Contents

CMBS

Multi-property reprieve

REMIC grandfathering to assist servicers

CMBS servicers and borrowers with distressed multi-property loans received a reprieve from confusing IRS regulations last month. Almost a year after the IRS initially made changes to REMIC rules, it issued Revenue Procedure 2010-30 to clear up loose ends.

When the changes that were published last September came out, they were perceived as a "big game changer for the industry", according to Matthew Clark, associate at Dechert. They represented a pretty significant loosening of the rules regarding modifications of mortgage loans that are held in REMICs, he says.

However, the changes also left open the possibility of CMBS pools potentially losing their tax-friendly REMIC status. Until 17 August, when the IRS published its new revenue procedure, services and lenders were unsure about the effect the new "principally secured by real estate test" would have on distressed properties.

"The industry was concerned the definition of what it means to be principally secured by an interest in real property was not really broad enough and there was concern this could trip people up," says Willys Schneider, partner with Kaye Scholer.

Specifically, she notes in the course of a restructuring, if there were a situation with a lien release, one would have an issue. This was the case unless one could say the obligation was still principally secured by an interest in real property after the release as defined in the regulations.

The concept behind the revenue procedure was to permit one to not have to be principally secured as defined in the regulations, as long as there is evidence the lender acted reasonably, Schneider adds. The IRS clarified in the revenue procedure that it will provide loan modification relief for CMBS loans under two conditions - modifications executed on or before 6 December 2010 (grandfathered modification) or qualified pay-down transactions, which typically are a release of a lien in exchange for a principal pay-down.

Importantly, the latest revenue procedure solved the conundrum where real estate collateral value had to be worth at least 80% of the outstanding balance on a lien release when potentially the real estate value may no longer be worth 80% of the outstanding balance on the loan. Now participants can get the release and not have to meet the 80% criteria if it is a grandfathered transaction.

"The 80% test was never intended to be an underwriting test. Congress didn't care about bad loans versus good loans; they only cared about real estate loans," adds Clark.

Grandfathering, however, also makes CMBS less competitive with on-book lending, notes another tax attorney. "On a competitive basis, it's an issue," he says.

Still, most of the REMIC changes are welcome news to servicers. "The new REMIC rules certainly give servicers a much wider berth in some ways; in other ways, the old PSAs (pooling and servicing agreements) did not always afford servicers the ability to use these new tools that they have under the REMIC rules," says Clark.

The revenue procedure also addressed outparcels or outerlying real estate attached to a property. "In some cases there were outparcels that were never even valued; that was a problem," adds the tax attorney.

But it still leaves other areas open to debate. For situations that fall within the revenue procedure, this is welcome clarification, but it does not answer all of the issues, according to Schneider. "The sense is the Revenue Procedure 2010-30 didn't go as far as people had hoped it might have gone because it doesn't take account of all the situations people are concerned about," she adds.

For one, the IRS did not permit non-compliance with the rule if a new property was substituted, which at least maintains the loan to value ratio at what it was immediately before the modification unless there's a reduction, Schneider continues. "They didn't follow the approach that was suggested in some of the comment letters certainly."

Another remaining question for servicers is whether or not something qualifies as a pay-down transaction, even if it does not actually pay-down, says the tax attorney, who notes proceeds are sometimes not given to the borrower and instead put into a reserve. "The revenue procedure didn't say you couldn't, but it would not appear to satisfy the requirements of a qualified pay-down. It's a problem. That is a common disposition of those funds that don't appear to be permissible," he concludes.

KFH

RMBS

Repurchase requests

Troubled loan buy-backs on the rise

A raft of troubled mortgages is being returned to their originators, as Fannie Mae and Freddie Mac exercise their put-back options. The GSEs are believed to be returning to the four largest US banks alone around US$10.7bn of loans, which they deem to have breached their representations and warranties.

The FHFA has issued 64 subpoenas to mortgage originators to ascertain whether private-label MBS that Fannie and Freddie invested in breached reps and warranties (see SCI issue 193). Although the recipients of the subpoenas have not been disclosed, investors are watching closely to see what the reaction will be.

Also watching is rating agency Fitch, which says it is looking into whether the increase in volume being put-back is because investors have expanded their interpretation of what makes a loan eligible for repurchase. However, Rich Barrent, president and coo of The Barrent Group, believes the high level of put-backs has a simpler explanation than that.

He says: "I wouldn't say investors are finding more reasons to put loans back; rather, third-party review firms like The Barrent Group are reviewing more loan files and, as a result, the discovery of breaches is very high. As loans become delinquent or go into default, there are more questions being asked about the quality of the loan at the time of origination. Material breaches of the contractual representations and warranties are being identified more often and across multiple RMBS."

Barrent says his firm typically reviews non-agency RMBS to check whether a loan was originated under the disclosed underwriting guidelines or has material defects, such as fraud - in which case, it is eligible for repurchase. He believes the current wave of troubled loans is because lenders had insufficient checks against fraud and did not do enough to stop loans from closing that did not meet their underwriting guidelines.

He comments: "If lenders had properly verified the information in the loan file, then several of these loans would never have been closed. But because there was a lack of adequate controls and lenders pushed for market share, things went through the lender's underwriting process unchecked, which should have been verified and validated."

The GSEs had US$354.5bn of troubled mortgages on their books, as of 30 June. Around 50% of this portfolio is serviced by the four largest US banks: Bank of America, Citigroup, JPMorgan and Wells Fargo. While they would undoubtedly be affected by put-backs, their size may offer relative protection compared to the smaller originators facing returned loans, many of which have gone bankrupt already.

Fitch estimates that, in an adverse scenario, as much as US$180bn of troubled GSE mortgages could be eligible for repurchase by the big four banks alone. A more moderate scenario - which the agency believes is more likely - of 35% of loans being put-back could see the banks losing about US$27bn.

"Banks are gearing up to defend themselves against repurchase demands. They are identifying which loans had breaches of the representations and warranties and which did not. Obviously it hurts the banks to buy back defaulted loans, but the impact depends on how much their balance sheets withstand. In many cases, we are talking hundreds of thousands of loans, so it could significantly hurt them financially," says Barrent.

How much the banks end up being hurt by will depend on several factors. The quality of the originator's underwriting, the documentation standards and foreclosure rates will determine how many loans are put-back, while cure rates and home prices will affect how much of a loss the banks make repurchasing the mortgages. The four largest banks are understood to have around US$8.3bn in representation and warranty reserves.

"I think the worst is still in front of us. More repurchases will occur as default rates continue to rise and there is a heightened awareness and interest in finding out what happened. Investors have had their eyes opened to the high incidence of fraud and misrepresentation found in the loan files," continues Barrent. "This mess needs to be cleaned up and it could take as long as two or three years."

It could take longer than three years if lawyers are required to resolve the issues, however. If parties are unwilling to buy back loans, legal action could be required, which could add years on to the process.

The long process of sorting out the current crop of troubled loans must be completed before there can be reform of how MBS works, believes Barrent. He says: "Looking forward, there will be standardised representations and warranties to make sure sellers are accountable for the loan quality and they have 'skin in the game'."

He concludes: "Until the loans with breaches are cleaned up, the securitisation reforms will not come into play. Our investor sources indicate they will not purchase new issuances of RMBS until the prior securities are cleaned up."

JL

CLOs

NYLIM CLO takeover bid thwarted

A hostile takeover attempt for two CLOs managed by New York Life was thwarted recently due to voting rights and a strong campaign from the CLO manager, according to a source familiar with the talks.

The takeover process began several months ago when Vanquish Capital Group (VCG) accumulated most of the equity in the deals. There was a nuance in the documents that permitted the transfer, says the source.

The hedge fund was effectively pushing for a side agreement in which the potential new manager of the transactions, believed to be CIFC (SCI passim), would share the subordinated fee with the hedge fund in its capacity as the equity holder. The CLOs in question - NYLIM Flatiron CLO 2003-1 and 2004-1 - are sized at US$350m. The first offering has US$36m of equity and the second has US$28m of equity.

New York Life will remain the manager of the CLOs after the debt holders voted against the proposal. Requests for contact were sent out by New York Life at the end of June.

The brisk secondary market for trading CLOs has been cited as half of the reason for the takeover attempt in the first place. VCG is believed to have bought most of the equity in the secondary market, likely at reduced prices.

But due to all of the trading that is occurring in the secondary market lately, it has become difficult to determine exactly who the investors are in the securities for voting purposes. The hedge fund could theoretically make another attempt to replace the CLO manager, the source says.

Typically the CLO manager or owner initiates changes due to consolidation or losses, but the attempt to alter the management structure on a performing CLO just to appease the equity holders is rare, he adds.

KFH

Insurance-linked securities

Investable ILS tracker fund planned

Partners Group Holding affiliate Alternative Beta Partners is filling the gap between tracking liquid ILS and actually investing in an ILS fund. The Swiss asset manager is planning on launching a cat bond tracker fund alongside its newly launched ILS index.

"We are able to start up a fund pretty quickly. We are waiting basically to see how interest comes together," says Samuel Scherling, md and head of ILS at Alternative Beta Partners.

The firm's AltBeta ILS index is comprised of 70 catastrophe bonds that meet its quantitative and qualitative criteria. The index differs from other indices since it eliminates bonds that have an indemnity trigger. The number of bonds in the index would contract if the overall market contracts, Scherling adds.

AltBeta's index and the pending investable cat bond tracker will have a US wind limit of 37.5%. "The universe of cat bonds is very undiversified because of the dominance of US wind, which is the most demanded peril in the cat bond space," says Scherling.

"Generally as an investment strategy we built the position of losing 75% of your capital in one go is not very appealing, even if you earn very decent returns. So it's clearly basically a compromise between US wind allocation and return. That is something we have reflected in this index or benchmark," he adds.

AltBeta's index also incorporates rebalancing costs along with management fees, which other indices do not include. "We wanted to do this for an actual investable strategy. You need to incorporate this since it is an actual cost of the rebalancing," Scherling continues.

The firm sees the index as largely supplementary to other existing ILS indices, but it wanted to provide a benchmark for investable strategies. "If you are a passive investor, you always look for a benchmark to execute your passive strategy," Scherling explains.

The AltBeta index and tracker concept came out of an offshoot of the company's research, which was in development for 18 months.

KFH

RMBS

PECO structures reviewed on Eurosail judgment

Moody's notes that the judgment of the UK High Court in BNP Corporate Trustee Services Ltd v Eurosail UK 2007-3BL case may have rating implications for certain UK-based structured finance transactions.

The Court found that Eurosail is presently balance sheet solvent for the purposes of Section 123(2) of the Insolvency Act 1986 (see SCI issue 196). However, it also declared that post enforcement call options (PECOs) do not achieve the same result as limited recourse and have no effect in preventing issuers from becoming balance sheet insolvent.

Moody's says it now assumes that, in the absence of traditional limited recourse, a UK-incorporated issuer will become balance sheet insolvent if the value of its assets falls below the amount of its liabilities, regardless of whether a PECO forms part of the transaction. It considers that the probability of a balance sheet insolvency occurring before the final maturity date is linked to the probability that the lowest ranking debt instrument will suffer a loss by reason of asset impairment.

Many UK-based structured finance transactions utilise, for tax reasons, PECOs instead of the traditional limited recourse provisions commonly used in other jurisdictions. For each of these transactions, Moody's will examine the legal documents to determine whether the occurrence of a balance sheet insolvency may trigger a wwitch to post-enforcement priority of payments, a fire sale of assets or a termination of contracts. The asset classes most likely to be affected are RMBS, CMBS and ABS.

The agency says it will assess the rating impact of the Eurosail judgment on a case-by-case basis, taking into account the probability that the issuer will become balance sheet insolvent before final maturity and the potential consequences for each class (or sub-class) of notes. Since, in general, an enforcement notice will be served only if it benefits the senior class of noteholders, Moody's expects that for most transactions the Eurosail judgment will not affect the ratings of senior notes but could potentially affect the ratings of junior and mezzanine notes.

Moody's will also consider the impact of the Eurosail judgment when rating new UK-based transactions, unless the notes are subject to limited recourse or the occurrence of a balance sheet insolvency is not an event of default in any of the transaction documents.

On 20 August, holders of one class of senior notes filed an appeal against the Court's declaration that Eurosail is presently solvent. Although this appeal does not relate to the Court's judgment on the effect of PECOs, it may provide further clarity on how to apply the balance sheet insolvency test, according to Moody's.

CS

ABS

FI vets launch NY broker-dealer

Further details have emerged about the launch of the new fixed income broker-dealer KGS-Alpha Capital Markets (see last issue). Arsenal Capital Partners has provided US$100m equity capital to Levent Kahraman and Dan Goldman to form the New York-based firm, which will focus on MBS, ABS and agency debt securities.

As president of the firm, Goldman brings 25 years of experience from Salomon Brothers/Citigroup, where he was head of North American fixed income sales and co-head of US rates. As ceo, Kahraman brings 15 years of experience at Salomon Brothers/Citigroup and Barclays, where he focused on trading agency MBS.

KGS has assembled a team of 25 highly skilled senior officers, traders and salespeople. Alan Weber, chairman of the firm, expects it to grow to 40 professionals by year-end. Weber was formerly ceo of US Trust Co and chairman of Citibank International.

ABS

BarCap md to join rival

Christian Marks is understood to be joining Bank of America Merrill Lynch in London. He will join in October as md, reporting to Martin Migliara, head of the ABS and CMBS trading desk. Marks is leaving a role as md in Barclays Capital's securitisation team.

ABS

Boutique names private banking head

Bank Hapoalim has appointed Paul Mann to head its private banking business in the UK. He will report to Avi Levi, the bank's UK general manager.

Mann joins the firm from UBS, where he was executive director and head of the Israel team in London. Prior to joining UBS, he was md and head of global strategic relationships for the asset management business at Credit Suisse. A qualified lawyer, Mann began his career in 1992 with Clifford Chance, London, working in structured finance.

ABS

New banking head steps up

Mayer Brown has promoted Dominic Griffiths to head its banking & finance group in London. Griffiths takes over from Bruce Bloomingdale, who will now concentrate on increasing the synergies between the firm's European and US finance practices, as well as continue to advise clients on international finance transactions.

As a banking and structured finance lawyer, Griffiths' practice focuses on asset-based lending, acquisition finance and securitisation. He has in-depth experience in European cross-border secured loans, trade receivables financings, MBS and CDOs.

Griffiths joined Mayer Brown in 2005, having previously worked at White & Case in London and Milan.

ABS

Law firm beefs up Russian presence

Chadbourne & Parke has added a partner to its Russian operations. Banking and finance attorney Simon Morgan has joined the firm's Moscow office.

Morgan joins from White & Case, where he served as head of the Central and Eastern European capital markets practice. He was also head of White & Case's Moscow bank finance and capital markets groups and co-headed the Central and Eastern European banking and finance practice.

ABS

ABS issuer struggles on NASDAQ

Shares in specialty finance company Consumer Portfolio Services (CPS) are failing to make the US$1 minimum bid price on NASDAQ. CPS received a NASDAQ staff deficiency letter last week.

CPS has until 22 February 2011 to regain compliance or its common stock could be delisted. The company has slowed its purchasing of auto loans since the credit crisis, but it was actively eyeing a return to the ABS markets this year or next year (SCI passim).

CDPCs

CDPC's operating guidelines updated

Channel Capital is proposing to amend its operating guidelines, capital model technical document, administration agreement and capital model code. The amendments primarily change the CDPC's ratings tests and investment guideline restrictions, and reflect a transfer of some services from QSR Management to Mourant & Co.

Changes to the rating tests include: updating Channel's modelling assumptions to match those of Moody's CDOROM version 2.6; and raising expected loss limits to a level consistent with a midpoint between Moody's Aaa and Aa1 idealised expected loss levels. According to the rating agency, sample testing showed that - depending on the particular circumstance - the net effect of the changes is that either they will have no effect or make the rating tests more likely to fail, which would then limit Channel's ability to add risk through trades or reduce its capital, such as through debt redemptions or excess spread payments.

Finally, the CDPC is now precluded from selling protection on tranches that have a Moody's Metric based on CDOROM version 2.6 runs performed by the manager corresponding to below Aa3 (changed from Aaa).

Moody's has determined that these amendments will not cause its counterparty and debt ratings on Channel to be reduced or withdrawn. However, it does not express an opinion as to whether the amendments could have non-credit related effects.

CDS

Trader switches to CDS indices

Jeff Psaki, BarCap's former co-head of distressed debt trading in New York, has relocated to the firm's global markets division in London as a CDS index trader. He will report to Connor Brown, head of fixed income Europe strategic trading.

CDS

Bank adds CDS trading pair

Vassilis Paschopoulos and Robert Purvis have joined UBS as corporate credit derivatives traders in the bank's European credit team in London. The pair will report to Derrick Herndon, European head of credit.

CDS

Acquisition strengthens broker force

BGC Partners has completed the acquisition of various assets and businesses of Mint Partners and Mint Equities, with over 100 brokers from Mint's international business joining BGC. Mint will conduct business as usual and maintain its unique brand name and market identity as a division of BGC.

Shaun Lynn, president of BGC Partners, comments: "Selective acquisitions, hiring experienced brokers and investing in our proprietary technology have been key drivers of BGC's growth. With the addition and continuing growth of the Mint brand...we expect to augment our offerings to clients and expand our customer relationships."

Mint's co-founders, Richard Barnett and Timothy Bullman, will remain co-ceos of the Mint division while both becoming senior mds of BGC. In a joint statement, the pair note: "From our initial focus on the institutional equities market when we created Mint six years ago, the firm's scope has steadily broadened to serving clients across credit, rates, foreign exchange, commodities and energy products."

CDS

Ambac restructuring discussed

Ambac Financial Group (AFG) in its latest 10-Q filing ramped up the tone of what it has hinted at since November 2009 - a bankruptcy filing of the holding company. However, Moody's suggests in its Weekly Credit Outlook that a holding company bankruptcy is unlikely to have a direct material effect on the group's operating subsidiaries and their policyholders.

AFG is in a very weak liquidity position, with no access to insurance company resources and about US$122m of debt due in August 2011. The company is currently pursuing raising additional capital and restructuring its outstanding debt through a prepackaged bankruptcy proceeding. According to Moody's, this would save time and money in court, compared to an ordinary Chapter 11, because the major stakeholders would agree on a restructuring plan beforehand.

Part of Ambac's restructuring would likely involve creditors exchanging their debt for AFG's common stock. As a result, creditors may emerge as new owners of AFG and they could influence the insurance subsidiaries' operation.

In the same filing, Ambac reported consolidated statutory capital and surplus of about US$1.5bn in Q210, up from US$160m in the first quarter. This is largely attributable to the US$2bn surplus notes issued for the ABS CDS settlement in June 2010.

Moody's indicates that the creation of the segregated account and the termination of ABS CDOs have helped stabilise Ambac Assurance Corp's financial condition. Should the court approve a rehabilitation plan, new surplus notes issued to fund segregated account claims would likely further enhance the monoline's statutory capital position.

CDS

Basis funds reach milestone AUM

Assenagon Asset Management has reached the €1bn AUM mark with its two bond funds, Assenagon Credit Basis and Assenagon Credit Basis II. Assenagon Credit Basis launched in April 2009 and totals €400m AUM, while Assenagon Credit Basis II launched in January 2010 and has since recorded €600m in inflows.

Like its predecessor, Credit Basis II exploits imbalances on the capital markets. However, it focuses on a wider range of investment instruments and is able to invest in sovereign, corporate, structured and convertible bonds, as well as tradable loans and ABS.

According to fund managers Jochen Felsenheimer and Wolfgang Klopfer, the current market environment continues to offer interesting investment opportunities. "Market distortions have further increased due to problems at macro- and microeconomic level. Market-neutral basis strategies benefit from such a market environment," notes Felsenheimer.

CMBS

LNR tops MBA special servicing collateral list

LNR Partners was the top listed total US collateral named special servicer for CMBS, CDOs and ABS in the Mortgage Bankers Association's mid-year survey, as of 30 June. The firm's servicing volume totalled US$209.2bn for 15,784 loans. The average size of its loans was US$13.3m.

CWCapital and CWCapital Asset Management took second place in the survey, with servicing amounting to US$162.7bn from 12,365 loans. Its average loan size was slightly smaller at US$13.2m.

PNC Real Estate/Midland, Berkadia Commercial Mortgage, Bank of America Merrill Lynch and Wells Fargo rounded out the next highest servicers for total US collateral. Wells Fargo, meanwhile, was the top commercial/multifamily mortgage servicer in MBA's report, with US$462.8bn tallied for master and primary servicing activities.

CMBS

Expanding CRE platform adds md

Steven Roberts has joined Grubb & Ellis as senior md, debt & equity finance. He comes from Citi, where he was in part responsible for the foundation of the company's CMBS lending programme and co-led its conduit business as the head of origination.

Over the past 24 months, Grubb & Ellis has strengthened its debt and equity finance capabilities, recruiting executive md Jeff Majewski - former coo of CB Richard Ellis' debt & equity finance group and senior md of CBRE Capital Markets - to lead the growth of the platform.

Investors

Veteran trader joins hedge fund manager

PVE Capital has appointed Marc Garcia as portfolio manager for its new advisory mandate. His responsibilities include managing two UCITS III funds totalling €90m in AUM.

Christian Evans, a founding partner of PVE Capital, says: "Marc's long experience in cash trading will help PVE to expand and diversify investment activity beyond its pure hedge fund business and allow the company to offer more traditional retail-oriented instruments."

Garcia has 27 years of experience in the market as a credit trader and was most recently running the corporate trading desk at ING Bank in Amsterdam. Prior to this, he held positions at Citigroup, JPMorgan, BZW, Merrill Lynch, Goldman Sachs and Credit Suisse.

Investors

Credit manager moves on

F&C Investments has appointed Fiona Prendergast as client director in its institutional team. She will report to the firm's head of UK institutional business and global consultants, Julian Lyne.

Prendergast joins from Banquo Credit Management, where she was most recently a client relationship manager. She spent six years with the firm in a number of roles, including derivatives and repo trading.

Ratings

Boutique credit rating firm acquired

Kroll Bond Ratings has acquired boutique subscription-based credit rating firm Lace Financial. The acquisition provides Kroll with the SEC regulatory licenses to be a NRSRO.

Lace is understood to have a dozen employees and mainly rates banks and other financial services firms.

Kroll may face a number of challenges in its efforts to enter the credit rating industry, according to Aite Group senior analyst John Jay. "Investor/subscription-based business models are usually less profitable than issuer-based pay business models and they do not entirely remove conflict of interest issues. Moreover, Kroll will need to contend with the newly created SEC Office of Credit Ratings, which will have the authority to deregister an NRSRO (in this case, Lace Financial)," he notes.

Ratings

Ratings firm names US mortgage head

S&P has appointed Grace Osborne as business leader for US mortgages in its structured finance ratings group. She will report to David Jacob, the firm's executive md and head of structured finance ratings.

As an employee of S&P since 1996, Osborne was previously lead analytic manager and head of the North America insurance practice.

Regulation

Trading director rejoins SEC

The US SEC has appointed John Ramsay as deputy director in its trading and markets division. He will focus on broker-dealer financial responsibility and clearance and settlement, while also playing a key role in the Commission's wide implementation of the Dodd-Frank Wall Street Reform and Consumer Protection Act. Ramsey joins the division's other deputy director, James Brigagliano.

Between 1989 and 1994, Ramsay served with the SEC as deputy chief counsel for the division of trading and markets. In the private sector, he has worked as partner at law firm Morgan Lewis and Bockius, and at the Bond Market Association, Citigroup and most recently the Regulatory Fundamentals Group.

RMBS

Bank fined for unsuitable CMO sales

FINRA has fined HSBC Securities (USA) US$375,000 for recommending unsuitable sales of inverse floating rate CMOs to retail customers. HSBC failed to adequately supervise the suitability of the CMO sales and fully explain the risks of an inverse floating rate or other risky CMO investment to its customers, according to the complaint.

As a result, six of HSBC's brokers made 43 unsuitable sales of inverse floaters to unsophisticated investors. FINRA also found that the bank failed to comply with the FINRA rule requiring firms to offer educational materials before the sale of a CMO.

In addition, HSBC's procedures required a supervisor's pre-approval of any sale in excess of US$100,000. FINRA found that 25 of the 43 CMO sales were in amounts exceeding this and that in five of these instances, customers lost money in their inverse floating rate CMO investments.

HSBC has consequently paid customers full restitution totalling US$320,000. In concluding this settlement, the bank neither admitted nor denied the charges, but consented to the entry of FINRA's findings.

Technology

Broker's valuation practice expands

Following its recent acquisition by Tullett Prebon, OTC Valuations (OTC Val) has opened sales and client service offices in London and New York. Bob Sangha, head of the Americas for OTC Val, will be based in New York, while Miroslav Vanous, head of EMEA, will be based in London. Paul Bergbusch will be head of technology in Vancouver.

Paul Humphrey, ceo of Tullett Prebon electronic broking and information, says: "These additional regional centres not only provide local time zone sales and support capabilities, but also act as additional hubs for service delivery and technology integration."

Technology

Analytics provider expands into Korea

Numerix has opened a new regional office in Seoul, South Korea, becoming the first derivatives analytics company to provide local sales and quantitative support in the country.

The new office symbolises the growth and importance of the derivatives markets in South Korea, the firm says, enabling it to provide local sales and analytical support. Numerix has been busy in the region, integrating itself into the Japanese and Korean markets and partnering with Nomura Research Institute in Japan late last year (see SCI issue 162).

ABCP

ABCP showing 'remarkable resilience'

The ABCP sector is showing remarkable resilience, according to S&P, and continues to play an important financing role to bank and non-bank sponsors alike.

ABCP outstandings are down by up to 70% in some conduits, with much of the pre-crisis structured finance-fuelled growth diminished. The level of ABCP outstanding appears to have reached a plateau, with many conduits filling the gap left by structured products with vanilla unrated trade receivables, S&P notes.

The agency says that regulatory uncertainty is also a factor in the re-emergence of the sector, as many sponsors take a 'wait and see' approach to the array of new regulation proposed. However, looking ahead, S&P expects that investors will continue to be selective and, with credit conditions still fragile, investor demand will continue to drive trends in the sector.

ABS

Lloyds in the market again

Lloyds TSB Bank has closed two more transactions - the €250m Penarth Master Issuer Series 2010-A3 credit card ABS and the £3.57bn Edgbaston RMBS 2010-1 prime buy-to-let RMBS.

The three-year credit card offering was privately placed with a single investor at 78bp over one-month Euribor. The deal is backed by credit card receivables arising under designated MasterCard and Visa revolving credit card accounts originated in the UK.

The BTL transaction consists of two tranches of £603.2m triple-A rated notes (class A1 and A2) and a single tranche of £1.81bn (class A3) triple-A rated notes, as well as £558.5m A2 class B notes. The issue represents the first securitisation of solely UK BTL residential mortgage loans originated by Bank of Scotland and has been retained.

Separately, S&P has withdrawn its preliminary credit ratings on Moorgate Funding's series 2010-1 class A, B, C, D and E notes. The BTL RMBS will no longer take place in its current format.

ABS

FFELP ABS deal in the works

A new student loan ABS offering that consists entirely of Federal Family Education Loan Program (FFELP) student loans is marketing. Arkansas Student Loan Authority Loan Asset-Backed Notes series 2010-1 has provisional triple-A ratings.

The US$265m deal is expected to price over three-month Libor. Almost 9% of the loans in the pool are anticipated to be loans first disbursed after 1 October 2007, which earn a lower Special Allowance Payment (SAP) rate than loans disbursed prior to 1 October 2007, according Moody's. The expected net loss on the student loans is approximately 0.15%.

However, unlike other student loan transactions that typically have a higher rated entity as trustee, Moody's says the transaction's trustee is rated Baa1 and under review for a possible downgrade. "Therefore, this transaction is more likely to be subject to rating volatility," it adds.

Edfinancial Services and Nelnet Servicing are servicers for the transaction.

The Arkansas Student Loan Authority offering is unlikely to be the only FFELP securitisation coming to market. Deals are still due out (SCI passim), despite the FFELP programme's official end in July.

Market conditions and spreads are part of the reason for this. JPMorgan analysts last month suggested an overweight position in FFELP ABS. The analysts say benchmark spreads will hold in well.

Indeed, spreads in FFELP ABS offerings have tightened in recent weeks and are expected to stay that way for a while, says one MBS investor.

Earlier in the summer, Fitch began a review of all of its FFELP SLABS and applied updated surveillance criteria. Its review included trusts with Libor floater bonds only at the time, with auction rate securities to be reviewed at a later date.

ABS

Aussie ADIs given reg cap warning

The Australian Prudential Regulation Authority (APRA) has issued a notice to domestic authorised deposit-taking institutions (ADIs) in connection with securitisation regulatory capital treatment. The move comes after the Authority reviewed a number of securitisation self-assessments it had requested under Prudential Standard APS 120 Securitisation.

APRA notes that a number of ADIs originated securitisations under which the senior tranche or tranches were placed with third-party investors but the originating ADI retained all, or nearly all, of the securitisation's most subordinated tranche. "Some ADI issuers have concluded appropriately that such a structure fails to meet the fundamental requirement for significant credit risk transfer and have retained the requisite risk assets and capital requirements on their balance sheets. In other cases, however, APRA has found that regulatory capital relief for credit risk has been claimed inappropriately," it states.

The notice reiterates that APRA does not accept lenders mortgage insurance on the underlying loans in the securitisation structure, excess spread available to absorb losses ahead of the most subordinated tranche and/or holdings of subordinated tranches being less than the 20% threshold referred to in APS 120 Attachment F paragraph 8(c) as adequate justifications that significant credit risk has been transferred to third parties.

The Authority acknowledges that ADIs may use securitisation solely for funding purposes. However, where an ADI undertakes a securitisation for this purpose but has not transferred significant credit risk to third parties, the ADI must demonstrate to APRA that third-party investors have no recourse to the ADI, and it must hold capital against the securitised assets as if they were on its balance sheet.

The ADIs identified as originating securitisations for which the above matters are relevant will be contacted by APRA in order to arrange appropriate remediation where necessary.

ABS

Final stress test guidelines unveiled

CEBS has published its revised guidelines on stress testing, which take into account the results of an earlier public consultation from December 2009 to March 2010. The guidelines are intended to assist institutions in understanding supervisory expectations of appropriate stress-testing governance and infrastructure, and also cover the use of stress testing as a risk management tool.

The topics covered in the guidelines range from stress-testing governance structures and their use, to possible methodologies, including choosing the appropriate severity of scenarios and a multi-layered approach to stress testing programmes. This spans from simple portfolio-level to comprehensive firm-wide scenario analyses, to the outputs of stress testing programmes.

The revised guidelines are supplemented by annexes that provide examples of stress testing specific risks, including securitisation, credit and concentration risks.

CEBS expects its members to apply the guidelines by 31 December 2010, meaning that by this date the guidelines should be transposed into national supervisory guidelines and reflected in the national supervisory manuals/handbooks and implemented in supervisory practises.

ABS

ABS issuance expectations on track

According to Wells Fargo, consumer ABS issuance increased last week by approximately US$3.7bn, with five deals. New issue volume year-to-date for 2010 has risen to US$68.7bn. The current pace of issuance should bring the market close to the firm's full-year estimate of US$125bn.

Benchmark secondary spreads for on-the-run triple-A bonds tightened by about 2bp-3bp last week, the firm says. Spreads on off-the-run sectors, such as rental car or dealer floor plan, tightened by 5bp-10bp.

Recent issuance of new subordinated bonds suggests that this segment of the ABS market is improving. The firm adds that subordinated ABS bonds offer good relative value because of improving consumer credit trends and the robust structural protections available to securitisation investors.

Meanwhile, student loan prepayments continued at relatively slow speeds in the second quarter of 2010 compared to historical levels, remaining below 5% since Q408. The firm attributes this trend to concerns related to high unemployment rates and the general economic environment.

According to Wells Fargo, consumers choosing to de-lever their household balance sheet may be more likely to allocate funds to pay down debt accruing at higher interest rates than the outstanding student loan balances, which typically accrue at lower rates.

ABS

Japanese credit card ABS launched

Moody's has assigned definitive triple-A ratings to Challenger 2010 Senior Benficial Interests, totalling Y30bn, backed by revolving Japanese credit card cash advance receivables. The revolving period lasts until August 2012 and the final maturity date is in August 2017.

Credit enhancement is provided by the senior/subordinated structure. Subordination comprises 34% of the total amount of the senior beneficial interests and the subordinated beneficial interest.

The dividend waterfall to the subordinated beneficial interest will be suspended in the event of early amortisation. Excess spread will be used to redeem the senior beneficial interests. Key early amortisation events include the default rate exceeding its trigger threshold.

In preparation for servicer replacement, liquidity is provided by a cash reserve at closing. This reserve will cover the dividend payments on the senior beneficial interests, the trust fee payments, the start-up costs of back-up servicing and the fees for back-up servicing. If any servicer replacement events occur, the asset trustee can dismiss the servicer. A back-up servicer was appointed at closing.

ABS

RFCs issued on European rating criteria

DBRS has issued request for comments on its proposed master European RMBS and consumer ABS rating methodologies, as well as its proposed master European structured finance surveillance methodology. In addition, the agency has invited comments on its legal criteria for European structured finance transactions.

It says the legal criteria provide greater transparency to the ratings process by outlining the principal legal criteria it applies when rating a structured finance or structured credit transaction. Included within the methodology are country-specific addenda that set out certain specific considerations applicable in the respective country. The countries included are the UK, the Netherlands, Spain, Italy and Portugal.

DBRS will publish final methodologies, following the review and evaluation of all submissions. The move comes amid the agency's preparations to re-enter the European ratings market (see SCI issue 188).

ABS

US credit card ABS proves resilient

US credit card ABS has demonstrated a resiliency to prolonged credit quality stresses and averted downgrades throughout the economic downturn, according to a report by Fitch. This is further testament to the strength and flexibility of the structures, the agency says.

The five largest US credit card ABS master trusts are sponsored by Bank of America (BofA), Capital One, JP Morgan, Citibank and Discover. In the limited incidences of potential downgrades, the change would not have exceeded one rating category for senior classes and two for subordinate classes. Of the five trusts included in the review, only BofA would have seen its senior classes downgraded from triple-A to double-A.

Fitch md Michael Dean says: "This comes even as credit card charge-offs still hover at or near record levels. Charge-offs would have to surpass 30% to 45% before any senior tranche defaulted given current credit enhancement levels."

Since 2009, in an effort to stem credit deterioration, issuers have undertaken various measures to provide additional support to existing transactions, such as discounting receivables, increasing available credit enhancement and re-pricing existing credit card accounts (SCI passim).

ABS

Stability predicted for Aussie ABS and MBS

Moody's reports a stable outlook for the performance of collateral in Australian ABS, CMBS and RMBS over the next 12 to18 months.

Moody's vp and senior credit officer, Richard Lorenzo, says: "We expect that the up-to-now strong appreciation in housing prices will slow down a bit, but undersupply - as well as net migration - will continue to support prices."

Because of this, rating actions will likely be limited in RMBS. With regard to CMBS, fundamentals have stabilised, as the uncertainties plaguing commercial real estate have declined over the past year.

Lorenzo adds: "Our stable outlook on CMBS assets has a flow-on effect on our ratings of CMBS transactions, which we expect will generally be stable. Overall, any implications on structured finance ratings stemming from collateral performance will be limited."

ABS

Summer weighs on US auto ABS

US auto loan ABS performance is starting to exhibit negative trends - typical for the summer season - according to Fitch. While delinquencies and losses reached their lowest level in three years in June, the summer's seasonal pressures finally manifested this past month in rising delinquencies and losses, the rating agency notes.

Fitch director Ben Tano says: "Seasonal pressures, the poor state of the job market and overall US economy will pressure auto loan ABS performance in the coming months. The dismal housing market and personal bankruptcies are also hurting the economy, with filings up 13% through July from the same period last year."

Despite the recent weakness, numerous positive factors continue to support overall auto loan ABS collateral performance in an otherwise difficult economy, however. These factors include: tighter underwriting in more recent vintages; and stronger recovery rates on defaulted and repossessed vehicles and annualised net losses.

Fitch concludes that the outlook for prime and subprime auto loan ABS ratings performance remains stable in 2010, with its Prime Auto Loan Indices totalling approximately US$44.2bn, issued from 75 transactions.

ABS

Euro auto ABS stays on course

According to Fitch, the European auto ABS sector remained stable in Q210, despite slight increases in delinquency and net loss rates.

A breakdown of Q210's performance shows that Fitch's 60-180 day Delinquency Indices increased to 1.4% from 1.3% in Q110. The Net Loss Indices increased by 10bp to 0.9% as a result of delinquent loans rolling into defaults, particularly within Spanish and UK transactions. Fitch's Excess Spread Indices dropped by 10bp to 1.9% in Q210.

As expected, Spanish auto ABS remained under stress during Q2, with several transactions reporting increased loss rates. However, delinquency levels have started to stabilise and even reduce for some transactions. German transactions, which comprise the largest share of the indices, continued to report strong and stable performance trends.

ABS

UK credit card performance cause for optimism

According to Fitch, the performance of UK credit card trusts showed an improving trend in Q210. The growing signs of an improved outlook for the UK economy will lead to a stabilisation of credit card performance in the coming quarters, the agency says. However, in the near term, charge-off levels may increase as a result of the write-off of delinquent and debt management receivables.

The agency's latest quarterly report shows substantial quarter-on-quarter improvements in credit card delinquencies and charge-off rates. Yield rates, meanwhile, trended lower by dropping slightly from their all-time peak and monthly payment rates.

Fitch's charge-off index fell significantly from an all-time high of 11.7% at March-end to 10.5%. The 60-to-180 day delinquency index continued to trend lower from the May 2009 peak of 5.5%, falling 1% over the last quarter to 3.4% in June 2010. The agency notes that delinquency rates in Q210 were reduced by the repurchase of debt management receivables from the CARDS I and CARDS II trusts.

The value of the agency's yield index at end-June was 22.7%. This represents a slight quarterly decrease of 0.2 percentage points from the March 2010 peak. The Fitch Monthly Payment Rate Index ended the quarter at 16.6%, having peaked in March 2010 at 18.3%.

ABS

Structured settlement criteria strengthened

S&P has elaborated on its approach to rating structured settlement securitisations and the revisions made to its criteria in December of 2009. The methodology update includes the addition of two supplemental tests that factor in the event and model risk that affect structured settlement securitisations.

S&P analyst Weili Chen says: "Because the collateral pools for these transactions consist of streams of periodic payments from insurers to claimants for settlements of legal claims, and therefore typically have significant concentrations among obligors in the same industry, they are especially sensitive to the risk that unforeseen events may affect the entire insurance sector or the top insurance carriers."

While such concentration-related event risks are not unique to this asset class, the agency believes that two factors heighten such risks in these securitisations: longer terms to maturity, which prolong the period during which event risks are present; and the lack of excess spread as a form of liquidity to mitigate these risks.

As part of the criteria update, S&P recalibrated its CDO Evaluator model and added a new corporate default table with targeted portfolio defaults. In addition, it now applies two supplemental stress tests - the largest-obligor default test and the largest-industry default test - to assess the risk of default of insurance carriers in a given pool.

"We believe our methodology updates have made our criteria more robust," Chen adds.

ABS

LatAm SF markets 'more resilient'

Securitisation in Latin America remains strong and popular, according to S&P, benefiting not only from high commodity prices, but also from lessons learned from past financial crises. While securitisation volumes in Latin America declined by 6% in 2009, they dropped by 58% in other emerging markets.

Not only has the securitisation market in the region become more resilient, the agency says, it has also become deeper and more sophisticated, with local market players filling the gaps left by retreating foreign issuers. S&P analyst Juan Pablo de Mollein says: "The Latin American structured finance market's investor base has been changing. Today, more than US$500bn in assets is managed locally, giving issuers an alternative option for financing their operations locally instead of relying on sometimes-fickle cross-border investors."

Latin America has been able to avoid the worst of the global recession, while strengthening its securitisation markets because lower debt and greater monetary flexibility throughout the region provided a stronger macroeconomic foundation that ultimately helps reduce the effects of a severe global recession.

De Mollein adds: "Many Latin American countries' ability to manage through such economic stress without suffering serious economic setbacks themselves could be a positive indication for future creditworthiness and this, in turn, bodes well for further securitisation markets' development."

ABS

Aircraft lease cashflow assumptions altered

S&P has refined its cashflow assumptions for rating aircraft and aircraft engine lease securitisations, in part to incorporate deeper and longer commercial aviation industry downturns. Those securitisations backed by lease rental payments from a portfolio of commercial jets or aircraft engines leased to airline companies or operators will be affected.

"Our revised assumptions, which we use in the cashflow analyses we apply to these securitisations, reflect our views regarding the length and depth of global aviation downturns under different rating scenarios and the stress they put on the ability of portfolios of commercial jets and aircraft engines to generate cashflow," says Weili Chen, S&P credit analyst.

The agency's assumptions will also take into account a revised timing of industry downturn and updated lessee default timing assumptions, steeper aircraft model and engine type-specific depreciation curves, new lessee default rate assumptions based on regional concentrations and sovereign risks, deeper reductions in lease rentals during downturns, stressed re-leasing and maintenance costs and longer aircraft-on-ground times.

The agency will now use its CDO Evaluator model when projecting portfolio lessee default rates. It will also use new cashflow assumptions for the base-case scenarios and stress tests based on specific ranges for aircraft and aircraft engine values, lease rentals, expenses and other cashflow model inputs.

CDO

Window of opportunity to redeem Trups

A three-month window for banks to redeem their Trups at face value has been opened by the Dodd-Frank Act. Moody's notes in its Weekly Credit Outlook that, should banks redeem their Trups, CDOs backed by them will benefit from the reduction of default risk in their collateral portfolios.

The window applies to bank holding companies with more than US$15bn of assets, affecting around 7% of the Trups CDOs which Moody's rates. The agency says these CDOs have exposure to 32 of the top 50 bank holding companies that the Federal Reserve lists as having assets greater than US$15bn. The exposure totals US$2.8bn, or 7% of the Trups CDO universe rated by the agency.

Redeeming the Trups will remove them from Trups CDO portfolios, removing their potential default risk. The proceeds from the redemption are then used to amortise the Trups CDO notes.

Moody's says that without redemptions, default risk would climb. The agency notes holding companies with US$15bn can no longer treat Trups as Tier 1 capital, so there is no more regulatory reason to keep their Trups outstanding.

CDO

Revisions prompt Trups CDO downgrades

Fitch has revised its global rating methodology for Trups CDOs, resulting in one- to two-notch downgrades for most US bank Trups CDOs. Conversely, the criteria changes will have little impact for deals with no exposure to US bank collateral.

The integral rating factors in Fitch's surveillance criteria are the current payment status of collateral, as well as the credit quality of performing collateral held by the CDO. The more notable change to the criteria is tiered loss expectations for currently deferring bank securities. Loss estimates for those securities range from 100% for triple-A rated tranches to 50% for single-B rated tranches.

Most of the rating actions prompted by the new criteria are likely to be contained in the senior and middle portions of the CDO debt structure, with double-A through to single-B rated tranches likely to see the bulk of the downgrades.

According to Fitch senior director Derek Miller, rating actions are often predicated on changes to the payment status of collateral. "Defaults and deferrals have been gradually rising over the last several months, most notably among bank Trups CDOs," he notes.

CDS

Novation process streamlined

ISDA has launched its 'Credit Consent Equals Confirmation' project in order to continue its initiative to streamline the process of assigning credit derivative trades (see SCI issue 196). The process will go live on 30 September 2010.

The objective of the project is to rationalise the current two-step practice of consent followed by confirmation, with an automated, single-step process for parties to provide their consent and their legal confirmation to a novation simultaneously.

ISDA executive vice chairman Robert Pickel says: "The credit derivative industry has made a series of improvements to the operational processing of novations over the past several years, including the landmark ISDA Novation Protocol."

He adds: "The result of the Consent Equals Confirmation initiative will be an enhanced automated process that will improve accuracy and facilitate same-day processing, thereby reducing risk and the necessary degree of resourcing. It is the culmination of collaborative industry efforts to further streamline transaction processing and advance operational standards."

CDS

Credit/equity dislocation trades touted

Credit and equity index markets have experienced high levels of correlation recently. Consequently, credit strategists at Barclays Capital suggest that monitoring deviations between credit spreads and stock prices could indicate trade ideas.

The BarCap credit strategists take the constituents of iTraxx Main and compare recent changes in the equity and CDS markets as an example. They then overlaid BarCap fundamental analysts' CDS recommendations, with the aim of filtering for analyst buy protection recommendations on names where the CDS spread has tightened while the equity market has sold off and sell protection recommendations where the CDS spread has widened while the equity market has rallied.

The process identified three possible trades: buy Rolls-Royce protection; sell Tesco protection; and sell Linde protection.

Rolls-Royce CDS has held steady over recent weeks, while the stock has sold off by almost 10%. Both the iTraxx Main and the Eurostoxx 50 indices are relatively flat to where they were a month ago, so the sell-off cannot be explained by systemic factors. Consequently, the strategists find this credit-equity dislocation supportive of a buy protection recommendation.

Tesco CDS widened over the past month, while the stock experienced a modest rally. The CDS spread and the equity ATM-implied volatility has diverged over the last month, whereas they had tracked each other well prior to July.

A rise in the share price and a fall in the stock's implied volatility would be consistent with CDS tightening, yet the CDS spread has widened. This dislocation supports the strategists' sell protection view on Tesco.

Finally, Linde's CDS spread and equity price have increased hand-in-hand recently, while at the same time its equity-implied volatility has been falling. This suggests that Linde's improving equity environment has not been reflected in the CDS market, thereby supporting the strategists' sell protection view.

CDS

Negative basis opportunities identified

The reversal of CDS-bond basis trends - i.e. the basis turning more negative - over the last few months reflects the resumption of pressures on US and European banks. However, Goldman Sachs credit strategists suggest that such concerns may have peaked and therefore funding spreads are likely to begin trending towards more normalised levels in coming weeks.

Against this background, they analyse the distribution of negative basis names across the CDX IG and CDX HY indices, looking at variation in the CDS-bond basis by sector, rating, maturity and face value in order to identify pockets of value. The most significant variables associated with negative basis were found to be ratings and maturities, suggesting that long-dated bonds with low-ratings are the ones with the most negative basis and which have more recently driven the fall in the overall basis.

Further, the basic materials and energy sectors offer the most negative values for basis. According to the Goldman strategists, this can be linked to the underperformance of these sectors due to the recent economic slowdown, as well as to aftermath of the oil spill.

"Overall, the distribution of the negative basis across CDX indices looks more compact than a year ago," they add. "However, there are still pockets where investors can capture substantial carry. Consistent with our observations, most bonds...fall in the crossover space and are either long- or short-dated."

CDS

Credit event determinations activity spikes

ISDA's Americas Determinations Committee has determined that a bankruptcy credit event occurred with respect to Boston Generating on 18 August. EBG Holdings, its principal operating subsidiary Boston Generating and its five other wholly owned subsidiaries filed a voluntary petition under Chapter 11 in the US Bankruptcy Court for the Southern District of New York.

Boston Generating is an index constituent of LCDX 14. LCDX dealers have consequently voted to hold an auction for loan-only CDS transactions referencing the entity. The auction will be administered by Markit and Creditex, while ISDA will publish the auction terms in due course.

A couple of succession event determinations were also made last week. The EMEA DC ruled that a succession event occured with respect to Fortis Bank (Nederland) on 1 July 2010 and that ABN AMRO Bank was the sole successor at that time. In addition, the Americas DC has agreed to delay a decision on whether a succession event occurred with respect to Energy Future Holdings Corp until 17 September.

Separately, the auction to settle the credit derivative trades for Truvo (formerly known as World Directories) LCDS is scheduled to take place on 8 September.

CDS

Constant relationship for SovX and Senior iTraxx

Analysts at SocGen suggest that the Senior iTraxx index is moving in tandem with the SovX index, which bodes well for the two remaining constant. This should be the case as long as banks are deemed vulnerable and likely to need sovereign support, they note in their weekly credit report.

SovX has widened throughout the month, starting at around 111bp near the start of the month and increasing to 150bp recently. Sovereign CDS has widened, given the risk aversion - though there has been no particular news recently to affect the sector, the analysts say.

CDS indeed has also risen. After Ireland was downgraded by S&P to double-A minus from double-A on 24 August, its CDS widened by 30bp. But no other contagion occurred to other countries' CDS, the analysts add.

CDS

Expanded CDS data released

The DTCC has released its six-month CDS market report based on data registered in its Warehouse Trust Company subsidiary. The report provides a greater depth of information to be used by market participants to assess liquidity for the largest corporate and sovereign single name CDS positions, according to the Corporation.

The data informs market participants and regulators about trading volumes and the structure of the market to which single reference entities might have sufficient liquidity to be cleared through a central counterparty (CCP). This is part of a commitment made by the OTC derivatives industry to global regulators to increase the range of products eligible for clearing.

As of 20 August, the total gross notional value of the approximately 2.3 million CDS contracts registered in the Warehouse Trust was roughly US$25trn. The information provided in the new public posting includes market activity from 21 December 2009 through to 20 June 2010 for the top 1000 CDS single-named reference entities. The report follows an earlier nine-month market activity snapshot and has been expanded to include a breakdown of figures on standard and non-standard coupons, as well as quarterly maturity levels for these counterparty transactions.

CDS

Pension Trust CDS takes further knock

Moody's has taken rating action on a CSO referencing a managed portfolio of synthetic credit corporate entities. The US$100m credit default swap was between Goldman Sachs and GM Salaried Employees Pension Trust.

The US$100m mezzanine tranche was cut to C from Ca. The action was taken since the tranche balance was reduced to zero due to credit events. The transaction has been impacted by the credit events of Chemtura Corporation, Thomson, CIT Group Inc and Aiful Corporation, as well as Federal Home Loan Mortgage Corporation, Lehman Brothers and Washington Mutual.

The agency expects the ratings to be withdrawn in a matter of days. The GS CDS-GM Salaried Employees Pension Trust closed in March 2007.

CLOs

ICG CLO prices

Intermediate Capital Managers (ICM) priced its ICG EOS Loan Fund I, which will fund the purchase of a portfolio of pan-European leveraged loans with a par value of about €1.4bn from RBS (see last issue). RBS is also lead manager on the CLO.

Rated by Fitch and Moody's, the €790.7m 3.9-year triple-A rated tranche priced at 110bp over three-month Euribor, the €49.5m single-A rated tranche priced at 150bp over and the €514.62m preferred notes priced at 500bp over. There was also a €57.18m subordinated tranche, for which pricing information was undisclosed.

The senior notes were placed at a discount to par with one single investor, while the equity pieces were placed with funds managed by ICM.

CLOs

Guggenheim CLO markets with large equity

Guggenheim Partners is marketing a US$600m CLO via Citigroup. The deal includes a US$300m triple-A rated tranche, a US$100m mezzanine tranche and a US$200m equity tranche, according to investors.

Most of the triple-A rated tranche is marketing currently, but the mezzanine and equity pieces could be already preplaced with investors or taken by Guggenheim itself, says one of the investors. "They are not offering the equity and they are not offering the triple-Bs," he adds.

It is still too early for price talk, but the triple-A rated tranche is expected to price at less than 200bp.

CLOs

Marginal dip in CLO concentration risk

Obligor concentration risk decreased marginally among S&P's outstanding rated US cashflow CLO transactions in the second quarter of 2010. Exposure to the top 250 corporate loan obligors decreased to 55% from 57% of the outstanding principal balance for US CLOs between the first and second quarters.

Although there were marginal shifts in the ranks of the top 10 corporate obligors held in rated US CLOs between the first and second quarters, the top 100 corporate obligors experienced more pronounced swings in their rankings, especially among distressed obligors such as DirecTV, Tribune Co and MGM Studios.

S&P reviewed 633 outstanding rated US CLOs and approximately 4,400 underlying corporate obligors to determine the concentration risk among the CLOs it rates, ranking the obligors according to their total outstanding principal amount. The analysis indicated that the top 100 obligors made up 36% of all the loans that backed these rated CLO portfolios in Q210.

The top 10 corporate obligors account for 9% of the principal balance of the 633 outstanding US CLOs in the second quarter. Texas Competitive Electric Holdings Co continued to be the obligor with the highest exposure among these deals, rising to 1.2% of the aggregate outstanding principal balance in the second quarter from 1.07% in the first. This company has represented the single largest exposure among US CLOs since Q109, according to S&P.

Among the top 100 corporate obligors, MGM Studios' ranking dropped to 39th in the second quarter from 23rd in the first, while Tribune Co dropped to 69th from 58th.

CMBS

New retail-backed CMBS on tap

A new US$484.6m CMBS pass-through transaction is in the works backed by a 10-year fixed-rate mortgage loan on retail collateral. The deal, JPMorgan Chase Commercial Mortgage Securities Trust 2010-CNTR, is expected to feature triple-A tranches rated by S&P. Centro NP, a subsidiary of retail property owner Centro Properties Group, owns the multiple bankruptcy-remote special purpose entities that are the borrowers.

Two class A tranches equate to US$342.1m, while lower rated tranches - including a triple-B minus rated tranche - tally US$142m. There are 72 retail properties in the portfolio, but the top three states comprise 60.3% of the pool by allocated loan balance.

The largest concentration of the portfolio is in Texas, which has 38.9% of the pool balance and 36 properties. The rest of the geographic concentration consists of New York, New Jersey, Florida and Ohio.

S&P notes that 33.5% of the properties are located in markets that show Q210 vacancy rates in excess of the average national retail vacancy rate of 12.8%. Another risk consideration is the existing financing at an indirect parent level in the form of a US$1.7bn bridge loan, which will mature in December 2011.

CMBS

CMBS AM tranche prices breach par

Vintage 2005 US CMBS AM tranche prices crossed the psychologically important par level for the first time ever last week. Two bonds from a 24 August list - BACM 2005-6 AM and CSFB 2005-C5 AM - were respectively bid at US$101 and above par but below US$101.

On average, 2005 AM bonds were marked mid-week at US$97-US$98, with the worse names trading at about US$90 and the better names trading above par, according to MBS analysts at Barclays Capital. At the prior peak, in mid-April, the 2005 AMs were priced at about US$93 on average, with the better names trading slightly above US$97.

"Although current interest rates levels were one of the biggest drivers of the high dollar prices across the capital stack, we believe a number of additional technical factors (supply and demand disequilibrium, yield chasing, etc) contributed to this phenomenon," the BarCap analysts suggest.

Another trade that caught the market's attention last week was the MSC 2007-HQ12 B tranche, originally rated double-A, which traded in the mid- to high-teens. The transaction's performance is highly dependent on the resolution of the largest loan in the pool, which is currently delinquent (Columbia Center).

"In our view, trading of the original double-A tranche of this deal potentially signals a new trend: while the AM and even some AJs are trading at, above or close to par, the place in the CMBS capital structure where most of the price volatility should be expected during the months to come is the originally rated double-A tranche... The MSC 2007-HQ12 was probably one of the first 'tests', but we are likely to see more originally rated double-A tranches in BWICs," the analysts conclude.

CMBS

Cured CMBS loan pay-offs set to increase

The disposition of the US$270m Enclave loan - originally securitised in GECMC 2007-C1 - surprised to the upside in the August remittance period, according to MBS analysts at Barclays Capital. Most investors expected this loan to be liquidated with some loss, but it was paid down at par, resulting in the A1A tranche receiving an unscheduled principal payment of US$150m.

Although some of the expenses - including US$180,000 in special servicing fees and US$31,000 in interest on advances - remain unreimbursed, small ASERs associated with this loan have been paid off, reversing some of the interest shortfalls. Prepayment penalties associated with this loan were also effectively waived.

Another recent example of pay-down at par was the two-property portfolio securitised in CSFB 2005-C6, where the troubled situation was resolved through a mezzanine takeover and purchase by CBRE Investors, which is planning significant capital improvements to reposition both properties. "We believe that instances of A-note par pay-offs cured either by mezzanine lenders or by exercising a fair value option by the special servicers or directing holders are likely to become more common," the BarCap analysts note.

They add: "We view this as a positive for the bottom tranches of CMBS capital structure, as such pay-downs minimise the loss to the trust and improve subordination for the other tranches. As such, this is also a positive trend for selected CRE CDOs, in which such bottom tranches are securitised."

The analysts further highlight that par A-note resolutions are likely to occur quickly. The CSFB 2005-C6 loan, for example, matured in June 2010 and was transferred to the special servicer the same month, with the disposition occurring in July. The Enclave loan was transferred at the end of January and disposition occurred at the end of July.

CMBS

First CMBX tranche takes loss

Barclays Capital ABS analysts note that an important CMBX trend has been broken. Although persistent interest shortfalls have shut off cashflow to some CMBX tranches, before August no CMBX tranche had taken a write-down, but that that has now changed.

The class M tranche has been lost this month from GCCFC 2006-GG7. Six loans from the transaction with a balance of US$34m were liquidated, leading to an additional loss to the trust of US$28.5m. The loss wiped out the class N and 93% of class M. Class M is one of the reference obligations in the CMBX.2 double-B series.

A recent roll-rate analysis undertaken by MBS analysts at RBS indicates that, based on current rates of credit deterioration, cumulative loan losses range from 7.2% in CMBX.1 to 12.7% for CMBX.4 (assuming a 50% loss severity). This indicates that on average defaults and cumulative loan losses may be greater than the market anticipates over time, the analysts note.

They point out that the timing of losses is also of interest. Specifically, CMBX.3 is the worst performing of the CMBX series until month 84.

"While the credit underwriting of this [series] may be slightly higher quality than the loans included in CMBX.4 and CMBX.5, the loans have sufficient additional seasoning where losses in the near term will exceed that of the other series. It is also important to note that the analysis here is a linear interpolation and that the credit deterioration of later vintage loans, such as those backing CMBX.4 and CMBX.5, is likely to accelerate as the collateral seasons," the analysts explain.

CMBS

Defeasance activity increasing

Improvements in liquidity and investor confidence in the CRE sector are reflected by increased defeasance activity, says Moody's. A new report by the agency looking at defeasance activity of loans in CMBS transactions for the first six months of 2010 found that activity was almost 300% higher than in the same period in 2009.

"Although the recent level of defeasance is not expected to significantly improve the credit profile of individual deals, defeasance remains an important factor in CMBS credit because it reduces the inherent risk in commercial real estate loans," says Sandra Ruffin, a Moody's vp.

The most defeasance activity came from loans originally secured by multifamily properties, followed by retail and lodging, which accounted for 46%, 22% and 17% respectively. The agency notes that 61% of the loans that were defeased in the first six months of 2010 had no more than two years of remaining loan term.

"The defeasance activity for short-maturity loans is a very interesting development," says Ruffin. "It suggests that borrowers are willing to pay a premium to facilitate a sale or refinance now, rather than waiting a relatively short period until their loan reaches the end of its prepayment lockout period or matures."

Defeasance increased dramatically in between 2005 and 2007 on the back of increased real estate values. It allows a borrower to substitute the real estate collateral securing a mortgage loan with a portfolio of US Government Treasury securities. The loan remains in the trust, the original collateral is released and the certificate holders receive an uninterrupted triple-A payment stream from the defeased loan.

CMBS

Pain ahead for US CMBS

Fitch reports that 126 US CMBS loans will mature in September, with 43% of them already in special servicing. Senior director at the agency, Adam Fox, says the majority of maturing loans already in special servicing are either delinquent or in foreclosure.

The US$962m of CMBS coming due this month will serve as a foretaste for the final quarter of the year. October will see US$2.1bn across159 loans coming to maturity, 34% of which are specially serviced. There are 158 loans coming due in November and 176 in December, totalling US$1.6bn and US$1.7bn respectively.

Fitch believes this trend will continue into next year, when 2,198 fixed-rate commercial mortgage loans will mature. They total US$26.5bn and already 17% of them are in special servicing.

The agency expects loans secured by office, retail and hotel properties from the 2006 and 2007 vintages to prove hardest to refinance. Fox comments: "Recent vintage loans have little or no amortisation and are maturing in a higher mortgage rate environment with stricter underwriting standards."

CMBS

EMEA CMBS special servicing set to rise

By end-July, Moody's reported 64 loans in special servicing across all EMEA CMBS large multi-borrower and single-borrower transactions. During the month, seven loans were newly transferred into special servicing, while three loans were removed.

Of the seven new loans, three of them were transferred into special servicing due to non-payment at maturity and one loan was transferred due to non-payment during its term. The remaining loans were transferred due to LTV covenant breaches.

Loan restructuring efforts of various special servicers are continuing, with two loans transferred back to primary servicing as corrected loans upon the completion of their restructuring. One more loan left special servicing in July as its borrower was able to obtain financing and fully repaid the loan.

Meanwhile, with the disposal proceeds from the sale of eight of the nine London office properties backing the deal, the class A notes of White Tower 2006-3 were fully repaid in July. Moody's says it no longer has a rating outstanding for this transaction and will not be monitoring it going forward. However, the agency continues to include the securitised loan in its findings as it remains in special servicing.

The weighted average loss for loans in special servicing as of end-July is 35%. The agency expects the number of loans in special servicing to increase over the coming months. Indeed, special serving activity should heighten towards the end of the year, as there is a concentration of loan maturities in October 2010, when 20 out of approximately 30 loans with maturity before year-end need to be refinanced.

CMBS

Mixed resolutions for maturing CMBS

An analysis by Moody's of five-year loans bundled in conduit/fusion CMBS that have matured so far in 2010 shows roughly 70% have had favourable resolutions, with worse outcomes for the remaining 30%. The agency believes the results are indicative of what will be seen over the next year.

753 conduit/fusion loans with original 60-month terms, totalling US$17.7bn, are scheduled to mature in 2010. Many were originated before the recession, with optimistic forecasts for rent growth and value appreciation. However, CRE prices are now 40% lower than their October 2007 peak.

"It is likely to take several more years before prices appreciate to 2005 levels," says Mike Gerdes, a Moody's svp. "With values down and the economy remaining sluggish, these loans face significant challenges when seeking to refinance."

Despite the difficulties, nearly 63% of original five-year loans which matured by 31 July this year paid off in full, while 8% were extended or unresolved but still performing. From that period, 7% paid off with losses, 3% went into foreclosure and 18% were unresolved and unperforming.

Moody's report says 31% of five-year loans coming due by the end of 2011 fail a refinance test assuming an 8% interest rate, because the result is a debt service coverage ratio (DSCR) of less than 1X. Another 31% achieved a DSCR between 1X and 1.3X. The remaining 38% passed comfortably, with a DSCR greater than 1.3X.

CMBS

US CMBS delinquent unpaid balance rising

According to Realpoint's monthly delinquency report, the delinquent unpaid balance for US CMBS increased by only US$387.9m in July, up to US$60.84bn from US$60.45bn a month prior. This small growth in delinquency follows a six-month average growth of US$3.136bn per month from January through to June 2010 and a similar three-month average growth of US$3.135bn per month from April through to June.

Outside of a substantial US$3.82bn decrease in the 30-day category, the remaining four delinquency categories increased, fuelled by further delinquency degradation and credit deterioration. The distressed 90+ day, foreclosure and REO categories grew in aggregate for the 31st straight month - up by US$4.05bn (9%) from the previous month and US$32.6bn (198%) in the past year.

Overall, the delinquent unpaid balance is up by 137% from one year ago and is now over 27 times the low point of US$2.21bn in March 2007. The total unpaid balance for CMBS pools available for review for the July 2010 remittance was US$780.97bn, down from US$784.86bn in June 2010.

A substantial US$1.035bn in loan workouts and liquidations were reported for July 2010 across 200 loans, at an average loss severity of 54.1%. However, while 18 of these loans at US$157.095m experienced a loss severity near or below 1% (most likely related to workout fees), the 182 loans at US$878.34m experienced an average loss severity near 59%. Year-to-date in 2010, US$4.42bn in loan workouts and liquidations have been reported across 744 loans at an average loss severity of 51%, Realpoint notes.

CMBS

Missed balloons drive Euro CMBS defaults

European CMBS loan defaults continue to increase steadily, according to a new report by Fitch. The agency says 10 loans defaulted in Q210, bringing the total at the end of the quarter to 8.7%.

"At end-Q210, approximately a quarter of the portfolio was reported to be either in breach of a trigger or covenant, or in outright default," says Gioia Dominedo, Fitch European CMBS senior director. "Fitch would expect this proportion to be significantly higher, as approximately half of all loans feature loan-to-value covenants and the majority of these would be breached if the underlying properties were revalued. Instead, only 8% of loans were recorded as being in breach of their LTV covenants at end-Q210."

Fitch says the fasted growing category of defaulted loans is those that have failed to make balloon payments upon their maturity dates, although these only represent 5% of the portfolio so far. The agency also says only 17% of UK CMBS loans are secured by prime collateral, with a similar trend on the continent, leaving the majority of CMBS exposed to difficult market conditions.

"Secondary quality collateral presents a number of challenges: above-average market value declines due to the large, and increasing, yield gap between prime and secondary properties, a shortage of investor interest and a scarcity of bank funding. Equity investors and lenders alike remain concerned about the ability of secondary properties to generate income in the future," says Andrew Currie, Fitch European structured finance md.

Maturity defaults are expected to grow in the coming quarters as the majority of loans fail to make balloon repayments. Fitch added 25 loans to its watch list in the first six months of 2010, bringing the total to 44% of all loans.

CMBS

Japanese CMBS ratings due to stabilise

Moody's says that although it has downgraded ratings on 243 tranches in 42 Japanese CMBS deals, it expects current investment-grade ratings to stabilise. The downgrades - made between 1 January and 31 July 2010 - are mainly due to concerns about collateral recovery, reassessments of its valuations of backing properties and reconsiderations of disposal scenarios for liquidating CMBS.

Moody's ratings analysis will need to take negative rating actions on CMBS only when individual deals are experiencing greater than assumed stress, or when the final recovery of specially serviced loans results in a loss-in-loan on principal.

The agency expects the number and amount of defaulting loans to keep rising, as high-leverage loans sponsored by less-creditworthy entities are still suffering due to the difficult refinancing environment. However, the negative effects of these defaults are already reflected in its CMBS ratings.

Disposal prices in H209 and H110 ranged from 64% to 68% of Moody's initial values. The agency believes that prices will decline further in the near future and are likely to remain at the current level, unless the real estate market recovers quickly.

Distressed assets

Reported Level 3 assets dip modestly

Hard-to-value Level 3 assets at US banks have declined slightly since the beginning of 2010, according to Moody's Weekly Credit Outlook. Relative to tangible common equity, reported Level 3 assets fell for banks such as Bank of America Merrill Lynch, Citigroup, Goldman Sachs, JPMorgan Chase and Morgan Stanley.

The slight decline represents a credit-positive development, analysts at Moody's say. However, they don't expect Level 3 assets to decline much further, given the pressure that investment bank managers face to produce shareholder returns.

"The modest decline in 2010 contrasts with the substantial improvements in 2009 versus 2008 levels, which were driven by banks' rapid deleveraging and common equity raises," the analysts note.

They further add, "because of their inherent valuation uncertainty, we consider Level 3 assets one of the more important disclosures available to bondholders in an opaque industry".

Insurance-linked securities

ILS market going strong

Aon Benfield Securities' ILS annual review says that despite a challenging capital markets environment, the sector has continued to provide value to sponsors and investors.

The review shows that over the past year both ILS issuers and investors have adapted to a new capital markets landscape, which is evidenced by the evolution of the asset class. Despite continued uncertainty and volatility in the global capital markets generally, the ILS market continues to perform strongly, with returns increasingly significantly from the previous year.

The study reveals that market activity remained high during the year ending 30 June 2010, with 20 new transactions totalling US$4.6bn brought to market, compared to US$1.7bn across 11 transactions during the 12 months ending 30 June 2009.

Ratings

Agencies cautioned over 'deceptive ratings'

The US SEC has issued a Report of Investigation, cautioning credit rating agencies about deceptive ratings and the importance of sufficient internal controls over the policies, procedures and methodologies the firms use to determine credit ratings.

The report stems from an enforcement division inquiry into whether Moody's violated the registration provisions or the antifraud provisions of the federal securities laws (SCI passim). However, due to uncertainty regarding a jurisdictional nexus between the US and the relevant ratings conduct, the SEC has declined to pursue a fraud enforcement action in this matter.

According to the report, in early 2007 a Moody's analyst discovered that a computer coding error had upwardly impacted the model output used to determine credit ratings for certain CPDO notes by 1.5 to 3.5 notches. Shortly after this, a Moody's European rating committee voted against taking responsive rating action, partly because of concerns that doing so would negatively impact its business reputation, the report states.

The rating agency applied in June 2007 to be registered with the Commission as an NRSRO. The report notes that the European rating committee's consideration of non-credit related factors in support of the decision to maintain the credit ratings constituted conduct that was contrary to Moody's procedures used to determine credit ratings, as described in its application to the SEC.

The report cautions NRSROs that, when appropriate, the SEC will pursue antifraud enforcement actions against deceptive ratings conduct, including actions pursuant to the Dodd-Frank Wall Street Reform and Consumer Protection Act. It will also pursue provisions regarding conduct that physically occurs outside the US, but involves significant steps or foreseeable effects within the US.

Robert Khuzami, director of the SEC enforcement division, says: "Investors rely upon statements that NRSROs make in their applications and reports submitted to the commission, particularly those that describe how the NRSRO determines credit ratings."

He adds: "It is crucial that NRSROs take steps to assure themselves of the accuracy of those statements and that they have in place sufficient internal controls over the procedures they use to determine credit ratings."

Ratings

Lease accounting proposal neutral for Aussie issuers

According to Moody's, a proposal released by the IASB and FASB in connection with leasing rules are currently ratings-neutral for Australian issuers.

Ian Lewis, Moody analyst and vp, says: "Moody's already accounts for almost all lease liabilities through standard adjustments to balance sheets, profit-and-loss statements and cashflow accounts."

He adds: "As such, the proposed changes would have limited implications for our adjusted financial ratios. On the other hand, the impact on financial covenants contained in existing loan agreements is less clear and Moody's will monitor for possible impacts on a case-by-case basis, should the draft come into force."

The IASB and FASB's proposal is aimed at improving the financial reporting of lease contracts and, if adopted, would see all leases - operating or financial - brought on to company balance sheets. The agency says it remains aware of any action that leads to enhanced transparency and comparability of the financial statements of issuers. In this case, more standardised accounting treatment will be a more positive development for both investors and issuers.

Real Estate

CRE price consensus developing?

Moody's latest REAL Commercial Property Price Indices show that US commercial real estate prices declined by 4% in June, leaving prices 41.4% below the peak recorded in October 2007. However, this is still 4.2% above the recession low that occurred in October 2009.

The decline followed two months of price increases, as performance remains choppy. In the first half of 2010 the index has risen in three months and fallen in the other three. The dollar volume of repeat sales transactions, on which the index is based, has increased significantly over the last two months - from US$800m in April to US$1.5bn in May to US$2.1bn in June.

"The increase in dollar volume in each of the past two months, taken together with this month's 43% increase in the number of repeat sale transactions, may be an early indication that buyers and sellers are starting to agree on market-clearing prices," says Moody md Nick Levidy. "If this is in fact occurring, we would expect transaction volumes to rise steadily and price volatility to ebb in the months to come."

In the second quarter, prices for apartment and office properties increased by 4% and 3.9% respectively, while retail and industrial properties experienced drops of 10.9% and 2.9% respectively.

Regulation

UK risk weights likely to penalise mezz ABS

Judging by its recent discussion paper on trading activities, the UK FSA looks set to apply banking book risk weights to securitisation trading positions. European securitisation analysts at Deutsche Bank point out that, given the headline-grabbing number of structured finance accounting for 75% of all crisis losses (according to a survey of 10 investment banks), it is easy to see why securitisation has been singled out.

However, regulation is focused on the wrong areas, according to the analysts. Despite providing a breakdown of the losses by asset class, policymakers have failed to take into account that by stripping out super-senior structured finance CDOs (including monoline protection), ABS accounts for 20% rather than 75% of losses. If trading books are taken in isolation, this figure reduces further to 7%.

"It appears to us therefore that the rules penalise mezzanine vanilla ABS that have performed as expected, while senior super-senior positions - responsible for the highest proportion of losses - would in theory benefit from a low triple-A risk weighting," the analysts note.

Regulation

Trading regulation changes mooted

The UK FSA has published a discussion paper (DP) that considers fundamental changes to the regulation of trading activities - one of the key recommendations of the Turner Review, following material trading losses incurred during the crisis. Since the Turner Review was published, the Basel Committee on Banking Supervision has proposed several reforms to the prudential regime for banks and in addition has mandated a fundamental review of trading activities called for in the Turner Review.

The FSA believes that the delivery of a new robust, long-term approach to prudential requirements for trading activities is one of the key areas of regulatory reform that must be delivered to build a stronger financial system. The DP therefore outlines the FSA's ideas that need to be considered to address areas of structural weakness that exacerbated the build-up of risk before the financial crisis.

Paul Sharma, FSA director of prudential policy, says: "There are clear benefits of participants in traded financial markets taking risks to facilitate a more efficient allocation of resources across the economy - where these gains in efficiency are real and the risks posed are adequately captured or controlled, we are not seeking to undermine these activities. However, the financial crisis has highlighted that, for trading activities in particular, an over-reliance on the principles of efficient financial markets can lead to severe consequences when risks are misunderstood at a system-wide level."

The DP focuses on three key areas:

• Valuation - the FSA recommends an increased regulatory focus on the valuation of traded positions and believes that there is a need for a specific assessment of valuation uncertainty.
• Coverage, coherence and the capital framework - changing the structure of the capital framework to bring greater coherence and reduce the opportunities for structural arbitrage within the banking sector and the wider financial system.
• Risk management and modelling - specific measures aimed at improving firms' risk management and modelling standards, and ensuring that these are aligned with regulatory objectives.

The closing date for responses is 26 November 2010. The FSA intends to issue a feedback statement in the first half of 2011.

Regulation

AIMA supports central clearing

The Alternative Investment Management Association (AIMA) has set out its key issues ahead of September meetings with US policymakers and supervisors regarding the Dodd-Frank Act. These include the registration of hedge fund managers and the reporting of systemically relevant data in the interests of a broader financial stability assessment; OTC derivatives; the revised 'Volcker Rule'; and the goal of global regulatory consistency.

Todd Groome, chairman of AIMA, says: "We support OTC derivatives reform, including the introduction of central clearing. However, we remain focused on certain implementation issues, such as direct access, governance and capital or margin requirements."

He adds: "From the outset, we have also called for a globally consistent and coordinated regulatory framework. Many of the measures that feature in the Dodd-Frank Act are being discussed in other jurisdictions, and it is desirable that there is a large degree of consistency in terms of approach and implementation."

RMBS

Tough choices ahead in GSE reform

The rehabilitation of Fannie Mae and Freddie Mac began with the US Treasury's conference on the future of housing finance (see last issue), according to Deutsche Bank ABS analysts. The conference appears to have established a consensus on how the GSEs should look going forward.

The consensus includes:

• The MBS guarantee business being re-launched, backed by catastrophe insurance from the US.
• An end to the portfolio investment business, except for limited warehousing of residential and multi-family loans before securitisation.
• The GSEs restructured as co-ops, capitalised by the same originators that need securitisation.
• An MBS guarantee and cashflow designed to fit the TBA pass-through market.

The analysts note that reaching a consensus is the easy part, with tougher issues such as the types of loans guaranteed by the new GSEs, the capital required and the costs of the government insurance all set to prove far more testing.

Investors are keen for the standardisation of MBS and TBA liquidity to be preserved, which the analysts indicate would mean adding new GSEs without changing Fannie and Freddie. They say past rivalry has kept Fannie and Freddie from matching each other's pass-through structures, but rehabilitation may change that.

With a receptive market and uniform government insurance backing the programmes, the analysts believe the securities market might treat the programmes as fungible for TBA trading, which could create a far more liquid MBS market.

RMBS

FDIC closes AmTrust deal

The FDIC has closed on a sale of 40% equity interest in a limited liability company (LLC) created to hold approximately US$1.7bn of primarily non-performing commercial acquisition, development and construction loan assets and owned real estate out of AmTrust Bank. The structured transaction's winning bidder is PMO Loan Acquisition Venture (PMO) - a consortium controlled by Oaktree Capital Management, Toll Brothers and Milestone Asset Opportunity - at a price of approximately 40% of the balance of the portfolio.

As an equity participant, the FDIC - receiver for AmTrust Bank - will retain a 60% stake in the LLC and share in the returns on the assets. The FDIC offered 1:1 leverage financing, inclusive of a financing facility resulting in the creation of US$311.8m of original principal amount of purchase money notes issued by the LLC.

Additionally, the FDIC has funded a development funding account that will supplement contributions by the PMO Consortium to finance certain permitted development activities related to the assets.

While 75% of the notes - US$233.9m - will be guaranteed by the FDIC in its corporate capacity, it is unlikely that a call will ever be necessary on this guarantee. This is primarily due to restrictions in the priority of payments limiting distributions to the equity, as well as the relatively high level of over collateralisation of the notes.

The FDIC will convey to the LLC a portfolio of approximately US$1.7bn CADC loans and owned real estate, of which about 78% are ADC loans with the remainder being owned real estate. As the LLC's managing equity owner, the PMO consortium will provide for the management, servicing and ultimate disposition of the LLC's assets.

AmTrust bank failed on 4 December 2009 and the FDIC immediately entered into a purchase and assumption agreement with New York Community Bank to assume all the deposits and approximately US$9bn of the assets. This transaction completes the sale of the majority of the remaining assets of AmTrust Bank.

RMBS

Prime bucks trends in non-agency remits

The latest non-agency RMBS remits indicate that, after surprising last month, prime prepays fell in most indices, while 30-day and total 60-plus day delinquencies declined slightly. Modification activity was consistent with July's pace, according to MBS analysts at JPMorgan.

The balance of 60-plus day delinquencies fell slightly for every index except prime, which rose 7bp. 60-plus day delinquencies in PrimeX.ARM.1 and 2 have reached 10.69% and 15.47% respectively, approximately 4% higher than the 6.09% and 11.78% on the fixed rate side.

CDRs decreased from last month, with subprime CDRs settling in the 11% area of 06-2 and later vintages. Pay option ARM and later vintage alt-A ARM deals have slightly higher CDRs than subprime, at 12%-15%.

Loss severities continued to rise, increasing by 2.4% in subprime to reach 73%. Alt-A increased 1.4% to 61%, although a wide range of between 55% and 72% is noted depending on vintage and collateral. Prime again proved to be the exception to the rule, with loss severities declining to 39.4%.

PrimeX.ARM voluntary prepays decreased by 1.7% and 3.1% for ARM.1 and ARM.2 respectively, to reach 14% and 10.8%. PrimeX.FRM prepays were to 14% and 11% for FRM.1 and FRM.2. Subprime and Option ARM prepays were unchanged at 1.0% and 1.2% respectively, with a larger number of subprime deals posting close to 0 CPR.

The number of modifications in August was 4660, which is lower than July, with subprime and alt-A accounting for the bulk of that figure. The average interest reduction for rate modifications increased 26bp to reach 3.1%.

Moody's notes in its latest ResiLandscape publication that subprime mortgage delinquency levels appear to show the most improvement in the first half of 2010, while the Alt-A and prime sectors have seen similar but less pronounced improvement over the same period. The serious delinquency level of subprime deals serviced by the five major US RMBS servicers has declined by approximately 2.5% in the first half of 2010, with Alt-A and prime delinquency levels increasing by approximately 0.3% and 0.4% respectively during the same period.

Overall, GMAC-serviced deals show the most improvement in serious delinquency rate (11.08%), followed by JPMorgan (2.8%), BAC (-1.48%) and CitiMortgage (-4.89%), according to Moody's. This rank order is consistent with the level of modifications performed by these servicers, with GMAC performing the highest level of modifications, followed by JPMorgan, BAC and CitiMortgage. This indicates that in times dominated by loss mitigation efforts, the servicer makes a significant impact on residential mortgage loan performance.

RMBS

Agency MBS supply concerns mount

With the Mortgage Bankers Association's refi index at 4,944 last week, analysts at Barclays Capital note that concerns about agency MBS supply continue to fuel the directionality in the MBS basis. The MBA's Market Composite Index of loan applications increased by 4.9% on a seasonal basis for the week ending 20 August.

New home sales, which are running at about US$275,000 per year, should add US$62n of net supply per year, the analysts say. While existing home sales are likely to reduce net MBS supply, since about 60% of the sales are in the agency space, the impact on net agency MBS supply should be about US$106bn.

Another factor that is expected to shrink net supply is GSE buyouts. Since the agencies are buying out about US$14bn delinquent loans per month, this should shrink net supply by US$168bn per year, the analysts add. They further expect about US$187bn of net supply coming from non-agency to agency refinancing, adding in alt-A and subprime loans.

RMBS

Mortgage modifications slow

July saw another 37,000 borrowers on HAMP trials convert to permanent modification, according to the latest mortgage modifications report compiled by MBS analysts at Bank of America Merrill Lynch. The conversion rate to-date for trial modifications becoming permanent is 33% and another 20% are still in an active trial.

The number of new trials in July fell once more, with only 25,000 new entrants to the programme. The BAML analysts expect the levels of new trials to remain low from now on, allowing servicers to work through their aged trials. The arrival of 'HAMP 2.0' in October will give servicers another chance to re-evaluate modifications, the analysts say.

Cancelled trials rose to 617,000, which is 47% of all trials started. The eight largest servicers say that, of the trials cancelled by them, 45% have moved into an alternative modification, while only 7,000 homes have been foreclosed on. The analysts say this is evidence of the programmes helping to create an orderly disposition of properties.

Non-agency modification rates dropped, with the largest decrease coming in the alt-A sector, where annualised modification rates went from 5.3% to 4%. Most modifications are still coming from the 90-plus day bucket, but JPMorgan has reported that July saw current loans in the prime and alt-A sectors account for 51% and 43% respectively of their modifications (see separate News Round-up story).

RMBS

Jumbo prepayments accelerating

Both fixed and ARM jumbo prepayment speeds increased in July. The month saw jumbo fixed speeds rise by 1.3% CRR, while jumbo hybrid ARM prepayments increased by 1.6% CRR. Defaults were flat for most sectors, with increases seen in prime and alt-A ARMs.

The 2007 vintage saw the least acceleration, according to MBS analysts at Bank of America Merrill Lynch. They expect prepayment speeds to increase for seasoned prime collateral and vintages from 2004 or earlier, peaking in the mid- to high-20% range over the next few months. They anticipate a limited response for other non-agency sectors and vintages, due to current LTVs and borrower credit constraints.

Alt-A current-to-30 day delinquent transition rates declined, having risen a month earlier. Prime current-to-30 day transition rates improved modestly, while option ARM and subprime ARM roll rates increased. There were also declines for the 90 day-to-foreclosure and foreclosure-to-REO transition rates.

Non-agency delinquencies were relatively flat in July, with 30.4% of loans 60-plus days delinquent. There was a 0.8% drop for subprime delinquencies, which have now reached 43.9%.

Alt-A and option ARM delinquencies improved by 0.2% and 1.2% respectively. Prime delinquencies rose to 10.5%. REO and foreclosure inventory have also been declining, say the BAML analysts.

They also note that the number of homes in REO declined from the October 2008 peak of 327,000 to 160,000. The number of REOs has dropped by 7% since the start of the year and the number of loans in foreclosure has dropped by 12.4%. These figures support the analysts' view that government programmes will keep the liquidation process orderly and prevent a double dip in housing prices.

Meanwhile, liquidations increased by 1.4% CDR for the 2007 prime ARM vintage, picking up to 7.7% CDR. Severities were mixed, increasing for prime and subprime while decreasing for alt-A and option ARMs. The analysts explain that the increase in the number of short sales and improvements in some housing markets have helped keep severities stable, but they expect severities to increase slightly going forward, reflecting extended timelines.

RMBS

Dutch RMBS restructuring completed

Achmea Hypotheekbank has restructured and priced its previously retained prime RMBS, DMPL VI, via Deutsche Bank, RBS and JPMorgan. A JPMorgan affiliate purchased €500m of the €653.1m triple-A rated 4.19-year class A tranche at 126bp over three-month Euribor.

S&P confirmed that its credit rating on the class A notes is unlikely to be affected by the restructuring of the transaction, which was originated by Achmea Hypotheekbank in February 2009. The restructuring included changes to the capital structure and the introduction of a collection foundation account.

The original capital structure of DMPL VI comprised a €750m class A tranche with a €33m reserve fund. The note's legal final maturity was in January 2041 and the optional redemption date was October 2013.

Under the new structure, the class A notes will reduce to €653m and DMPL VI will issue a new collateralised unrated tranche, class M, in the amount of €38m. The transaction parties will reduce its reserve fund to approximately €6.9m from the original balance of €33m. The optional redemption is now October 2015 and the legal final maturity remains at January 2041.

Similar to other Dutch transactions recently, the new structure will also incorporate a 'collection foundation account', where the collections go into a bankruptcy-remote SPE account.

Meanwhile, Moody's has assigned provisional credit ratings to six classes of Dutch RMBS notes, Storm 2010-III. All notes in the transaction are due to mature in 2052.

The €198m senior class A1 notes and the €657m senior class A2 notes are rated triple-A, the €16.2m mezzanine class B notes are rated Aa1 and the €13.5m mezzanine class C notes are rated Aa2. Finally, the €15.3m junior class D notes are rated A1, while the €9m subordinated class E notes are rated Baa3.

RMBS

UK NC RMBS performance still improving

UK non-conforming RMBS continues to see an improvement in the performance of the underlying collateral portfolios, according to Fitch. During Q210, loans in arrears for more than three months - inclusive of repossessions - have fallen to 18.6% from 19.7% in Q110. Improvement in performance was further supported by a drop in current outstanding repossessions to 1% in Q210 from 1.4%.

The agency says that it attributes this improvement to the continued low interest rate environment, which has made it more affordable for borrowers with monthly payments difficulties. This has resulted in lower repossession activity and, subsequently, lower realised losses.

The effect of this has been to allow previously depleted reserve funds to top back up towards their target levels. 31 transactions have either replenished or are replenishing their reserve funds and only nine transactions remain with fully utilised reserve funds this quarter, compared to 13 in Q110.

"UK non-conforming RMBS have gone through a period of significant stress and are now stabilising. The replenishment of reserve funds is a positive factor and returns transactions to their pre-stress status, giving them more protection to cope with any future stresses," says Peter Dossett, Fitch RMBS director.

However, the agency expects further house price declines, which would result in higher loss severities and also an increase in the number of borrowers having difficulties meeting mortgage payments when interest rates increase.

RMBS

Reverse mortgage surveillance criteria published

S&P has published its methodology and assumptions for surveilling rated US RMBS transactions backed by reverse mortgage loans. The agency has incorporated updated loan-level information into its transaction analysis. This information typically includes current loan balances, adjusted property value - resulting in updated loan-to-value ratios - and the current status of each loan in the transaction.

S&P's surveillance methodology for the sector involves removing paid off or liquidated loans from the pool and calculating the impact that it expects the remaining pool to have on the payment for each class. It then uses seven key assumptions to calculate losses during the surveillance process: repayment speeds; draw rates; market value declines; technical defaults; maturity and liquidations; funding accounts; and FHA insurance assumptions.

The assumptions also apply to its cashflow analysis, which is used to determine the distribution of the flow of funds and the payments to each class of notes.

RMBS

Resi loss severity tool launched

Steel Mountain Capital Management affiliate SMART Servicing has released a proprietary servicing management asset recovery & tracking (SMART) software solution. The SMART application provides residential mortgage loan market professionals with asset-level transparency and loan-level information necessary to control loss severity.

The software is designed to work in conjunction with existing servicing systems and loss mitigation processes. It provides customised screen views allowing users to track and summarise more than 740 loan-level characteristics and related daily servicer actions. The database is updated nightly with proprietary scripts via a user's existing servicing data.

Kelly Wayne Garland, Steel Mountain md, says: "We have enhanced SMART with real world experience, asset-level transparency and tools that promote agile asset management decisions."

Technology

Collateral management tool enhanced

SEI has expanded its middle office outsourcing services to include collateral management for OTC derivatives. The service will provide its asset manager clients with an automated, controlled and independent method to manage their counterparty exposure.

Additionally, SEI has entered into partnership with Lombard Risk to integrate its Colline system into SEI's hedge fund platform. The system features an automated workflow that provides a consolidated view of daily deliverables, facilitates communication and approvals between SEI and its clients, and improves transparency by tracking assets during the workflow process.