Contents

RMBS

Put-backs on the rise

Timing and degree of success uncertain

Recent disclosures suggest that the ability of RMBS investors to reduce losses through loan put-backs is increasing. However, the timing and degree to which these strategies are successful remains uncertain.

Richard Barrent, president and coo of The Barrent Group, confirms there is heightened awareness about loan put-back loss mitigation strategies. "Current high delinquency levels are obviously concerning to both monolines and investors, and I expect such activity to increase as delinquencies continue to rise and the volume of repurchases will increase. Our clients have recovered over US$100m and there is a great deal more in the pipeline."

Third-quarter filings for the GSEs show that through to 30 September Freddie Mac put back US$2.7bn of single-family mortgages to originators, compared with US$1.2bn a year earlier. Fannie Mae, meanwhile, says it expects the amount of outstanding repurchase and reimbursement requests to "remain high" in 2009 and into 2010. It put back around a quarter of the loans on 94,652 REO properties during 2008.

Rescissions undertaken by mortgage insurers have historically run at a rate of about 7% of submitted claims; however, this figure has shot up to 20%-25% during recent quarters. Moody's estimates in its latest ResiLandscape report that approximately US$6bn of claims have been rescinded since January 2008, with an additional potential US$2bn-US$4bn over the next few years.

Moody's goes on to note that monoline action in relation to mortgage positions is "unprecedented". The rating agency estimates that financial guarantors have established more than US$4bn of remediation recoveries for breaches of contractual representations and warranties on insured RMBS transactions, primarily 2004-2007 vintage second-lien securitisations.

"These estimated recoveries can be a significant percentage of lifetime RMBS losses to the guarantors (consisting of claims they have paid to date, plus carried reserves before put-back credit). Based on public disclosures at Q309, put-back credits approximate 30% of expected lifetime RMBS losses for the largest guarantors," Moody's explains.

An official at one monoline says that these figures depict financial guarantors' efforts to protect themselves from breaches of representations and warranties related to poor or inappropriate underwriting standards. "These efforts are not unusual, although the level of effort has increased in the past two years," he agrees.

Loan put-back strategies revolve around where delinquencies lie within securitised pools and the characteristics of the loans, as well as around an analysis of the probability of representation and warranty breaches. "Sometimes life events and loss of employment are the reason for loan defaults, but there is a high percentage of incidents where loans didn't meet underwriting criteria, or fraud or misrepresentation has been involved," Barrent explains. "In these cases, investors have recourse to the responsible entity for the contractual breach. Each Pooling and Servicing Agreement (PSA) is different - the issuer or investment bank could have pooled the loans, but in most cases the originator is the responsible party."

Within the PSA, there are certain processes to be followed regarding loan put-backs. It begins with sending the responsible party a repurchase demand letter; they then have a 60- or 90-day period to cure the issue and respond - either by repurchasing the loan or appealing the demand. An appeal would typically result in negotiations between the monoline or investor and the originator.

"The length of the process depends on how willing the counterparty is. It could take six months or longer, depending on how large the claim is, before any loans are repurchased. For bond investors, the sooner the loans can be repurchased out of the trust, the better - otherwise they continue to reduce the value of the bond, due to the reduction in cashflow," adds Barrent. The recovery proceeds typically flow down to investors according to the cash waterfall.

However, he points out that success also depends on whether the counterparty is financially solvent. "There isn't much you can do if the originator is insolvent. In some cases, it might be possible to make a claim on a successor entity."

The monoline official expects that on average it takes his firm 36 months to complete the process - albeit this is based on somewhat limited experience, so it may happen sooner or later than that. "It will generally depend on the cooperation of the counterparty and their willingness to abide by the contract or fight it all the way through the court process," he concurs.

Moody's suggests that the implications of put-backs for investors in RMBS securities vary significantly based on whether the transaction benefits from financial guarantees or mortgage insurance. Wraps require the insurers to pay claims to the trust first and then dispute it with the originators later. In transactions where only part of the capital structure has been wrapped, the concerted remediation efforts of the guarantor would benefit even the non-wrapped tranches as the recovered funds would flow through the deal's waterfall.

However, investors relying upon mortgage insurance face significant contingent exposure to mortgage-related losses due to claims rejections. In the case of either denial (typically for inadequate documentation) or rescission (for instance, for non-compliance with underwriting guidelines), no funds flow to the trust when the mortgage insurer rejects the claims.

The timing and degree to which put-backs succeed nonetheless remains uncertain. Such efforts are subject to potentially lengthy negotiations and, in some cases, litigation with mortgage originators and bank lenders - meaning actual settlements could be materially different from current estimates.

But there does appear to be a growing willingness among investors to explore different types of loss mitigation/recuperation strategies. The Barrent Group, for example, was involved with a handful of investors this time last year; now, it is involved with over 30 - including some large hedge funds, investment firms and insurance companies.

"Investors rarely communicate information about their holdings with one another, since they're all trading bonds with each other. Often a 25% ownership threshold needs to be met for investors to take action on a given bond. However, RMBS investors are becoming more willing to form coalitions to take remedial actions together," Barrent concludes.

CS

RMBS

Bleak outlook

Tough year in store for Irish RMBS

A new report on the Irish mortgage market suggests that a bottoming-out in the troubled sector is underway. Although Irish RMBS have to date performed relatively well against a background of rising unemployment and plummeting house prices, most in the industry expect a difficult year ahead for the asset class.

"The situation as we see it is that the impact of unemployment has yet to really feed through to arrears," says Alastair Bigley, director in Fitch's structured finance department. "The number has been increasing throughout the year, but not at the speed we initially expected. However, as unemployment bites in 2010, we expect arrears to increase substantially."

Due to the legal system in Ireland, the process of repossessing a house can take in excess of three years and in 2007 Fitch believes as few as 150 houses were repossessed. "At present, banks are hesitant to repossess houses as property prices are so low," Bigley adds. "There's also a certain amount of pressure on banks to exercise forbearance on people in arrears. This may be storing up to trouble in the future, as there is a chance that some borrowers will be never be able to get on a stable financial footing."

Fitch is currently reviewing the outstanding Irish RMBS that it rates, with results expected to be published in early January. The rating agency envisages that house prices will bottom out at 45% lower than the peak and, given that prices have dropped by approximately 30% already, Fitch expects the further 15% drop to take place in 2010.

According to the latest KBC Ireland/Independent Mortgage Advisors Federation (IMAF) Mortgage Market Sentiment Survey, the Irish mortgage market continued to weaken in late 2009, but the pace of the decline eased. While the respondents do not envisage an improving market in 2010, they suggest that there are clear signs that a bottoming-out has begun. Meanwhile, credit constraints and concerns over jobs and incomes continue to weigh on purchasers, and today's budget (9 December) is expected to hurt the mortgage market further, with the threat of higher income tax seen as the major worry.

"The Autumn/Winter Sentiment Survey confirms that the Irish mortgage market remains under pressure, but there are also signs that a bottoming out process may have begun," says Gerry Kinahan, president of the IMAF. "This process could continue for some time and no dramatic upturn is envisaged. However, some brokers are reporting that certain areas and market segments may be closer to a turn than others, as local demand and supply conditions and the degree of price drop already seen become more influential."

The Irish RMBS market comprises two types of deals - those structured before 2007 that were publicly distributed and those that were structured specifically for the ECB repo financing facility post-2007. Most deals, with the exception of two series from Lansdowne Mortgage Securities, are prime transactions.

Jean-David Cirotteau, senior ABS analyst at Société Générale, notes that many Irish RMBS portfolios comprise a mix of owner-occupied and BTL properties. He suggests that the probability of default (PD) and loss severity (LS) between these two categories may be significantly different in the current context, with many structures comprising some form of reinvestment or replenishment, which can alter the amortisation profile of the notes - leading to extension risk.

"Pool performances have deteriorated slowly so far, according to our calculated indices, but the BTL sector may suffer more as the situation worsens," says Cirotteau. "Fixed-rate loans in Irish mortgage lending revert to floating rate loans fairly quickly. More than 50% of the outstanding will revert within the next five years. In the current context this may be beneficial (with some limits, however, depending on the index base), but the question is how this will evolve in the medium term. Some recent portfolios already show lower performance than expected, leading to rating downgrades at the subordinated tranche level."

In a report on Irish RMBS, the SG looks at two portfolios in terms of loss severity: Celtic Residential Irish Mortgage Securitisation Series 13 (CRSM 13) and Fastnet Securities Series 3 (SDTNT 3), both issued in 2007. According to the bank's results, between 40%-45% of the borrowers should be in negative equity in the CRSM transactions. This ratio reaches 70%-75% for the Fastnet transaction.

"Negative equity doesn't necessarily mean that the borrower is going to default, although the correlation is much more important with landlords and BTL loans," Cirotteau notes. "The concern in many Irish RMBS transactions is that a big portion of the portfolios being securitised have a very high LTV ratio. The combination of large loans financing properties in the Dublin region, which registered the most important fall in prices, with high LTV, could result in severe losses."

He continues: "The repossessions figures in Ireland are not significant as they are minimum and cannot be extrapolated to anticipate the future developments of the situation. Under a scenario where 50% of negative-equity borrowers default with a 40% loss severity, the net loss for the prime portfolios mentioned above would be at least 8% and 14% respectively."

Looking ahead to 2010, new Irish RMBS issuance is likely to be limited, with repo-able deals expected to constitute the bulk of volume. Indeed, the recent €2.8bn Bank of Scotland (Ireland)-originated transaction from Wolfhound Funding 2 is expected to be used for central bank repo purposes.

"Bank lending to consumers in Ireland is very low; consequently, it may take time for Irish banks to generate enough collateral to securitise," concludes Bigley. "We expect 2010 to be a difficult year for the Irish consumer and Irish economy generally, and we expect unemployment to rise and house prices to fall throughout 2010."

AC

CMBS

Proposed GGP settlement alleviates CMBS uncertainty

A settlement to convert US CMBS loans affiliated with bankrupt General Growth Properties (GGP) back to performing status - if reached - has assuaged market concern that the sector would be susceptible to increased losses (SCI passim).

Settlement terms have been reached between a group of special servicers and GGP for 73 CMBS loans securitised in various CMBS transactions and included in the April 2009 Chapter 11 filing of GGP. If confirmed by the bankruptcy court, US$9.7bn of loans secured by 92 properties would emerge from bankruptcy within the next 60 days and would return to performing loan status 60 to 90 days thereafter.

The settlement - which includes loans serviced by CWCapital Asset Management, LNR Partners, Capmark Finance, J.E. Robert Companies, Midland Loan Services, Centerline Capital Group, Prudential Mortgage, Pacific Life and ORIX - provides for maturity extensions of three to nine years, with fair consideration being given to the CMBS bondholders. General terms of the settlement include: extension of the loans at their current interest rates; payment by GGP of an extension fee and all trust expenses relating to the workout and bankruptcy; payment of accrued amortisation during the bankruptcy; loan amortisation going forward with amortisation steps from 30 to 20 years, depending on the length of the loan; establishment of leasing reserves; and a performance-based lockbox.

There had been concern within the structured finance community that the inclusion of CMBS assets in GGP's bankruptcy would leave the bonds vulnerable to negative rating movements due to their exposure to actions of the parent company. The inclusion of the CMBS assets with the bankruptcy filing of the parent reminded market participants that these assets are bankruptcy remote and not bankruptcy proof, according to Fitch senior director Adam Fox.

"The successful resolution substantially alleviates the risk of rating downgrades for the transactions and illustrates the effectiveness of bankruptcy remotene structures," says Fox. "Removing the loans from bankruptcy with their mortgages intact is an important test of the special purpose entity structure, which is a key component in structured finance."

"GGP loan modifications agreed to as part of the reorganisation plan seem to have more favourable terms for lenders than many had expected," adds Malay Bansal, md at NewOak Capital. Bansal suggests the fact that borrowers were able to get loan modifications with extension of 5.2 years on average may set a precedent, which will make it easier for others to try for similar extensions.

Fitch does not expect the modification of the loans and their subsequent return to master servicing to have rating implications. The rating agency did not take significant negative rating actions when GGP filed bankruptcy due to the strong performance and moderate leverage of the underlying properties, believing that a modification of the loans would have been the likely outcome. It expected losses at the time to be limited to special servicing fees, which under the terms of the proposed settlement may be paid by GGP.

Throughout the bankruptcy, through its rulings and refusal to allow debtor in possession (DIP) financing to prime the existing mortgages or place junior liens on SPE properties, as was requested by GGP, the court has maintained the integrity of the SPE structure. While bankruptcy filings normally extend workouts and reduce the control and flexibility of a special servicer, the quick resolution of US$9.7bn GGP loans through the proposed settlement demonstrates the strength of the CMBS structure, Fitch concludes.

AC

CMBS

Limited Dubai World CMBS risk

A review of Realpoint's database shows that five CMBS loans totalling US$630m are tied to Dubai World. Some highlighted CMBS collateral includes the Mandarin Oriental (CSM07C03), W New York - Union Square (CSM06C05), 450 Lexington Avenue (CSM07C05 and CSM08C01) and the W Hotel in Washington, DC (UBS07FL1).

Dubai World's non-CMBS holdings include the Fontainebleau in Miami Beach. Its projects also include Dubai World's and casino operator MGM Mirage's deal to build the City Center project on the Las Vegas Strip.

While all of Dubai World's CMBS loans are noted as current, the W New York - Union Square is specially serviced and the Mandarin Oriental and the W Hotel in Washington are on the Realpoint watchlist for low DSCR.

"Although fallout from a potential default will be limited in our view, Dubai World could face significant losses on its hotel investments if it were forced to sell, as hotels have been one of the hardest hit sectors since the downturn in commercial real estate began," says Realpoint. "Based on our data, the delinquency rate on CMBS backed by hotels stood at nearly 7.4% in October 2009, up from 1.5% in January 2009."

Away from the US market, Dubai Holdings subsidiary Istithmar is to sell two landmark buildings in London at a substantial loss. Both properties back loans in UK CMBS transactions: the Grand loan in DRACO ECLIPSE (2005-4) and the Adelphi loan in Indus (Eclipse 2007-1). Lisa Macedo, vp-senior analyst at Moody's, notes in the agency's Weekly Credit Outlook that if Dubai Holdings begins a fires sale of its prime UK assets, it could dampen and reverse the newfound UK CRE market recovery.

"The impact of the sale of real estate assets is transaction specific," she adds. "Most securitised loans feature a property-owning company - the legal borrower - and one or more equity holders. There may be several loans in EMEA CMBS in which Dubai Holdings or a related entity is equity-holder or controls the borrower."

Both borrower and equity holder can opt to sell properties backing a loan to realise the equity from the asset, with the CMBS issuer the first claimant over the proceeds for the full amount of the loan. Alternatively, the equity holder may be able to sell all or part of its interest in the borrower. In this case, debt may remain in place or a partial or full loan prepayment may ensue.

The impact of prepayments on CMBS transactions also varies from deal to deal. "While reducing transaction leverage is normally beneficial for noteholders, there can be both positive and negative credit consequences from altering the loan concentration and/or the loan quality distribution in a CMBS pool. For different classes of notes, it is also important to consider how such proceeds are allocated within the CMBS transaction," Macedo continues.

Moody's agrees that the Dubai debt restructuring will have consequences for general market confidence in the UAE region, with transactions with exposure to the CRE markets in UAE expected to be adversely affected (see last week's issue). However, the rating agency foresees limited impact on CMBS transactions for jurisdictions outside of UAE.

CS & AC

Investors

Strengthening the market

Jeffrey Kushner, ceo of BlueMountain Capital Partners (London), answers SCI's questions

Q: How and when did BlueMountain Capital Management become involved in the fundamental credit/derivatives markets?
A: Since inception in 2003, BlueMountain Capital Management has been a relative value, multi-strategy credit manager with a unique expertise in credit derivative products, markets and structres. We are active in many types of credit products, from cash bonds and loans, to structured products including ABS, to the full range of credit derivatives contracts. This gives us a unique perspective on what is going on in the credit space.

Q: What is BlueMountain's history in London?
A: We began as a North American-focused business. As head of trading, I took a lead role in launching our European business in mid-2004.

We set up the London office in 2005 and have maintained a presence here ever since. I relocated here in August of 2008 from our New York headquarters and anticipate remaining in the UK long-term.

Europe is an essential part of our strategy. Some view Europe as the second largest credit market, but it actually is approximately 10 individual markets.

These markets present many challenges and successful investors need to understand the differences among the 'sub-markets'. These differences include investor bases, national banking champions and, most importantly, legal framework as it applies to creditors.

Over our five years of trading these markets, we have developed a powerful understanding of how to be successful and which situations are best avoided. It is important to respect the differences in the region from the US. For example, liquidity is not the same in Europe as it is in North America.

My role in London is multi-faceted. I am responsible for dealer relations and investor interaction, and serve as the senior BlueMountain representative in the region.

Q: What are your key areas of focus today?
A: One key advantage of running a multi-strategy credit fund is that we get to allocate capital and other firm resources to the best opportunities in the credit space as they arise and in a coordinated way. Over the past 18 months we have seen the opportunity to morph significantly from an arbitrage opportunity, where managers attempted to make money by not necessarily taking too much credit risk (ex basis), to an environment in which credit is king.

The dislocation and subsequent rally have created stark choices, in which there is a fertile environment to choose obligors whose debt is cheap in relation to risk and vice versa. Fundamental long/short alpha has been our biggest driver of returns for the past 24 months and we anticipate that continuing for some time to come.

Q: What has been 2009's most transformative change in the credit market?
A: The speed of the recovery has surprised me somewhat. In March some thought that the world was going to end.

We had professionals examining scenarios as dire as 35% defaults and 450 on the S&P. It doesn't look like either of those will happen.

The recovery in technicals has been extremely strong. It will take some time to see if the fundamentals match.

As a result, the truth is that not much has changed from 2006 or 2007. With each passing day we are seeing the return of leverage, bank prop desk activity and even whispers of the return of structured products.

At BlueMountain we are being very vigilant in watching this, as we are not quite as convinced about a robust recovery. Rather, we just see the wall of money, which can come down at any time.

As I reflect, I think that the reduction in gross notional and the continued move to central clearing in credit derivatives is likely to be the most transformative change of 2009 in credit markets. Once complete, this will address many of the issues surrounding the space, including counterparty risk and transparency, and will likely result in more broad-based participation.

Q: How has this affected your business?
A: We have materially upgraded our fundamental credit research team, including the addition of four staff members that have distressed experience. The team now totals 17 people.

This goes hand-in-hand with changes in the portfolio management team led by Derek Smith, who joined in early 2008. Derek has transformed our fundamental credit business. We are now much more focused on a smaller universe of names, where we have high conviction and in which our investing team can create and maintain some kind of competitive advantage.

While much of the 'low hanging fruit' is gone, there is still a surplus of good opportunities in bank capital, legacy structured product and stressed names. The key for us is that we have been able to retain our competitive advantage in technology, market intelligence, product knowledge and operations, while significantly upgrading our research. Thankfully, we have been able to add strength during the crisis.

Q: What major developments do you expect from the market in the future?
A: These developments broadly fall into two categories, one of which is germane to Europe.

There is a move to significantly more standardisation in the credit derivative space. All of this is in response to the events of 2008, Lehman, AIG, etc. There will be standard contracts on most credit derivative products, including single name, index and index correlation products.

This standardisation has reduced the uncertainty around events via a dedicated committee (the Determinations Committee) that opines on all corporate events while increasing the fungibility of contracts through standardised coupons. All of this is a precursor for a centralised clearing mechanism.

This is largely in response to what was viewed as the twin problems of larger gross notionals and counterparty exposure. The central clearinghouse solution, which is being encouraged by large market participants as well as regulators, will allow netting of positions and protect participants from direct counterparty exposure. Both of these factors should enhance market stability and therefore encourage new participants.

There has been quite a bit of discussion in Europe around the "wall of debt" that is ahead of us. Approximately €130bn of high yield loans mature between 2012 and 2014. What will happen to "roll" this debt?

A large portion of the debt is held by CLOs and uncertainty exists around their future viability and, therefore, their ability to continue to lend. Much of the remainder is held by banks and is not marked to market.

Many hope that the leveraged finance market in Europe will develop to look more like the US market. The US leveraged finance market is largely a public market with bonds predominating. Additionally, in most cases the bonds are widely distributed to investment professionals of different types rather than being held by CLOs and banks.

In order to strengthen the European debt market, the correct incentives will need to be put in place by the market and the regulators to help to change long-term behaviour.

ABCP

Ocala suit highlights SF counterparty risk

The vulnerability of structured finance transactions to counterparty risk is highlighted in Moody's latest Weekly Credit Outlook by the example of the Ocala Funding ABCP suit. If key transaction parties don't fulfil their roles as expected - particularly with respect to safeguarding collateral and directing cashflows - losses and delays in payment can result, the rating agency points out.

The two sole Ocala ABCP investors, Deutsche Bank and BNP Paribas Mortgage Corporation, sued Bank of America (BoA) on 25 November for breach of contract in the US District Court. As of 30 June, there was US$1.68bn of Ocala ABCP outstanding. However, uncertainty remains as to whether the ABCP will ultimately be paid.

BoA serves as Ocala's administrator, indenture trustee, depositary, collateral agent and custodian. The bank has been fighting the FDIC in the Eleventh Circuit for the return of Ocala assets that became trapped in Colonial Bank's receivership on 14 August.

In separate complaints, the investors state that BoA's experience and reputation and its agreement to play key roles in the Ocala programme were essential factors in their decision to purchase the ABCP. The complaints argue that the bank was contractually obligated to perform three crucial duties for Ocala: safeguard the collateral; certify the borrowing base prior to any new ABCP issuance to ensure that overcollateralisation requirements were met; and test the borrowing base before allowing Ocala to buy any new mortgage loans. The suits principally allege that BoA negligently performed these duties and therefore Deutsche Bank and BNP Paribas should be compensated for their losses.

First, almost none of the mortgages were maintained or controlled by BoA in its capacity as collateral agent or custodian, as required under the transaction documentation. Second, the bank failed to keep proper records to track the mortgages and identify what Ocala owned and what was sold. Finally, it repeatedly falsely certified the borrowing base.

Advisory

FI team bolstered by new credit hires

Matrix Corporate Capital (MCC) has completed the first stage of its fixed income build-up with the hire of senior team leaders in sales, trading and origination. MCC's fixed income coverage comprises sales and trading, corporate debt capital markets and the financial institutions group, reporting to joint-heads of fixed income Bill Blain and Jim St Johnston.

Malcolm Le May, ceo of MCC, says the decision to expand in fixed income anticipated demand from clients for independent financing and investment advisory, following the disruption caused by the banking crisis. He notes: "The experience of the crisis has highlighted to corporate clients the need to diversify their financing advisory and execution sources, while investors have seen the attractions of widening their asset-gathering relationships to ensure they are shown the best opportunities and pricing."

St Johnston adds: "We're delighted [about] the speed with which we've built the team with quality hires. The fact that top professionals joined us in preference to the more traditional firms all confirms our belief [that] the future of financing and investment does not lie solely within the large investment banks."

Blain continues: "MCC's distribution, origination and research platforms offer clients a compelling execution and advisory alternative. We see the emphasis we put on relationships, our experience and independence as critical component[s] of the difference we bring to our clients."

Among the new hires, Maureen Osborne joins from Wachovia, where she ran sales in the Nordic region. She brings over 20 years' experience of complex financial instruments to the firm. Her areas of expertise include high yield, distressed debt and structured investments.

Tim Van Den Brande is Matrix's senior fixed income salesperson covering Belgium, France and Luxembourg. His expertise lies across all credit classes, but prior to setting up his own advisory business he was head of structured credit derivatives at JPMorgan.

Elaine Hughes joins the fixed income distribution team, having previously worked at Barclays, BNP Paribas and Dresdner/Commerzbank. Throughout her career she has built and developed strong relationships with a broad range of the top asset and pension fund managers in the Netherlands and the UK. She has strong product knowledge across all fixed income asset classes.

James Berry joins Matrix from brokerage firm MINT, where he was developing new cash and CDS trading platforms. His brief at Matrix is to extend the firm's trading capabilities with market counterparties and liquid instruments, while developing new distribution platforms.

Carter Kegel joins Matrix from Deutsche Bank, where he was a senior originator within debt capital markets, rising to be head of relationship management. His brief is to develop the firm's financial institutions coverage and develop new capital, liquidity, asset and liability management themes.

Finally, Charles Stephens brings more than 20 years' experience of debt markets to his role of corporate debt capital markets originator. Most recently, he headed a London-based origination team for Commerzbank, marketing both syndicated loans and bonds to corporate clients in the UK and continental Europe.

Alternative assets

Infonic builds out board of directors

Infonic has appointed Ian Morley, a UK-based alternative investment management industry veteran, to its board of directors. Morley joins new chair of the board and US-based managing partner of Azimuth Partners, Virginia Gambale, and non-company executive director, Alexander Aebi - the Swiss-based ceo of Abiba Consulting. The board is completed by Infonic company executive directors Tom Furrer, ceo, and Roman Bargezi, head of engineering.

Morley holds chairmanships and directorships at several firms, including Corazon Capital, Allenbridge Hedge and Wentworth Hall - a consulting and private equity company. During his career, he served as ceo of fund of hedge fund DDO and as head of derivatives and quantitative fund management at AIB Govett.

Gambale is managing partner of Azimuth Partners, an investment and advisory firm she founded in 2003. She has served on over 20 public and private boards as well as several advisory boards in the finance and technology industry. Prior to 2003, she held senior management positions at global corporations, including Merrill Lynch, Marsh & McLennan, Bankers Trust Alex Brown and Deutsche Bank.

CDO

Structured credit head resurfaces

Steve Lobb, former head of credit and alternatives marketing at ABN AMRO/RBS in London, has resurfaced as head of structured credit North America at Credit Suisse. He is an md and reports to Tim O'Hara, global head of credit in New York, and to Vaibhav Piplapure, global head of structured credit, who is based in London. Lobb left RBS in February 2009.

CDO

Bank confirms structured credit hire

UBS has confirmed the recent hire of Farzin Pourmokhtar as head of product management for structured credit. He reports to Afif Baccouche, global head of structured credit at the bank. Pourmokhtar previously held roles at Deutsche Bank and RBS.

CDS

Structured credit vets boost boutique's FI platform

Christopher Street Capital (CSC) has expanded its structured credit team with the hire of Edward Cahill - formerly head of the European CDO division at Barclays Capital - as head of structured credit, as well as numerous appointments within credit sales.

Although the company has been involved in credit markets throughout 2009, the recent hires signal an increased focus on the structured market. Iain Baillie, head of fixed income at CSC, explains: "We have been growing our overall credit business over the last 15 months and have grown from five to 25. Initially our focus was cash credit, but Edward's arrival has allowed us to expand into the structured space."

In addition to Cahill, the structured credit team has expanded to include six other hires. Karl Prazmo will cover ABS, CDOs and CLOs, while James Hart will focus on ABS as well as RMBS and CMBS.

Ulrich Neuhauss has joined as md of German credit sales alongside Wladimir Ledochoweski, who will handle both German and Austrian credit sales. Javier Benavides and Mourad Amellal will manage Iberian and French credit sales respectively.

Christopher Street Capital offers both advisory and execution services, but is not involved in trading. Baillie adds: "Our objective with the entire business is to assist clients with understanding complex securities and where necessary help with execution. This is our rationale in cash credit, as well as structured credit. Without sounding trite, our objective is to build up a pool of top-class intellectual capital across all asset classes we cover. We want to give impartial advice without being influenced by principal risk."

Clearing

CME names chairman for Euro clearing initiative

CME Group has appointed Otto Nageli as chairman designate of CME Clearing Europe, its UK clearinghouse currently awaiting approval by the FSA. In this role, Nageli will serve as non-executive independent chairman of the board of CME Clearing Europe, providing leadership to the governance of CME Clearing Europe and imparting the benefits of his knowledge and experience to the development of clearing services for OTC market participants.

Andrew Lamb, ceo of CME Clearing Europe, says: "I am delighted that Otto will serve as chairman of the Board of CME Clearing Europe. His vast experience of the technical, regulatory and customer-facing issues involved in establishing and running a successful clearing facility will be invaluable to us as we build our operations over the coming years."

Nageli is currently sole managing partner of OEN Consulting, which provides research and advice on banking, exchange, settlement and clearing issues in Europe. He has extensive experience in the exchanges and clearing sector across Europe.

CLO Managers

Bank's CDO unit acquired

The managed CDO business that was transferred from SGAM AI to Lyxor Asset Management in September 2009 has been acquired by Chenavari Credit Partners. According to a statement from Société Générale, Lyxor Asset Management decided to focus on three core businesses - managed accounts and funds of hedge funds; quantitative and structured asset management; and ETF and index funds - following a strategic business review.

In this context, the managed CDO business transferred from SGAM AI in September was outside of this scope, hence the decision to sell the unit. "Lyxor AM has selected Chenavari Credit Partners to take over this activity in the investors' best interests," says the bank.

It is understood that a number of employees from Lyxor will move over to Chenavari.

CLO Managers

Babson adds to CDO count

Babson Capital Management is expected to be named replacement collateral manager for the Tricadia CDO 2005-4 and Tricadia CDO 2006-6 transactions. If the proposed changes are finalised, Babson will assume the collateral management responsibilities previously performed by Tricadia CDO Management. S&P has assigned a preliminary rating confirmation for the deals.

Babson Capital Management has become replacement collateral manager for a number of CDOs in the past year and recently took on a number of CLOs from Jefferies Capital Management (SCI passim).

CMBS

Veteran analyst to build new CMBS team

Veteran mortgage analyst Darrell Wheeler will join Amherst Securities in early 2010 as a senior md and head of CMBS strategy in the firm's New York office.

Wheeler has been hired to help launch Amherst's entrance into the CMBS business. Prior to this appointment, he served as md and global head of securitised strategy and analysis at Citigroup, overseeing the ABS research group and serving as the bank's lead CMBS strategist.

Sean Dobson, chairman and ceo of Amherst, says: "We are very pleased to welcome an executive of Darrell's calibre to Amherst. He brings unparalleled knowledge of the commercial mortgage-backed securities industry and a stellar track record for providing the most sought-after advice on Wall Street. Together with Laurie Goodman, who oversees our RMBS strategy efforts, we believe Amherst is now poised to provide more knowledge, insight and reliable data on the entire mortgage industry than any other broker-dealer."

Emerging Markets

ICMA appoints Middle East regional head

The International Capital Market Association (ICMA) has appointed Robert Mohamed as the new chairman for the ICMA Middle East, Far East and Africa region. Mohamed will coordinate the association's activities in support of its member firms in the region, with particular emphasis on the Gulf, where he is located. Also appointed to the ICMA board is Dubai-based John Eldredge from Emirates NBD

Mohamed is co-head of investment banking (debt capital markets) in the corporate and investment banking division at National Bank of Abu Dhabi and has over 20 years of experience in investment banking covering the origination, execution and distribution of a broad range of fixed income products.

ICMA's recent activities in the Gulf include partnership with the Bahrain Institute of Banking and Finance (BIBF), specifically in the area of education, as well as its work with the Islamic International Financial Market to develop market practice and documentation for the Sukuk market.

Investors

Resignations follow TCW acquisition

TCW has confirmed that both Louis Lucido and Philip Barach have resigned from the firm following its acquisition of Metropolitan West Asset Management (MetWest) and subsequent dismissal of TCW cio Jeffrey Gundlach.

Lucido and Barach were both senior executives in TCW's MBS unit. Lucido was group md, while Barach co-managed its top-performing Total Return Bond Fund - valued at US$11.9bn - with Gundlach.

As many as 20 members of TCW's MBS team are also believed to have handed in their resignations. However, a spokesperson at the firm couldn't confirm how many employees would be leaving the company.

The upheaval comes on the back of TCW's acquisition of MetWest, a fixed income investment management firm with approximately U$30bn under management. Key MetWest investment professionals will immediately assume portfolio management responsibilities for all of TCW's high grade fixed income client accounts. As it relates to current MetWest clients, MetWest will maintain investment control over its existing fixed income portfolios and strategies and expects no change in its investment process or discipline.

Upon completion of the transaction, MetWest partner and ceo, David Lippman, will become group md and head of TCW's high grade fixed income business and a member of the TCW Group board.

TCW separately announced that Gundlach had been relieved of his duties as cio and lead portfolio manager of its high grade fixed income funds and accounts and removed from the board of directors of the TCW Group. Gundlach will be replaced by current cio of MetWest, Tad Rivelle. While TCW did not offer a reason for his dismissal, the firm says it deeply regrets the need to take this action.

The two companies note that the acquisition will provide TCW clients with access to a broader suite of fixed income products and enhance its ability to collaborate with clients in addressing their investment needs. The transaction will provide MetWest with a larger balance sheet, international resources and a broader platform that will strengthen its existing product offerings.

The transaction, which is subject to receipt of all required regulatory approvals, is expected to close during the first quarter of 2010. The financial terms of the agreement were not disclosed.

Investors

CRE investment firm adds principal

Hodes Weill & Associates has hired Ray Potter as a principal. He will focus on the firm's property underwriting, due diligence and principal investment activities.

Potter says: "I am delighted to join the growing team of professionals at Hodes Weill & Associates. The current market dislocation is generating significant distressed real estate investment opportunities, including the recapitalisation and restructuring of fund managers and fund portfolio investments, which Hodes Weill is actively evaluating."

Before joining Hodes Weill, Potter worked on property restructuring assignments and identified distressed debt opportunities within the commercial banks and special servicers sectors while at Rainew Realty Advisors. Previous to this, he was an md at Credit Suisse in the real estate finance group, where he was responsible for the CMBS origination team located in New York, Chicago, Philadelphia and Tampa.

Doug Weill, co-founder and a managing partner of Hodes Weill, adds: "We are excited to welcome Ray to the firm. Given his considerable experience in various aspects of the commercial real estate industry and his strong property underwriting skills, we expect Ray to have an immediate impact on our advisory and restructuring engagements, as well as our principal investment business."

Legislation and litigation

Bankrupt lender charged for subprime fraud

The US SEC has charged three former senior officers of New Century Financial Corporation with securities fraud for misleading investors as the firm's subprime mortgage business was collapsing in 2006. At the time of the fraud, New Century was one of the largest subprime lenders in the nation.

"New Century shareholders took a double-hit: the company's mortgage assets and business performance became increasingly impaired, and management manipulated its numbers and concealed its deteriorating performance," says Robert Khuzami, the SEC's director of enforcement.

The SEC says it is devoting significant resources to identifying and holding accountable those who committed fraud in the subprime industry. Previous mortgage-related SEC enforcement actions include securities fraud charges against Countrywide Financial ceo Angelo Mozilo (SCI passim).

In the case of New Century, the SEC's complaint names as defendants: former ceo and co-founder Brad Morrice; former cfo Patti Dodge; and former controller David Kenneally. In its complaint, the SEC alleges that New Century disclosures generally sought to assure investors that its business was not at risk and was performing better than its peers.

The defendants, however, failed to disclose important negative information, including dramatic increases in early loan defaults, loan repurchases and pending loan repurchase requests. They are alleged to have been aware of this negative information from numerous internal reports they regularly received, including weekly reports that Morrice entitled 'Storm Watch'.

The complaint also charges Dodge and Kenneally with fraudulently accounting for expenses related to bad loans that it had to repurchase. In the face of dramatically increasing loan repurchases and a significant, undisclosed backlog of repurchase demands, Kenneally - with Dodge's knowledge - made changes to New Century's accounting for loan repurchases in both the second and third quarters of 2006. These undisclosed accounting changes violated GAAP and resulted in New Century's improperly avoiding substantial repurchase expenses and materially overstating its financial results.

The complaint further alleges that the defendants' fraud caused investors substantial losses. From early 2006 to early 2007, New Century's stock price ranged from US$30 to US$50; and in the second half of 2006, the firm raised US$142.5m by selling stock to new investors.

After New Century announced in February 2007 that it would have to restate its 2006 financial statements, its stock price fell by 36% to around US$19. The firm's stock price continued to fall and traded at less than US$1 when the company filed for bankruptcy in April 2007.

The complaint - filed in federal court in the Central District of California - seeks a final judgment permanently enjoining defendants from future violations of the federal securities laws, disgorgement with prejudgment interest, officer and director bars, and civil penalties. The SEC also seeks from Morrice and Dodge reimbursement of bonuses and incentive or equity-based compensation pursuant to Section 304 of the Sarbanes-Oxley Act of 2002.

Ratings

Deutsche's commercial servicer rating downgraded

Fitch has downgraded Deutsche Bank London (DBL) branch's UK commercial primary servicer rating to CPS3+ from CPS2-. The agency has also assigned the company a UK commercial special servicer rating of CSS3-.

Fitch says the downgrade reflects the high level of staff turnover - 50% in the last 12 months - and an asset management team of six professionals with average company tenure of just over one year. While several of the staff departures were driven by performance issues, the turnover figure also includes the loss of a contractor and one member of the original management team.

As a result, the agency observes that the company now lags behind its rated peers in terms of commercial real estate asset management experience. However, such concerns are somewhat mitigated by the experience of DBL's two co-heads - who have been with the company since its inception in 2005 - and the benefits of a dedicated coo and experienced servicing committee within Deutsche Bank's European commercial real estate team.

Fitch has not observed any significant deterioration in operational performance at DBL as a result of the factors leading to the downgrade. The agency notes that while reporting timelines had improved significantly following its prior rating action in May 2008, such timelines have moved out over the last two reporting cycles. Furthermore, Fitch believes the high staff turnover rate may have implications for the strong relationships that DBL has forged with investors and borrowers.

Nevertheless, the experience and tenure of the current management team along with broader real estate experience of the new asset manager hires helps to mitigate this concern. Fitch also believes that managing the growing list of watchlisted loans may prove challenging in the short- to medium-term for a small team with limited tenure. Such issues and potential concerns are reflected in the downgrade, it says.

As of 20 July 2009, DBL primary serviced a UK portfolio of seven securitised transactions under the Deco series, totalling £2.75bn comprising 58 loans and 236 properties. Total UK assets under management amounted to £3.84bn, comprising 76 loans and 559 properties.

Structuring/Primary market

Partner added to securitisation group

Bingham McCutchen has added Sarah Smith, former co-head of Sidley Austin London's international finance group, as a partner in the London office. Smith, who also led Sidley & Austin's Singapore-based finance practice from 1996 to 1998, joins Bingham to focus on general finance and restructuring matters, and brings specific experience in structured finance and securitisation, as well as domestic and cross-border asset-based lending.

She will work closely with London partners: James Roome, co-head of Bingham's global financial restructuring group and London managing partner; Barry Russell, leader of Bingham's London finance practice; and with Bingham's structured transactions practice group headed by Reed Auerbach, former co-managing partner of legacy firm McKee Nelson.

Smith has advised global financial institutions on a variety of debt structures, programmes and instruments, including the restructuring of debt and debt programmes, and also has experience in advising bondholder committees on credit-related issues. She says: "Bingham's strong platform provides me with the unique opportunity to help clients facing sophisticated finance and restructuring issues today while allowing me to build upon Bingham's recognised securitisation and structured finance practice in a constantly evolving global economic environment."

Technology

Hedge fund services provider enhances loan offering

Paladyne Systems has acquired Oakwood Financial Technologies, a software company providing loan management, administration and trading solutions for participants in the loan origination and syndicated loan markets. The acquisition facilitates the company's expansion into the loan technology and services marketplace.

Sameer Shalaby, ceo of Paladyne Systems, says: "In response to the growing demand for technology solutions in the loan marketplace, Paladyne has released a comprehensive front-to-back office solution for trading and administering complex bank loan and structured deal portfolios. Paladyne Credit Master brings innovative and flexible technology to a manually-intensive loan market, which will significantly reduce cost and operational risk for firms trading and supporting this asset class."

Technology

RiskVal opens Asia office

RiskVal Financial Solutions has opened a permanent office in Asia. The new office in Taipei, Taiwan will enhance 24-hour support operations for RiskVal products, as well as adding additional software development resources.

RiskVal Fixed Income, or RVFI, has added major new real-time features this year in order to better serve the needs of the current generation of broker-dealer fixed income sales and traders, including live bucket risk and sophisticated, fully-customised pricing matrixes.

ABS

EMEA auto loan ABS indices stable

The performance of the auto loan ABS market in EMEA remained stable overall in October, according to Moody's.

The cumulative loss trend increased to 0.7% from 0.6% one month previously, while the 60 days plus delinquency trend remained at 1.4% in October - which constitutes an increase of 0.1% during the past year. In some smaller markets like Portugal, Spain and South Africa increasing default and loss trends continued a rising trend that has already been observed over the past 12 months. Moody's constant prepayment rate (CPR) trend continued its slightly decreasing trend and currently stands at 10.7%.

Yuezhen Wang, a Moody's senior associate, says: "The auto loan market in EMEA has proven so far to be resilient to the recession and collateral performance has remained stable. However, as car scrapping programmes across Europe are coming to an end, a reduction in demand is anticipated, especially for light vehicles which benefited most from these programmes. With the decline in demand, recovery rates in auto ABS transactions might be negatively affected."

The Eurozone as a whole resumed growth in Q309, expanding by 0.4% over the previous quarter. However, on balance, continued accommodative fiscal and monetary policy in the Eurozone is likely to assist the recovery.

Moody's outlook for German, Portuguese and South African auto loan ABS remains negative. Historically, the performance of German auto ABS has not been particularly sensitive to increases in unemployment and thus only a moderate deterioration in performance is expected in the current economic downturn.

Most transactions in Portugal benefit from a high degree of seasoning, which mitigates the pressure despite the economic downturn and steadily increasing losses over the last 12 months. In South Africa, an oversupply of used cars is depressing prices, which might have an adverse impact on recovery values.

CDO

Surveillance criteria updated for corporate CDOs

Fitch has amended its surveillance criteria for rating CDOs exposed to corporate debt. The new approach considers a number of important tenets, including that highly rated tranches be resistant to excessive rating volatility throughout normal credit cycles, while lower rated tranches may exhibit a greater level of volatility through the same cycles.

Fundamental to the new approach is that the credit enhancement afforded to highly rated tranches anticipates some level of portfolio deterioration above a base case before rating action is required. John Olert, group md and head of global structured credit for Fitch, says: "Accounting for future portfolio declines in our loss rates for higher rated tranches should better protect against a downward spiral that other methodologies may not capture."

While substantially similar to its methodology for determining ratings for new issues, Fitch's amended surveillance criteria contain some notable differences. Primarily, the surveillance methodology considers that class ratings are able to tolerate explicit levels of portfolio migration throughout a transaction's life.

Further, Fitch's criteria for new ratings considers analytical adjustments for certain portfolio factors, such as obligor concentration and adverse selection, which may lead to higher loss expectations when the ratings are first assigned. These adjustments are not necessarily applied during the monitoring process, however.

CDO

EOD cushion improves on rise in asset prices

S&P has published its US Corporate CDO EOD Index, which tracks the performance of CLOs and other corporate CDOs originated between 2003 and 2008. Transactions included in the index have indenture provisions that include an O/C-based event of default (EOD) calculation and may allow the senior-most noteholders or other controlling party to liquidate the transaction collateral and terminate the CLO transaction upon the event of an O/C-based EOD.

As of October 2009, the rating agency had identified 71 US corporate cashflow CDO transactions that it believes meet both of these conditions. The original issuance amount for the rated notes from the CLOs in the index is US$29bn.

General trends that S&P has observed in the Corporate CDO EOD Index since its last report include:

• The cohorts continue to have a considerable cushion before they would trigger an O/C-based EOD; transactions originated in 2004 have the tightest cushion, at 15.20% in absolute terms.
• Although the available cushion preventing an O/C-based EOD has declined over the past year, all of the cohorts are holding a reasonably high cushion.

S&P attributes the improvement in most of the cohorts over the past four months primarily to the rise in market prices for the triple-C rated assets that are haircut in the O/C calculations and carried at market values.

Most of the transactions originated in 2008 have been redeemed in prior months. Because there were so few active transactions, the agency did not include data from this cohort in the new report.

CDO

CDO Suite enhanced

Deloitte has released CDO Suite Version 6.5. The updated offering includes: support for multi-currency facilities; the ability to record facility transactions by payment counterparty; a new cross-portfolio trade allocation process; and the ability to queue the generation of portfolio snapshots to control how many are processed at once.

CDS

White paper released on counterparty credit risk

Quantifi has released a white paper that explores the changes in theory and practice regarding counterparty credit risk, as well as outlining the current priorities for banks.

The paper, entitled 'The evolution of counterparty credit risk - an insider's view', is co-authored by Quanifi's director of credit product development, David Kelly, and Jon Gregory, author of 'Counterparty credit risk: the new challenge for global financial markets'.

Gregory comments: "Counterparty credit risk has become the key element of financial risk management, as highlighted by the failure of institutions like Lehman, Bear Stearns and AIG. This is a challenging area that has been evolving over the last few years."

He adds: "The question now is: how will banks address counterparty credit risk moving forward? Both David and I have worked inside the world's largest banks and we authored this paper in an effort to share our perspective on how these institutions are addressing counterparty risk and how we see the market moving forward."

The white paper reviews how banks have innovated counterparty credit risk management and focuses on the trend of moving credit risk from a traditional 'reserve model' towards the 'market model'. The reserve model involved transaction fees that were essentially insurance policies against losses due to counterparty defaults. Later, in response to the need to free capital and increase capacity, banks began to price and hedge counterparty credit risk like other market risks in what was known as the market model.

This change has inspired important innovations with regard to active management, facilitating contingent CDS and the start of addressing active management from the input end of the portfolio simulation. According to the white paper, the next step needed in the evolution is a focus on correlation in portfolio simulation, which still remains an open problem.

Kelly comments: "Banks are continuing to evolve counterparty credit risk management. We've seen increased focus on wrong-way risk, collateral risk, centralisation of credit risk management and the usage of debt value adjustment (DVA). These initiatives are certainly not new as banks have known about these risks prior to the crisis, but as firms place even greater priority on counterparty credit risk, we look forward to seeing increasing adoption of these innovations and witnessing the industry's continued evolution."

Gregory is a consultant specialising in the area of counterparty risk and has held senior roles at Salomon Brothers, BNP Paribas and Barclays Capital in the area of credit analytics and counterparty risk.

CDS

CDS liquidity now greater for developed economies

According to Fitch Solutions, the global CDS market has become more uncertain about the outlook for developed economies than for emerging economies. Average liquidity on developed economies' sovereign CDS has exceeded that for emerging economies since 23 November. This trend has held, despite news of the debt restructuring of Dubai World.

Thomas Aubrey, md of Fitch Solutions in London, says: "While the top-ten most liquid sovereigns are all still emerging economies, the liquidity index for developed economies has now crossed over and become more liquid than the index for emerging economies."

He adds: "The continued increase in overall CDS liquidity for developed economies is driven by market uncertainty about the strength of economic recovery and the sustainability of higher levels of debt to GDP in combination with lower tax revenues. Since the start of this year, Austria has seen the biggest rise in CDS liquidity."

Developed market sovereigns that have seen the largest increase in CDS liquidity - reflecting greater uncertainty within the CDS market - and which have therefore been the biggest drivers of increased liquidity in the last twelve months include Austria and Ireland. Austria's five-year CDS spread has widened relative to peers and its CDS market-implied rating has fallen from trading in the triple-A sovereign band back in January 2009 to now trading in the double-A minus sovereign band - down three notches.

Conversely, despite signs of increasing liquidity during the past two weeks, the UK has seen a significant decrease in liquidity over the last year, reflecting greater certainty over the future direction of its CDS. The UK has been trading in the double-A CDS market-implied rating band relatively consistently since March this year and was last trading in the triple-A CDS market-implied rating band back in February, when it then fell two notches.

Dave Klein, manager of Credit Derivatives Research credit indices, notes that all members of the CDR Government Risk Index (GRI) saw their CDS levels drop last week as perceived sovereign risk fell. "Still, the GRI is about 25% higher than its late summer/early fall level. The recovery among index members has been uneven as eurozone members (France, Germany, Italy and Spain) outperformed Japan, the UK and the US. The US's CDS level remains very close to last week's level and is up about a third compared to its recent tight levels," he explains.

CDR continues to look at the GRI as an early warning signal for stalled economic recovery. "The Dubai scare showed how quickly the credit and equity markets can sell off on bad news. The GRI recovered to pre-crisis levels along with both the broader credit and equity markets. Still, last week's sovereign risk levels are elevated compared to earlier in the fall and at a time when the equity markets continue to push ever higher," Klein concludes.

CDS

Continued contraction for bank balance sheets

The BIS's Quarterly Review shows that banks' international balance sheets continued to contract during the second quarter of 2009, albeit at a much slower pace than in the preceding six months. The US$477bn decline in the total gross international claims of reporting banks was considerably smaller than the reductions registered in the prior two quarters, but was still the fourth largest in the last decade.

The shrinkage in international balance sheets was entirely driven by a contraction in interbank claims, which fell by US$481bn. By contrast, international claims on non-banks increased slightly (by US$4bn).

Reporting banks' cross-border claims on emerging market borrowers also showed signs of stabilising. Conversely, their local positions in local currencies in many countries contracted modestly for the first time since the onset of the financial crisis.

In the first half of 2009, notional amounts of all types of OTC derivatives contracts rebounded somewhat to stand at US$605trn at the end of June - 10% higher than six months before. In contrast, gross credit exposures fell by 18% from an end-2008 peak to US$3.7trn. Gross credit exposures take into account bilateral netting agreements but not collateral, so they provide a measure of counterparty exposures, the BIS notes.

The increase in outstanding amounts was due in large part to interest rate derivatives. By contrast, continuing a trend that began in the first half of 2008, outstanding notional amounts of CDS contracts fell to US$36trn at the end of June 2009.

Clearing

CME CDS clearing pre-launch announced

The initial group of dealer founding members supporting CME Group's CDS initiative will be Barclays Capital, Citi, Credit Suisse, Deutsche Bank, Goldman Sachs, JPMorgan, Morgan Stanley and UBS. Each of the members has executed a non-binding term sheet with respect to the CDS initiative.

The dealer founding members join the buy-side founding members - AllianceBernstein, BlackRock, BlueMountain Capital Management, Citadel, the DE Shaw Group and PIMCO - in supporting the initiative. The founding members and other buy-side firms are planning to participate in a pre-launch programme scheduled to begin clearing CDS by 15 December 2009.

Bank of America Merrill Lynch, Nomura Group and Royal Bank of Scotland will become CDS clearing member firms and intend to participate in the pre-launch programme.

Craig Donohue, ceo of CME Group, says: "CME Group believes that our solution, which was jointly developed with both our buy- and sell-side founding members over many months of effort, will be the strongest and most effective CDS clearing solution. Our solution will provide a number of benefits, including immediate processing of CDS trades submitted for clearing, an extensive range of products to clear including single names and indices, a comprehensive and transparent risk management framework, the security of an industry-leading financial safeguards package and the leveraging of an established regulatory framework to protect customer collateral and positions."

CME's clearing solution is based upon cleared CDS products that will mirror OTC market conventions and practices, including the incorporation of ISDA credit derivatives definitions, adherence to decisions of the ISDA Determinations Committee and cash settlement to the ISDA auction settlement price.

CMBS

Third new issue US CMBS marketing

JPMorgan is in the market with a US$500m TALF-eligible new issue CMBS for Inland Western Real Estate Trust. The transaction, JPMCC 2009-IWST, is backed by a US$625m ten-year 58.9% LTV loan secured by a portfolio of 55 retail properties in a joint venture owned by Inland Western and principals of The Inland Real Estate Group.

"The closing of this non-recourse secured debt financing is a significant accomplishment, as we have now addressed virtually all of our 2009 maturing debt and a substantial portion of our debt maturing in 2010," comments Steven Grimes, ceo of Inland Western.

The transaction follows the successful placement of two other recent new issue CMBS - Developers Diversified's five-year US$400m deal and Fortress Investment Group's seven-year US$460m deal. The Inland Western bond is also notable for being the first new-issue CMBS to be rated by Realpoint.

Realpoint was designated as a TALF-approved rating agency by the US Federal Reserve in May 2009. "We are extremely pleased by this recent development," says Robert Dobilas, Realpoint's ceo. "This development will allow us to finally deliver on our promise to the market to deliver a better ratings solution to investors. We want investors to know that we are committed to setting a new standard for ratings transparency, analysis and customer support."

Realpoint md Joe Petro adds: "Investors have long been seeking a better approach to the ratings process. Our presence in the new-issue side of the market provides investors with more choices and will ultimately drive competition based on the quality of the analysis and the transparency of the process provided by the rating agencies."

Inland Western Real Estate Trust is a self-managed REIT that acquires, manages and develops a diversified portfolio of real estate, primarily multi-tenant shopping centres across the US.

CMBS

DebtX confirms US CMBS loan value decline

The aggregate value of commercial real estate (CRE) loans priced by DebtX that collateralise CMBS decreased slightly to 76.9% as of 30 October 2009 from 77.2% as of 30 September 2009. The aggregate value is down from 81.3% as of 30 January 2009, according to the firm.

"Loan prices in the CMBS universe have remained relatively flat over the past four months after trending downward in the first half of the year," says DebtX ceo Kingsley Greenland. "Current loan prices reflect the fact that improving fundamentals in the capital markets are being offset by continuing deterioration of CMBS collateral quality. We are likely to see more of the same in coming months."

CMBS

CMBS issuer event of default on the cards

WTOW 2006-3 last week issued a statement on the resignation of its auditors that has sparked concern over the potential for an issuer event of default on the transaction.

The statement includes text from a letter from Ernst & Young that states: "there are no circumstances connected with our resignation which we consider should be brought to the attention of the members or creditors of the company". The auditors also point out in the statement that they have issued a qualified audit opinion.

According to a recent client note from Chalkhill Partners, the latest accounts confirm that the audit opinion was qualified due to the limitation in evidence available and material uncertainties. "While such an event does not appear to be explicitly stated as an event of default in the terms and conditions of the notes, it seems to us that there is now a heightened risk of an issuer event of default," observes Chalkhill analyst Michael Cox. "We have already seen issuer events of default in the Welcome Break and Globe Pub Issuer transactions, so such an event would not be unprecedented."

If an issuer event of default were to occur on the White Tower deal, it would result in significant changes to control and to cashflows at the issuer level, Cox notes. There is also the risk that the liquidity facility would cease to be available.

CMBS

CMBS loan pay-offs remain depressed

The percentage of US CMBS loans paying off on their balloon date has stayed at depressed levels since the beginning of the year, with just 19% of the loans by balance paid off on their maturity date in November, according to recent Trepp data. In mid-2008, by comparison, the payoff percentages by balance were regularly above the 70% level.

Trepp has been tracking the payoff percentage for loans reaching their maturity date for the last 18 months. While there had been a glimmer of hope in August and September when the payoff levels exceeded 35%, the October number dipped back into the high-20s and the November number falling off even further.

From the perspective of loan count, the percentage of loans that are finding ways to pay their balloon balances on time is higher. In November, the percentage paying off by count exceeded 36%. This is far below the 45% by loan count that paid off in October, however.

Trepp points out that the percentage paying off by loan count is often 10% to 20% higher than the percentage by balance. "This long-standing trend indicates that smaller loans are having an easier time paying off than larger ones," the firm explains. "The average balance of those loans retiring [in a timely manner] was about US$4.5m in November. The average balance of those loans not able to pay off their balloon amount was US$11.2m in November."

Monolines

FGIC failure to pay determined

The ISDA Americas Determinations Committee has called a failure to pay credit event on FGIC and has voted to hold an auction to settle CDS written on the monoline. The move follows the New York Insurance Department order for the monoline to suspend paying claims on 20 November (SCI passim).

Separately, the EMEA Determinations Committee is deliberating over a potential failure to pay credit event in connection with Temirbank. The firm defaulted on two payments to its major shareholder, BTA Bank, at the beginning of November. The DC has determined that no failure to pay credit event has occurred with respect to Hellas II.

Meanwhile, the CDS settlement auctions for the Thomson and Hellas II bankruptcy credit events have been scheduled for 10 and 17 December respectively.

Ratings

TALF rating agency rule adopted

The Federal Reserve Board has announced the adoption of a final rule that establishes the process by which the New York Fed may determine the eligibility of credit rating agencies for the TALF programme. The final rule is substantively the same as the proposed rule announced on 5 October (see SCI issue 155).

The rule establishes criteria for determining the eligibility of agencies to issue credit ratings on ABS, other than those backed by commercial real estate, to be accepted as collateral for the TALF. The criteria include registration as a nationally recognised statistical rating organisation (NRSRO) with the SEC and experience issuing credit ratings specific to the types of assets accepted as collateral in the TALF.

The Fed says the rule is intended to promote competition among NRSROs and ensure appropriate protection against credit risk for the US taxpayer. The set of NRSROs that become eligible under the new criteria will take effect with the February 2010 TALF subscription.

Ratings

78 Granite tranches downgraded

S&P has downgraded 78 classes of notes related to Northern Rock's UK RMBS master trust Granite, following increases in arrears, repossessions and losses. It has affirmed 90 other classes.

The rating agency has lowered ratings on the 'socialist' Funding 2 notes and affirmed the senior Class A notes. It has affirmed and in some cases removed from credit watch negative its ratings on the 'capitalist' Funding notes.

"The deterioration of the UK economy has put pressure on the ratings on UK RMBS transactions. So far, downgrades have largely been limited to the non-conforming sector. Northern Rock's Granite Master Trust has not performed in line with its peers, with higher 90+ day arrears, repossession levels and losses," explains S&P.

It adds: "The negative pool performance has affected the Funding-backed issuers less than the Funding 2-backed master issuer. This is because the Funding-backed issuers are more seasoned and over time the capitalist structures have been able to build up more of a cushion to protect them from any deterioration in the pool's credit quality."

The rating agency notes that the worsening pool performance is shown by the rise in 90+ day delinquencies to 5.01% in October 2009 from 0.44% in September 2007. It calculates 12-month rolling repossession rates as rising to 1.00% currently from 0.42% in September 2007.

The trust also hit its non-asset trigger event in November 2008, meaning that the notes all pay in a pass-through manner, giving the senior notes greater protection than the junior notes as the transaction de-levers. Previously, the issuer was able to call some junior notes before some senior notes, but this is no longer possible. The drop in the constant payment rate (CPR) to 12.61% in September 2009 from 45.82% in September 2007 will slow down any benefits from the de-leveraging effect, in S&P's view.

"Over recent quarters, we saw drops in excess spread leading to small draws on the Funding reserve fund," says the rating agency. "The drop was partly due to the margins on certain notes stepping up. This caused the cost of the liabilities to increase, as well as an increase in the required size of some of the issuers' reserve funds."

"The low supply of mortgages in the markets, combined with low interest rates, has led to low CPR levels. As such, we expect a higher proportion of mortgages in the pool to revert to standard variable rates (SVRs), which could give the transaction greater excess spread. Conversely, if the issuer does not call the notes on their expected maturity dates, the cost of the liabilities will increase throughout the transaction's life, thus reducing excess spread," it adds.

S&P notes, however, that Northern Rock has made changes to its servicing, which the agency believes has brought it more in line with its peers. "We understand that the servicer has switched its focus to keep its borrowers paying money and remaining in their properties; this strategy intends to keep cashflows up and repossessions down," it comments. "In our opinion, this process comes with a possible downside, as it could potentially delay problems until a later date. If the economy dips again there may be borrowers in the trust who are already struggling along with borrowers that had been performing previously and later fell into repossession. We believe that this is a fairly systemic risk across the market."

Ratings

US SF performance to remain weak into mid-2010

Though the US economy is on a slow path to recovery, collateral performance will continue to be weak for all US structured finance sectors next year, according to Fitch. Despite modestly weakening collateral performance, ABS ratings are expected to remain largely stable. Elsewhere, downgrades will likely continue in the RMBS, CMBS and CDO sectors - although at a slower pace.

Unemployment and the health of the US consumer remain important performance drivers for consumer ABS - a trend that will continue into 2010. Fitch md Michael Dean says: "Recent accounting, legislative and regulatory developments will also present new challenges for ABS."

With unemployment set to reach fresh highs by the middle of next year, collateral performance will continue to decline as charge-offs escalate for credit card ABS. But ratings are nonetheless anticipated to continue to be stable for both credit card and auto ABS. Fitch expects unemployment to reach 10.5% by mid-2010, while credit card charge-offs are expected to reach 12% and annualised auto net losses between 2% and 2.25%.

Meanwhile, protracted illiquidity and refinance risk remain Fitch's chief concerns for CMBS in 2010. Commercial real estate will also continue to lag the broader economy, with operating cashflows expected to decline across all property types over the next 18-24 months.

Fitch expects losses to remain elevated for recent vintage CMBS, though ratings should remain stable. The rating agency is reviewing pre-2006 vintage CMBS and expects downgrades for these older vintages into 2010.

However, Fitch md Bob Vrchota notes: "The magnitude of downgrades is expected to be less severe due to seasoning, defeasance and the loans generally not underwritten as aggressively as those at the peak of the market."

Fitch anticipates loan delinquencies to reach 6% by 1Q10 and 12% by the end of 2012. The agency also expects that pre-2006 vintage downgrades are likely for bonds rated lower than triple-A, while a general decline in property performance is projected for all property types.

While temporary government support programmes are providing some relief, it will not be enough to stem rising delinquencies and losses for RMBS in 2010, however. Fitch senior director Grant Bailey says: "Negative equity, high re-default rates on modified loans and additional rises in unemployment may deter any positive momentum for RMBS."

Downgrades for RMBS will continue to outnumber upgrades, though they will not be as severe as in prior years. Another silver lining is the high recovery rates that Fitch is projecting for prime and Alt-A RMBS that have been downgraded to distressed levels.

The agency's various RMBS projections for 2010 are as follows:

• National home prices: down an additional 10%;
• Modification re-defaults: 50% for prime; 65%-75% on Alt-A and subprime;
• Recovery rates for distressed prime RMBS: 95%;
• Recovery rates for distressed Alt-A RMBS: 80%;
• Recovery rates for distressed subprime RMBS: 50%.

Fitch also expects asset performance to continue to deteriorate for all major US CDO sectors in 2010. The agency points out that while recently reviewed CDO notes have retained high investment grade ratings and maintain sufficient cushion, lower rated classes will generally be more susceptible to negative rating actions.

Significant rating stress will continue for both TruPS and mortgage CDOs, while elevated high yield corporate default rates will continue to pressure corporate CDOs and CLOs, which have performed relatively better than any of the other structured credit asset classes. Refinance risk also remains a major focus for CLOs.

Fitch md Kevin Kendra says: "High yield bond issuance and maturity extensions in 2009 have addressed less than 10% of the leveraged loans requiring refinancing by the end of 2014. Traditional bank loan activity will remain challenged as tighter lending standards limit refinancing opportunities to the higher quality borrowers."

Ratings

Ambac IFSR affirmed

S&P has raised its counterparty credit and financial enhancement ratings on Ambac Assurance Corp to double-C from selective default. It has also affirmed its double-C financial strength rating on Ambac and removed it from credit watch, where it was placed with positive implications on 18 November 2009. The outlook on the ratings is developing.

This action follows the monoline's commutation of four ABS CDO exposures from multiple counterparties. The transactions, which have an aggregate of approximately US$5bn of notional outstanding, were settled for cash payments of approximately US$520m. Following the commutations and settlement payment, Ambac's financial position improved modestly, S&P notes.

The analysis of Ambac's financial position includes the agency's expectation that the monoline will receive approximately US$440m in tax refunds as a result of the recently passed Worker, Homeownership and Business Assistance Act of 2009. The rating action also takes into account that, due to the deterioration of Ambac's financial condition, the Wisconsin OCI has increased its monitoring of the monoline, focusing on maximising and preserving the company's claims-paying ability.

The developing outlook reflects S&P's view that Ambac's financial position has improved following the commutation of three ABS CDOs, but that the potential of regulatory intervention remains high. If the monoline experiences additional adverse loss development in its insured portfolio that weakens its surplus position to a point where regulatory intervention occurs, S&P would lower the rating. If there are additional commutations and improvement in the quality of the insured portfolio, the agency could raise the rating to triple-C.

Ratings

Diamond deal targeted in operational risk review

Moody's has placed on review for possible downgrade the A1 rating of the US$100m Series A Senior Secured Notes issued by Four Seas. The rating action has been prompted by the review of operational risks in the transaction within the scope of Moody's recently announced focus on counterparty risk in securitisations (SCI passim).

Four Seas is a non-standard transaction backed by physical inventories located in several countries leading to complex operational risks linked to servicing and back-up servicing, cash management, borrowing base calculations and governance. The rating agency says it will also review the volatility in diamond price indexes observed since the inception of the financial crisis and any impact it may have on the advance rate.

The deal securitises diamond inventories and involves the sale of the physical inventory of rough and polished gem diamonds to the Four Seas SPC. Diarough, the seller of the assets, is one of the leading diamantaires in Antwerp and one of the key sight holders in the Diamond Trading Company. Moody's performed a servicer review at Diarough's site in Antwerp in May 2009 as part of its monitoring process of the transaction.

The agency initially assigned rating on the Series A Senior Secured Notes in March 2007 at closing of the transaction. The Series A notes were privately placed among a limited number of qualified investors at that time.

Ratings

Structured settlement criteria refined

S&P has refined its methodology and assumptions for rating structured settlement payment securitisations, which are transactions backed by streams of periodic payments arising from settlements of legal claims. The revised criteria incorporate new corporate default targets and supplemental stress tests to assess insurance carrier default risk in structured settlement transactions.

The supplemental stress tests are similar to those introduced as part of the recent update of the ratings agency's global methodologies and assumptions for corporate cashflow and synthetic CDOs. S&P will now use the latest version of CDO Evaluator, version 5.0, when analysing these transactions.

In addition, the largest-obligor default test will typically be applied to tranches at all rating levels to assess a given tranche's ability to withstand specified combinations of insurance company defaults, assuming an immediate flat recovery of 50%. The largest-industry default test will typically be applied to tranches at the triple-A, double-A plus, double-A and single-A minus rating levels, assuming an immediate flat recovery of 60%.

S&P will use the results of the two supplemental tests without running cashflows to assess whether the tranche in question is likely to have sufficient credit enhancement to absorb the losses at each rating level. To achieve a given rating, a tranche of a structured settlement transaction must have sufficient credit enhancement to withstand the level of defaults CDO Evaluator generates in relation to the asset portfolio under the associated cashflow stresses and must also pass the two supplemental tests applicable at the given rating level.

Ratings

Greek SF deals on review

Fitch has placed all its structured finance transactions in Greece on rating watch negative (RWN) following the downgrade of the Greek sovereign ratings to triple-B plus with negative outlook. The rating action reflects Fitch's opinion that the adverse macroeconomic developments which underpin the sovereign downgrade will also negatively impact the performance of rated securitisation transactions. While the sovereign ratings downgrade is primarily driven by negative fiscal dynamics, the rating agency expects the general economic outlook to remain uncertain in Greece over the short term, leading to higher unemployment and consumer arrears.

Furthermore, Fitch considers that the degree of sovereign risk indicated by Greece's current ratings is no longer compatible with triple-A ratings in structured finance deals. Critically, the sovereign downgrade signals a higher - albeit still remote - risk of a sovereign default, which would affect securitisation tranches rated above Greece's long-term local currency issuer default rating (IDR) of triple-B plus.

While Fitch believes that the risk in securitisations rated up to six notches above a euro sovereign's rating can usually be addressed by appropriate default and performance stresses, the agency also believes that following the downgrade of Greece regular transaction stresses can no longer minimise this risk in the highest rating category. As a result, Fitch expects that all new and most existing securitisation ratings secured on collateral located in Greece will be capped at the double-A rating category, as long as Greece's sovereign rating remains in the triple-B rating category.

Going forward, the agency will apply a similar capping approach to other euro sovereigns if their long-term local currency IDRs fall into the triple-B rating category. Fitch will be releasing a criteria framework on the linkage between sovereign ratings and structured finance ratings in coming months.

Fitch expects to review all rated transactions and resolve the RWN over the next three months. The agency will decide whether current ratings can be affirmed or need to be downgraded based on the amount of current versus original available credit enhancement, the degree of amortisation of rated tranches and the remaining time to maturity.

Ratings

Legal risks for Spanish leasing ABS analysed

Moody's is assessing the impact that originator insolvency would have on Spanish ABS leasing transactions.

In the Spanish leasing transactions currently rated by the agency, the residual value of the financial lease contracts is not securitised and the originator retains ownership of the leased assets. This means that, upon repossession and sale of leased assets, the sale proceeds are received by or on behalf of the originator. In almost all outstanding transactions, the transaction documents provide that originators are contractually obliged to apply the asset sale proceeds first in making a payment to the Fondo up to the outstanding amount of lease receivables.

Moody's has been advised by Spanish counsel that, in the event an originator becomes insolvent, asset sale proceeds will form part of the insolvency estate and the contractual undertaking will not give rise to a proprietary interest in favour of the Fondo. In light of this, the rating agency now assumes that the undertaking merely gives the Fondo an unsecured claim against the insolvency estate and that such claim ranks alongside the claims of other unsecured creditors of the originator.

Furthermore, Moody's now understands that if the originator sells its title to the leased assets to a third party the contractual obligation may no longer be relevant and, depending on the individual contractual documents, the Fondo may have no claim in relation to future asset disposals. The agency says it will assess the impact of these legal risks on the ratings for Spanish ABS leasing transactions by applying a stressed recovery rate upon originator default.

The impact for each transaction will depend on the rating of the originator. Moody's expects that for some transactions the legal risks will not, of themselves, have a negative rating impact; for others, they may result in a migration of one or two notches.

Ratings

Euro consumer ABS, RMBS ratings remain stable

The credit performance of European securitisations involving consumer loans and residential mortgages has been comparatively robust, despite negative sentiment, according to S&P.

S&P credit analyst Andrew South says: "The vast majority of ratings in these transactions have remained stable - or have even been raised - during the course of the recent recession and credit market disruption. In fact, between mid-2007 and the third quarter of this year more than 98% of our triple-A ratings outstanding on European RMBS and consumer ABS remained triple-A."

In light of the severity of the current recession, South explains that S&P's rating analysis typically tests whether structured finance securities can survive recessions that are even more severe than this one without defaulting. He points out: "Therefore, for many highly-rated securities that benefit from significant credit support, we believe the current economic environment has not significantly heightened the risk of default, and their ratings have consequently been unaffected."

When considering all ratings in the European consumer ABS and RMBS sectors, 88% remained the same or were raised. Only 17 - or 0.58% - of the 2,932 ratings outstanding in mid-2007 defaulted over the period. In terms of issuance amounts, the default rate is only 0.04%.

Ratings

Euro credit card index improves, charge-offs worsen

The overall performance of S&P's European credit card index improved slightly in Q3, following deterioration in H1 and for most of 2008. However, charge-offs have continued to worsen.

The rating agency has found that overall performance has started to improve in Q309, with payment rates and yields increasing and delinquencies decreasing. However, there has been a continued increase in charge-offs.

The decrease in the delinquency index may be due to concerted efforts by originators to improve collection procedures and reduce credit limits. Nevertheless, S&P notes that this decline may be short-lived and that delinquencies will start to increase again in the coming months as the economic environment places further strain on cardholder finances.

The key highlights in the latest credit card index report are:

• S&P's charge-off index increased in September 2009, to 9.76% from 9.23% in June 2009. Excess spread dropped to 6.21% in August 2009, but increased to 8.19% in September 2009.
• S&P's delinquency index, having reached a high of 7.50% in May 2009, has fallen for four consecutive months and was at 6.88% in September 2009. The average excess-spread levels in six series are currently below the respective trigger level and those transactions are thus trapping cash in their relevant excess spread accounts.
• FCT Oneycord, which is a standalone French transaction, is the only new public issuances in Q309. The rating agency expects charge-offs to continue to increase throughout 2009 and in to 2010 due to rising unemployment and decreasing affordability, which could lead to negative rating actions.

S&P surveillance credit analyst Laura Dray notes: "In Q309, we saw no rating actions in this sector. However, we expect rising unemployment to negatively influence charge-off levels over the next year. As a result, we may see further credit watch placements and downgrades."

Ratings

Performance cushion remains for Italian deals

The ongoing problems affecting Italy's economy could pose some challenges to Italian structured finance ratings in 2010, according to Fitch. The agency, nonetheless, believes that the ratings of the majority of Italian structured finance transactions still have room to absorb some further performance shocks in their pools.

The ratings of Italian structured finance bonds have been substantially stable overall since the onset of the global recession, with downgrades affecting the most junior classes of a limited number of transactions due to the performance of underlying pools and their financial structure. Fitch notes that the good performance of Italian securitised pools so far can be ascribed to low household indebtedness and less aggressive lending standards compared to other developed economies, as well as less pronounced price-bubble effects on the real estate market. These factors, combined with bond mechanisms that trap cash to cover for defaulted loans regardless of whether a loss has arisen, explain why the ratings for Italian structured finance transactions have remained largely stable so far.

During 2010 Fitch expects that securitised pools will experience some further performance pressure on the back of the global recession, which is progressively limiting the positive influence of the above factors. As the economic crisis is affecting all segments of the economy, from households to small- and medium-sized enterprises, pressure on pool performance will not affect any specific structured finance asset class, but is more likely to have a more generalised effect.

The agency forecasts that Italian GDP will contract by 5% in 2009, although it notes that Q309 GDP data released in November was better than expected. Given the structural features of the Italian economy, Fitch expects economic recovery to be slower and less pronounced than in the other main economies in Europe.
Unemployment is expected to increase to around 8.5% in 2009 and stay in the 9.5% area in 2010 and 2011. This is expected to be particularly pronounced for temporary, foreign and young workers.

The extent of the potential deterioration in pool performance depends on when and how world commerce restarts and whether Italian companies will be able to compete on a global level. With respect to the securitisation of retail products, another important element is the impact of the recession on unemployment and how quickly the expected economic recovery will reverse the current increasing unemployment trend.

Regulation

IRC to threaten structured credit holdings

A new survey has revealed a wide variation in European banks' preparedness for the implementation of the incremental risk charge (IRC). Sponsored by SunGard and conducted by risk management consultancy InteDelta, the survey indicates that the IRC is likely to prompt a significant change in the behaviour of European banks.

Under new IRC guidelines, banks are required to hold capital to a one-year time horizon to a confidence level of 99.9% - which is considerably above the 10-day 99% Value at Risk (VaR) used for day-to-day market risk management purposes.

The survey, which questioned executives directly responsible for IRC modelling at a number of major European banks, found that 64% expected the guidelines to have a significant impact - with IRC being a major disincentive to holding risky credit assets on the trading book. Many highlighted certain products whose profitability and even viability may be threatened by the implementation of IRC, including structured credit, corporate CDOs and correlation trading.

Only 10% of those surveyed are in the implementation phase for IRC, with 40% still only at planning stage. While 40% of those surveyed said that they were developing new models to prepare for the IRC guidelines, all the respondents noted that they were incorporating regulatory principles into these models rather than choosing to adopt their own.

Michael Bryant, md at InteDelta, comments: "This research echoes wider feedback that had been highlighted by the industry to the BIS over its IRC consultation period. While all questioned were supportive of the need for an IRC framework, the executives we interviewed raised many specific concerns regarding the rules. Banks are also struggling with aspects of the implementation, such as modelling liquidity and obtaining reliable data."

Regulation

EACT warns on EC's financial stability proposals

The European Association of Corporate Treasurers (EACT) has reiterated its concerns about the implications of the European Commission's focus on strengthening financial stability. Although the Association says it welcomes any initiatives that can lead to greater market efficiency, it has certain serious concerns about the EC's consultation document.

"If there is perceived to be an excessive risk between financial counterparties that poses a risk to financial stability, any new measures would be best directed at those financial counterparties," EACT argues. "We have not seen any suggestion that financial stability is threatened by credit risk on non-financial companies."

The Association believes that non-financial companies using derivatives for hedging are not systemically significant and, therefore, there should be no need to subject OTC deals initiated by the non-regulated corporate sector to any new processes and regulation. "Removing from non-financial sector companies the flexibility of OTC dealing would potentially give rise to more commercial risks being left unhedged and to companies requiring more credit and capital; this will restrict their operations and have negative consequences for EU employment, taxation revenues, etc," it adds.

Finally, EACT warns that the implementation of the key proposals in the EC's consultation is likely to lead to further strengthening of the financial markets outside the EU and the US, with international companies within the EU continuing to access OTC derivatives by dealing in markets where current risk management can be continued without margin calls and standardisation of trades.

RMBS

Two new SF indices in the works

Markit and the structured finance operating committee have agreed to develop two new US mortgage-focused structured finance indices for launch in the first quarter of 2010. One is a synthetic index referencing US prime RMBS - tentatively called ABX.PRIME - and the other is a total return index, tentatively called IOX. This will reference pools of Fannie Mae mortgages.

Markit says that overall market feedback on the new indices has been positive.

RMBS

AOFM tweaks RMBS investment programme

The Australian Office of Financial Management (AOFM) has announced details regarding its extended RMBS investment programme. The AOFM has decided to adjust its approach to investment in RMBS to take account of changing market conditions and feedback from consultations with the industry.

First, it will adopt a reverse enquiry approach for considering investment proposals. This will provide more flexibility to arrangers and issuers in the development of proposals and the timing of issues, it says. Proposals considered under this approach will be assessed against the two objectives of supporting competition in lending for housing and supporting lending to small business.

Second, a provision will also be made for investments in a series of separate RMBS issues by an individual issuer. This 'pipeline funding' approach will be available to lenders that have been largely or wholly reliant on securitisation markets to fund mortgage lending. It will provide them with greater funding certainty and so a greater capacity to compete in mortgage lending.

The AOFM intends to conduct a separate request for proposals for pipeline funding in the near future.

The AOFM will review its approach from time to time in light of experience with the programme and changing market conditions. In particular, it expects that the level and share of investment it undertakes in individual RMBS issues may be lower than in the past as support from other investors increases.

RMBS

Arena prices tighter than guidance

Delta Lloyd's Arena 2009-1 has priced tighter than guidance (see last week's issue for more), with the triple-A notes reportedly syndicated among 65 investors. The €189m triple-A rated two-year Class A-1 notes came at 110bp over one-month Euribor (compared with price talk at 120 area), while the €644m triple-A 4.9-year Class A-2s came at 140bp over (150 area).

RMBS

US subprime ...

Overall performance continued to deteriorate for US subprime RMBS transactions originally rated in 2004 through 2007, as of the October 2009 distribution date, according to an S&P report.

The US subprime RMBS performance update report lists delinquencies both as a percentage of the current pool balance - which is the more traditional method - and as a percent of the original pool balance. The rating agency believes that reporting delinquencies as a percent of the original pool balance can give a more complete picture of how delinquencies are changing and therefore how the pool is performing. With this method, the pool balance remains constant and thus the percentage of delinquencies is not distorted by a constantly declining pool balance.

As of the October 2009 distribution date, total delinquencies were 30.42%, 45.66%, 54.52% and 52.70% of the current aggregate pool balances for the 2004, 2005, 2006 and 2007 vintages respectively. When compared with the September 2009 distribution date, delinquencies increased by approximately 4.28% for the 2004 vintage, 2.15% for 2005, 1.84% for 2006 and 2.47% for 2007.

As a percent of the original pool balance, total delinquencies were 3.89%, 10.76%, 23.52% and 34.76% in October for the 2004, 2005, 2006 and 2007 vintages respectively. These figures increased by approximately 2.30% for the 2004 vintage, 0.61% for 2005 and 0.82% for 2007. However, for the 2006 vintage, delinquencies as a percent of the original pool balance actually decreased 0.02%.

As of the most recent reporting period, serious delinquencies including 90-plus days, foreclosures and real estate owned (REO) for the 2004, 2005, 2006 and 2007 vintages were approximately 19.74%, 33.63%, 43.53% and 41.91% of the current aggregate pool balances respectively. Compared with the prior distribution date, serious delinquencies increased by 3.12% for 2004, 2.08% for 2005, 1.91% for 2006 and 2.91% for 2007.

As a percentage of the original pool balances, serious delinquencies for the 2004, 2005, 2006 and 2007 vintages were approximately 2.52%, 7.92%, 18.78% and 27.65% respectively. Compared with the prior distribution date, serious delinquencies increased by 1.17% for 2004, 0.53% for 2005, 0.01% for 2006 and 1.25% for 2007.

Cumulative losses continued to increase for all four vintages. As of the October 2009 distribution date, cumulative losses totalled 2.89%, 7.18%, 14.17% and 11.56% of the original aggregate pool balances for the 2004, 2005, 2006 and 2007 vintages respectively. Compared with the previous distribution date, losses were up approximately 1.76% for 2004, 2.87% for 2005, 4.11% for 2006 and 6.15% for 2007.

RMBS

... and prime RMBS performance deteriorates

Overall performance of US prime jumbo RMBS transactions issued in 2004-2007 continued to deteriorate, as of the October 2009 distribution date, according to S&P.

Total delinquencies increased for each of the 2004-2007 vintages when compared with September levels. As of the October 2009 distribution date, total delinquencies were 7.80%, 10.20%, 14.67% and 14.24% of the current aggregate pool balances for the 2004, 2005, 2006 and 2007 vintages respectively.

These figures have increased approximately 5.12% for the 2004 vintage, 5.05% for 2005, 4.41% for 2006 and 5.40% for 2007 since the September 2009 distribution date. Total delinquencies continued to increase as a percent of the original balances as well, indicating that performance for these transactions continues to worsen over time.

Serious delinquencies for 90-plus days, foreclosures and real estate owned
(REO) were also up for each of these vintages in October. Serious delinquencies for the 2004, 2005, 2006 and 2007 vintages were approximately 5.26%, 7.25%, 10.59% and 10.36% of the current aggregate pool balances respectively. Since the September 2009 distribution date, serious delinquencies increased by 5.20% for the 2004 vintage, 5.22% for 2005, 4.75% for 2006 and 6.04% for 2007.

Cumulative realised losses also continue to rise, according to S&P. As of the October 2009 distribution date, losses for the 2004, 2005, 2006 and 2007 vintages were approximately 0.78%, 1.07%, 1.37% and 1.05% of the original pool balances respectively. Since the September 2009 distribution date, cumulative losses increased by 8.33% for the 2004 vintage, 12.63% for 2005, 10.48% for 2006 and 16.67% for 2007.

RMBS

First-lien mortgage severities set to increase in 1H10

The past four months have seen a steady decline in first-lien US mortgage severities. However, ABS analysts at Barclays Capital forecast that severity levels will increase over the first half of 2010 before levelling off again in the second half of the year.

2006-vintage first-lien subprime three-month average severities fell from 71% in June to 67% in October. The option ARM and jumbo prime sectors have seen similar declines in severities, down by 4%-5% since July. Among non-agency RMBS sectors, non-negative amortisation alt-A has been the only outlier for which severities have remained stable or risen slightly, note the BarCap analysts.

The drop in severities has come alongside an uptick in home price numbers. While home price appreciation has undoubtedly reduced severities, the headline HPA numbers are unable to account for the entire 4%-5% point drop in magnitude. Indeed, important compositional shifts have also contributed to the improvement.

"Our overall conclusion is that mark-to-market LTV shifts and the rising share of short sales in recent liquidations can explain most of the severity declines," the analysts explain. But severity levels are set to increase over the first half of 2010 because of worsening HPA, rising short sale severities and greater advancing costs on liquidations.

RMBS

Fortis decides to call RMBS

Following ABN AMRO's decision to call EMS III, Fortis Bank Nederland announced that it will repurchase the mortgages underlying the Delphinus 2003-I and 2004-II deals. It will also call the Class A1, A2, B and C of notes of Delphinus 2003-I on 25 January 2010 and the Class A, B, C and D notes of Delphinus 2004-II on 25 February 2010.

Additionally, the bank will call the Beluga 2006-I Class A1 notes on 28 January 2010 optional redemption date.

RMBS

Dutch RMBS prepayment rates decrease

The weighted-average Dutch RMBS prepayment index decreased to 4.57% in Q3 from 4.73% in Q209 and is 4.22 percentage points lower than in Q308, according to S&P.

Similar to Q2, prepayments continued to trend downward in Q3. S&P believes that this is due to borrowers still being potentially nervous of refinancing and buying houses during the current period of economic uncertainty, and because mortgage loan rates in the Netherlands are relatively high, compared with European Central Bank rates.

Compared with other European jurisdictions, delinquencies in the Dutch market remain low. In general, Spain, Italy, the UK, Portugal and Germany have seen significant increases in delinquencies over the last year or two.

In addition, in October, the Dutch Central Bank declared emergency regulation applicable to DSB and brought in administrators. Currently, the ratings on DSB-originated deals remain unaffected (SCI passim).

RMBS

Prepays drive disparity in subprime RMBS index

Prices among recent vintage US subprime RMBS continue to fall, with 2005 showing the most substantial drop-off in performance, according to Fitch.

Fitch's subprime RMBS price index fell by just under 10% month-on-month to 7.25 as of 1 December (down from 8.02 from 1 November). While 2004 and 2007 vintages showed marginal improvements with the 2006 vintage falling month on month, the largest driver of the fall was the 11.4% fall in the 2005 index.

Recent loan-level analysis conducted by Fitch of the indices' constituents found that one of the main drivers behind this fall was the increase in the six-month constant prepayment rate (CPR). Over the last three months, CPR rose to 4.3% from 3.5%.

Thomas Aubrey, Fitch md, says: "Higher quality loans of the 2005 vintages are able to refinance given the current low interest rates. As the better quality loans exit the pool, the index falls in value, leaving the remaining pool with on average loans of lower credit quality."

The six-month CPR for the 2004 and 2006-2007 vintages, in contrast, remained either stable or falling due to lower quality loan-to-value ratios remaining in the pool, precluding any significant increase in refinancing.

RMBS

Asian RMBS markets stable

Performance of the mortgage loans in the outstanding RMBS originated from Korea, Hong Kong and Taiwan was steady during Q309, according to Moody's. Moreover, the rating agency points out that - given the current situation - there is no downward pressure evident on ratings.

For Korea, as of September 2009, the gross default ratio was less than 0.7% of the outstanding pool balance for all transactions. Marie Lam, a Moody's vp/senior credit officer, says: "This was a big improvement for some deals that had deteriorated since mid-2008. The decrease in delinquency and default ratios came at a time when the macro-economic outlook in Korea was showing signs of recovery. There is currently no pressure on the ratings of the outstanding transactions."

Meanwhile, in Hong Kong the performance of mortgage loans in RMBS transactions was not significantly affected by the financial crisis as they are well seasoned and have accumulated sufficient equity. Delinquency ratios, which reflect 30-119 days past due and as a percentage of the outstanding pool balance, were less than 0.2% for all transactions.

In its report for the sector, Moody's also analysed the characteristics of the defaulted loans in Hsinchu International Mortgage Loan 1 and 2 Limited, the two cross-border RMBS transactions from Taiwan. Lam adds: "When comparing the defaulted loans with the original pools in the two transactions, the defaulted loans showed higher loan-to-value ratios, higher collateral values, more properties with commercial use, more loans with delinquent histories and more loans with interest-only periods."

Currently, these two Taiwan RMBS transactions have over 50% subordination as a result of their sequential payment structures. Such subordination provides sufficient protection against default ratios of 2% and 6.6% in the two transactions and Moody's sees no rating implications for them.

SIVs

SIV-lite extends counterparty credit enhancement

Triaxx Funding High Grade I and Bank of America (as successor by merger to LaSalle Bank National Association) have entered into a supplemental indenture to extend the maturity date of the designated senior counterparty credit enhancement notes for three months - from 3 December to 3 March 2010. Moody's has determined that the indenture and performance of the activities contemplated therein will not cause its ratings to be reduced or withdrawn.

The rating agency monitors this transaction using a liquidation sensitivity analysis based on the current market value of the portfolio. Due to the fact that the issuer's portfolio consists of ABS, it also monitors the deal as if it were a cashflow ABS CDO.

Technology

List launches FMR grid

Electronic trading provider List Group has launched its stand-alone grid computing platform, FMR Grid. The platform aims to enable financial institutions to conduct complex risk analysis simultaneously across asset classes, significantly improving risk management performance and effectiveness, the firm says.

The readymade, grid-based software tool provides portfolio managers, asset management firms and market-makers with the ability to price, stress test and evaluate the risks of large and complex portfolios in real-time. Asset class coverage includes FX, fixed income, equity derivatives, interest rate derivatives and credit derivatives for both OTC and exchange-traded markets.

Technology

Enhanced trading applications launched

Numerix has launched a suite of workbook applications comprising its recently enhanced Credit Trader application, alongside its FX Trader and Rates Trader applications.

Numerix Credit Trader provides consistent deal and portfolio-level analytics based on the Numerix CrossAsset XL comprehensive library of market-standard models and enables dynamic analysis for credit correlation trading, with fast 'on-the-fly' creation of bespoke baskets. The work book also offers robust trade analysis for all synthetic credit instruments, including standard and bespoke CDOs, CDS and CDS indices, LCDS and LCDS indices and options on CDS.

Through an enhanced GUI interface within Microsoft Excel, the suite of workbook applications provides users with a set of pre-designed customised workbooks that are divided into three core categories: market monitors for tracking, monitoring and analysing a book of trades; trade blotters for portfolio analysis; and risk monitors for conducting pre-trade analysis. Each workbook simplifies and accelerates the workflow associated with accurately valuing complex and single name derivative strategies. Users can now easily define bespoke baskets of credit and FX derivatives on the fly and then combine them with standard baskets and hedges in the trade blotter to analyse the impact of a potential trade within an aggregated risk framework.

Steven O'Hanlon, president and coo of Numerix, says: "The Numerix trader workbook applications are our latest strategic offering that brings the power and flexibility of the Numerix CrossAsset platform to the front office and specifically targets traders and risk managers. With the full suite of Numerix trader applications at their disposal, credit, FX and interest rate traders and other professionals now have a specific set of asset class-based tools that are ideal for evaluating and monitoring all types of complex trading strategies and risk exposure."

Technology

Service extended to include intraday valuations

Interactive Data Corporation will now deliver intraday fixed income valuations in all the major currencies to its international clients using analytics from Andrew Kalotay Associates.

The firm's extended valuation capabilities include: hourly valuations for fixed rate securities from 07:00 GMT to 15:00 GMT in British pounds, euros, Swiss francs, Danish krone and Swedish krona. In addition, hourly valuations are available in euros for floating rate securities. Hourly valuations from 07:00 GMT to 18:00 GMT are also available in US dollars for fixed rate corporate, sovereign, treasury, municipal and agency bonds, fixed rate MBS and floating rate notes.

For European and Asian domiciled funds that invest in global fixed income securities, current market quotations may not be readily available for certain securities at the time of a fund's valuation point. For example, a popular valuation point for UK domiciled funds is 12:00 GMT (07:00 ET), at which point the US fixed income markets are not open.

UK-domiciled funds that invest in US fixed income securities may want to consider these intraday fixed income valuations as part of their fair value procedures, IDC notes. Similarly, the service may be of interest to funds in Asia that value their portfolios at local market close (09:00 GMT).

Roger Sargeant, md of Interactive Data, says: "We are excited to build on our capabilities in valuations, including in intraday indicative pricing, by offering an expanded intraday fixed income valuation service. Using Kalotay's fast, easy-to-implement calculation engines, we were able to respond in a timely fashion to client demand in this important area. Our new offerings enable clients to more closely monitor changes in portfolio values throughout the day, at points that fit in with their workflow, including during times when the local markets for certain securities are not open."

Trading

Trading ideas: time to shop

Byron Douglass, senior research analyst at Credit Derivatives Research, looks at a pairs trade on Wal-Mart Stores Inc and Target Corp

Constant chatter about Black Friday and last week's weak retail sales numbers makes it near impossible to ignore the retailing sector. With it at the top of our minds, we recommend a pairs trade whose fundamental and technical attributes are both strong.

A long Wal-Mart, short Target trade puts investors into a significantly stronger company at a time when the spread differential between the two is near its relative lows. The negative carry is less than half that of pre-Lehman levels and is offset by the potential for positive outcomes in bullish and bearish scenarios.

Today's trade starts by focusing on the absolute levels of the companies' fundamental ratios relative to their spread levels. Wal-Mart positioning is clearly stronger than Target's by several important measures.

After adjusting for operating leases, Wal-Mart's debt to EBITDAR is only 1.8x, while Target's is more than a full notch higher at 3x. The weight of the extra debt to earnings is also evident when viewed from their coverage levels. As Exhibit 1 shows, Wal-Mart's adjusted interest coverage level stabilised just below 10x over the past several quarters; however, the credit crisis hit Target's earnings a bit harder, reducing its coverage level to just above 6x from 10x.

The 13bp differential of the two credit spreads does not fully compensate investors for holding the extra default risk of Target. From our quantitative credit model, due to Wal-Mart's stronger leverage, coverage level, equity-implied and free cashflow factors, its expected spread level is 50bp while Target's is 100bp - putting the differential at 50bp.

Economic malaise caused companies to both cut costs severely and reduce capex in order to protect the bottom line and conserve cash. Target took this to heart and reduced capex down to just 2% of its total debt in the third quarter of 2009 (Exhibit 2). Wal-Mart, on the other hand, only cut back its capex from 10% to a 7% of total debt.

We are encouraged by this for the following reason: Wal-Mart is aggressively pursuing growth during an uncertain time while maintaining the ability to reduce expenditure further if the environment continues deteriorating. We prefer this to Target's cut to the bone mentality.

Though fundamentals do matter, ignoring the technicals of a trade can quickly result in disaster. The relative spread moves of Target and Wal-Mart are the impetus for the trade.

Based on recent history, the trade will perform well in both bullish and bearish scenarios. The average spread differential of the pair in the months leading up to the Lehman bankruptcy was 37bp. If the economy continues recovering and spreads tighten further, this is a likely result at which we will exit the trade.

However, if cracks began to reappear, Target's spread will quickly underperform its peer as it did in late 2008. The differential shot above 150bp at the height of the recent crisis (Exhibit 3).

Over the past three months, Wal-Mart's spread widened by 9bp, while Target's tightened by 21bp. Now is a great time to take advantage of the moves and put on the trade. If the differential tightens further without significant changes in fundamentals, we will recommend adding to the position.

Position
Sell US$10m notional Wal-Mart Stores Inc 5 Year CDS at 59bp.

Buy US$10m notional Target Corp 5 Year CDS at 72bp.

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).