over the 2006 and 2007 vintages of subprime RMBS, so these indices will give a clearer picture."

According to Fitch Solutions, as US home prices show early signs of stabilisation, so are subprime asset values. Fitch's total market US subprime index stood at 8.34 as of 1 September. Though higher than the all-time low of 7.27 on 1 May, the index is still significantly lower than the opening value of 42.56 on 1 November 2007.

The new indices will be made available within Fitch Solutions ABCDS pricing service, which provides consensus pricing for ABS CDS with a complementary benchmark service to provide a derived price for illiquid assets.

AC

Operations

Call for clarity around TALF legacy CMBS acceptance

CMBS analysts at Barclays Capital have called for greater clarity around the TALF rejection/acceptance process for legacy CMBS. Acceptance or rejection does not appear to be due to current delinquency statistics or any other single variable; it appears to be on the basis of a multidimensional approach, they note.

"This makes sense, as a simple delinquency filter would be backward-looking and inadequate, in our view, and would not take into account market variables such as the price of the bond," the BarCap analysts argue. "However, the multidimensional approach, without any details, makes it more difficult for investors to anticipate. We suggest that some clarity would improve TALF participation."

The volume of CMBS legacy loan requests in August was US$2.3bn - an increase of more than three times from the July subscription (see last issue). These results revealed a slightly more cautious Fed/collateral monitor than had been expected, according to the analysts.

Although 97% of loan requests were accepted, the results were skewed by a high percentage of second- and third-pay triple-A bonds as collateral. For example, 52 of the 83 loan requests were for second- and third-pay dupers, compared with only 19 requests for LCF dupers.

"This suggests either an unwillingness by investors to 'test' the Fed/collateral monitor by submitting loan requests for such bonds and/or a strong preference for more 'term-like' financing. This unwillingness is unlikely to increase in future months, based on August results, in our view," the analysts note.

This, in turn, could lead to slower than initially expected growth in CMBS TALF loan requests, as well as potentially wider spreads and greater tiering for recent vintage LCF bonds. For second- and third-pay bonds, however, BarCap forecasts little uncertainty and expects spreads to remain firm. Furthermore, an up-tick in re-REMIC activity could occur as a non-policy related backstop for weaker quality LCF dupers.

But the BarCap analysts warn that if TALF participation is weaker than expected, the positive feedback cycle that had shown tentative signs of emerging in recent weeks could be challenged. "We continue to have systemic refinancing concerns about the CMBS and broader commercial real estate markets and stress the importance of a return of some form of securitisation, which should be correlated with the level and stability of highly-rated legacy CMBS spreads, in our view. Greater policy uncertainty regarding legacy CMBS TALF will not help achieve this objective."

CS

RMBS

MBA proposes new line of MBS

The Mortgage Bankers Association (MBA) has released a new paper outlining a proposed framework for a refined US government role in the secondary mortgage market. The paper, entitled 'Recommendations for the Future Government Role in the Core Secondary Mortgage Market', was created by MBA's Council on Ensuring Mortgage Liquidity - a 23-member task force representing MBA's diverse membership base.

The centrepiece of MBA's recommendation is the creation of a new line of MBS. Each security would have two components - a loan-level guarantee provided by a privately-owned, government-chartered and regulated mortgage credit-guarantor entity (MCGE) and a security-level, federal government-guaranteed wrap.

The wrap would be an explicit government guarantee focused on the credit risk of these mortgage securities, similar to that on a Ginnie Mae security. Fannie Mae and Freddie Mac's infrastructure, including their technology, human capital, standard documents and relationships, could be used as the foundation for one or more MCGEs.

"While this is not the only viable framework, we believe the recommendations represent a workable approach, balancing the government's ability to ensure liquidity with the need to protect taxpayers from the credit and interest rate risk inherent in mortgage finance," says John Courson, MBA's president and ceo.

The government guarantee is not intended to support the entire mortgage market, but only those products needed to keep the secondary market for core mortgage products liquid and functioning even during times of extreme market stress. Under MBA's proposal, the government securitisation guarantee would support only 'core' mortgage products with well-understood, well-documented risk characteristics. New products would be proposed by the MCGEs, recommended by the government guarantor and would require approval from a regulator.

One structured credit investor notes that it would obviously be in the MBA's interest if the GSEs were to wind down. But he says a bigger issue than GSE reform at present is the growing possibility of a government bailout of the FHA.

"The FHA has essentially supplanted the GSEs and taken up the slack in the subprime space," the investor explains. "But its reserves are decreasing and its losses are increasing. The GSE question will undoubtedly be back in the headlines in Q4 - whether this results in their reform remains unclear."

AC & CS

Advisory

Boutique to focus on capital-intensive assets

Falcon Group has hired two structured finance professionals, Niels Slikker and John Bishop, for its principal investing and financing activities for banks, other financial institutions and corporates. Slikker joins the firm from Swiss Re and will focus on developing structured products, while Bishop joins from the credit hedge fund Observatory Capital Management and will focus on origination and marketing. The pair will report to Falcon Group chairman Kamel Alzarka and ceo Will Nagle.

The move represents an evolutionary diversification for Falcon Group - owners of independent trade services provider Falcon Trade Corporation. Both new recruits will develop Falcon's offering of financial structures away from the trade services arena, although utilising some of the innovation Falcon Trade Corporation has developed for its trading clients.

"The employment of Niels and John is a major development for Falcon as we seek to maximise the potential of our established financial structures and techniques beyond the trade finance arena," says Nagle. "Niels brings with him significant structuring expertise, especially around areas such as Basel 1 & 2, and John is a highly-effective originator with an enviable contact base. Together we should be able to make significant headway in offering a wide range of tailor-made structures."

At Swiss Re, Slikker focused on risk and capital optimisation for banks, following two years at ABN AMRO and a previous three years with the reinsurer. Bishop co-founded Observatory Capital Management in 2004, having previously spent more than 20 years working for investment banks including Banque Paribas, Credit Suisse First Boston and Bankers Trust International.

"The Falcon Group has developed an award-winning track-record as a multi-billion turnover financial services provider to FIs and corporates globally," says Slikker. "So far, this has largely focused on trade services. Our role at Falcon Group will be to develop the structured finance products available and harness the financial solutions for use with capital-intensive financial assets. The opportunities are apparent, but require strong structuring and good origination to fit Falcon's risk appetite."

"By building a new service offering on the foundations of the Group's boutique heritage and innovation, I am confident that Falcon Group's new structured product offering will be acknowledged as a welcome alternative by many corporates, banks and other FIs," adds Bishop, "particularly in light of current market conditions."

Financial structures offered by Falcon's new team will include asset financing and off-balance sheet financing.

"One aim will be to realise intrinsic value from capital-intensive financial assets through imaginative structuring and security application," concludes Nagle. "This means providing bespoke applications that are relevant to many market situations - utilising our financial strength and expertise to take full advantage of market conditions."

Advisory

Financial advisory JV initiated

Pricing Partners is teaming up with ESTER S.A.S. to provide consulting services and financial advisory. This complementary partnership combines the financial management know-how of ESTER and the modelling and analytics expertise of Pricing Partners to deliver high-quality solutions to their clients.

ESTER is a consulting firm founded by Elsa Sitruk - an ex-Goldman Sachs professional in structuring - and Stéphane Kourganoff, former global head of trading in fixed income markets at Ixis, that offers state-of-the-art financial solutions for its clients on most asset classes, including credit products. Kourganoff comments: "Our unique set-up enables us to provide cutting-edge solutions to our clients. We deliver operational advisory in combining state-of-the-art pricing tools and a high level of experience across capital markets and asset management. So far, we have already built strong references across various types of clients who found in ESTER the appropriate level of expertise to support their financial strategy."

Eric Benhamou, ceo of Pricing Partners, comments: "I have known and worked both with Elsa Sitruk and Stéphane Kourganoff for years, while at Goldman and then at Ixis CIB. They have been very successful. When I heard about ESTER, I knew I wanted to partner with them. Their company, ESTER, addresses very topical subject that are very complementary to our independent valuation platform and tools. It therefore made sense to partner with them."

Advisory

Structured credit advisory launched

UK-based Navigant Consulting has launched a new subsidiary called Navigant Capital Markets Advisers (NCMA). The subsidiary covers the traditional, structured and alternative investment community in the debt capital market space, and the team's solutions span across the investment acquisition, management, restructuring and disposal cycles.

The development of NCMA provides a new business entity to complement Navigant's existing Structured Products and Derivatives Solutions (SPDS) practice, which provides a variety of services, including valuation, counterparty risk management in derivatives transactions, restructuring services and asset management. Rizwan Hussain, the former head of portfolio trading and management at RBS and ABN AMRO, is a founding principal of NCMA.

Alternative assets

Structured finance md moves to alternatives shop

Trevor Castledine has been appointed the new coo for alternative investment boutique Future Capital Partners. Castledine is a former md and head of financial products at RBS, and has taken over responsibility for all of the firm's operations, organisational development and strategy delivery.

Tim Levy, chief executive at Future Capital Partners, says: "This is a significant appointment for Future Capital Partners and we are delighted that an individual of Trevor's standing within the investment industry has decided to join us. Trevor offers us a wealth of operational and financial experience across numerous disciplines and, importantly, he also fits seamlessly into the ethos which we have worked hard to establish at the firm."

During a six-year spell at RBS, Castledine was both md of financial products within the firm's structured finance division and md of portfolio transactions in the global markets unit. During this time, he was responsible for successfully delivering multi-billion-pound transactions covering real estate, project finance, asset finance and leveraged finance.

Future Capital Partners specialises in alternative investments, such as renewable energy, international property, biotechnology and media and entertainment.

CLO Managers

European CLO managers may need SEC registration

European CLO managers may be required to be SEC-registered following a proposal from the US Treasury Department that aims to increase regulatory oversight on private investment funds - the Private Fund Investment Advisers Registration Act of 2009.

According to a client note published by law firm Ashurst, pursuant to the US Investment Advisers Act, the absence of a specific exemption - such as the current 'private adviser' exemption of the proposed 'foreign private adviser' exemption - it is unlawful for any investment advisor to conduct its business as an investment advisor unless registered with the SEC.

The private advisor exemption commonly relied upon by advisors to private funds provides that any advisor who has fewer than 15 clients and does not hold itself out to the public as an investment advisor is not required to register with the SEC. The proposed Act would, however, eliminate this private advisor exemption, except as it applies to foreign private advisors, Ashurst explains.

The Act would define a private fund in a way that will include CDO issuers who issue notes under Rule 144A and who rely on the private placement exemption provided by section 3 (c) (7) of the Investment Company Act, according to Ashurst. The firm says that the private advisor exemption would still be available to foreign private advisors.

This would be clarified as an investment advisor who has (a) no place of business in the US; (b) during the preceding 12 months has had (i) fewer than 15 clients in the US and (ii) assets under management attributable to clients in the US of less than US$25m, or such higher amount as the SEC may deem appropriate; and (c) neither holds itself out generally to the public in the US as an investment advisor, not acts as an investment advisor to any investment company registered in the Investment Company Act or a company that has elected to be a business development company under the US Investment Company Act. The proposed Act would, in its own terms, 'clarify' the rulemaking authority of the SEC and specifically authorise the SEC to interpret all terms in the Investment Advisers Act, including the term 'client'.

"This authorisation would have the effect of overturning a 2006 Federal appeals court decision that held that the SEC lacked the authority to interpret the term 'client' to mean investors in a fund, rather than the fund itself," writes Ashurst. "Thus, pursuant to the Act, the SEC could force a 'foreign private adviser' to include a fund's investors in determining whether it satisfied the 15-client or US$25m limitations for purposes of the 'foreign private advisor' exemption. As a result of this provision, foreign investment advisors would effectively 'look through' funds they advise and count US investors in such funds as 'clients'."

However, Ashurst says that in light of the current busy legislative calendar in Washington, it is unclear how quickly any proposed legislation will make its way through Congress or what any final legislation will look like. "Congress and the SEC will likely await the release of a more detailed plan for a comprehensive regulatory system and weigh the political ramifications of each act before proceeding further," the firm concludes. "However, it is likely that some form of legislation will be passed later this year to impose new registration and reporting requirements on private funds and their advisors."

CLO Managers

Manager change for Ivory CDO

Lyxor Asset Management has taken on collateral management duties for Ivory CDO - a deal originally managed by Société Générale Asset Management Alternative Investments (SGAM AI). The change of collateral manager reflects the transfer of SGAM AI's structured credit business and other fund management business to Lyxor Asset Management. According to Fitch, the management platform for Ivory CDO will remain intact.

Distressed assets

Asian distressed credit franchise expanded

Asian alternative asset investment manager Pacific Alliance Group has expanded its investment capabilities with the appointment of four senior professionals in Hong Kong. Mds Anshumann Woodhull, Kanak Kapur and Anil Gorthy and vp Stuart Blieschke have joined the firm's expanding absolute return and distressed investment franchise to pursue investments in distressed debt and other credit-related opportunities across Asia.

The four join from Deutsche Bank's Asia-Pacific distressed products group in Hong Kong. The team will report to Chris Gradel, managing partner of Pacific Alliance Group.

The move builds on the recent appointment of Anthony Miller as president and ceo of the newly-formed unit, Pacific Alliance Japan, as well as the Group's March 2009 approximately US$45m strategic investment and partnership with Secured Capital Japan. Both of these initiatives were undertaken with a view to strengthening the Group's distressed investment capabilities.

Gradel comments: "We are hiring a team with a strong track record of investing and deal-making in Asia. We continue to believe the opportunities in credit, distressed debt and other stressed and distressed assets across Asia are profound, and feel their combined expertise and experience will add to our already burgeoning Asia-focused investment franchise."

Woodhull was formerly head of origination, structuring and special situations in the distressed products group at Deutsche Bank, Hong Kong. Kapur was formerly head of Asia distribution in the group has over 15 years' experience in hybrid structured credit, special situations, distressed and high yield credit trading and risk arbitrage.

Gorthy was formerly a director in the group and was responsible for identifying investment opportunities, researching, pricing risk and recommending hedges for trading. Finally, Blieschke was previously an associate in the group and prior to that was with Ferrier Hodgson in Hong Kong and Australia.

Investors

Asset manager bolsters management team

Annaly Capital Management has announced the addition of several new members to its management team. They are involved in a range of activities at Annaly and its wholly-owned subsidiaries RCap Securities, a broker-dealer, and Fixed Income Discount Advisory Company (FIDAC), a registered investment advisor.

"Annaly continues to grow the scope of its asset management and broker-dealer activities," comments Michael Farrell, chairman, ceo and president of Annaly, "and I am pleased that we are able to add such capable professionals to help drive that growth. Our subsidiaries diversify and enhance our business profile, and I am confident that these individuals will make a positive contribution to our team."

Kevin Keyes has been appointed md, capital markets. He has 19 years of experience in the capital markets, most recently as head of global real estate, technology and clean energy capital markets at Bank of America-Merrill Lynch. He has served in a number of capacities in his career, including originating, structuring and executing transactions.

Robert Karner has been named evp and head of investments for CreXus Investment Corp, a subsidiary of FIDAC. He has over 25 years of experience in commercial real estate finance, most recently as co-head of Morgan Stanley's domestic CMBS syndication desk. He has held a wide range of roles in structuring and marketing CMBS and commercial mortgage portfolio management.

Jeff Conti becomes evp and head of underwriting for CreXus Investment Corp. He has over 20 years of experience in commercial real estate finance, most notably as an md in the fixed income and real estate group of TIAA-CREF, where he was a regional head of commercial mortgage originations. He has held a number of positions in real estate acquisitions, portfolio management, loan surveillance and restructuring.

Laura Zwak DeMare has also been recruited as an evp. DeMare has 18 years of experience in financial markets, most recently as head of global marketing for distressed structured products at Bank of America-Merrill Lynch. She has considerable expertise in residential, commercial, consumer and other securitised product markets in a variety of roles and capacities, including institutional fixed income sales, trading and research.

Mary Rooney also becomes an evp. Rooney has 20 years of experience as a financial markets strategist, research analyst and economist, most recently as the head of global credit strategy at Bank of America-Merrill Lynch. Her body of work touches upon a wide range of markets, including corporates, agencies and derivatives.

Finally, Anthony Green has been appointed as deputy general counsel. He was previously a partner at the law firm K&L Gates in Washington, D.C. He has a broad range of experience in complex corporate, securities and financing transactions and corporate governance matters.

Investors

Investment manager adds four

Vision Capital has strengthened its team with four hires to build out the organisation in operating capability, debt, finance and legal functions. Johan Van de Steen has been named as the firm's first operating partner, Steven Whitaker as a partner and cfo, Matt Shafer as a principal specialising in credit and Andrew Lobb as general counsel.

Van de Steen joins the firm from KKR-Capstone and his responsibilities include helping to maximise the performance of portfolio companies and in assessing new investments. Whitaker joins from the international hedge fund, Brevan Howard, where he was head of finance, while Shafer brings specialist debt structuring expertise to Vision Capital. He joins from the investment banking division at Nomura International (formerly Lehman Brothers Europe), where he led a number of leveraged financing transactions.

Finally, Lobb has responsibility for legal co-ordination on transactions, internal matters and the increasingly important areas of regulation. He joins from Baugur Group, where he was md of legal and operations.

David Robinson, coo at Vision Capital comments: "With these appointments we have brought significant new capabilities to Vision Capital, which complement and build on our existing skills. They will help us take full advantage of new investment opportunities, as well as optimising our current portfolio."

He adds: "In the aftermath of the financial crisis our industry has entered a radically different environment, which provides new challenges for private equity firms and financial institutions alike. Vision Capital's flexible and creative approach and reputation for doing complex deals that maximise benefits for buyer and seller alike put us in a very strong position to take advantage of the growing pipeline of opportunities we are seeing."

Investors

Bank adds in hedge fund credit sales

UBS has made a number of hires in its credit sales department. Eleanor Robb joined on 24 August as a director and senior credit hedge fund salesperson. She had previously worked at Bank of America in credit sales since 2003.

Michel Granchi joined UBS on 1 September as md and senior credit hedge fund salesperson. Granchi previously worked at RBS for two years as head of credit sales to hedge funds, having previously worked at Société Générale where he held a similar role.

Andrew (Josh) Gibbs will join on 7 September as executive director and senior credit hedge fund salesperson. Gibbs joins from FourWinds Capital Management, where he worked in hedge fund and private equity vehicle marketing. Previously, he worked at Lehman Brothers in hedge fund credit sales.

Gregory Ducos will join UBS on 14 September as a director of credit sales to France. Ducos joins from Credit Suisse, where he held a similar position.

Investors

Bank names EMEA fixed income research head

Nomura has appointed Jim McCormick as head of fixed income research for the EMEA sector. He will be responsible for all fixed income research activities in the region, including economics, dedicated product strategies and client portfolio solutions. Although the bank is yet to hire a dedicated securitisation analyst, coverage of the market is expected to be led by McCormick in due course.

Georges Assi and Kieran Higgins, co-heads of Nomura fixed income for EMEA, comment: "Jim will lead the delivery of our fixed income research to clients, in partnership with sales, structuring and trading. Under his leadership, we are confident that Nomura's fixed income research franchise will be recognised as a thought leader and the principal provider of insightful and high quality research."

McCormick joins from Citigroup, where he was global head of FX and local markets strategy. Prior to that, he worked at Lehman Brothers for seven years; first as head of FX and emerging markets strategy, and later as co-head of global liquid markets strategy.

His appointment amplifies Nomura's commitment to the strategic build-out of its global fixed income business. Specifically in EMEA, the division has experienced a 20% increase in senior headcount since April 2009.

Legislation and litigation

Structured finance legal duo hired

Marianne Rosenberg and Jill Davidson have joined the corporate law department of Cozen O'Connor in New York. Both come from France-based Gide Loyrette Nouel.

Rosenberg, who joins Cozen O'Connor as a member, focuses on banking, project and structured finance, mergers and acquisitions, derivatives, and equipment and facility financing. Davidson - also joining as a member - focuses on international transactions, ranging from banking to structured finance to mergers and acquisitions.

Structuring/Primary market

Capital markets team expands

Broadpoint Capital has recruited Keith 'Lex' Malas to head its capital markets origination division for all equity and corporate debt products. He will also join the firm's management committee.

Malas brings over 20 years of experience in capital markets to Broadpoint. Most recently, he was at Deutsche Bank, where he managed leveraged financings in the energy, power, healthcare, paper and packaging sectors.

Joining Malas on the capital markets team is Kevin Reynolds, who will head Broadpoint's debt capital markets origination effort. He has more than 24 years of experience in the financial services industry and has focused on credit research, bankruptcy and distressed trading, emerging market debt capital markets and corporate asset-backed securitisations. Prior to joining Broadpoint, Reynolds spent 12 years at UBS in a number of senior roles, including global co-head of liability exchange offers and corporate recapitalisations.

Lee Fensterstock, ceo of Broadpoint, says: "Perhaps Broadpoint.Gleacher's greatest opportunity is to assist companies in financing the US$2trn of bank debt that must be repaid over the next five years. Our capital markets team, in conjunction with our banking and sales and trading teams, will play a key role in this effort and we are pleased to have assembled such a talented group."

Technology

Euro structured finance head hired

Markit has appointed Richard Paddle as md and head of its European structured finance business based in London. Paddle will be responsible for developing the firm's product offering for the sector.

Kevin Gould, president of Markit North America and head of structured finance at Markit, says: "Richard will be responsible for spearheading Markit's structured finance initiatives in London. As ever, we will be striving to enhance efficiency and transparency in the asset class and we are delighted to have him on board."

Paddle adds: "I am very pleased to be joining Markit and look forward to contributing to the dynamic growth of this company. The company has a strong track record and entrepreneurial culture, and I am excited by the opportunity to lead their European structured finance business. My buy-side background should prove valuable to Markit in its efforts to work closely with fund managers, banks, industry bodies and regulators to improve the transparency and efficiency that exists in the structured finance markets today."

Paddle has over 15 years of experience within the structured finance and fixed income markets, including asset-backed, residential mortgage-backed and commercial mortgage-backed securities. He joins Markit from Bank of Scotland Treasury, where he was head of investment portfolio and responsible for the bank's credit liquidity portfolio and its structured investment portfolio.

Previously, Paddle was a board member of the American Securitization Forum and a vice chair of the European Securitisation Forum's investor committee. Prior to Bank of Scotland, he was a senior credit analyst at Abbey National Treasury services, where he was responsible for the ongoing performance of existing assets and the quality of prospective assets.

Technology

Structured credit valuation service enhanced

Prime Source and CDO2 Solutions (CDO2) have together launched an enhanced service for performing independent valuations of structured credit products. By integrating CDO2's CDOVaR.net pricing platform into Prime Source's service, the companies hope to offer independent valuations of bespoke CDOs or off-the-run index tranches in an efficient manner. This extended service provides accurate, cleansed CDS quotes, with automated correlation calibration and mapping techniques.

Marie-Hélène Crétu, ceo of Prime Source, says: "For the past three years CDO2's market-leading analytics and grid-based technology have given us the capability to handle a wide range of complex synthetic and hybrid credit structures and the flexibility to deal with the many unique features that we encounter. Combining CDOVaR.net with our existing automated processes will add considerable operational benefits, enabling us to value portfolios of complex synthetic credit structures much faster, bringing real added benefits to our clients whose positions and portfolios we value."

Technology

German expansion for derivative valuation service

Reval has continued its expansion into central Europe by opening a German office and appointing Walter Schipper as country manager. Reval considers the country to be a high growth market and a strategic part of its European strategy of increased investment in markets where there has been a strong demand for its solutions.

Schipper joins Reval from Sungard, where he held the position of sales manager focused on trading and risk management systems for financial institutions. He has experience in building and developing business in Germany through his engagements with software and service companies, such as TKS-TATA and FERNBACH-Software, for whom he established the German sales and support office.

Schipper says: "Current market conditions and the strong focus on risk management by German corporations creates a synergy for Reval's solutions and services. Reval's best-of-breed derivative risk management and hedge accounting solutions have the ability to help corporations manage P&L volatility and comply with international regulations, such as IAS 39 and IFRS 7. I am very excited to be a part of the Reval team and help drive continued success in Germany."

Jiro Okochi, ceo and co-founder at Reval, adds: "The opening of Reval's German office comes at a very exciting time as Reval continues its global expansion in these very unique economic times. We have seen a strong demand for Reval's solutions in Germany, and this move further solidifies our ongoing commitment to the German market and increased footprint into Continental Europe."

Technology

Markit opens in the subcontinent

Markit has opened an office in India through the acquisition of Seagal Financial Securities, a specialist offshoring and outsourcing company that Markit has worked with since 2004. The new office will provide product support to a wide range of Markit products and services, and will allow the firm to work closely with the domestic banks to improve transparency and reduce risk in the financial markets.

Lance Uggla, ceo of Markit, comments: "The launch of Markit India brings us closer to our clients in the region and will allow us to better serve our growing client base in India. Markit India will also allow us to capitalise on opportunities in the rapidly expanding financial markets in India and develop new products to improve transparency and reduce risk in the global markets."

Faisal Adeel, director at Markit, will run Markit India and will be responsible for business development, sales and customer support. The office has 80 employees and staff numbers are expected to expand significantly over the next 12 months.

Adeel adds: "Markit India represents an exciting opportunity and will allow us to enhance customer service and product development. The new office will expand our market reach and enable us to tap the strong demand for our pricing and valuation services in the region."

Technology

New office for data provider in New York

Lewtan Technologies, a provider of ABS surveillance data, analytics, software and content for the global securitisation industry, has opened a new office in New York. The strategic location will allow the company to better serve its extensive client base in New York and the surrounding area, it says.

"Our decision to open a New York office is based on our continuing commitment to provide securitisation market professionals' access to our products and services in the timeliest fashion," says Usman Ismail, evp and head of global sales at Lewtan. "We want to proactively respond to the needs of the market as it continues changing day-to-day. Providing more face-to-face contact will allow Lewtan to continue developing products and services that meet the industry's continued challenges."

Trading

Boutique adds in distressed debt trading

Anthony Guido has joined Imperial Capital as an md and senior trader in its leveraged loan, high yield and distressed debt institutional sales & trading group, based in the firm's New York office. Before joining Imperial, Guido was most recently an svp, bank debt trading at Jefferies & Company. Imperial Capital has grown its institutional sales, trading & research team to 60 professionals and will continue to grow the firm strategically, it says.

Guido has over 20 years' experience in bank debt trading, high yield trading and portfolio management. Prior to Jefferies, he was a portfolio manager for Fursa Alternatives Strategies. Previously, he held various senior positions in high yield sales & trading with Bear Stearns, Salomon Smith Barney and Prudential Securities.

"We are excited for Tony to join our first-class institutional sales & trading team. Tony's extensive bank debt and high yield trading experience, combined with his portfolio management experience further enhances our unique client service offering," comments Jason Reese, ceo of Imperial Capital Group.

Trading

Trading and risk management team expands

In light of its continuing expansion, Capstone Sales Advisors has officially changed its name to Capstone Global Markets. The global volatility trading strategies of Capstone Global Markets span equities, commodities, currencies, credit and fixed income.

The firm has hired Leonard Ellis as head of capital markets to expand the range of clients, products and markets as the financial markets landscape continues to evolve. He will explore complementary sales and trading capabilities, including: interest rates, commodities, convertible bonds, credit and foreign exchange brokerage.

Prior to Capstone, Ellis was head of equity derivatives for the Americas at Citigroup, where he worked for over eight years managing the equity derivatives sales, trading, structuring, market making and research platforms.

ABS

Auto ABS dominates TALF subscriptions

New issues totalled US$16bn last week for the September TALF subscription. Auto ABS led the way, accounting for US$9.3bn, followed by credit card ABS with US$6.3bn and a small equipment ABS.

Across these three sectors, TALF loan requests for this subscription totalled US$5.7bn, including US$4.4bn in cards, US$1.2bn in autos and the rest in equipment. Year-to-date ABS supply has just reached the US$100bn mark, with roughly 77% of it being TALF-eligible, according to ABS analysts at JPMorgan.

They report that ABS spreads were mostly unchanged on the week; the exception being short fixed-rate triple-A credit cards that improved by 5bp and FFELP student loan ABS that narrowed by 5bp-75bp across the capital structure.

ABS

Softbank prepares mobile handset ABS

Moody's has assigned provisional ratings to a Japanese ABS backed by handset installment sales receivables originated by SOFTBANK MOBILE Corp. SBM Handset Installment Receivables Securitisation is sized at Y10bn and is expected to close later this month.

ABS

Scrappage schemes may impact EMEA auto ABS

Although governmental bonus programmes to increase car sales across Europe have proved a huge success, they may yet have a negative impact on EMEA auto ABS transactions, due to the downward pressure they have placed on used car values. According to a report in Moody's Weekly Credit Outlook, this negative trend is expected to affect recovery rates in auto ABS transactions, as well as the ability of car dealers to make certain payments, especially if they are exposed to residual value risk.

"Residual values have decreased this year, largely due to over-production in previous years that led to higher discounts in those years. Additional pressure on medium-sized used cars resulted from shifts in demand due to the scrapping programmes, which incentivised vehicle owners to downsize and buy smaller new cars rather than medium-sized used cars," says Moody's analyst Armin Krapf.

"Residual values will remain under pressure next year, as purchases that may have been planned for 2010 have been brought forward, leading to less demand for both new and used cars in 2010," Krapf adds. "For example, the decline in residual values in Germany this year is not expected to reverse before mid-2010, according to a study from EurotaxSchwacke."

Dealers often assume residual value risk from turn-in options included in leasing contracts or residual value guarantees that match the balloon payment of the loan contract. According to Moody's, the residual value decline in 2009 and 2010 might result in additional losses for dealers from contracts that are due in the next 18 months. In addition, dealers in some countries have pre-financed scrappage bonuses for customers since government bonuses are not paid out right away. Depending on the payout timing of governmental agencies, dealers could face additional refinancing risk.

"Also, buyers' decisions to bring planned purchases for next year forward to this year will lead to a drop in car sales next year and will increase the stress for car dealers. Therefore, insolvencies of car dealers are expected to rise next year, if they are not supported by manufacturers or if demand does not pick up," says Krapf.

ABS

Negative trends continue for Euro auto ABS

The European auto ABS sector has continued to experience an increased number of negative factors during Q209, including a slight rise in delinquencies and net losses, according to Fitch.

Fitch's 60-180 delinquency index increased to 1.6% in Q209, compared with 1.5% in Q109. At the same time, Fitch's 60-90 early delinquency index remained stable at 0.9%, while the agency's 90-180 late delinquency index increased slightly to 0.6% in Q209 from 0.7% in the first quarter.

The net loss index increased to 0.6% as of Q209 from 0.5% as of Q109. The increase was mainly caused by Spanish transactions, which saw an increase in average net losses of 0.5% to 1.1% during the second quarter of the year.

The Fitch excess spread index decreased to 1.9% in Q209 from 2.1% in Q109. The drop in the excess spread index was driven mainly by the continued drop in excess spread for Spanish transactions.

New car registrations continued their negative trend across all major European countries, with the exception of Germany and France. German new car registrations saw an increase of 26.1% during the second quarter, while French registrations remained stable. The above-average performance of Germany and France is due to respective government stimulus measures.

Issuance volumes in Q209 were significantly higher compared with Q208, according to Fitch, with six new auto ABS transactions launched in the second quarter of 2009, totalling €3.95bn - a 208% increase compared to Q208.

CDS

Global CDS liquidity decreases

CDS liquidity has decreased over the past two weeks in Europe and the US for all sectors except healthcare, which experienced a slight increase, according to Fitch Solutions.

Thomas Aubrey, md of Fitch Solutions, says: "The most striking fall off in CDS liquidity was in the global sovereign index. This was largely driven by the better-than-expected macroeconomic data." The global sovereign index moved out to 10.63 from 10.34, between 21 August and 4 September, reflecting the decreasing liquidity.

The firm goes on to explain that CDS on OJSC Gazprom continue to exhibit the most liquidity in Europe, while UK-based pharmacy chain Alliance Boots Holdings has climbed to second place, with Lloyds TSB Bank featuring in the top five.

In the Americas, Fitch has found that credit markets remain wary of debt-laden Harrah's, which underwent substantial distressed exchanges in Q209. Harrah's recently announced an alliance with Discover the World Marketing, designed to increase international in-bound travel for Harrah's resorts and casinos, which may be an additional factor driving liquidity for this credit.

Harrah's is the second most liquid name in the region. Brazilian mining firm Vale S.A. continues to trade with the most liquidity, with Genworth Financial rounding out the top three.

In the Asia-Pacific sector, meanwhile, Hong Kong conglomerate Hutchison Whampoa is now the most liquid entity after reporting a 33% decline in H109 profit.

In general, Fitch finds that the liquidity of a credit derivative asset increases when it is showing signs of financial stress in combination with a significant amount of debt outstanding and/or changes in its capital structure, including new issuance. The liquidity scores of assets have historically traded between four at the most liquid end of the curve, through to 29 at the least liquid end. Entities also tend to be more liquid when there is agreement about present value, but disagreement about future value due to heightened uncertainty surrounding the entity.

CDS

Expanded CDS data released

The DTCC has expanded its public release of the CDS data maintained in its Trade Information Warehouse to include historical information on those contracts. The expanded data release will now show information on the legally binding records from the previous week, month and year, in addition to the data for the current week. The Corporation says the move is aimed at further improving transparency on OTC credit derivatives.

Initially, DTCC will use the first week of data posted in November 2008 for the 'year ago' data until actual year ago information becomes available in November 2009. This expansion should allow market participants, regulators and the public to gain greater perspectives on trends and changes in the values of these instruments.

"Because nearly all credit derivatives transactions are registered and maintained in the Warehouse's global repository, the industry and regulators worldwide are able to assess from a central vantage point the value and risk exposures of the market, which is essential in times of crisis," says Stewart Macbeth, DTCC md and head of the Trade Information Warehouse. "Transparency has also been enhanced in the marketplace, as the repository is able to provide the investing public and regulators with a view of the data registered in the Warehouse, which we release publicly on a weekly basis."

The Warehouse historical data will not include information on customised trades, however, which were added in July by major firms involved in CDS trading. The DTCC says these trades are too customised to be stored in the Warehouse in their full, legal form, like most other CDS data, but basic data on the contracts are available to provide regulators with a better view of the total CDS risk being taken on by key firms.

The total value of the legally confirmed credit derivatives held in DTCC's Warehouse generally has been trending down, mostly as a result of efforts by the industry to eliminate offsetting trades to the extent possible. As of 21 August, the gross notional value of CDS trades in the Warehouse was US$25.6trn, down from US$33.56trn when DTCC first began publishing its data in 2008. An additional US$5.7trn in customised trades is also in the Warehouse.

Although the overall value of CDS trades is down, the value of trading in specific indices and single name reference entities has shown significant changes over time, the DTCC says.

CDS of ABS

Synthetic structures gain popularity in ABS sector

Synthetic structures, which were first widely employed in CDOs, are now often being used to transfer the risk of more granular portfolios of loans, mortgages and leases. According to Moody's, synthetic transactions are increasingly being used in the ABS and RMBS sector as a flexible tool to transfer the credit risk of a portfolio of assets.

In a new report, entitled 'Cash Flow Analysis of Synthetic ABS/RMBS Transactions', Moody's vp and senior analyst Michelangelo Margaria notes that SME transactions are predominantly (with the exception of Spain) using this technology. "Various mortgage originators are also adopting it," he says. "There are several reasons for this increasing popularity, including the lower cost, legal and operational complexity of synthetic transactions (i.e. credit risk transfer achieved with the use of CDS)."

The agency says that the risk analysis of synthetic transactions does not differ substantially from the analysis of cash transactions; indeed, the aim is usually to replicate the exposure of true sale deals. "However, there are certain key characteristics of a synthetic structure that need to be reflected in the rating analysis," Margaria explains. "Most notably, synthetic excess spread mechanisms could have a significant impact on the level of credit enhancement of junior notes, while credit event definitions and quality of performance information could significantly affect the ratings of the whole capital structure. Synthetic excess spread also makes these transactions more similar to true sale structures."

The rating agency also notes that one of the major advantages synthetic transactions have over a cash transaction is the possibility of removing certain legal and operational risks from the transaction's credit risk profile. These risks, such as commingling, clawback and set-off, often affect cash transactions in many jurisdictions but could be reduced or even removed using synthetic structures. However, Moody's cautions that funded synthetic structures could expose noteholders to counterparty risk, unless properly mitigated.

Clearing

Dealers commit to clear 95% of CDS

The Federal Reserve Bank of New York has received commitments from 15 major OTC derivatives dealers setting specific target levels for expanding central clearing for OTC credit derivatives. Each dealer has committed to submitting 95% of new eligible trades (calculated on a notional basis) for clearing, as well as collectively committing to clearing 80% of all eligible trades (calculated on a weighted average notional basis), beginning next month.

These targets will be increased over time as dealers improve their capacity to clear trades. In addition, the dealers have agreed to report a broader set of data that will allow regulators to better monitor CCP usage.

Performance metrics will address both new transactions and the outstanding trade population on a monthly basis. The first report will be issued on the tenth business day of October 2009 and will be in respect of September 2009, and for each month thereafter the relevant report will be issued as part of the monthly metrics.

"Over the last year, regulators have worked to increase OTC derivatives clearing in order to enhance the resilience of the financial system. These targets will push major dealers to accelerate their progress. We also expect them to work with central counterparties to rapidly expand the universe of eligible products and to continue to increase clearing levels beyond these initial targets," comments New York Fed president William Dudley.

The commitments follow a 2 June 2009 letter from market participants to regulators in which market participants outlined a series of steps to expand the use of CCPs for OTC derivatives. Concurrent efforts include extending the risk reduction benefits of central clearing to buy-side market participants and expanding central clearing to cover a wider range of products.

Supervisors expect market participants to set increasingly stringent targets over time and to meet the 15 December 2009 customer clearing commitment set in the June letter. The Fed says it will continue to work with other domestic and international banking supervisors to monitor market progress on these objectives.

Clearing

Buy-side clearing initiative aims for October launch

ICE's buy-side clearing initiative is on track to launch in October 2009, subject to regulatory approval. The service will provide segregation of customer funds and positions in CDS clearing, in order to enable buy-side participation.

"The expansion of clearing to the buy-side in October allows all firms to participate in the dramatic change that has taken place in the CDS market in 2009, even in advance of legislative or regulatory requirements," says James Wallin, svp at AllianceBernstein.

ICE will deliver trade-date clearing, concurrent with the launch of its segregated funds CDS clearing solution for CDX, followed by segregated funds and trade-date clearing for iTraxx. Trade-date clearing enables positions to be cleared on the same day the trade occurred, which significantly reduces the time that a buy-side firm has counterparty exposure to a clearing member, and will simplify operational processes and overhead associated with CDS trading. Together with margin segregation and portability, trade date clearing is a key buy-side requirement for CDS clearing.

CDS trades between a buy-side firm and an executing dealer are typically executed and legally confirmed on a bilateral basis. This requires buy-side customers to have ISDA documentation in place with each executing dealer and to take counterparty risk to executing dealers when conducting CDS transactions.

Trade-date clearing eliminates the need for this documentation. Instead, a buy-side firm may trade with any executing dealer who is a clearing member and may clear the trade at ICE through their designated 'derivative clearing member' (DCM). This process consolidates the buy-side firm's counterparty risk to designated DCMs, who are in turn participants in the financial guarantees and risk management framework contained within ICE's clearing solution.

"Our firm supports the development of clearing solutions which address the primary concerns of the investor community, namely the reduction of counterparty risk and development of regulatory regimes that protect customer margin and allow for trade portability following a dealer default," adds Ted MacDonald of the D E Shaw Group. "In this regard, we welcome the ability of our dealer counterparties to clear CDS transactions through a clearinghouse with both significant capital backing up trades and dedicated reserves, which could be accessed by the other dealers should a clearing member default."

Meanwhile, BNP Paribas has been approved as a clearing member of ICE Trust US and began actively clearing beginning this week. BNP Paribas is the thirteenth clearing member of ICE Trust.

ICE Trust has cleared US$1.9trn notional across 22,000 transactions in North American CDS indexes since March, resulting in open interest of US$187bn. Since its launch on 29 July, ICE Clear Europe has cleared €204bn in notional value across 2,000 European CDS index transactions, with open interest of €22bn.

ICE Clear Europe currently has 11 CDS clearing members. Both ICE Trust and ICE Clear Europe remain on schedule to introduce clearing for single name CDS contracts in late September 2009.

CLOs

German CLOs face rising delinquencies

Corporate delinquency and default rates for German balance sheet CLO transactions have risen notably since the end of 2008, according to Fitch. The agency expects loan delinquencies and defaults to rise further in the sector, which will be factored into its upcoming review process of such transactions.

Fitch notes that delinquency and default rates for some transactions have more than doubled since the end of 2008, following the downturn of Germany's economy. Overall, the 1-90 days delinquency rate currently exceeds 1% in German balance sheet CLOs and the default rate is around 1%, but Fitch expects both measures to rise further in the coming 12 months.

The rise in delinquency and default rates is tied to the fact that Germany is presently experiencing its worst recession since World War Two, with dramatic GDP declines in Q408 and Q109. Fitch expects a GDP contraction of 6.3% for 2009.

"Despite industrial production experiencing record declines, corporate insolvencies have been relatively moderate so far as compared to 2002 and 2003," says Stephan Jortzik, director in Fitch's European structured finance team. "However, in the first half of 2009, the number of corporate insolvencies increased by 14% compared with 2008 when they were at a relatively low level. We expect insolvency numbers to increase further."

"German balance sheet CLOs have historically shown a stable performance, even during prior periods of economic weakness in 2002 and 2003," says Susanne Matern, senior director in Fitch's European structured finance team. "Unlike for more concentrated portfolios securitized, for example, in the mezzanine and schuldschein CLOs, individual defaults do not have a material impact on balance sheet CLO transactions, as collateral pools are typically large and granular, which contributed to the segment's good performance in 2008."

Default rates also increased, notably in the second quarter this year. The current default rate for Promise XXS 2006-1, which mostly securitises loans to small companies, almost doubled compared with the end of 2008 and now stands at 1.2%. For Promise-I Mobility 2005-1 and Promise-I Mobility 2005-2, the default rates more than doubled and currently stand at 1.6% and 1.2% respectively. The default rate of Cart 1, a concentrated transaction, stands at 3.12%.

Recent macroeconomic data suggest that the economic contraction may have come to an end, with the first signs of a potential recovery being visible. However, the agency is of the opinion that the dramatic decline of international trade casts doubt on a fast recovery of Germany's export-dependent economy.

CMBS

Sporadic EMEA CMBS issuance predicted

New issuance CMBS in EMEA are expected to remain sporadic, according to Moody's H109 review and H209 outlook report for the sector. The full year issuance volume has been revised upwards by the agency to €20bn - levels still substantially below the volumes seen in 2005 to 2007.

"In the first half-year of 2009, issuance volumes were well above the full-year of 2008 volumes. That was mainly driven by three retained transactions amounting to €11.4bn compared to the total issuance volume of €14.7bn for the first half-year of 2009 and total issuance volume of €6.3bn for the full-year of 2008," says Alexander Zeidler, a Moody's avp and analyst.

Irrespective of the volume increase compared to last year's levels, Moody's notes that most of the CMBS transactions were retained and not placed with investors.

The agency expects the trend of declining rental values to continue in H209 and that most EMEA commercial real estate markets will show some improvement in 2010. Moody's expects moderate property value increases from 2011 onwards, but says a material recovery of commercial property values over the next five years is unlikely.

The rating agency also believes that the focus in H209 will remain on the performance of existing transactions and predicts that the adverse loan performance trend will accelerate, depending on the state of the economy and the availability of capital to refinance commercial real estate loans. New retained CMBS issuances in H209 and continued interest from investors for credit-tenant-lease securitizations, as seen towards the end of H109 (SCI passim), are expected.

Looking beyond 2009, Moody's believes that the capital markets will still play an important role in financing commercial real estate. This is needed in order to close the financing gap arising from significant loan refinancing volumes due over the next years while banks are reducing exposure. The future shape of CMBS transactions will not be decided soon, the agency says, but investor demand will likely focus on single-loan and granular CMBS transactions that are less complex.

Emerging Markets

Moody's downgrades all Korean ABS and RMBS

Moody's has downgraded all triple-A rated notes of outstanding Korean ABS and RMBS securities to Aa1. The move is a result of the agency downgrading Korea's local currency bond ceiling to Aa1 from triple-A, and aligning the global scale structured finance ratings with the revised ceiling.

Moody's says that the downgrade of the country ceiling has realigned Korea's local currency bond ceiling to Aa1 from triple-A as part of an initiative to make more comparable and consistent its sovereign ceilings and ratings, and to reflect better country risk concepts. The country ceiling for local currency bonds is generally the highest rating for an issuer domiciled within a given country. This ceiling generally caps the ratings of specific securities and/or issuers within the country.

The agency notes that none of these global scale rating actions for structured finance transactions is prompted by performance concerns of the underlying collateral portfolios.

Indices

CMBX delinquencies to pick up in recent vintages

CMBS credit performance in July worsened at only a slightly faster pace compared with the prior three-month average, according to ABS analysts at Barclays Capital. The latest remittance reports for the Markit CMBX index indicate that overall 30+ day delinquency rate (ex GGP-related loans) rose by 39bp to 3.49% this month across the fixed-rate universe, versus an average increase of 38bp over the prior three months.

"We continue to see a rotation of delinquencies outside of the multi-family sector to other property types," the analysts note. "Delinquencies were led by the hotel sector again, which posted a close-to-1% gain followed by industrial. Office delinquencies also began to pick up, partly attributable to consolidation in the financial industry. We expect a significant pick-up in the pace of new delinquencies throughout the rest of 2009, especially in more recent vintages."

CMBX Series 4 deteriorated the most this month, followed closely by Series 3. Combining loans that were special serviced-current (SS-Cur) or 30+ days delinquent, CMBX.3 shows the worst cumulative performance at 6.1%. After adjusting for GGP-related issues, CMBX.1 remains a relative outperformer.

"We also noticed another rise in loans transferring to specially servicing-current status. Increasingly, more loans that were special serviced-current became delinquent instead of cured," the BarCap analysts add.

Investors

Santander buyback results disappoint

The results of Santander's tender offer (see last week's issue), which were released on 8 September, have been dubbed as disappointing by some. Of the €16.5bn tendered, only €608.6m was bought back - an overall take-up rate of 3.7%. According to securitisation analysts at RBS, the biggest demand was seen in some consumer and auto loan transactions (with take-up rates between 6.6% and 9.3%) for a price of 93.5%-95.5%, as well as some UCI RMBS series where take-up rates were 5.7%-7.1% and tender prices were 61%-69%.

Operations

White Paper recommends structural changes

Structural changes are key to financial market stability, according to a new White Paper entitled 'The Global Derivatives Market - A Blueprint for Market Safety and Integrity' published by Deutsche Börse and Eurex.

Andreas Preuss, deputy ceo of Deutsche Börse and ceo of Eurex, says: "One major conclusion of the new White Paper is that merely introducing stricter regulatory and supervisory requirements may not suffice and that a strengthened market structure with built-in principles to minimise systemic risk appears to be necessary."

The paper discusses both the derivatives market's resilience and its structural deficiencies against the backdrop of the crisis. It focuses primarily on the advantages of effective risk management and improved transparency, especially for OTC derivatives, to ensure that the derivatives market functions well as a whole.

The blueprint provides key proposals on how to strengthen the market's current structure. Among the recommendations are: maximising the use of organised markets for derivatives trading and the use of central counterparties (CCPs) where trading on organised markets is not feasible; bilateral collateralisation of derivatives exposure, preferably handled by a neutral third party, where organised trading or use of CCPs is not suitable; and requiring mandatory registration of open risk positions, as well as establishing reporting standards for all derivative contracts.

Ratings

Counterparty instrument ratings assigned

Moody's has assigned counterparty instrument ratings to liquidity facilities in three European transactions - Highbury Finance, Dragon Finance and Spirit Issuer. Counterparty instrument ratings measure the risk posed to a counterparty on an expected loss basis arising from the SPV's inability to honour its obligations under the referenced financial contract by the maturity date of the contract.

With respect to the Highbury Finance deal, Moody's has assigned an A2 rating to the AL liquidity facility agreement dated 20 March 2000 and amended by the AL liquidity facility agreement side letter dated 30 March 2006. For the purpose of this rating, the SPV is Avenell Leasing Ltd.

Due to the underlying transaction structure, the counterparty instrument rating is closely linked to the creditworthiness of the guarantor of the occupational tenant (J. Sainsbury PLC, corporate family rating Baa3) and therefore sensitive to rating changes in relation to J. Sainsbury. The transaction is a 23-year sale and leaseback securitisation of 16 supermarket sites sponsored by Sainsbury's.

Lloyds TSB Bank has committed under the liquidity facility agreement to provide liquidity of up to £47m to Avenell Leasing Ltd. This company owns the head leases of the property portfolio and sub-leases the properties to Sainsbury's Supermarkets.

It has issued AL bonds to Highbury Finance and, therefore, unlike in most other EMEA CMBS transactions, the liquidity facility is in this transaction not granted to the issuer of the notes but to the borrower. In case of rent shortfalls, the borrower is entitled under the liquidity facility to draw amounts up to the liquidity facility amount in order to enable it to pay interest and principal on the AL bonds and/or to pay for reasonable fees and expenses relating to the re-letting of the properties.

As a sale of the property portfolio is not envisaged upon a default of the tenant during the term of the transaction, Moody's has not considered any potential sale proceeds from the underlying portfolio in the counterparty instrument rating, but based its analysis on the potential for re-letting upon tenant default. Given the contingent nature of the liquidity facility, the expected loss in this case is calculated based (i) on the probability of a liquidity facility draw and (ii) the severity posed to the liquidity facility provider in scenarios in which the liquidity facility is not fully repaid.

The strength of the liquidity facility structure from the perspective of the liquidity facility provider are: (i) the senior position in the priority of payments at the AL bond level and (ii) the quality of the underlying property portfolio. Weaknesses are: (i) the restriction not to enforce the properties in case of a tenant default during the transaction term, (ii) that there is no tail period between the scheduled repayment date and the legal final maturity of the entire transaction, (iii) the increased uncertainty regarding the re-letting of the portfolio in case of a tenant default and future rental cashflow levels, (iv) the fact that the liquidity facility provider does not benefit from the guarantee provided by the bond guarantor to the AL bond holder and (v) the interest rate risk as the interest rate payable on the liquidity facility is based on a floating rate.

Meanwhile, in connection with the Dragon Finance deal, Moody's has assigned an A2 rating to the HL liquidity facility agreement dated 13 July 2000 and amended by the HL liquidity facility agreement side letter dated 30 March 2006. For the purpose of the rating, the SPV is Hobart Leasing Ltd, with the counterparty instrument rating being closely linked to the creditworthiness of the guarantor of the occupational tenant (J. Sainsbury PLC, corporate family rating Baa3).

Dragon Finance is a 23-year sale and leaseback transaction of 10 supermarket sites sponsored by Sainsbury's. Lloyds TSB Bank has committed under the liquidity facility agreement to provide liquidity of up to £47m to Hobart Leasing Ltd. This company also owns the head leases of the property portfolio and sub-leases the properties to Sainsbury's Supermarkets.

In case of rent shortfalls, the borrower is entitled under the liquidity facility to draw amounts up to the liquidity facility amount in order to enable it to pay interest and principal on the HL bonds and/or to pay for reasonable fees and expenses relating to the re-letting of the properties.

The strength of the liquidity facility structure from the perspective of the liquidity facility provider in this case are: (i) the senior position in the priority of payments at the HL bond level and (ii) the quality of the underlying property portfolio. Weaknesses are: (i) the restriction not to enforce the properties in case of a tenant default during the transaction term, (ii) that there is no tail period between the scheduled repayment date and the legal final maturity of the entire transaction, (iii) the increased uncertainty regarding the re-letting of the portfolio in case of a tenant default and future rental cashflow levels, (iv) the fact that the liquidity facility provider does not benefit from the guarantee provided by the bond guarantor to the HL bond holder and (v) the interest rate risk as the interest rate payable on the liquidity facility is based on a floating rate.

Finally, Moody's has assigned an Aa3 counterparty instrument rating to five liquidity facility agreements in the Spirit Issuer deal. For the purpose of this rating, the SPV is Spirit Issuer PLC. But in this case the rating does not address potential liquidity subordinated amounts payable and does not address the probability of payment of such additional amounts or any related payments to the liquidity facility provider.

Spirit Issuer is a whole-business securitisation of a portfolio of currently 764 managed pubs and 638 tenanted pubs located across the UK. Lloyds TSB Bank has also committed under the liquidity facility agreement to provide liquidity of £194m to the issuer. The issuer is entitled under the liquidity facility to draw amounts to cover liquidity shortfalls.

Moody's notes that a counterparty instrument rating is assigned by evaluating factors determined to be applicable to the credit profile of the financial contract, such as i) the nature, sufficiency, and quality of historical performance information regarding the asset class of the underlying transaction as well as for the transaction sponsor, ii) an analysis of the allocation of collateral cashflows to the liquidity facility provider according to the priority of payments, iii) an analysis of the transaction's governance and legal structure, and iv) a comparison of these attributes against those of other similar transactions.

In general, the probability of a draw under a liquidity facility agreement is driven by the performance of the tenant; i.e. the ability of the tenant to pay the full rental payment due. This means that a deterioration of the tenant rating could have a negative impact on the counterparty instrument rating assigned. The loss severity posed to the liquidity facility provider in the potential event of a tenant default is mainly driven by three factors: re-letting assumption, interest rate environment and year of tenant default.

Ratings

CDO EOD surveillance methodology updated

S&P has updated its surveillance methodology for cashflow and hybrid CDO transactions. The methodology refers specifically to CDOs that have triggered an event of default (EOD) and have the potential to accelerate or liquidate based on provisions contained in their transaction documents.

S&P credit analyst Stephen Anderberg says: "We are making these modifications to provide market participants with more specific guidance as to the methodology we use to review the ratings assigned to transactions subject to acceleration and/or liquidation risk following an EOD."

These modifications will apply to transactions that have experienced an EOD due to the breach of an EOD overcollateralisation (O/C) test or an interest shortfall to a non-deferrable class of notes, and which have provisions that could allow controlling noteholders to accelerate the maturity of the notes and change the priority of payments, or to liquidate the CDO collateral and terminate the transaction.

The updated criteria are effective immediately for all outstanding cashflow and hybrid CDO transactions for which the agency has received notice of an EOD.

Anderberg explains: "We expect the rating impact of the updated criteria, which we will apply during surveillance reviews over the next several months, to be moderate. We currently believe that most US and European collateralised loan obligations have a significant cushion remaining before they would breach their O/C-based EOD triggers; in addition, most CDOs of asset-backed securities and other transactions that have experienced an EOD have already experienced significant downgrades."

Ratings

Argentine surveillance tool released

Moody's has released its 'Smart Monitoring Database' for Argentine ABS securitisations. Designed to meet the needs of investors in the Argentine market, this new product contains specific collateral performance data for securitisations rated by Moody's in the country. The agency says it plans to update the database on a monthly basis and make it available to investors and other market participants via its website.

"We believe this tool can help investors and other market participants assess credit risk by providing them with information to better understand the performance of local securitisations across different originators and structures," says Federico Perez, associate analyst at Moody's.

"Smart Monitoring provides deal performance information that is not easily available," adds Martin Fernandez Romero, an avp at the agency. "The launching of Smart Monitoring also reflects Moody's view on the importance of enhanced transparency and availability of information in the market."

Ratings

Stable performance outlooks for Asia Pacific

Fitch reports that the majority of rating outlooks are stable for structured finance (SF) tranches within Asia Pacific.

"Ratings performance is expected to remain largely stable for asset classes across the Asia Pacific region, as indicated by the 80% of tranches with stable outlooks," says Alison Ho, director and head of Fitch's Asia-Pacific SF performance analytics team. "However, more Japanese CMBS tranches are expected to be assigned negative outlooks once the current review of Japanese large loan CMBS is completed."

Fitch introduced outlooks to SF ratings in Asia Pacific in June 2008 and since that time has assigned outlooks to over 80% of eligible ratings. "The outlooks have been successful in indicating the direction of ratings movements of the medium term," comments Ben McCarthy, head of Asia Pacific SF at Fitch. "They also ensure all our ratings are forward-looking and take into account expected market conditions."

In Australia, most negative outlooks on prime RMBS tranches are due to rating actions on lenders' mortgage insurance providers. Similarly in India, negative rating actions on underlying obligors have impacted single-loan sell-down transactions and led to negative outlooks in this sub-sector.

Within the CDO sector, there is a marked difference between sub-sectors; synthetic corporate CDOs and junior tranches of Asian CLOs are being assigned negative outlooks, while senior tranches from bank balance sheet CLOs have stable outlooks.

Most tranches in transactions backed by assets in non-Japan Asia also have stable outlooks. The exceptions are five ABS tranches, one CMBS tranche and two RMBS tranches.

Unlike a rating watch, which notifies investors that there is a reasonable probability of a rating change in the short term as a result of a specific event, rating outlooks indicate the likely direction of any rating change over a one- to two-year period.

Ratings

Significant downgrades expected in Japanese CMBS

Fitch has published its surveillance criteria and methodology for Japanese CMBS to better reflect refinance risks and recovery expectations, due to the sharp increase in underlying loan defaults in the first half of 2009. The criteria report describes the approach and framework of the methodology, while a separate special report details the application and assumptions adopted for the 2009 surveillance review.

"Fitch expects to initiate significant downgrades, both in number and size, across many transactions based on the criteria published [on 2 September]. This is especially true in the lower rated classes within the capital structure and in transactions with underlying loans maturing in the near term. Transactions exposed to liquidation-type loans will also be affected," says Kohei Hashimoto, senior director in Fitch's Japanese CMBS group. "Transactions nearing their legal final maturity date also face potential downgrades."

Fitch placed 176 classes of 35 public Japanese CMBS transactions that contain bullet maturity loans (loans that bear a lump-sum principal payment amount at maturity, with small or no principal payments during the loan term) on rating watch negative (RWN) on 13 July 2009. The agency will take rating actions on these transactions in the coming weeks based on the published methodology.

Regulation

G20 targets ABS/CDS standards

Finance ministers and central bank governors from the G20 nations met in London last week to discuss how to respond to the issues highlighted by the financial crisis. Alongside a communique summarising its conclusions, the G20 issued a 'Declaration on further steps to strengthen the financial system', which reaffirms the Group's commitment to strengthen the financial system to prevent the build-up of excessive risk and future crises and support sustainable growth.

The G20 notes that more needs to be done to maintain momentum, make the system more resilient and ensure a level playing field. Credit derivatives and ABS are specifically targeted in the Declaration in connection with the "consistent and coordinated implementation" of international standards, including Basel 2, to prevent the emergence of new risks and regulatory arbitrage - particularly with regard to CDS central counterparties, oversight of credit rating agencies and hedge funds, and quantitative retention requirements for securitisations.

Convergence towards a single set of high-quality, global, independent accounting standards on financial instruments, loan-loss provisioning, off-balance sheet exposures and the impairment and valuation of financial assets is also highlighted. Within the framework of the independent accounting standard setting process, the G20 encourages the IASB to take account of the Basel Committee guiding principles on lAS 39 and the report of the Financial Crisis Advisory Group. Furthermore, its constitutional review should improve the involvement of stakeholders, including prudential regulators and the emerging markets.

In addition, the Declaration calls for stronger regulation and oversight for systemically important firms, including: rapid progress on developing tougher prudential requirements to reflect the higher costs of their failure; a requirement on systemic firms to develop firm-specific contingency plans; the establishment of crisis management groups for major cross-border firms to strengthen international cooperation on resolution; and strengthening the legal framework for crisis intervention and winding down firms. Rapid progress in developing stronger prudential regulation is also necessary by: requiring banks to hold more and better quality capital once recovery is assured; introducing countercyclical buffers; developing a leverage ratio as an element of the Basel framework; an international set of minimum quantitative standards for high quality liquidity; continuing to improve risk capture in the Basel 2 framework; accelerating work to develop macro-prudential tools; and exploring the possible role of contingent capital.

Among the other actions called for by the G20 are: greater disclosure and transparency of the level and structure of remuneration for those whose actions have a material impact on risk taking; global standards on pay structure, including on deferral, effective clawback, the relationship between fixed and variable remuneration, and guaranteed bonuses, to ensure compensation practices are aligned with long-term value creation and financial stability; and corporate governance reforms to ensure appropriate board oversight of compensation and risk, including greater independence and accountability of board compensation committees.

The move follows progress in delivering a plan to ensure a robust and comprehensive framework for global regulation and oversight, including implementing more stringent capital requirements for 'risky' trading activities, off-balance sheet items and securitised products. Regulators are also said to have developed proposals to address pro-cyclicality, issued important principles on compensation and deposit insurance, and established over 30 supervisory colleges.

Regulation

IOSCO issues ABS/CDS regulatory recommendations

The IOSCO Technical Committee has published a report, entitled 'Unregulated Financial Markets and Products - Final Report', prepared by its Task Force on Unregulated Financial Markets and Products. The report recommends five regulatory actions to assist financial market regulators in introducing greater transparency and oversight with respect to securitisation and credit default swap markets, as well as improving investor confidence and the quality of these markets.

The recommendations span the issues of wrong incentives, inadequate risk management practices, regulatory structure and oversight issues, and counterparty risk and lack of transparency. The Task Force was formed in November 2008 in response to G20 calls for a review of the scope of financial markets and in particular unregulated financial market segments and products.

Kathleen Casey, chairman of IOSCO's Technical Committee, says: "IOSCO acknowledges that financial innovation will always be a hallmark of a vibrant financial system; however, such innovation need not, and should not, occur at the cost of investor protection and market confidence."

She adds: "The overall objective of the Task Force was to recommend ways to redefine the perimeter of regulation in certain OTC markets. As our recommendations go beyond the traditional remits of regulators, further work is required and is being undertaken by IOSCO to identify the appropriate criteria to be used in redefining the border between what has traditionally been considered regulated and unregulated markets. Meanwhile, each jurisdiction should assess the scope of their existing regulatory regimes and decide how the recommendations should be applied to their own specific circumstances."

With respect to wrong incentives, IOSCO recommends that regulators consider: requiring originators and/or sponsors to retain a long-term economic exposure to the securitisation in order to appropriately align interests in the securitisation value chain; requiring enhanced transparency through disclosure by issuers to investors of all verification and risk assurance practices that have been performed or undertaken by the underwriter, sponsor and/or originator; requiring independence of service providers engaged by, or on behalf of, an issuer, where an opinion or service provided by a service provider may influence an investor's decision to acquire a securitised product; and requiring service providers to issuers to maintain the currency of reports, where appropriate, over the life of the securitised product.

The Task Force's recommendations regarding risk management practices encompasses: providing regulatory support for improvements in disclosure by issuers to investors, including initial and ongoing information about underlying asset pool performance; reviewing investor suitability requirements, as well as the definition of sophisticated investor in the relevant market; and encouraging the development of tools by investors to assist in understanding complex financial products.

The recommendation involving counterparty risk and lack of transparency is in connection with the CDS market. IOSCO suggests that regulators provide sufficient regulatory structure for the establishment of CCPs to clear standardised CDS, including requirements to ensure: appropriate financial resources and risk management practices to minimise risk of CCP failure; CCPs make available transaction and market information that would inform the market and regulators; and cooperation with regulators.

Regulators should also encourage financial institutions and market participants to work on standardising CDS contracts to facilitate CCP clearing; facilitate appropriate and timely disclosure of CDS data relating to price, volume and open-interest by market participants, electronic trading platforms, data providers and data warehouses; support efforts to facilitate information sharing and regulatory cooperation between IOSCO members and other supervisory bodies in relation to CDS market information and regulation; and encourage market participants' engagement in industry initiatives for operational efficiencies.

Finally, there are two recommendations involving jurisdictions assessing the scope of their regulatory reach and considering which enhancements are needed to regulatory powers to support the previous points in a manner that promotes international coordination of regulation across both the securitisation and CDS markets.

IOSCO says it believes that the recommendations relating to CDS might be used, or tailored, to inform general recommendations for other unregulated financial markets and products; in particular, standardised and non-standardised OTC derivative products, where such products may pose systemic risks to international finance markets or could contribute to restoring investor confidence. Further work in this area, taking account of industry initiatives, may be necessary, the Task Force concludes.

Regulation

Measures agreed to tackle financial stress

The Group of Central Bank Governors and Heads of Supervision, the oversight body of the Basel Committee on Banking Supervision, met on 6 September to review a comprehensive set of measures to strengthen the regulation, supervision and risk management of the banking sector. These measures are expected to substantially reduce the probability and severity of economic and financial stress, according to the Group.

President Jean-Claude Trichet, who chairs the Group, notes that the agreements reached among 27 major countries of the world are essential as they set the new standards for banking regulation and supervision at the global level.

Nout Wellink, chairman of the Basel Committee and president of the Netherlands Bank, adds: "Central banks and supervisors have responded to the crisis by strengthening micro-prudential regulation, in particular the Basel 2 framework. We are working toward the introduction of a macro-prudential overlay, which includes a countercyclical capital buffer, as well as practical steps to address the risks arising from systemic, interconnected banks."

The Group agreed on the following key measures to strengthen the regulation of the banking sector:

• Raise the quality, consistency and transparency of the Tier 1 capital base.
• Introduce a leverage ratio as a supplementary measure to the Basel 2 risk-based framework with a view to migrating to a Pillar 1 treatment based on appropriate review and calibration.
• Introduce a minimum global standard for funding liquidity that includes a stressed liquidity coverage ratio requirement, underpinned by a longer-term structural liquidity ratio.
• Introduce a framework for countercyclical capital buffers above the minimum requirement. The Basel Committee will review an appropriate set of indicators, such as earnings and credit-based variables, as a way to condition the build up and release of capital buffers. In addition, the Committee will promote more forward-looking provisions based on expected losses.
• Issue recommendations to reduce the systemic risk associated with the resolution of cross-border banks.

The Committee will also assess the need for a capital surcharge to mitigate the risk of systemic banks.

The Basel Committee will issue concrete proposals on these measures by the end of this year. It will carry out an impact assessment at the beginning of next year, with calibration of the new requirements to be completed by end-2010.

Appropriate implementation standards will be developed to ensure a phase-in of these new measures that does not impede the recovery of the real economy. Government injections will be grandfathered.

Wellink emphasises: "These measures will result over time in higher capital and liquidity requirements and less leverage in the banking system, less pro-cyclicality, greater banking sector resilience to stress and strong incentives to ensure that compensation practices are properly aligned with long-term performance and prudent risk-taking."

RMBS

Australian RMBS rated

Ratings have been assigned to Maxis Loans Securitisation Fund 2009-1, an A$275m prime Australian RMBS originated by Members Equity Bank. The deal is expected to be the first publicly-distributed RMBS issued without AOFM support (SCI passim). Three classes of notes have been rated by S&P: Class A1 and A2 are rated triple-A, while the Class Bs have been rated double-A minus.

RMBS

Further deterioration for Spanish RMBS

Five new Spanish RMBS transactions were rated by Moody's during Q209, with a total issuance of €2.69bn, the rating agency says in its latest Spanish RMBS index report. The total outstanding portfolio balance of Spanish RMBS increased to €148.3bn in Q209.

In terms of performance, delinquency rates - which are of particular interest, as they can be an early indicator of mortgage loan defaults - deteriorated further during Q209. "Weighted-average delinquencies greater than 60 days past due represented 2.8% of the outstanding pool balance, up from 1.5% in Q208, whilst weighted-average delinquencies greater than 90 days past due represented 1.9% of the outstanding pool balance, up from 0.7% from Q208," says Luisa Calderon, a Moody's senior associate and co-author of the report.

In its current index report, Moody's notes further that default and loss data remain very limited at this stage, with cumulative defaults reaching 0.9% in Q209. "The weighted-average annualised total redemption rate - another key performance indicator - increased year-on-year and stood at 12.8% in Q209 compared to 9.7% in Q208," Calderon adds.

"Rising unemployment and slowing employment growth are taking their toll on mortgage holders and, hence, we are observing markedly higher delinquency rates," explains Nitesh Shah, a Moody's economist and co-author of the report.

"The number of individuals facing difficulties meeting their loan obligations has increased, as evidenced in the rise in the doubtful loans ratio and personal bankruptcy filings. House prices will continue to fall in Spain (in Q209 they fell 8.3% year-on-year), resulting in a continued reduction in homeowners' equity," Shah adds.

RMBS

Barclays completes jumbo RMBS

Barclays Bank has completed a £12bn UK RMBS. Gracechurch Financing Series 2009-1 is backed by mortgage loans and a mortgage reserve credit-linked note originated and issued by Barclays Bank. The notes represent the third issue from Barclays' Gracechurch master trust programme.

All classes of notes are backed by mortgage loans secured by residential properties in England, Wales, Scotland and Northern Ireland.

The triple- A rated Class A notes priced at 11bp over three-month Euribor, the double-A rated Class Bs at 16bp over, the single-A rated Class Cs at 25bp and the triple-B rated Class Ds at 47bp. All the notes are understood to have been retained by the originator.

RMBS

Australian RMBS delinquencies fall

Delinquencies greater than 30 days past due for Australian RMBS fell in Q209 for a second consecutive quarter, reports Moody's. The drop comes against a backdrop of increasing unemployment and appears to have been driven by reductions in official interest rates - the majority of which were passed onto mortgage borrowers. This means that unemployment has become a secondary factor in influencing delinquencies, says the rating agency.

Specifically, delinquencies greater than 30 days decreased to 1.32% from 1.45% in Q109 and the record high of 1.58% in December 2008. "However, there are expectations by market participants of interest rate rises either late this year or early next year, and which could put a drag on recent improvements in arrears," says Arthur Karabatsos, a Moody's vp and senior analyst.

The report also notes that RMBS issuance for 2009 has so far been comprised solely of transactions in which the Australian Office of Financial Management (AOFM) was the corner-stone investor. A total of 10 such deals have been completed in 2009.

Secondary markets

CLO triple-C buckets: key variations in terms and performance

Mark Froeba, director at PF2 Securities Evaluations, finds that triple-C bucket variations pose a significant challenge to those valuing CLOs, but also a major opportunity for those investing in them

Even before last autumn, when the financial crisis spread to the wider economy, there was much speculation about how eroding corporate credit quality would affect CLOs, especially their triple-C buckets. These buckets penalise CLOs with excess exposure to low rated (CCC/Caa) securities, diverting interest proceeds to restore the CLO's credit quality.

The consensus seemed to be that overflowing triple-C buckets would cause CLOs to be the next CDO type to "melt down". This is certainly one possible view.

But, as we shall see, it is not easy to generalise about how triple-C buckets will impact all CLOs. The terms of these buckets vary so much from CLO to CLO that two CLOs with identical portfolios could perform very differently in a downturn depending on the triple-C bucket alone. These variations pose a significant challenge to those valuing CLOs, but also a major opportunity to those investing in them.

Background
Most of the CLOs that performed well in the last downturn did not have triple-C buckets. Thus, at least in that downturn, triple-C buckets were not indispensible to good performance.

We should keep it mind - whatever good or bad they may cause in this downturn - that triple-C buckets are rarely, if ever, modelled; ie, incorporated into the quantitative rating analysis. Thus, even though some triple-C buckets will have a material impact on CLO cashflow, the rating agencies cannot easily model rating transitions (downgrades to triple-C) and therefore did not model triple-C buckets.

This means that two CLOs with identical indenture terms and identical portfolios would have identical ratings, even if one has and the other lacks a triple-C bucket or, more typically, even if one has very strict and the other very lenient triple-C bucket terms. Indeed, one of the key reasons these buckets vary so much is that the variations are not reflected in the ratings. There is no rating reward for strict terms and no penalty for lenient terms.

Short history
Triple-C buckets are one of several 'structural features' imposed on CLOs after the last economic downturn. Another key feature imposed at the same time was a limitation on the purchase of deeply discounted securities.

These structural features were intended to prevent CLO managers from playing 'par games' to avoid violating the test that caused deleveraging of the structure, the OC test. In early CLOs, the CLO enjoyed full par credit for every performing security, no matter how low its rating or purchase price. Only when the security defaulted did the CLO carry the security in the OC test at the lesser of (i) its current market value or (ii) an assumed recovery value.

The new structural features no longer rewarded the purchase of securities viewed as likely to default by the rating agencies (low rating) or by the market (low market value). Triple-C buckets created a mechanism for reducing the par credit for an excess of low‐rated securities. Since CLO managers want full par credit for every security until actual default, the haircut was expected to discourage dabbling in weak credits to generate short-term (what we might call "phantom") par.

Key variations
Although the concept of the triple-C bucket was relatively simple, the variations in the terms of the buckets were many. Here are four key variations: (1) the size of the bucket and the related issue of determining which securities constitute securities in "excess" of the bucket; (2) which rating to use in determining triple-C status; (3) how to calculate the "haircut" to par of the excess; and (4) what happens to the cashflow diverted by the "haircuts". Let's consider each of these separately.

Size. Although most CLOs have a 5% triple-C bucket, smaller (2.5%) and larger (7.5% to 10%) buckets were not uncommon. In many cases, larger buckets were the outcome of aggressive negotiation by the banker or collateral manager. In later transactions, CLOs might also enjoy a larger bucket if the CLO used a more conservative rating for the bucket than other CLOs.

With respect to size, not even all 5% buckets were created equal. Their stated size and their actual size may differ depending on how the CLO's documents fill the bucket.

First, in some CLOs, any security with a triple-C rating by either S&P or Moody's goes into the bucket. In others, only securities rated CCC/Caa by both agencies fill the bucket. This feature alone could make a big difference in how the triple-C bucket affects CLO cashflow.

Second, in other CLOs, only purchased triple-C securities are included in the triple-C bucket and subject to haircuts. A security purchased with a single-B rating and subsequently downgraded to triple-C would not be included in the triple-C bucket and would never be subject to excess triple-C haircuts. Such haircuts would apply only to an excess of securities rated triple-C at the time of purchase.

Rating. Ratings cause at least two types of variations in triple-C buckets. One relates to the ratings of all agencies rating the CLO, the other to Moody's only.

The first is another of the structural features imposed on CLOs after the last downturn. It requires them to treat any security on watch for rating action (downgrade or upgrade) as though the rating action had already occurred.

For example, a security rated B3 (on watch for downgrade) would be treated as though it were rated Caa1. In some CLOs, this rule is applied to all ratings, regardless of the purpose served by the rating in the CLO.

A security on watch for downgrade is treated as downgraded both for purposes of any default probability limitations (like Moody's weighted average rating factor (WARF) test) and for purposes of the triple-C bucket. In other CLOs, this rule is applied only to default probability limitations.

For purposes of the triple-C bucket, securities on watch for downgrade are not treated as though they had been downgraded. Of course, CLOs with identical portfolios might behave very differently depending on whether this "on watch" rule applies to the triple-C bucket, especially during an economic downturn. In such an environment, where many securities are on watch for downgrade, CLOs that apply the rule to the triple-C bucket will deleverage much more quickly.

The second variation in triple-C buckets caused by ratings relates to Moody's only. Two different Moody's ratings have been used to determine Caa status for purposes of the triple-C bucket.

Some CLOs use a default probability rating of the loan obligor called the Corporate Family Rating (CFR). Others use an expected loss rating of the loan itself. Because the CFR is often a rating (eg, Caa1) that is lower than the rating assigned to the same obligor's senior secured loan debt (eg, B3), CLOs that used the CFR as the reference rating for determining which securities were triple-C were allowed to have a larger triple-C bucket.

Although there had always been some difference between CFRs and loan ratings, Moody's PDR/LGD initiative substantially expanded the number of cases in which the CFR is lower than the loan rating. As a result, CLOs with a triple-C bucket that references the CFR will fill up more quickly than those that reference the loan rating.

Which rating is the right rating to use for the Caa bucket? Believe it or not, there's a clear answer to this question. The rating should be an expected loss and not a default probability rating.

Embedded within an expected loss rating is information about recovery in the event of a default. This information is useful in determining whether and how much to haircut the par credit of a security. In contrast, a default probability rating conveys nothing about recovery and may overstate the risk of a credit.

We should make one final point about variations in triple-C buckets and ratings. Although S&P provided one standardised definition of its rating for use in all CLO governing documents, Moody's did not do so.

Moody's identified substantive principals that should be reflected in every definition, but allowed the actual definition to be drafted on a deal-by-deal basis. As a result, there are multiple variations in the definition of Moody's rating in CLOs.

It is worth considering at least one example of how an ambiguity in the Moody's rating definition has been exploited to improve the CLO's performance metrics. One CLO manager is currently using a very literal reading of the definition of Moody's rating to achieve a much better portfolio default probability than other CLOs with exactly the same collateral pool and either a different definition of Moody's rating or a different interpretation of how the same language operates.

How does this work? In general, Moody's requires CLOs to include every senior secured loan in Moody's test of portfolio default probability - Moody's WARF test - at the rating Moody's considers indicative of corporate default probability, the CFR. In many imprecisely‐drafted definitions of Moody's rating, for each loan in the collateral pool, the Moody's rating is defined as the Moody's CFR "assigned to the loan" (or similar language indicating that the CFR is associated with the loan itself). When there is no such rating, the definition then requires use of Moody's rating of the loan itself (typically a higher or better rating than the CFR).

By focusing on the literal meaning of the words, one manager discovered a way to improve portfolio WARF without changing the collateral pool. The manager recognised that Moody's CFR is never assigned to an obligation (a debt instrument like a bond or loan) but is instead assigned only to an obligor (a business entity like a corporation or other legal entity). The manager takes the position that because there is no CFR "assigned to the loan" for most loans in the portfolio, the loan rating itself should instead be used.

To fully appreciate what is at stake in this interpretation, consider two CLOs with identical portfolios that are otherwise identical except that one has a Moody's rating definition with this ambiguity and the other does not. If every loan in the portfolio is associated with a CFR of B2 (equal to a Moody's rating factor of 2720), but every loan in the portfolio is itself rated B1 (equal to a Moody's rating factor of 2220), exploiting the ambiguity to use the loan rating for the portfolio rather than the CFR produces a materially better WARF for one CLO with respect to the identical collateral pool.

Haircut. Another way that CLO triple-C buckets differ is the way they haircut par. Some apply one haircut to all securities (eg, a 30% haircut or, in other words, a carrying value of 70% of par). Others carry excess triple-C securities at market value (MV). In this approach, there is no haircut for excess triple-C securities as long as the MV of the triple-C securities equals their par value. A third (less common) approach is to carry excess triple-C securities as though they were defaulted securities, ie, at the lesser of their MV and the recovery assumption.

Of these three approaches, the pure MV is probably both the most reasonable and the most common. It is the most reasonable because a pure MV approach imposes little or no penalty on triple-C securities as long as the market views the securities favourably; ie, as good credits.

For example, consider a CLO in which 15% of its securities are rated triple-C. If the average MV of these securities is 99%, a pure MV haircut to the excess triple-C securities would be negligible. In most cases, the CLO manager would have only a slight incentive to avoid the haircut by trading the portfolio.

However, a bigger haircut to such securities could almost amount to a forced sale rule. Most CLO managers would prefer to sell a triple-C security at par and reinvest the proceeds than to carry that security below par while it is trading at a MV equal to par. If a CLO had to carry such excess triple-C securities either at 70% of par or at the lesser of MV and recovery (typically, 45% or higher), either the CLO's cashflows or the CLO manager's trading decisions would be affected by the triple-C bucket mechanic.

Despite the fact that MV is the most common approach, for a long time there was no standard definition of MV in CLOs. Nearly all CLOs allowed the CLO manager complete discretion to assign MV themselves. Eventually, a more standardised definition was adopted.

However, even this definition continued to allow for significant variations, especially with respect to conflicting policy goals of Moody's and S&P. Thus, even after the more standardised definition, two identical CLOs with identical portfolios might behave very differently depending upon the terms and application of the MV definition.

Finally, the rules for filling the triple-C bucket also affect triple-C haircuts and are another way that otherwise identical CLOs could behave differently. Since haircuts are applied to excess triple-C securities, CLOs need rules for determining which triple-C securities constitute the excess.

Most, but not all, CLOs require that high MV securities fill the bucket first, thereby exposing the low MV securities to haircuts.

Cashflow. The final major variable in the behaviour of triple-C buckets is the use of diverted cashflow. Nearly all CLOs have included a mechanism, the OC test, for supporting the credit quality of the CDO notes in periods of high defaults.

In early CLOs, when the test was not satisfied, excess interest had to be diverted to pay back the senior most notes of the CLO, thereby deleveraging the capital structure of the CLO. Later CLOs allowed the manager to reinvest diverted interest in the purchase of more collateral debt securities.

There were many minor variations in how these "diversion" provisions worked. For example, some CLOs also limit the total amount of proceeds available for reinvestment and require deleveraging of the capital structure with proceeds in excess of such limit. In another example, some CLOs allow the manager to retain interest proceeds diverted for reinvestment but without reinvesting the proceeds for one or more pay periods, so that, if the OC test is subsequently cured without reinvestment, the proceeds can be flushed back down the CLO waterfall.

Conclusion
These are just some of the main variations that arise with respect to CLO triple-C buckets. Each of them has the potential to have a material impact on CLO cashflow.

Although these variations pose a challenge to those trying to value a CLO security, they also pose an opportunity for CLO investors. It is possible to invest in CLOs that have virtually identical collateral but that will behave very differently because of these variations. (And it is worth noting here that these variations are generally not incorporated into the pricing of the CLO because they were not reflected in the CLO's ratings.)

In summary, an investor looking for exposure to a CLO that does not have aggressive deleveraging provisions would want a triple-C bucket has some or all of the following features:

• is as large as possible (at least 10%);
• does not treat securities on watch for downgrade as though they had already been downgraded for purposes of the triple-C bucket;
• references Moody's loan rating not CFR in determining which securities are in the triple-C bucket (with as "flexible" a definition of Moody's rating as possible);
• includes only purchased triple-C securities in the triple-C bucket;
• haircuts excess triple-C securities to MV (with as "flexible" a MV definition as possible);
• is ambiguous on which securities fill the bucket first (or even allows low MV securities to fill first); and,
• diverts cashflow for reinvestment and for deleveraging only with respect to actual defaults.

In contrast, an investor looking for exposure to a CLO that has aggressive deleveraging provisions would want a triple-C bucket that has all of the following features:

• is as small as possible (no more than 2.5%);
• treats securities on watch for downgrade as though they had already been downgraded for purposes of the triple-C bucket;
• references Moody's CFR and not Moody's loan rating in determining which securities are in the triple-C bucket (and that has an "unambiguous" definition of Moody's rating);
• includes all triple-C securities (including both purchased and downgraded triple-Cs) in the triple-C bucket;
• treats excess triple-C securities the same as defaulted securities and haircuts them to the lesser of MV and recovery value (and that has a strict definition of MV);
• clearly fills the triple-C bucket with only the highest MV securities first; and,
• diverts cashflow for deleveraging only and not for reinvestment.

© 2009 PF2 Securities Evaluations. All rights reserved. This Research Note is an excerpt from an article first published on 25 August 2009.

Trading

Trading ideas: momentum play

Byron Douglass, senior research analyst at Credit Derivatives Research, looks at an outright short on Energy Transfer Partners

The plummeting natural gas market wreaked havoc on many of its players. Energy Transfer Partners did not escape the pain as its Q2 revenues were down substantially.

We maintained a bullish stance on the company until its recent earnings announcement. We recommend buying protection on the company's rising credit spread as a momentum play.

Energy Transfer Partners hit difficult times recently as natural gas bucked the bullish commodity trend. Natural gas is down to US$2.76/MMBtu from over US$8 a year ago. The drop in price devastatingly affected Energy Transfer's revenues, causing them to decrease by more than half over the past year (see below exhibit).

And to make matters even more strenuous for the company, its total debt load climbed substantially throughout the credit boom, leaving the company highly levered (see below exhibit). The brightest spot we can find for the company is its existing US$2bn credit revolver, of which almost all is available. Clearly, the company will not come under any sort of liquidity crisis.

Energy Transfer's falling equity price (down 15% since early August) and maxed-out debt load weighs heavy on the company's equity-implied credit spread. We use a hybrid structural model spreads that incorporates balance sheet and equity data to derive equity-implied credit. Since February, Energy Transfer's implied spread progressively deteriorated within its energy peer group.

We use a decile ranking to follow the behaviour of such factors and Energy's implied spread moved from the eighth decile down to the fifth. A shift as large as this is significant and warrants caution on a company's credit.

We see a 'fair spread' of 200bp for Energy Transfer based upon our quantitative credit model, due to its equity-implied, change in leverage, liquidity and free cashflow factors. When Lehman defaulted in September 2008, Energy Transfer's spread blew out to just below 600bp from 150bp. We maintained a bullish view on the credit, which ended up being justified.

Over the following 11 months Energy Transfer's CDS slowly tightened down to our expected level of 135bp (see below exhibit). Our view on the credit quickly changed after the company's Q2 earnings were released in early August. For the first time in years, we have turned bearish on the credit.

 
Due to the significance of the change in the expected spread, we are entering the trade early and view this as a short-term momentum play. We will keep a stop near its recent low of 135bp.

Position
Buy US$10m notional Energy Transfer Partners 5 Year CDS at 186bp.

For more information and regular updates on this trade idea go to: www.creditresearch.com

Copyright © 2009 Credit Derivatives Research LLC. All Rights Reserved.

Note: This article is intended for general information and use, and does not constitute trading advice from Structured Credit Investor (see also terms and conditions, below, section 12).