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Downgrades Don't Diminish

S&P downgrades CDOs, 2nd mortgage transactions

July 19, 2007


photo of Coco Salazar

Standard & Poor's downgraded hundreds of second-lien residential mortgage-backed securities as well as numerous collateralized debt obligation deals with subprime exposure.

The ratings agency lowered its ratings on 93 tranches from 75 U.S. synthetic CDO of asset-backed securities transactions, according to an announcement today.

The downgrades on the tranches follow last week's lowered ratings on synthetic CDO transactions with exposure to RMBS backed by subprime first-lien collateral.

All of the synthetic CDOs with lowered ratings had synthetic rated overcollateralization ratios that fell below 100% at the current rating levels after the July 12 subprime first-lien downgrades and now have SROC ratios above 100% at the new, lower ratings, S&P stated.

Issuers affected by the CDO of ABS downgrades included Abacus 2006-11 Ltd, ARLO VI Ltd., ARLO VII Ltd., Buchanan SPC, Coliseum SPC, Cookson SPC, Coriolanus Ltd., Eirles Two Ltd., Ixion PLC, Magnolia Finance II PLC, Rutland Rated Investments, and USP SPC, according to the announcement.

Additionally, the analysis on the 93 tranches reportedly incorporated the downgrade of 418 closed-end second-lien RMBS classes S&P announced earlier today to resolve 229 outstanding CreditWatch actions taken since last October such second-lien collateral.

"Standard & Poor's is taking these actions because it believes that losses on U.S. RMBS backed by closed-end second-lien collateral will significantly exceed historical precedent and our original assumptions," the ratings agency said in the announcement earlier today. The transactions "have been experiencing high early payment defaults that have not abated."

Among the factors S&P cited for the poor performance were looser underwriting standards; pressure on home prices; speculative borrowing behavior; risk layering; very high combined loan-to-values; borrowers pressured from payment increases on first-lien loans; and questionable data quality. Additionally, further delinquencies and defaults are expected to result from some borrowers' inability to refinance amid recently tighter underwriting standards, an increase in interest rates, and home price erosion in various regions of the country.

"Originally, we believed that these losses might abate and that the transactions would revert to delinquency and default patterns that are closer to historic norms," S&P added. "However, these transactions have now reached a sufficient level of seasoning for us to conclude that, based on the factors above, they will evidence delinquency and default loss trends indicative of poor future performance that will continue to exceed historic precedent and our original ratings assumptions."

The second mortgage transactions downgraded had an original total balance of approximately $3.8 billion, or approximately 6.1 percent of about $62 billion in U.S. RMBS backed by closed-end second-lien collateral rated by S&P from the beginning of January 2005 through the end of January 2007.

The New York-based agency noted there has been 197 downgrades for closed-end second lien RMBS issued between the beginning of January 2005 through yearend 2006 in addition to today's actions.

Revised ratings or surveillance assumptions focus on current losses to date, losses assumed on currently delinquent loans, and future losses for borrowers who are current on payments. S&P said it also adjusted its stress test in consideration of the speed at which the transactions' credit profiles can change, thus the time periods have been shortened relative to its subprime review.

Of the lowered ratings on the 418 different classes, nearly 79 percent were from classes rated BBB+ or lower, with 35 percent being from the BBB category, over a quarter from 'BB', 16 percent b and nearly 3 percent from CCC. About 17 percent were from the A rating category, over 3 percent from AA and 0.73 percent from AAA, according to the report.

S&P noted that although there are eight AAA rated classes included in the analysis, they are from only three transactions and were not lowered to below investment-grade. Senior certificates from GSAMP Trust 2006-S3, GSAMP Trust 2006-S5, and New Century 2006-S1 were lowered "in keeping with our approach of adjusting the ratings of the more senior classes to reflect the reduced relative protection of these classes when the class right below them is downgraded by four notches or more," S&P indicated.

Coco Salazar is an associate editor and staff writer for MortgageDaily.com.

e-mail: [email protected]

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