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Rating Action:

Moody's confirms rating on $79.5 million of CLO Combination Notes issued by Octagon Loan Funding, Ltd.

21 Dec 2016

New York, December 21, 2016 -- Moody's Investors Service has confirmed the rating on the following note issued by Octagon Loan Funding, Ltd.:

U.S.$95,000,000 Combination Notes (representing components of U.S.$36,700,000 Class B-1 Notes, U.S.$30,700,000 Class C Notes and U.S.$27,600,000 subordinated notes) due 2026 (current rated balance of $79,482,573), Confirmed at A3 (sf); previously on October 7, 2016 A3 (sf) Placed Under Review for Possible Downgrade

Octagon Loan Funding, Ltd., issued in September 2014, is a collateralized loan obligation (CLO) backed primarily by a portfolio of senior secured loans. The transaction's reinvestment period will end in November 2018.

RATINGS RATIONALE

The rating action on the Combination Notes is primarily the result of applying the revised approach we adopted on 7 October 2016 to rating securities backed by both secured debt and equity tranches eligible for refinancing, as described in "Moody's Global Approach to Rating Collateralized Loan Obligations." Under this new approach, we accounted for the risks of a potential refinancing of the CLO debt tranches securing the Combination Notes. In particular, we assigned a 20% probability to the scenario that a refinancing occurs in November 2017, one year after the expiration of the non-call period. Addressing the refinancing risk captures the combined effects of losing future coupon payments from the refinanced CLO debt tranches, as well as shortening the weighted average life/duration of the combination securities.

The rating confirmation also reflects the reduction in rated balance of the Combination Notes since September 2014, by approximately $15.5 million or 16% of the initial rated balance.

Methodology Used for the Rating Action

The principal methodology used in this rating was "Moody's Global Approach to Rating Collateralized Loan Obligations" published in October 2016. Please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.

Factors that Would Lead to an Upgrade or Downgrade of the Rating:

This transaction is subject to a number of factors and circumstances that could lead to either an upgrade or downgrade of the ratings:

1) Macroeconomic uncertainty: CLO performance is subject to a) uncertainty about credit conditions in the general economy and b) the large concentration of upcoming speculative-grade debt maturities, which could make refinancing difficult for issuers.

2) Collateral Manager: Performance can also be affected positively or negatively by a) the manager's investment strategy and behavior and b) differences in the legal interpretation of CLO documentation by different transactional parties owing to embedded ambiguities.

3) Collateral credit risk: A shift towards collateral of better credit quality, or better credit performance of assets collateralizing the transaction than Moody's current expectations, can lead to positive CLO performance. Conversely, a negative shift in credit quality or performance of the collateral can have adverse consequences for CLO performance.

4) Recovery of defaulted assets: Fluctuations in the market value of defaulted assets reported by the trustee and those that Moody's assumes as having defaulted could result in volatility in the deal's OC levels. Further, the timing of recoveries and whether a manager decides to work out or sell defaulted assets create additional uncertainty. Realization of higher than assumed recoveries would positively impact the CLO.

5) Combination securities: The rating on the combination securities, which relies on cash flows paid to the CLO's most junior (equity) liabilities, is subject to a higher degree of volatility than the other rated notes. Moody's models haircuts on the equity cash flows paid on the combination securities based on the target rating of such combination securities. Actual equity distributions that differ significantly from Moody's assumptions can lead to a faster (or slower) speed of reduction in the combination securities' rated balance, thereby resulting in better (or worse) ratings performance than previously expected. In addition, a refinancing of the CLO debt tranches securing the combination securities can change the instrument's credit risk through the loss of future coupon payments from the refinanced CLO debt tranches and a significantly different life/duration after refinancing, while also exacerbating the sensitivity of the combination securities to these uncertain equity cash flows.

In addition to the base case analysis, Moody's conducted analyses to test the sensitivity of the combination securities to alternative assumptions with respect to the distribution of equity cash flows. Below is a summary of the impact of different equity cash flow assumptions on the combination securities' rating (expressed in terms of number of notches difference on Moody's alphanumeric long-term rating scale versus the base case model output, for which a positive difference corresponds to lower expected loss):

100% equity cash flows available over the next 12 months

Combination Notes: +1

100% equity cash flows available over the next 24 months

Combination Notes: +1

Loss and Cash Flow Analysis:

Moody's modeled the transaction using a cash flow model based on the Binomial Expansion Technique, as described in "Moody's Global Approach to Rating Collateralized Loan Obligations."

The key model inputs Moody's used in its analysis, such as par, weighted average rating factor, diversity score and the weighted average recovery rate, are based on its published methodology and could differ from the trustee's reported numbers. In its base case, Moody's analyzed the collateral pool as having a performing par and principal proceeds balance of $399 million, defaulted par of $2.2 million, a weighted average default probability of 21.74% (implying a WARF of 2675), a weighted average recovery rate upon default of 48.17%, a diversity score of 67 and a weighted average spread of 3.87% (before accounting for LIBOR floors).

Moody's incorporates the default and recovery properties of the collateral pool in cash flow model analysis where they are subject to stresses as a function of the target rating on each CLO liability reviewed. Moody's derives the default probability from the credit quality of the collateral pool and Moody's expectation of the remaining life of the collateral pool. The average recovery rate for future defaults is based primarily on the seniority of the assets in the collateral pool. In each case, historical and market performance and the collateral manager's latitude for trading the collateral are also factors.

REGULATORY DISCLOSURES

For further specification of Moody's key rating assumptions and sensitivity analysis, see the sections Methodology Assumptions and Sensitivity to Assumptions of the disclosure form.

Moody's describes its loss and cash flow analysis in the section "Ratings Rationale" of this press release.

Moody's quantitative analysis entails an evaluation of scenarios that stress factors contributing to sensitivity of ratings and take into account the likelihood of severe collateral losses or impaired cash flows. Moody's weights the impact on the rated instruments based on its assumptions of the likelihood of the events in such scenarios occurring.

For ratings issued on a program, series or category/class of debt, this announcement provides certain regulatory disclosures in relation to each rating of a subsequently issued bond or note of the same series or category/class of debt or pursuant to a program for which the ratings are derived exclusively from existing ratings in accordance with Moody's rating practices. For ratings issued on a support provider, this announcement provides certain regulatory disclosures in relation to the credit rating action on the support provider and in relation to each particular credit rating action for securities that derive their credit ratings from the support provider's credit rating. For provisional ratings, this announcement provides certain regulatory disclosures in relation to the provisional rating assigned, and in relation to a definitive rating that may be assigned subsequent to the final issuance of the debt, in each case where the transaction structure and terms have not changed prior to the assignment of the definitive rating in a manner that would have affected the rating. For further information please see the ratings tab on the issuer/entity page for the respective issuer on www.moodys.com.

For any affected securities or rated entities receiving direct credit support from the primary entity(ies) of this credit rating action, and whose ratings may change as a result of this credit rating action, the associated regulatory disclosures will be those of the guarantor entity. Exceptions to this approach exist for the following disclosures, if applicable to jurisdiction: Ancillary Services, Disclosure to rated entity, Disclosure from rated entity.

Regulatory disclosures contained in this press release apply to the credit rating and, if applicable, the related rating outlook or rating review.

Please see www.moodys.com for any updates on changes to the lead rating analyst and to the Moody's legal entity that has issued the rating.

Please see the ratings tab on the issuer/entity page on www.moodys.com for additional regulatory disclosures for each credit rating.

Kristen Contrera
Associate Analyst
Structured Finance Group
Moody's Investors Service, Inc.
250 Greenwich Street
New York, NY 10007
U.S.A.
JOURNALISTS: 212-553-0376
SUBSCRIBERS: 212-553-1653

Min Xu
Associate Managing Director
Structured Finance Group
JOURNALISTS: 212-553-0376
SUBSCRIBERS: 212-553-1653

Releasing Office:
Moody's Investors Service, Inc.
250 Greenwich Street
New York, NY 10007
U.S.A.
JOURNALISTS: 212-553-0376
SUBSCRIBERS: 212-553-1653

No Related Data.
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