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Rating Action:

Moody's downgrades Prime 2006-1 SME CDO notes

23 Nov 2010

EUR 190.5 million of debt securities affected

London, 23 November 2010 -- Moody's Investors Service announced today the following rating actions on five classes of notes issued by Prime 2006-1 Funding Limited Partnership and € 9,000,000 PRIME 2006-1 Funding Linked Notes due 2013/15 issued by Landesbank Baden-Württemberg ("LBBW"):

Issuer: Prime 2006-1 Funding Limited Partnership

EUR119.6M A Notes, Downgraded to Baa1 (sf); previously on Oct 29, 2009 Downgraded to A1 (sf) and Remained On Review for Possible Downgrade

EUR15M B Notes, Downgraded to B1 (sf); previously on Oct 29, 2009 Downgraded to Ba1 (sf) and Remained On Review for Possible Downgrade

EUR20M C Notes, Downgraded to Caa2 (sf); previously on Oct 29, 2009 Downgraded to B2 (sf) and Remained On Review for Possible Downgrade

EUR13.9M D Notes, Downgraded to Caa3 (sf); previously on Oct 29, 2009 Downgraded to Caa2 (sf) and Remained On Review for Possible Downgrade

EUR13M E Notes, Downgraded to Ca (sf); previously on Oct 29, 2009 Downgraded to Caa3 (sf) and Remained On Review for Possible Downgrade

Issuer: LBBW

EUR9M PRIME 2006-1 Funding Linked Notes due 2013/15 Notes, Downgraded to Caa1 (sf); previously on Oct 29, 2009 Downgraded to B3 (sf) and Placed Under Review for Possible Downgrade

EUR 9,000,000 Prime 2006-1 Funding Linked Notes is a combination note issued by LBBW under a term note program. It is a repackaging of a portion of Classes A and E of SME CDO notes issued by Prime 2006-1 Funding Limited Partnership. The cash flows of the two classes are passed through to the combination notes. With respect to the combination notes, the rating addresses the expected loss posed to investors by the legal final maturity as a proportion of the Rated Balance, where the Rated Balance is equal, at any time, to the principal amount of the combination notes on the closing date minus the aggregate of all payments made from the closing date to such date, either through interest or principal payments. The current rated balance amounts to EUR 6.4 million according to Moody's calculation. The rating incorporates the additional expected loss deriving from LBBW (Aa2/P-1/C-) as the issuer of the combination notes.

RATINGS RATIONALE

Prime 2006-1 Funding Limited Partnership is a cash flow CDO backed by profit participation agreements ("Genussrechte") with or without loss participations which are all subordinated bullet loans issued by German small and medium-sized companies.

The underlying portfolio of Prime 2006-1 currently totals EUR 185.5 million with exposure to 26 obligors as per the investors report dated November 2, 2010. The Class A notes have been paid down by EUR 15.7 million since closing.

The rating actions are driven by the observed credit deterioration in the underlying pool, as well as increased stresses applied by Moody's in order to anticipate further deterioration suggested by recent information included in the reports and obtained from discussions with the originators. Moody's notes as well that today's rating actions also reflect the methodology adjustments addressing the profit and loss participation features embedded in the portfolio Genussrechte. Under these methodology adjustments reduced coupons with maturity extensions were modelled with varying levels of severity corresponding to the ratings of the assets. This was in place of a rating migration approach to assessing likelihood of interest and/or principal deferral as modelled at closing, facilitating the use of CDOROM to model asset losses (described in further detail below).

The credit deterioration is evidenced by an additional EUR 18.5 million of principal deficiencies experienced since last rating action (29 October 2009). Since inception of the transaction EUR 39.5 million principal deficiencies have been reported, including EUR 8.5 million of early terminations repaid at par. The principal deficiency ledger (PDL) has been paid down to EUR 23.7 million at the last payment date. In addition, the weighted average credit quality of the portfolio has migrated from Ba2 to B2 since October 2009. The credit quality is based on LBBW's and HSH's internal ratings mapped to Moody's rating scale.

In its analysis, Moody's applied a number of stressed assumptions as per its standard methodology. This includes a 30% stress to the probability of defaults of each obligor, forward looking stresses, as well as an increased inter-asset correlation (from 3% to 5%) in order to reflect the borrower concentration within Germany. These assumptions mirror Moody's expectations that default rates for these pools are likely to remain at elevated levels despite improvements in the German economy. In addition, due to the subordinated position of the loans in the obligors' capital structure, Moody's assumes a zero recovery rate upon asset default.

In reaching its ratings decisions, Moody's also incorporated the qualitative performance information on individual obligors provided by Altium Mitkap AG as financial advisor in the latest investor report as well as additional information provided by the loan originators on their performance expectations. This information was key to address the potential for elevated refinancing difficulties likely to be faced by an increasing number of the weaker obligors over the coming years to scheduled maturity.

Moody's notes as well that this portfolio shows high concentration levels, as the top five obligors represent close to 40.5% of the pool, with the lowest mapped ratings at Ba3. In order to measure the risk associated with such low granularity, Moody's conducted several sensitivity analyses , including the application of stresses applicable to concentrated pools with non publicly rated issuers, as outlined in Moody's Methodology, "Updated approach to the usage of credit estimates in rated transactions" (October 2009). The volatility of the rating outputs in such sensitivity runs was deemed consistent with the current ratings in light of the collateralisation levels available on the different tranches, which are the following: Class A 151.2%, Class B 132.1%, Class C 113.1%, Class D 102.8%, Class E 94.7%.

Moody's also took into consideration the fact that obligations in this pool provide for maturity extension and coupon deferral, both linked to breach of certain loss triggers. On the one hand, a maturity extension would expose the transaction to poorly performing entities for longer than scheduled. On the other hand, a maturity extension may allow the extending borrower to recover during the extension period. While coupon deferral is cumulative, a default following deferral would lead to the deferred past coupon payments to be lost in addition to the principal amount. Moody's addresses the these specific risk by modelling a maturity extension of up to 2 years for the debt obligations and reducing the coupon earned from the debt obligations. Both of these adjustments depend on the current rating level of each obligation.

Finally, Moody's notes that the transaction generates material excess spread cash flows that have allowed it to substantially cure the PDL and will continue to partially mitigate the impact of defaults as well as potential coupon deferrals.

Sources of additional performance uncertainties include:

1) Low portfolio granularity: The performance of the portfolio depends to a large extent on the credit conditions of a few large obligors that are rated non investment grade, especially when they experience jump to default. Due to the pool's lack of granularity, Moody's supplements its base case scenario with individual scenario analysis.

2) There is the potential for elevated refinancing difficulty regarding the subordinated debt instruments in this portfolio, particularly among obligors with weaker credit quality.

The principal methodologies used in rating the notes were "Moody's Approach to Rating Collateralized Loan Obligations" published in August 2009, "Moody's Approach to Rating Corporate Collateralized Synthetic Obligations" published in September 2009, and "Moody's Approach to Rating CDOs of SMEs in Europe" published in February 2007.

Under these methodologies, Moody's relies on a simulation based framework. Moody's therefore used CDOROM, to generate default and recovery scenarios for each asset in the portfolio. Then Moody's EMEA Cash-Flow model was used in order to compute the associated loss to each tranche in the CDO structure.

Moody's Investors Service did not receive or take into account a third party due diligence report on the underlying assets or financial instruments related to the monitoring of this transaction in the past 6 months.

REGULATORY DISCLOSURES

The rating has been disclosed to the rated entity or its designated agents and issued with no amendment resulting from that disclosure.

Information sources used to prepare the credit rating are the following: parties involved in the ratings; parties not involved in the ratings; public information; confidential and proprietary Moody's Investors Service information; and confidential and proprietary Moody's Analytics information.

Moody's Investors Service considers the quality of information available on the issuer or obligation satisfactory for the purposes of maintaining a credit rating.

Moody's Investors Service may have provided Ancillary or Other Permissible Service(s) to the rated entity or its related third parties within the three years preceding the Credit Rating Action. Please see the ratings disclosure page www.moodys.com/disclosures on our website for further information.

In addition, Moody's publishes a weekly summary of structured finance credit, ratings and methodologies, available to all registered users of our website, at www.moodys.com/SFQuickCheck.

Moody's adopts all necessary measures so that the information it uses in assigning a credit rating is of sufficient quality and from sources Moody's considers to be reliable including, when appropriate, independent third-party sources. However, Moody's is not an auditor and cannot in every instance independently verify or validate information received in the rating process.

Please see ratings tab on the issuer/entity page on Moodys.com for the last rating action and the rating history.

The date on which some Credit Ratings were first released goes back to a time before Moody's Investors Service's Credit Ratings were fully digitized and accurate data may not be available. Consequently, Moody's Investors Service provides a date that it believes is the most reliable and accurate based on the information that is available to it. Please see the ratings disclosure page on our website www.moodys.com for further information.

Please see the Credit Policy page on Moodys.com for the methodologies used in determining ratings, further information on the meaning of each rating category and the definition of default and recovery.

London
Sandra Zhu
Associate Analyst
Structured Finance Group
Moody's Investors Service Ltd.
JOURNALISTS: 44 20 7772 5456
SUBSCRIBERS: 44 20 7772 5454

Paris
Florence Tadjeddine
VP - Senior Credit Officer
Structured Finance Group
Moody's France SAS
JOURNALISTS: 44 20 7772 5456
SUBSCRIBERS: 44 20 7772 5454

Moody's Investors Service Ltd.
One Canada Square
Canary Wharf
London E14 5FA
United Kingdom

Moody's downgrades Prime 2006-1 SME CDO notes
No Related Data.
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