Contents

Structured Finance

Momentum builds

Asian issuers look to emulate Aussie covered bond success

Momentum in the Asia-Pacific covered bond sector is building. While the implementation of new legislation in Australia has triggered significant issuance from that jurisdiction, activity in South Korea and Singapore is expected to materialise within the next few months.

"Almost every Korean bank is looking to do a covered bond," says Warren Lee, global head of structured finance solutions at Standard Chartered. "But they need to build up their fixed rate mortgages first in order to comply with the ratio of fixed rate mortgages that need to go into the covered pool."

Until recently, the majority of mortgages originated in Korea have been floating rate. However, new guidelines released by the Financial Supervisory Commission (FSC) and Financial Supervisory Service (FSS) in July 2011 stipulated that a certain ratio of mortgages in a covered pool - around 30% - should be fixed rate.

"A lot of banks are now getting to the required threshold, so we hope to see some issuance in late Q2 or early Q3 of this year," adds Lee.

Korean banks looking to issue a covered bond will team up with the Korea Housing Finance Corporation (KHFC), which will act as a conduit to issue covered bonds. Jerome Cheng, vp at Moody's, explains that banks will benefit from this process by achieving off-balance sheet treatment for the portfolio - thus helping to improve their asset/liability ratios.

"The logic is that KHFC has done two covered bonds already and there's an investor base that knows the issuer," notes Lee. "The KHFC is also the most viable structure from the Korean government's standpoint."

The KFHC has completed two international deals - one in 2010 and one in 2011 - each sized at US$500m and referencing KHFC's own mortgage portfolio. The Corporation has also issued one domestic transaction.

The US dollar-denominated deals were placed globally, with involvement from US and Asian investors. The transactions, which are rated double-A minus, have tended to attract the credit investor base rather than the rates investor base - although it is understood that interest rate traders and sovereign debt investors showed interest in previous KHFC covered bonds.

Europe remains, as yet, an untapped investor base for Korean covered bonds. But, were a deal to be issued in euros, basis swaps would currently be unfavourable for deal economics.

Thai and Malaysian governments are also understood to be in the early stages of exploring how issuance could work for them, while Japanese issuers may soon revisit the covered bond market, following efforts by Shinsei Bank to issue a deal four years ago. "The government in Singapore has taken note of the robustness of the covered bond market and the recent issuance out of Australia over the past two months. Hopefully, we will see some guidance from the regulators," says Lee.

Since the implementation of covered bond legislation in Australia in October last year (SCI passim), the four major Australian banks have issued approximately €14.5bn-equivalent of product between them. They have tapped both domestic and cross-border markets, issuing in a variety of currencies tailored to meet investor preferences and demand in Europe.

The debut of Australian covered bonds was not without its difficulties, however. According to analysts at JPMorgan, the excitement over the new jurisdiction went into reverse in late-2011, as issuers clogged the market with supply and the European sovereign crisis worsened. This forced issuers to postpone plans to tap the euro market and to focus on the US dollar one instead.

Nevertheless, further supply is expected in the coming year. "In 2012 we expect to see the major banks continue to ramp up issuance under their newly-established programmes and to perhaps see one or more of the larger regional banks test the market," says Fabienne Michaux, md of structured finance at S&P in Australia. "While some participants are evaluating the potential for aggregation structures to pool assets from several smaller and potentially unrated institutions, in our opinion these types of issuances are less likely in the next 12 months."

She adds: "Our opinion reflects investors' current risk aversion and preference for simplicity, coupled with the additional overcollateralisation requirements these types of transactions may require. As a consequence of these factors, securitisation may continue to provide better execution for these issuers than covered bonds."

With covered bond issuance being dominated by the major banks to date, it is currently deemed to be more of a substitute for unsecured debt than securitisation, as the major banks have generally been more sporadic and opportunistic issuers of RMBS (SCI passim). However, Michaux adds that if second tier financial institutions were to issue covered bonds in the future, she would expect this to somewhat impact RMBS issuance from those issuers.

"With the 8% cap in place for covered bonds, we expect the impact on both unsecured debt and securitisation to be relatively modest once the covered bond programmes have ramped up and reach a steady state," she concludes.

AC

Structured Finance

Liquidity issues

Steps taken to address LCR requirements

The securitisation industry remains hopeful that highly rated ABS will ultimately be eligible under the Basel 3 liquidity coverage ratio (LCR). In the meantime, steps are being taken to address the treatment under the LCR of unused bank commitments that support ABS structures.

In their present form, Basel 3 banking regulations exclude ABS from the list of securities eligible for meeting the proposed LCR and Net Stable Funding Ratio (NSFR) requirements. However, asset eligibility under the LCR is expected to be refined by the end of the year.

Certainly the securitisation industry is arguing that ABS should be included as a liquid security under the LCR on the same basis that highly rated covered bonds and corporate bonds can be included. If the asset class isn't included, banks' ability to satisfy the ratio is likely to be severely curtailed.

"Eligibility of highly rated ABS under the LCR will be a significant positive; if they aren't eligible, it will be a significant negative," says James Croke, partner at Chapman and Cutler.

As it stands, the LCR is already impacting how banks treat unused commitments that support ABS, in the form of ABCP, direct bank funding or revolving/variable funding structures. "It's concerning because any credit commitment made to an SPV is treated the same as one made to a financial institution under the LCR," explains Tim Mohan, chief executive partner of Chapman and Cutler. "Such a commitment requires 100% liquid asset coverage, which is grossly out of proportion to the likelihood of credit commitment draws based on the evidence from the recent credit crisis."

He anticipates that such a stipulation will have a significant adverse effect on credit. "Industry associations have proposed a 15% liquid asset requirement against the portion of a bank commitment that is supported by an asset borrowing base as being more appropriate for securitisation credit commitments - which is still very conservative, given a commitment draw-down range of 3%-4% during the most recent financial crisis. Regular credit commitments to non-financial institution borrowers require 10% liquid asset coverage, so something in line with this would make more sense."

In response, a number of banks are advancing plans that enable them to issue securities that permit financing consistent with the LCR requirement, notes Croke. "These plans include developing putable and callable notes, which provide issuers with the discretionary ability to manage the maturity dates of such notes so they do not fall into the 30-day bucket, and so keep that portion of the bank's funding outside the LCR."

Such structures are initially only being designed for ABCP programmes and repo funding platforms, but Croke anticipates that over time they will be applicable to the broader ABS and unsecured debt markets, given that these markets will also be impacted by the LCR requirements. He says that these new structures will be facilitated by the ability of clearing agencies to process same-day calls. DTC, for one, aims to have the relevant procedures in place by April.

"Some banks are also considering whether to increase their balance sheet usage as a function of the LCR. If they fund a deal on-balance sheet, they won't have to worry about liquid asset requirements that would otherwise apply to their liquidity commitments to ABCP conduits - which could counterbalance any regulatory capital charges incurred," adds Mohan.

However, he continues: "At the moment, deposits are plentiful to fund this strategy. But this won't always be the case and so balance sheets won't be enough to satisfy future funding needs and the availability of wholesale funding provided by products like ABCP will increase in importance for many banks."

The other area of concern with the LCR, in its current form, is the leverage ratio imposed on foreign banks for the first time and its expansion for US banks to include unfunded commitments of all kinds and durations. The issue is that it essentially creates double-counting when regulatory capital requirements are taken into account.

Meanwhile, the NSFR portion of Basel 3 raises separate issues for banks: it will generally require them to obtain longer-term funding. In the context of other regulations affecting the capital markets, the NSFR could also adversely affect money market funds, which are being incentivised to go short - thus a mismatch between supply and demand could emerge.

Croke says that some of his clients are committed to early implementation of all of the Basel 3 proposals, including the NSFR. "The thinking is that by moving ahead and complying with the rules before their effective date, they can demonstrate profitability notwithstanding the implementation of these proposals, and so address any potential investor concerns early on."

CS

CDS

CACs in play?

CDS market 'perks up' ahead of Greek bond exchange

Low participation rates in the forthcoming Greek government bond exchange are expected to bring collective action clauses (CACs) into play, thus triggering CDS contracts on the sovereign (see also SCI 26 January). However, the impact on the market is likely to be minimal, given the small net notional of Greek CDS outstanding.

A recent RBS investor poll on the Greek PSI suggests that about a 70% participation rate to the Greek bond exchange will be achieved - lower than the 90%-95% targeted by the Institute of International Finance (IIF), which negotiated the swap on behalf of bondholders. CACs - which are being retrofitted to outstanding Greek bonds under legislation approved on 23 February - will likely be enforced, as a result.

But 60% of respondents to the RBS poll also believe that a CDS trigger would not have negative market implications. "These views are consistent with our base-case scenario of a 'hard', non-voluntary restructuring which triggers CDS. We think triggering CDS per se will not affect the market, given the small net notional of Greek CDS outstanding (US$3.2bn) and the lack of exposure across European banks, as shown by EBA data," note credit strategists at the bank.

CACs are essentially used to allow issuers of bonds to implement new terms - such as changing a bond's interest rate or extending its maturity - with the consent of a required majority of bondholders only, according to Cadwalader, Wickersham & Taft special counsel Assia Damianova. "CACs permit the majority to agree to new terms which then become binding on everyone, including the minority bondholders who may have opposed the changes. Without CACs, 100% of bondholders have to agree to modifications in the terms and conditions of the bonds, which is difficult to achieve - especially on a large issue - because there will be hold-outs angling for preferential treatment. In the case of Greek bonds, too, minority bondholders appear to have been resisting the terms of the restructuring already agreed by the majority."

Protection buyers are said to have "perked up" when the Greek government suggested it might resort to CACs, as the exercise of such CAC rights are widely considered to amount to a CDS trigger. Until then, most players had assumed that a voluntary restructuring would be undertaken - which would be unsatisfactory for those that bought CDS because their view is that the protection becomes ineffective on a technicality. Yet if they hold bonds, they still experience significant haircuts, reported to be at 70%.

Certainly the introduction of CACs brings Greek CDS holders a step closer to being able to trigger their protection payments. "If the required majority of bondholders accept terms such as reduced interest and longer maturities and a CAC comes into play, a restructuring credit event may occur - depending, however, on how the restructuring will be designed," Damianova notes. If the old bonds are left outstanding and the bondholders agree to exchange them into new bonds with new terms, then such a 'voluntary' exchange may not trigger a credit event, as the exchange would not change the terms of the existing bonds.

The threshold of the proposed CAC remains unclear. It may be anything between 51%-90%, with widely held bonds more often having thresholds of 90%.

Damianova continues: "The CDS market is watching the situation keenly: if Greek debt is restructured and huge losses are born by bondholders without triggering a credit event, that may bring the value of sovereign CDS into question. There is some unease about what is perceived as a political desire to punish holders of CDS in a situation where the perceived beneficiaries of triggering CDS are hedge funds and the perceived losers - should CDS have to pay out - are thought to be certain European banks."

Under the IIF deal, bondholders are due to exchange 31.5% of their principal into 20 new Greek government bonds with maturities of 11 to 30 years and the rest into short-dated notes issued by the EFSF. The coupon on the new bonds will be set at 2% until February 2015, 3% for the following five years and 4.3% until 2042.

CS

RMBS

'Blueprint' trials

Countrywide settlement moves closer

Bank of America's US$8.5bn Countrywide RMBS settlement case has returned from federal court to New York state court, likely hastening its approval. A resolution of the settlement is expected to provide a blueprint for similar cases against other large originators.

Securitisation analysts at Barclays Capital believe that the return of the Countrywide case to New York is preferable to it remaining with the federal court, which they suggest could have caused BoA "to scuttle the deal entirely". The settlement has been held up in the courts for some time and although returning to New York should speed the process up, it does not mean that the settlement will receive final approval straight away.

The length of the resolution process will have a significant impact on the losses investors will take. The expected settlement value remains at US$8.5bn for non-agency RMBS trusts, with most cash going to subprime and alt-A deals, where the cumulative losses will be highest. The Barcap analysts believe it should present substantial upside potential for senior and some junior mezzanine alt-A/negam bonds that receive more cash before taking losses.

"The settlement provides the largest potential upside to bonds that are cuspy and benefit from a speed-up of prepayments before losses are taken. Subprime front cashflows generally benefit from a shorter average life and a reduction in losses, in both pro rata and sequential structures," the analysts explain.

They continue: "Negam senior and junior mezzanine structures benefit from a fast settlement, but too slow of a settlement can greatly reduce the payments allocated to the mezzanine tranches, as they are largely written down before they receive the settlement payout."

Fitch notes that, if approved, the US$8.5bn settlement is 2% of the original principal balance of private label RMBS covered totalling US$425bn. "It would cover approximately one-half of private label RMBS related to BoA and legacy entities (notably Countrywide). We believe an approval would provide a potential framework for other settlements," the agency says.

The Barcap analysts agree: "If the Countrywide settlement is successfully completed, the settlement should be able to serve as a blueprint for settlements against other large originators and issuers. However, these will likely be smaller in size compared with the Countrywide settlement."

Meanwhile, a second Countrywide court case could also have significant ramifications for RMBS investors. A New York trial court last month ruled on a motion for summary judgement in MBIA's lawsuit against Countrywide, which hinges on the interpretation of standard language describing an originator's repurchase obligations resulting from breaches of loan-level reps and warranties.

If Countrywide's interpretation - that 'adverse affect' means specifically a default or other tangible harm, rather than just an increased likelihood of harm - is accepted by the courts, it would be credit negative for investors pursuing put-back claims, says Moody's in its latest ResiLandscape publication. Instead of having to prove that a breach materially increased the risk of loss, investors would have to prove that a particular breach was actually the primary cause of a loan defaulting.

Conversely, MBIA's interpretation would be favourable for investors. "Under MBIA's interpretation, the repurchase obligation triggers if the originator inaccurately represented the credit quality of the loan on day one of the securitisation and as a result the loan had a higher risk of loss than the originator advertised. Furthermore, the originator would need to repurchase the loan regardless of whether the loan actually defaulted or, if the loan defaulted, regardless of whether the breach actually caused the default," Moody's notes.

Some pooling and servicing agreements contain language that more clearly supports MBIA's interpretation, stipulating that an originator must repurchase a loan if a break affects either the value of the mortgage loan or the interests of the certificate holders. Such a formulation more clearly lends itself to the interpretation that a breach that increases the risk of loss triggers a buyback remedy because the value of the loan is decreased.

JL

CMBS

Euro CMBS trading up

The European secondary CMBS market has been trading up recently. Investor demand is particularly focused on the top of the capital structure, although not necessarily only for top-quality deals, while BWIC activity has also been strong.

"There has certainly been some activity in the market and it is trading up. That has been the trend for a while now, with seniors in particular trading up by about half a point or so over the last week," reports one trader.

He continues: "Investor demand in seniors has been the main theme. That demand has been there now for a couple of weeks and it is right across the board - both in the lower quality deals that trade wider and the higher quality, tight deals."

The larger asset managers are still not getting involved in the market, although a good number of hedge funds and smaller asset managers are participating. The sector has also been awash with BWICs, which the trader says have been well received.

"A significant number of bid-lists have been circulating over the last two weeks or so. They are not exclusively CMBS, but CMBS accounted for a large portion of them. Bad banks are trying to sell assets and it looks like they have been focusing on unloading non-investment grade bonds," the trader says.

He continues: "I am surprised by how well those lists have traded. It has mainly been the bonds very low down the capital structure that have been trading from cash prices in single digits up to maybe the 30s and 40s. So, even though the notionals have been pretty big, the cash proceeds I suppose have not been."

Appetite for mezzanine paper has been weaker. The trader explains: "We're seeing client interest in second-pays and selective mezz. But in general we do not see much client interest in deeper mezz and poor client participation on the recent mezz BWICs."

He concludes: "It looks like a lot of the bonds ended up on dealers' balance sheets. But the lists have continued to trade surprisingly well, in spite of that."

JL

Structured Finance

SCI Start the Week - 27 February

A look at the major activity in structured finance over the past seven days

Pipeline
Another busy week for the pipeline saw a variety of new deals remaining on Friday. Barclays is in the market with Gracechurch Card Programme Funding 2012-1 and 2012-2, which are sized at £750m-equivalent and €300m respectively.
American Money Management has announced AMMC CLO X, a US$400m CLO, while Chubb is in the market with East Lane Re V - a US$125m ILS.
OLCC is bringing Orange Lake Timeshare Trust 2012-A, a US$150m timeshare ABS, and Volkswagen Leasing's VCL 15 - a €718.5m auto lease deal - is also marketing.
Finally, Oz Wing II - a securitisation of Asiana Airlines ticket receivables - joined the pipeline.

Pricings
A wide variety of deals also priced last week. CLOs were well represented, with four transactions printing (€1.14bn IM Cajamar Empresas 4, US$350m Avalon IV, US$358m Octagon Investment Partners XII and US$327m Onex Credit Partners CLO 2012-1).
In addition, two auto ABS (US$200m Exeter Automobile Receivables Trust series 2012-1 and €92.3m TruckLease Compartment No 2) and two CMBS (the US$107m and US$175m GTP Cellular Sites series 2012-1 and series 2012-2 respectively) were issued.
Finally, one equipment ABS (US$998.8m John Deere Owner Trust 2012) and one RMBS (€615m Lanark Master Issuer 2012-1) priced.

Markets
For the most part, structured finance secondary markets had a quiet week last week, thanks primarily to the US holiday last Monday.
Spreads were unmoved across the board in the US ABS markets on lower than average volumes. At the same time, the US CLO market saw stronger volumes, but they only generated a slight tightening bias in the single-A and above sectors.
This quieter trend could continue beyond the holiday shortened week, according to ABS strategists at Bank of America Merrill Lynch. "The financial markets, including structured products market, seem to be heading towards another period of caution," they say.
The BAML analysts argue that caution is warranted, given the potential for higher oil prices, the possibility that the positive sentiment over recent developments in the Greek debt crisis begins to fade, and fiscal tightening and election year politics limiting further progress in the US economy. "These factors, combined with strong year-to-date returns, have led to a recommendation of scaling back exposure to securitised products and retaining exposure to only the highest-quality segments. The higher quality segments would include virtually all ABS," they add.
Non-agency RMBS were also generally flat last week as supply and demand remained balanced, according to residential credit analysts at Barclays Capital. ABX prices recovered, with 2007 AAA LCF rising by 0.75-1.0 point last week, while PrimeX also improved, rising 0.25 point.
There was slightly more movement in US CMBS, albeit on low volumes, Citi securitised products analysts say. They note that weekly flows remained under US$1bn for the second week in a row, versus a year-to-date average before the slowdown of US$1.6bn.
On the low volume, new issuance spreads were unchanged, with 2.0 triple-A tranches at 130bp and 3.0 triple-As at 105bp. Legacy spreads were flat to slightly tighter, with the 2007 and 2006 dupers coming in about 10bp to 195bp and 155bp respectively.
2005 vintage dupers were up modestly to about 125bp. Similarly, GG10s tightened by 7bp to 245bp week-over-week.
However, above average activity was seen in the European CMBS market, according to Deutsche Bank CRE debt analysts. They report an active week in secondary trading, with just under €70m BWIC volumes (with in general strong execution) supplemented by strong OTC trading.
"Investor focus is increasingly at the second/third pay level (often junior triple-As), having started the year at the senior note level," the Deutsche analysts add.

Deal news
• Hatfield Philips, the original special servicer on DECO 8 - UK Conduit 2, has disputed the transfer of special servicing of eight of the 14 loans backing the transaction to Solutus Advisors. The development is said to have significant implications for the rights of junior noteholders of the deal.
• Center Parcs has priced its £1.2bn whole business securitisation, CPUK Finance. The transaction has a number of noteworthy features.
• An update on the progress of the liquidation of the Keops portfolio, securitised in Juno (Eclipse 2007-2), has been released. A total of 147 properties have been sold for a price of Skr4.103bn, compared to a gross valuation of Skr4.242bn.
• BSEC - Bemo Securitisation recently closed two Lebanese securitisations. The transactions will finance the business growth of two local companies, both operating in the auto sector.
• European asset-backed analysts at RBS have identified another European CMBS that is at risk of not paying off at legal maturity in April 2013, following the default of Opera Finance (Uni-Invest). However, the likelihood of other deals defaulting at legal final beyond that date appears harder to predict.
• ESAIL 2007-PR1 class A noteholders have approved an extraordinary resolution in a meeting held on 17 February that terminates the hedging agreement with Lehman Brothers Holding Inc (SCI 24 January). They have agreed to a stipulated and 'agreed claim amount' of US$106m - believed to be only the second Lehman 'busted swap' transaction to reach an agreed claim amount.
• UPC Holding, the largest single obligor in the European CLO universe, has confirmed its TLS debt extension (SCI 16 February). The extension - which pushes out the facility maturity from 2016 to 2019 - was adopted, despite the low consent fee (25bp) and zero margin uplift to debt holders.
• The Langton UK RMBS master trust has been restructured. Under the restructuring, Santander has: repurchased around £18bn of trust collateral; repaid £18.4bn of triple-A rated notes and £3.5bn of unrated Z notes outstanding under the Langton Securities 2008-1 and 2010-1 issuers; and reduced the size of the shared funding reserve fund from £43m to £20.5m.

Regulatory update
• IOSCO's Technical Committee has published a consultation report containing principles designed to provide guidance to securities regulators that are developing or reviewing their regulatory regimes for ongoing ABS disclosure. Dubbed the 'ABS Ongoing Disclosure Principles', the objective is to enhance investor protection by facilitating a better understanding of the issues that should be considered by regulators in developing or reviewing their ongoing disclosure regimes for ABS.

Deals added to the SCI database last week:
Ally Master Owner Trust series 2012-1
American Credit Acceptance Receivables Trust 2012-1
Caja Ingenieros 2
CPUK Finance
First Investors Auto Owner Trust 2012-1
GE Dealer Floorplan Master Note Trust series 2012-1
Honda Auto Receivables Owner Trust 2012-1
Nissan Auto Receivables Owner Trust 2012-A
Red & Black Auto Germany 1

Top stories to come in SCI:
UK cross-border credit card issuance trends
Focus on emerging market ABS
Basel 3 liquidity issues
Focus on German multifamily CMBS
Greek CDS update
Evolution of US special servicer strategies

RMBS

GSE strategic plan disappoints

FHFA acting director Edward DeMarco yesterday sent Congress a strategic plan for the next phase of the conservatorships of Fannie Mae and Freddie Mac. However, it appears not to be the concrete plan of action that some were hoping for.

The FHFA plan builds on DeMarco's February 2010 letter to Congress on the conservatorships and sets forth objectives and steps that it will take to meet its obligations as conservator. It identifies three strategic goals for the next phase of the conservatorships: build, contract and maintain.

The first goal is to build a new infrastructure for the secondary mortgage market, without the GSEs. The FHFA suggests investing in a new securitisation platform that generally resembles a public utility, which would essentially merge the securitisation operations of Fannie and Freddie. It indicates that this new platform would allow for a single mortgage-backed security, with enhanced liquidity for MBS being a central objective.

The second goal is to gradually contract the GSEs' dominant presence in the marketplace while simplifying and shrinking their operations. The FHFA proposes to shift credit risk from the enterprises to private investors by increasing guarantee fee pricing, establishing loss sharing arrangements and expanding reliance on mortgage insurance.

Finally, the plan seeks to maintain foreclosure prevention activities and credit availability for new and refinanced mortgages. An enhanced HARP, as well as increased transparency around rep and warranty policies is also envisaged.

Structured product strategists at FTN Financial note that the only new proposal is the potential consolidation of Fannie and Freddie securitisation operations. While consolidation has been alluded to in the past, they suggest that this is the first time it has been spelled out so clearly.

However, the FTN Financial strategists argue that a concrete plan of action still needs to be proposed, as opposed to another strategic roadmap with several options. They point out that almost all official actions regarding the mortgage market - such as the Fed's agency MBS purchases, the Dodd-Frank Act and loan modification initiatives - have so far favoured the continued dominance of the GSEs.

The strategists suggest that the 2012 US election will potentially be the most critical determinant in a generation of the future of the US mortgage market. They forecast three possible outcomes.

First, a split between the two parties among the two houses of Congress and the Presidency will likely forestall any meaningful resolution to the GSE issue until the mid-term elections in 2014. Second, a sweep by the Democrats has the potential to entrench the current system, possibly using different names for the GSEs.

Third, a sweep by the Republicans has the greatest potential to completely transform the market in the shortest timeframe, but many market participants may feel uncomfortable with such rapid change. In this case, the strategists say, the market will have to pay special attention to non-agency securitisations, covered bonds and potentially non-government sponsored forms of securitisations.

"Federal officials have spent the last 3.5 years diagnosing some of the critical concerns that plague the mortgage finance system in the US. It is our hope that the elections in November provide more clarity for concrete action," they conclude.

CS

Structured Finance

Indian firm names SF md

Violet Arch Capital Advisors has appointed Ravi Agarwal as structured finance md. Agarwal joins the Mumbai-based company from Spinnaker Capital, where he was md for Indian operations.

CDS

Ambac settlement offer, amended plan unveiled

Ambac Financial has, after several months of negotiations, made a settlement offer to the US Internal Revenue Service relating to the dispute regarding the tax treatment of CDS contracts. The IRS has not yet accepted this settlement offer, however.

The principal terms of the settlement offer include: a US$100m payment by the segregated account of Ambac Assurance Corporation; a US$1.9m payment by Ambac Financial; and the relinquishment by the Ambac Financial consolidated tax group of all loss carry-forwards exceeding US$3.4bn resulting from losses on CDS contracts arising on or before 31 December 2010. Finality of the settlement would require the satisfaction of certain conditions, including approvals by the court presiding over Ambac Financial's chapter 11 case and the court presiding over the rehabilitation of the segregated account. Successful resolution of this long-standing dispute with the IRS is a condition precedent to consummation of the monoline's amended plan of reorganisation.

Indeed, on the basis of the settlement offer, Ambac Financial filed a third amended plan with the US Bankruptcy Court on 24 February. It sets forth a description of the settlement offer to the IRS, certain revisions to the previously announced agreement with Ambac Assurance Corporation, the segregated account, the Wisconsin Office of the Commissioner of Insurance, the rehabilitator of the segregated account and the statutory committee of creditors in the chapter 11 case with respect to outstanding tax and expense-related issues between Ambac Financial and Ambac Assurance Corporation.

The amended plan voting and objection deadlines remain 29 February. The Bankruptcy Court confirmation hearing is scheduled for 13 March.

CLOs

Highland CLO acquisition completed

The Carlyle Group has completed the acquisition of four management contracts on €2.1bn in European CLO assets from Highland Capital Management. The acquisition brings Carlyle's CLO assets under management to US$16bn via 32 transactions. Financial terms were not disclosed.

The transaction is Carlyle's first CLO purchase in Europe and builds upon a series of recent CLO acquisitions, including the additions of Stanfield, Mizuho, Foothill and Churchill funds (see SCI's CDO manager transfer database). The four European CLOs are invested primarily in non-investment grade bank loans issued by European companies.

Mitch Petrick, Carlyle md and head of the global market strategies group, comments: "We will continue to use the scale and breadth of our structured credit platform to seize attractive opportunities as the global CLO business continues to consolidate."

Highland is retaining its US CLO assets, which - along with the firm's other strategies - total US$20bn in AUM. "We are expanding our efforts for investors in continental Europe and emerging markets," says James Dondero, president and co-founder of the firm. "We are also growing our leadership position in the US CLO market."

ABS

Credit card delinquencies hit record lows

US credit card charge-offs declined to 4.98% in January, the lowest level since November 2007, according to Moody's Credit Card Indices. Early-stage delinquencies also fell to new record lows, pointing to further declines in charge-offs in the months ahead.

Moody's expects the charge-off rate to continue to fall well into the coming year, eventually moving to below 4% by the end of 2012. "We expect the improvement in credit card performance to continue throughout 2012, although the rate of improvement will slow as the year goes on," says Jeffrey Hibbs, a Moody's avp and analyst.

Charge-offs at each of the six largest credit card programs are at least 30% lower than they were a year ago, because of the attrition of weaker quality credits from collateral pools.

The delinquency rate rose by 2bp in January, to 2.93%, after declining to the lowest level in the 23-plus year history of Moody's Credit Card indices. However, early-stage delinquencies at the 'big six' trusts were flat or even lower, with the index down by 3bp from December 2011 - setting another all-time low.

The payment rate index rose for the second straight month, more than reversing the four previous months of decline. After this month's 50bp increase to 22.08%, the payment rate index is now at an all-time high.

Meanwhile, the yield index declined to 17.90% - its lowest mark since April 2009 - primarily because of the expiration of Discover's discounting mechanism in January, which compounded normal seasonal weakness and resulted in a sharp 123bp decline. None of the big six trusts are discounting principal collections on newly generated receivables any longer, although some trusts are still discounting principal collections on existing receivables.

Finally, after holding at a nearly all-time high of more than 11% for eight months, the excess spread index also declined - to 10.08% - the lowest level since the seasonal low of April 2011. However, even at its current level, the excess spread index remains reasonably healthy and well above historical norms. Moody's expects the excess spread index to increase as charge-offs continue to fall.

ABS

East Lane Re V marketing

The fifth catastrophe bond from Chubb's East Lane programme has begun marketing. The four-year two tranche deal covers losses from hurricanes and severe thunderstorms in the covered area on a per occurrence basis.

East Lane Re V's series 2012 class A and class B notes are initially targeting US$75m and US$50m, respectively. S&P has given the class As a preliminary rating of double-B and the class Bs double-B minus.

The covered area for both perils is Alabama, Florida, Georgia, Louisiana, Mississippi, North Carolina, South Carolina, and Texas. Covered losses are for personal lines property exposures only and will be based on the ultimate net losses of Chubb.

The class A notes will cover a to be determined percentage of losses in excess of US$1bn up to US$1.15bn and the class B notes will cover a to be determined percentage of losses in excess of US$850m up to US$950m.

The deal will have three annual resets effective in March 2013, 2014, and 2015, that will be based on the cedants' exposures as of 2012, 2013, and 2014, respectively. On each reset date, the attachment points for each class of notes will be reset to keep the probability of attachment and expected loss at 1.59% and 1.40% for the class A notes and 2.11% and 1.91% for the class B notes. The initial probabilities of exhaustion for the notes are 1.23% for class A and 1.76% for class B.

East Lane Re V's collateral will be invested in triple-A rated Treasury money market funds. The deal's joint bookrunners are Citi, Deutsche Bank and Goldman Sachs with GC Securities and Willis Capital Markets as co-managers.

ABS

Queen Street V closes

Munich Re's latest catastrophe bond Queen Street V Re (SCI 10 February) has closed. The US$75m deal covers major North Atlantic hurricane risk between April 2012 and March 2015 and major European windstorms between October 2012 and March 2015.

The transaction's single tranche priced at 850bp over Treasury money market funds. It is rated single-B plus by S&P.

Munich Re will be the cedant to the retrocession contract. The notes provide protection to Munich Re for North Atlantic hurricane losses above an index value of 104,000 up to 136,000, and Europe windstorm losses above an index value of 16,400 up to an index value of 19,925 - both on a per-occurrence basis.

The index value for US hurricane peril will be based on industry losses reported by Property Claims Services, allocated to county by calculation agent AIR and predetermined payout factors by county and line of business. The index value for the European windstorm peril will be based on industry losses reported by PERILS and predetermined payout factors by CRESTA Zone.

The Queen Street V Re notes cover US hurricanes that cause loss to the District of Columbia and the following US states: Alabama, Arkansas, Connecticut, Delaware, Florida, Georgia, Illinois, Indiana, Kentucky, Louisiana, Maine, Maryland, Massachusetts, Mississippi, Missouri, New Hampshire, New Jersey, New York, North Carolina, Ohio, Oklahoma, Pennsylvania, Rhode Island, South Carolina, Tennessee, Texas, Vermont, Virginia, and West Virginia. They also cover European windstorm in the following countries: Belgium, Denmark, France, Germany, Ireland, Luxembourg, the Netherlands, Norway, Sweden, Switzerland, and the UK.

Structured Finance

Final IO methodology released

Moody's has published its rating methodology for structured finance interest-only (IO) securities, following its initial request for comment last November (SCI 23 November). The agency is set to downgrade, upgrade or affirm the ratings of some IO bonds and place others on review, as a result.

The ratings framework applies to IO securities on US RMBS, US and European CMBS, and US ABS. Moody's currently rates approximately 3,490 US RMBS, 734 US and European CMBS, and 77 US ABS IO securities - representing 7.1%, 8.5% and 1.5% of ratings in each sector respectively.

Under the new methodology, Moody's ratings will reflect the fact that the risk to the IO holder is essentially equivalent to the weighted average rating of the referenced bonds or assets, except in cases where a ratings cap will be employed. Ratings caps are applied to IOs that reference an entire pool and to IOs that reference non-investment grade rated tranches. Caps are used to account for the volatility of cashflows derived from below-investment grade rated tranches, including first-loss tranches, and the high likelihood of a reduction in cashflows to the IO bond.

"The methodology reflects the results of extensive analysis into the meaning of the IO rating and how to better align structured finance IO ratings with our expected-loss ratings framework," says Moody's senior credit officer Deryk Meherik. "It also reflects our evaluation and analysis of thoughtful market input on the Request for Comment in November."

The published framework has three important changes from the provisions outlined in the RFC. First, the cap on the rating for certain types of IO bonds is Ba3, not B2 as originally proposed.

The revised cap reflects further recognition of the cashflow contribution derived from thicker principal balance senior investment grade rated tranches, the potential for extensions and the servicer advancing mechanism. This affects 569 RMBS IOs, 362 CMBS IOs and 41 ABS IOs.

Second, certain CMBS support IOs will be treated like IOs referencing a single pool, as their credit risk profile is similar in that they reference all of the tranches in the transaction. There are approximately 470 CMBS WAC IOs and support IOs referencing all bonds.

Third, IOs referencing one or more unrated bonds will be rated using the applicable IO type for rated bonds. IOs referencing one unrated bond will be rated like IOs referencing a single rated bond. IOs referencing more than one unrated bond will be rated like IOs referencing multiple bonds or IOs referencing an entire pool, depending upon how they were originally structured.

Structured Finance

IO ratings hit

Following its introduction of a global methodology for rating structured finance interest-only securities (SCI 22 February), Moody's has affirmed nine, upgraded three, downgraded and placed on review for possible downgrade one and downgraded 85 IO classes from 51 large loan/single-borrower CMBS issued between 1997 and 2011. At the same time, the agency affirmed the ratings of 148, downgraded 427, and downgraded and placed on review for possible downgrade 12 IO classes from 418 conduit/fusion CMBS issued between 1997 and 2012.

Moody's has also taken rating action on 44 IO securities from 39 ABS. The agency downgraded 12 franchise and 28 small business ABS IOs to Ba3, and upgraded by one notch one student loan ABS IO.

The methodology addresses expected differences in cashflows to the IO holder that arise from defaults and losses and maps them to a credit rating. The methodology is the result of extensive analysis into the meaning of the IO rating and how to better align IO ratings with Moody's expected loss ratings framework.

Structured Finance

Further sovereign-linked ratings cut

Moody's has downgraded the ratings of 21 notes and placed on review for downgrade the rating on one note from 19 structured finance transactions exposed to assets located in Portugal (SCI passim). The move follows the lowering of the highest achievable structured finance ratings in Portugal, prompted by the downgrade of the Portuguese sovereign rating on 13 February from A2 to Baa1 (SCI passim).

The rating action affects seven ABS and 12 RMBS and sees tranches rated A2 and A3 downgraded to Baa1. Moody's has also placed on review for downgrade the Aaa ratings of one ABS note guaranteed by the European Investment Fund in order to allow further analysis of how these guarantees would perform in the remote but not implausible event of debt redenomination.

Separately, the agency has downgraded the ratings of three notes and placed on review for downgrade the ratings of four notes from five CMBS exposed to assets located in Italy, Spain and Portugal. The action follows the downgrade of Italy, Spain and Portugal.

The affected transactions are RIVOLI Pan Europe 1, FIP Funding, TAURUS CMBS No.2, Epic (Drummond) and Girasole Finance. Moody's notes that the economic and financial conditions which prompted the recent downgrades of Italy, Spain and Portugal increase the likelihood of a significant and uniform deterioration in asset performance. In particular, the default probabilities of the underlying loans at the point of refinancing are driven by constrained commercial real estate lending and low investor demand for assets in the respective countries.

Structured Finance

CIR methodology released

Moody's has published its methodology for counterparty instrument ratings (CIRs), after releasing a request for comment on its proposals last September (SCI 20 September 2011). A CIR addresses the expected loss posed to a counterparty in relation to the payment obligations of an SPV under a financial instrument in a structured finance transaction. The methodology relies on an analysis of the quality of the collateral underlying the structured finance transaction and the transaction structure, as well as the ranking of the SPV's payment obligations under the relevant financial instrument.

In some circumstances, the counterparty's financial strength affects a CIR. For example, if the ranking of any swap termination payment that may become payable by the SPV depends on whether the counterparty is in default at the relevant time, Moody's typically caps the CIR at a level between one and three notches above the counterparty's rating.

Several minor changes have been made to the final methodology compared with the RFC. Most notably, the published methodology says that a CIR applies to a specific counterparty and not to any replacement counterparty, and more detail has been provided on the modelling approach for CIRs relating to liquidity facilities.

Moody's anticipates that the new methodology will have a moderate impact on outstanding CIRs. Five RMBS swap ratings - in Australia (three), Korea (one) and the UK (one) - are likely to be downgraded by up to five notches due to the prospect of subordinated termination payments upon counterparty default. Conversely, the agency expects 20 US RMBS swap ratings - which are currently positioned in line with the relevant counterparty ratings - to be repositioned at a level up to three notches higher than the counterparty ratings.

CDO

Marginal increase seen in Trups CDO defaults

US bank Trups CDOs began 2012 with a marginal increase in both defaults and deferrals, according to Fitch's latest index results for the sector. Defaults rose to 16.74% from 16.71%, while deferrals increased by 0.54% to14.92%. The combined default and deferral rate for bank Trups CDOs now stands at 31.67%.

A closer look at the numbers reveals that two new banks - accounting for US$13m of collateral in two CDOs - defaulted during the month, while three banks - representingUS$279m of collateral across 20 CDOs - began deferring interest on their Trups. The increase in the dollar amount of deferrals was mainly due to a Thrift with large exposure to Trups (US$235m in 20 CDOs) deferring on its interest obligations, according to Fitch. Five new banks resumed interest payments on their Trups (affecting US$67m of collateral in 10 CDOs), which helped to offset last month's new defaults and deferrals.

Through the end of last month 197 bank issuers - representing approximately US$6.3bn held across 83 Trups CDOs - were in default, while 373 deferring bank issuers were impacting interest payments on US$5.6bn of collateral held by 84 Trups CDOs.

CDS

DC deliberating Greek question

ISDA's EMEA Determinations Committee is deliberating whether a restructuring credit event has occurred in connection with the Hellenic Republic, following the submission of a general interest question. It will decide whether to accept the question for deliberation or reject it by the end of tomorrow.

The submission cites the passage by the Greek parliament of legislation that approves the implementation of an exchange offer and vote providing for collective action clauses (CACs) that impose a "haircut amounting to 53.5%" that "shall bind the entirety of the bondholders [of eligible instruments]" (SCI 27 February). The question pertains to whether this constitutes a restructuring credit event because the ECB and national central banks benefitted from "a change in the ranking in priority of payment" as a result of the Hellenic Republic exclusively offering them the ability to exchange out of their "eligible instruments" prior to the exchange and implementation of the CACs, thereby effectively "causing the subordination" of all remaining holders of eligible instruments, and further this announcement results directly or indirectly from a deterioration in the creditworthiness or financial condition of the Hellenic Republic.

CDS

Bespoke CLN executed electronically

Traccr has announced that a Swiss client executed a US$5m bespoke CLN via its electronic platform. The client benefited from live CLN axes posted by dealers to their respective networks of clients - a unique feature recently added to the Traccr offering.

According to Farooq Jaffrey, ceo of Traccr, the client posted request-for-quotes for a CLN referencing an Indian resources company with specific structural features and received competitive offers from multiple dealers. Ultimately, the client traded on the best price with a single dealer.

The platform - which is currently supported by six dealers, with another four in the process of documentation to join - allows dealers to post live axes for both CLNs and CDS to their networks of clients. It also offers clients the ability to bilaterally negotiate terms, real-time execution and confirmation.

CDS

Eastman Kodak results in

The final price of Eastman Kodak Co CDS was determined to be 23.875 at yesterday's auction. 13 dealers submitted initial markets, physical settlement requests and limit orders to settle trades across the market referencing the name.

CDS

Euro CDS tighter on improved sentiment

Improving market sentiment throughout most of Europe has driven credit default swap (CDS) spreads in the region tighter by nearly 4%, according to Fitch Solutions. Helping to drive the improved market sentiment has been European sovereign CDS, which have come in by 4%.

Central and Eastern European countries saw the most improvement. "Poland, Hungary and Czech Republic were at the forefront of the rally with spreads firming between 7% and 8%," says Fitch director Diana Allmendinger.

Northern European sovereigns have also outperformed, with Sweden leading the pack. But the eurozone still has its outliers.

"Belgium and France lagged the sector, with spreads out 2.4% and 1.3% respectively," adds Allmendinger.

CDS

Greek DC decision due tomorrow

ISDA's EMEA Determinations Committee has accepted for consideration the question relating to a potential restructuring credit event with respect to the Hellenic Republic (SCI 28 February). A meeting will be held tomorrow to determine whether a credit event has occurred.

CDS

OTC clearing recommendations released

The IOSCO Technical Committee has published a report detailing its recommendations that authorities should follow in establishing a mandatory clearing regime for standardised OTC derivatives in support of the G20's commitments to improve transparency, mitigate systemic risk and protect against market abuse in these markets. Determination of whether mandatory clearing should apply to a product or set of products, consideration of potential exemptions, establishment of appropriate communication among authorities and with the public, consideration of relevant cross-border issues and monitoring/reviewing progress are all covered in the report. Among the recommendations outlined are: using a bottom-up approach to determine products that are subject to mandatory clearing; clearly setting out the criteria against which mandatory clearing obligations will be assessed and an appropriate timeframe for it to become effective; narrowly define exemptions; and promote international consistency to help minimise the risk of regulatory arbitrage.

CLOs

Smurfit loan extensions agreed

Smurfit Kappa, one of the largest obligors in the European CLO universe, disclosed that it has received consents in excess of 95% for the amend-to-extend request to its loan facilities sent out this month. The minimum level of consent required was 66.66%, according to European asset-backed analysts at RBS.

In addition, lenders holding in excess of 85% of Smurfit's B/C term loan tranches and 70% of the revolver have agreed to extend their commitment. The request sees the maturity of the TLB pushed out from December 2013 to June 2016 and the TLC from December 2014 to March 2017. The revolver, meanwhile, has been extended to June 2016.

In return, Smurfit paid a consent fee of 15bp to all lenders, with term loan lenders due to receive a further 35bp extension fee after a 20% cash prepayment. These lenders will also receive a 50bp margin increase for leverage levels higher than 2.5x or 37.5bp below 2.5x.

CLOs

Euro CLO performance strong, despite challenges

Fitch notes that while European CLOs have to date performed to expectations with fewer defaults than forecast, fundamental and structural challenges remain for the sector.

Fitch-rated CLO tranches have seen no losses to date - partly due to the prevailing low interest rate environment, as well as stressed credits amending and extending. The average credit quality of the underlying loans in CLO portfolios has deteriorated as economic conditions have worsened and better credit quality companies have exited the loan market through bond issuance. Additionally, structures have benefited from excess spread that has been deployed to pay down senior tranches, but also through managers building par into their transactions through the purchase of discounted assets.

However, new CLO issuance was subdued during the crisis with the cessation of the arbitrage that existed pre-2007. This arbitrage had been driven by tight funding spreads pre-crisis, which have since blown out. In addition, primary leveraged loan collateral is in short supply due to traditional market participants no longer facilitating the distribution due to capital constraints, Fitch concludes.

CLOs

Up-tick in defaults forecast for leveraged loans

European CLOs have benefited from lower-than-expected leveraged loan default rates, but Fitch predicts that defaults will markedly increase as weaker borrowers have to refinance their debt. The cumulative default rate for leveraged loans in CLOs since the start of the financial crisis in 2007 is 13%; given the loan ratings then, the agency says it would have expected that number to be 18.5%.

Many of the weakest borrowers will be forced to write off at least some of their existing debt when they reach their refinancing deadline, which for a large number of borrowers is 2014. The default rate seems likely to rise significantly above the trailing twelve-month actual default rate of 2.6% at end-2011.

The absence of a primary loan market and the low credit quality of many of the borrowers means that they will likely find refinancing challenging. Typically so far, these weaker borrowers have extended maturities and amended covenants to relieve near-term financing pressure in exchange for higher funding costsa - although this pattern may be about to change, given UPC Broadband's recent extension in return for a fee with no increase in margin (SCI passim).

Manager trading activity has reduced uncovered losses to approximately 70bp of the average CLO target par. Without this, losses are likely to have been about 4%, given average defaults on a notional basis of 11% (13% by number of obligors) and average senior recoveries of 60%.

CLOs

UPC extension confirmed

UPC Holding, the largest single obligor in the CLO universe, has confirmed its TLS debt extension (SCI 16 February). The extension - which pushes out the facility maturity from 2016 to 2019 - was adopted, despite the low consent fee (25bp) and zero margin uplift to debt holders.

CLO managers currently hold over 51% of the UPC's TLS debt, according to European CLO analysts at RBS. As a result of the extension, over 90% of the firm's total debt matures from 2016 and beyond. In terms of fundamentals, it continues to report strong results, with revenues and earnings respectively increasing by 7% to €4.01bn and 5% to €1.01bn in 2011.

CLOs

Healthy CLO supply continues

Three US CLOs printed in quick succession last week, bringing year-to-date supply to nearly US$3bn. The new pricings comprise Octagon Credit Investor's US$358m Octagon Investment Partners XII (whose triple-A tranche came at 146bp over Libor), Onex Credit Partners' US$327m OCP CLO 2012-1 (150bp over) and Invesco Senior Secured Management's US$350m Avalon IV (150bp) via Deutsche Bank, Citi and UBS respectively. A further three CLOs, accounting for US$1.3bn of volume, are in the pipeline.

Separately, First Data Corp is seeking to amend and extend the maturity of all or a portion of its September 2014 term loans. CLO managers are expected to have an influential say in the process, as FDC is the second-largest exposure in US CLOs (at 1.5%) - accounting for total holdings of around US$3.7bn, according to CDO analysts at JPMorgan.

CMBS

Time in special servicing on the rise

US CMBS loans are spending more time in special servicing, according to a new report from Fitch.

The number of months in special servicing has increased to 16.9 months on average as of year-end 2011 from 12.8 as of year-end 2010 and 9.02 as of year-end 2009. Fitch says the increase in time is due to several factors, including unprecedented transfer volume, varying available liquidity and the complexity of the larger loans that characterise the transfer volume.

The agency expects this trend to continue as the number of transfers to special servicing appear to be increasing. Transfer volume in 2012 to date is over US$5bn, representing over 100 loans. Also contributing to volume will be the five-year loans originated in 2007 that are coming due this year.

Approximately US$83.1bn loans were being worked out by special servicers as of year-end 2011, compared to the high of US$91.2bn in 2Q10. Despite the increasing trend of transfers to special servicing, the volume of loans in special servicing has actually been declining since the peak, due to loans either returning to performing or liquidating via payoff or selling REO.

As of 3Q10, the volume of loans transferring out of special servicing started to exceed the volume of loans going in. At the time, this was caused by both a decrease in transfers to special servicing and an increase in loans being resolved.

The majority (53% or US$44.9bn) of loans moved out of special servicing during 2010-2011 have been modified and returned to master servicing. Fitch is tracking the progress of these modifications over time and whether they re-enter special servicing. Approximately 34% or US$29.2bn were liquidated via DPO, foreclosure or note sale and the remaining 13% were reported as paid in full, Fitch says.

The majority of loans in special servicing are being handled by three special servicers (accounting for 74.1% of the volume), although 37 entities hold special servicer ratings by Fitch. The three most active special servicers are LNR (30% by balance), CWCapital Asset Management (25% by balance) and C-III Asset Management (19% by balance).

CMBS

Dutch CMBS risks highlighted

Recent developments in Dutch CRE loans highlight the risks in the sector and the potential impact on European CMBS transactions, Fitch reports.

Prime asset values appear to have stabilised, but secondary commercial real estate values continue to decline in the Netherlands, the agency says. A combination of falling rental levels - driven by declining occupier demand, sustained high vacancy and an aging stock in need of significant capital expenditure with the negative macroeconomic environment - has resulted in a lack of investment demand for secondary assets.

"More distressed portfolios are likely to come to market this year, which could depress secondary values even further. Our ratings incorporate a negative view on all non-prime Dutch commercial real estate. The size of the price decline will depend on the nature and location of the property," Fitch explains.

The agency cites the Opera Finance (Uni-Invest) CMBS, where Dutch property manager Uni-Invest last week failed to repay a €602m loan before the deal's legal final maturity (SCI passim). Further, it observes that the special servicer and borrowers of the Orange loan - making up 10% of the Fleet Street Three CMBS - have agreed to an enforcement portfolio sale, which will realise €50m to partly repay a €75m loan that was not repaid at maturity in December 2010.

"The Orange loan is backed by a portfolio of Dutch office, retail and mixed property. The legal final maturity of this transaction is not until 2016, which gives the servicer more time and flexibility to work out the loans and maximise recoveries compared with Opera Finance," Fitch says.

The overall exposure of the Fitch-rated European CMBS portfolio to the Netherlands is limited, at 7% by loan balance and 5% by number of loans. Several of these portfolios are being worked out by special servicers, the agency reports.

CMBS

Loan transfer disputed

Hatfield Philips, the original special servicer on DECO 8 - UK Conduit 2, has disputed the transfer of special servicing of eight of the 14 loans backing the transaction to Solutus Advisors. The development is said to have significant implications for the rights of junior noteholders of the deal.

Hatfield Philips says that it is in discussions with the issuer and the trustee of DECO 8, following a 20 February investor notice removing it from its position as special servicer on the transaction. The firm suggests that certain conditions that are required to be met before any replacement can be appointed have not been met and, as such, it will remain as special servicer until those conditions are satisfied.

The loans in questions are: Elbank, Lea Valley, LMK, Mannheim Albemarle, Mannheim Wigmore, Mapeley II, Swiftgold and Upper King Street. £555.51m DECO 8 notes are currently outstanding.

CMBS

Kroll publishes multi-borrower criteria

Kroll Bond Rating Agency (KBRA) has published its methodology for rating US CMBS multi-borrower transactions. It will typically be used for transactions with at least 30 loans that are secured by properties that are diverse relative to the geographic location, property type and sponsor.

KBRA says it developed the criteria with several guiding principles, the most important of which was to base the underlying assumptions on actual CRE performance data, including that from the most recent economic downturn.

The methodology is designed to produce credit modelling results that make distinctions among transactions with differing collateral credit quality and structural features. The foundation of the analysis is KBRA's detailed evaluation of underlying collateral properties' financial and operating performance using its CMBS property evaluation guidelines to determine Kroll net cashflow (KNCF).

"KNCF is a key input used in our credit modelling process. The model deploys rent and occupancy stresses, probability of default regressions and loss given default calculations to generate expected losses for each loan in every payment period through multiple rating scenarios. The aggregation of these losses is used by KBRA to assign our credit ratings," the agency explains.

RMBS

Busted swap claim agreed

ESAIL 2007-PR1 class A noteholders have approved an extraordinary resolution in a meeting held on 17 February that terminates the hedging agreement with Lehman Brothers Holding Inc (SCI 24 January). They have agreed to a stipulated and 'agreed claim amount' of US$106m - believed to only be the second Lehman 'busted swap' transaction to reach an agreed claim amount.

The amount is actually larger than the initial claim of US$97.28m first reported on 29 September 2009, according to European asset-backed analysts at RBS. Based on the revised claim, the result for the size of the agreed claim (at 73.2%) is relatively consistent with the result for ESAIL 2007-6NC (74.7%).

RMBS

Slow improvement seen in shadow inventory

The percentage of US residential mortgage delinquencies and new foreclosures started in 4Q11 declined modestly from the previous quarter, as well as from the levels seen a year ago, according to S&P.

"We believe decreasing delinquencies represent a positive trend for the underlying collateral performance of US RMBS and the housing market's recovery," comments S&P primary research analyst Erkan Erturk. "Combined with lower foreclosure starts, the declines suggest we could see a slow but gradual improvement in the foreclosure inventory in the upcoming quarters."

Total delinquencies - including loans 30 days or more past due, but excluding foreclosures and real estate owned homes - are currently at their lowest point in the last three years and have been gradually falling from their 10.1% peak in the first quarter of 2010. However, the overall percent of mortgages in foreclosure remained elevated but nearly flat from the third quarter. The still elevated foreclosures - which include approximately 1.9 million homes - and distressed home sales signal that home prices will remain under pressure in the upcoming months as those homes are liquidated.

RMBS

Increased MVD for Brazilian RMBS

Fitch has updated its rating criteria for assessing credit risk in Brazilian RMBS. The changes focus on revised assumptions relating to the estimation of default and recovery rates for Brazilian mortgage portfolios with a more forward-looking approach. The revised assumptions include increased market value decline (MVD) assumptions and increased expected foreclosure frequencies, including adjustments for specific product and borrower characteristics.

Many Brazilian RMBS to date have been characterised by a small number of loans and considerable exposure to a few borrowers, Fitch notes. The agency conducts additional analyses to assess credit-enhancement levels of portfolios with low granularity to account for the greater volatility and idiosyncratic risks resulting from loan concentration risk. While RMBS transactions of homebuilder loan pools are rated in accordance with these criteria, it will review their specific performance information on a case-by-case basis to incorporate any additional adjustments, given variations in underwriting standards and perceived conflicts of interest.

Fitch has increased MVD assumptions across all rating scenarios. The MVD encompasses house price decline and quick sale adjustment (QSA) assumptions.

Property price history available for the metropolitan areas of Sao Paulo and Rio de Janeiro indicates that, until 2007, residential property prices in Brazil increased roughly in line with inflation. Yet, over the past three to four years prices more than doubled in the context of easier credit, growing incomes and demographic pressures. Supply of new properties did not accompany growing demand and supply-demand imbalances are not expected to subside soon.

However, prices often have reached levels that are starting to be difficult to justify from an affordability perspective and even more so in Rio de Janeiro and Brasilia than in Sao Paulo. Therefore, in a stressed economic scenario, Fitch expects house prices to decrease considerably. At the same time, foreclosed properties often sell at significant discounts to property valuations due to limited liquidity in the market, which Fitch reflects in its QSAs.

The criteria assumptions will be used for rating both new and existing RMBS transactions. Fitch does not expect any rating changes to the currently rated portfolio resulting from the updates.

RMBS

ML II wound down

The remaining securities in the Maiden Lane II portfolio have been sold. The New York Fed's management of the ML II portfolio will result in full repayment of its US$19.5bn loan and generate a net gain for the benefit of the public of approximately US$2.8bn, including US$580m in accrued interest.

In the latest sale, assets with a current face amount of US$6bn were sold through a competitive process to Credit Suisse. The transaction was prompted by an unsolicited offer from Morgan Stanley to buy the assets.

The three other broker-dealers included in the competitive process were Barclays Capital, Bank of America Merrill Lynch and RBS. They were selected based on the strength of each of their recently submitted offers to acquire ML II securities.

Net proceeds from the latest sale combined with proceeds from previous sales, as well as cashflow the securities generated while held by ML II enable the full repayment of the New York Fed's senior loan plus interest, the junior AIG deferred purchase price plus interest and provide residual income that will be distributed in accordance with the ML II agreements.

RMBS

GSE plan 'promising' for agency, non-agency RMBS

Fitch believes that the FHFA's strategic plan (SCI 22 February) is promising for agency and private label RMBS. It could encourage private capital into the market, improve liquidity, increase transparency and shrink GSE liabilities, the agency says. Additionally, certain facilities already being utilised in the private sector could make several of the proposals less costly and provide for a shorter development timeline than projected.

The plan includes a proposed securitisation platform that would allow for trading and tracking of agency mortgages in an array of securitsed structures. This enhancement to the agency secondary market could have a number of positive impacts. The market pricing of the default/loss risk of loans in agency pools would provide greater clarity and perspective on the mortgage credit risk of this activity, Fitch notes.

The plan also considers more robust loan-level reporting and transparent servicing requirements, which could help attract investment from private investors. And a more efficient document custody and electronic registration system could increase mortgage liquidity. The prospect of using this platform to benchmark private label RMBS could facilitate the revival of non-agency issuance and a secondary mortgage market beyond that of the GSE product.

As proposed, this undertaking would require significant financial and time investments that the agencies may have trouble accessing, however. Fitch points out that the private sector has already created some of the services that FHFA is proposing. For example, the ASF's Project RESTART has created best practices and a standard data layout that has been used for most RMBS private label securitised issuance since 2010.

RMBS

Resi exposures weighing on US banks

Performance of the US banking industry will continue to be weighed down by elevated losses from residential real estate exposure, according to Fitch.

The agency estimates that the top 20 banks could incur aggregate losses in excess of US$80bn on home equity and one to four family portfolios over the next three years. This estimate represents a loss rate of 5.1% on aggregate loans of US$1.6trn, compared to a cumulative historical loss rate of 8.4% since 2008.

While Fitch expects further deterioration in residential loan portfolios, current ratings already reflect the assumption that losses will remain above historical levels for several years. Each bank's ratings have a cushion above the base-case losses outlined by the agency. However, if losses in a bank's home equity and/or one to four family portfolios start to approach Fitch's stress scenario, its ratings would likely come under negative pressure.

US banks' exposure to home equity loans is one of Fitch's top concerns, the agency says. Most of these loans are on bank balance sheets and are concentrated at the largest institutions.

As a majority of them are subordinated, performance remains very much leveraged to further home price declines and potential principal reduction initiatives. Therefore, the agency believes that there is still a reasonable probability that losses in these portfolios could be material.

Large institutions with national portfolios generally tend to have worse credit measures than their regional peers, Fitch notes. The agency partially attributes this to acquired portfolios and looser underwriting standards in some cases. Often, the larger banks have more capital, reserves and earnings capacity to absorb higher losses.

According to Fitch's Sustainable Home Price model, national home prices in the US may decline by approximately 8%-10%, in real terms, over the next several years. Mortgage delinquency rates have improved modestly from their peak in 2010 but remain elevated. Fitch expects delinquency measures to remain stagnant, as a reduction in new delinquencies has been tempered by a slowdown in foreclosure timelines and continued pressure on home prices.