Sunday, 21 October 2007

More RMBS downgrades compound SIV headaches

Firstly to the downgrades:

Fitch Affirms $1.27B & Downgrades $265.5MM from 4 IndyMac Subprime Transactions

Fitch Ratings has taken the following rating actions on IndyMac Banks INABS certificates. Affirmations total $1.27 billion and downgrades total $265.5 million.

The rating actions are based on changes that Fitch has made to its subprime loss forecasting assumptions. The updated assumptions better capture the deteriorating performance of pools from 2006 and late 2005 with regard to continued poor loan performance and home price weakness. Additional details are available in the following research, also available at

Just days after S&P downgraded 1,713 RMBS issued in the first half of this year comes this:

S&P Lowers Ratings on 1,413 U.S. RMBS.

Standard & Poor's Ratings Services announced today that it has downgraded 1,413 of U.S. residential mortgage-backed securities (RMBS) backed by first-lien subprime mortgage loans that were issued from the beginning of the fourth quarter of 2005 through the fourth quarter of 2006. These downgraded securities had an original par value of $22.02 billion, which represents 4% of the $554.4 billion of U.S. RMBS backed by first-lien subprime mortgage loans rated by S&P during this period. These actions, combined with downgrades previously announced by
S&P, impact a total of 1,671 securities of U.S. RMBS backed by first-lien subprime mortgage loans issued during this period, representing $24.8 billion, or 4.5% of the $554.4 billion mentioned above. S&P also affirmed its ratings on securities representing $531.6 billion original par value of U.S. RMBS backed by first- lien subprime mortgage loans from this same

Of the 1,413 securities downgraded today, approximately 47% were rated in the 'BBB' category and below. Fifteen 'AAA' rated securities were downgraded, accounting for roughly 0.01% of all downgraded securities and 1.1% of the total dollar amount downgraded. No 'AAA' rating was lowered below 'AA'.

We took these rating actions at this time because, based on the most recent data, we expect further delinquencies and losses on the underlying mortgage loans; the consequent reduction of credit support from current and projected losses; and continued declines in home values.

As mentioned previously the ratings agencies have been behind the eight-ball from the get-go. However the fact that they have finally gotten around to re-rating this junk does little to instill confidence in already shaky credit markets. Particularly in light of the new threat to gloabl credit markets in the form of SIV's. Speaking of which:

Cheyne, IKB SIVs Default on Commercial Paper as Assets Fall

Cheyne Finance Plc and IKB Deutsche Industriebank AG's Rhinebridge Plc, two structured investment vehicles that bought securities backed by home loans, defaulted on more than $7 billion of debt as the value of their holdings fell....

Rhinebridge, set up and run by a unit of Dusseldorf-based IKB, missed payment on $65 million of commercial paper yesterday after revaluing collateralized debt obligations, Fitch Ratings and Standard & Poor's said.

Rhinebridge has $791 million of commercial paper and a portfolio with a face value of $1.1 billion, S&P said. The market value of the assets is now 63 percent of face value, having fallen $69 million since Oct. 16 alone, S&P said. Revaluations of CDOs of asset-backed securities have caused a ``dramatic'' fall in value, the rating company said....

Receivers from Deloitte & Touche LLP are trying to organize a bailout of Cheyne Finance by restructuring its debt or selling its assets. Cheyne Finance hasn't paid commercial paper that matured after the receivers' announcement on Oct. 17, S&P said.

Cheyne Finance's managers said its assets are worth 93 percent of face value, enough to pay back all of its $6.6 billion of senior debt, S&P said. CDOs of asset-backed securities make up 6 percent of Cheyne Finance's holdings....

Mainsail II Ltd., a SIV set up by London-based hedge-fund manager Solent Capital Partners LLP, said yesterday it had assets with a face value of $1.48 billion and debts of $1.65 billion.

As I intimated recently in Credit Crunch 2.0, SIV's are taking center stage in this new round of volatility. Given the urgency with which Comedian, I mean Treasury Secretary Paulson has been scurrying about trying to sell the SIV bailout plan, this round has the potential to be worse than the mid August dislocation.

The author of the blog 'naked capitalism' has written some excellent posts on the SIV bailout plan. The best among them I think was his post of October 20th which outlined among other things the inappropriateness of Paulson's jawboning on the subject of the MLEC. Below is just an excerpt, click on the link for the full post which is well worth a read.

SIV Rescue Plan: From Smoke and Mirrors to Jawboning

Paulson, the former CEO of Goldman Sachs, is even by Wall Street standards, a high-testosterone, can-do type. He came up through Investment Banking Services, which was the sales team for Goldman's service to big corporations (such as M&A, underwritings, real estate finance). Being cerebral is not a plus in IBS. They are paid to close deals, not to question whether the deals make any sense.

Now some people manage to overcome their upbringing, but Paulson does not appear to be one of them. He is unduly identifying himself and the Treasury with this plan (which as we said before and will address later, is a terrible precedent), and is refusing to see the widespread criticism as probably well founded (everyone on the Street wants the problem solved. Industry participants have if anything a bias in favor of a solution). Instead, he is marshaling resources to press onward regardless....

Another interesting and excellent article on the topic of SIV's came from John Maudlin's free weekly newsletter Thoughts from the Frontline. For those who aren't exactly sure what an SIV is John gives an easy to understand overview and his thoughts on the proposed MLEC. Again, below is just an excerpt so click on the link for the full, very informative article.

Taking Out the SIV Garbage

This Monday, Citibank, Bank of America, and JP Morgan Chase announced they intend to set up an $80-100 billion fund which would buy the "good children" of SIVs that are in trouble. As illustrated below (from the Wall Street Journal), they will offer to buy an asset (one of the good children) for $.94 cents plus a 4% note. There are about $400 billion in SIVs, so if they can actually raise the money, it would be a large chunk of the market. Remember, Citigroup has about $80 billion. As I will outline below, I do not think they plan to sell their own good assets into this fund....

I do not think it is to directly bail out Citigroup, B of A, or Morgan. They are going to take some losses to the extent that their SIVs have subprime exposure, as will every SIV and bank sponsor. If there is (speculating) 5% of subprime debt in their SIVs (and no one knows), Citi can easily absorb that. This is a bank that made almost $30 billion pre-tax last year. Annoying to shareholders, but not a capital problem.

I think the problem is elsewhere, and especially in Europe. There are a lot of Rhinebridges out there. We will see a lot more announcements of SIVs being closed in the next few months. One smaller fund in London called Cheyne has $6.6 billion in debt. Cheyne Finance's managers said its assets are worth 93% of face value, enough to pay back all of its $6.6 billion of senior debt, S&P said. CDOs of asset-backed securities make up 6 percent of Cheyne Finance's holdings. The commercial paper gets paid. The equity portion is a total loss and the mezzanine tranche gets whacked....

The Superfund does not solve the problem of what to do with the subprime debt. Those losses are going to find their way onto the balance sheets of the banks eventually.

But what it does do is buy time. Instead of having to take all that debt (both good and bad) from day one, it strings things out. If you bring those loans back into your bank, it means you have less capital to lend. If you can stretch out the process, it allows you to absorb the losses more easily.

This is the crux of it here. Any kind of super fund designed to buy assets is just a delay tactic. However, eventually these assets will have to be marked to market and banks will have to assume responsibility for them by bringing them on to their balance sheets. The banks realize they are going to have to take some hits but they want to do it an orderly fashion and hopefully avoid fire sale prices.

With the help of their shill Paulson it appears the idea has a fair chance of getting up and running by the end of the year. Of more importance to the stock market will be if investors gain confidence from it or see through it as a desperate delay tactic and press the panic button. Whilst uncertainty remains, expect volatility to reign.