757 billlon bottles of beer on the wall

By Anousha Sakoui
Published: January 20 2009 02:00
Financial Times

Banks and other investors face further potential losses amounting to billions of dollars on structured debt investments, as credit rating agencies start to factor in greater risks of default on corporate debt.

Moody's is to review ratings globally on more than 900 so-called synthetic collateralised debt obligations worth about $150bn. These are risky and complex debt products based on pools of corporate credit derivatives.

A large majority of corporate synthetic CDO tranche ratings could be lowered, some by up to seven notches. JPMorgan estimates there are about $757bn outstanding of synthetic CDO tranches based solely on corporate debt derivatives.

Belgian bank KBC shares were hit yesterday for a second day as worries mounted over its exposure to bad collateralised debt obligations and forecast writedowns.

Two-thirds of banks' exposure to monoline bond insurers relate to assets such as corporate CDOs and collateralised loan obligations, twice the amount related to US residential-backed mortgages, according to analysts at ABN Amro, part of Royal Bank of Scotland. The banking industry globally could face further losses in excess of $30bn on these exposures, with Barclays, Deutsche Bank and Natixis among the most exposed, the analysts said in a note.

The rating revisions on CLOs - debt products based on pools of corporate loans - is of greater concern, according to one analyst, because the outcome is less certain. Part of the reason is that it has been harder to value loans - which are less liquid than derivatives - during the course of the crisis, the analyst explained.

"The greater impact is that the uncertainty these changes create might lead to investors selling these instruments, potentially pushing corporate CDS indices wider and further depressing loan prices," said Michael Hampden-Turner, credit strategist at Citigroup.

This could in turn increase funding costs for corporates who price their debt against outstanding CDS and loan markets.

The rating methodology changes come as Moody's has increased its assumptions over the likelihood of defaults on corporate credit linked to synthetic CDOs by 30 per cent.

Standard & Poor's in December put on review for downgrade 197 CLO tranches from 127 vehicles totalling some $3.89bn, and said it would reassess its assumptions and methodologies used to assign CLO ratings.