Approximately $112 billion of structured securities affected
New York, March 04, 2009 -- Moody's Investors Service (Moody's) today announced that it will update
four key parameters in its rating and review of U.S. commercial
real estate collateralized debt obligation transactions (CRE CDOs).
The updated parameters will supplement or refine the parameter revisions
adopted in December 2008 as described in the following section entitled
"Background".
First, for CRE CDOs with CUSIP collateral, the additional
default probability stress sometimes applied to resecuritization collateral
will not be applied to Moody's review of conduit and fusion commercial
mortgage backed securities (CMBS) collateral from the 2006 to 2008 vintages
due to a recent ratings sweep of these transactions. Based on Moody's
current expectations for commercial real estate performance, we
have migrated the ratings for recent vintage CMBS to levels that we believe
will remain relatively stable for the next 12 to 24 months. As
such, Moody's has eliminated the vintage stress factor and
default probability resecuritization stress from its analysis of deals
with recent vintage CMBS collateral.
For deals with pre-2006 CMBS collateral, Moody's is
adopting the default probability resecuritization stress assumptions contained
within CDOROM v2.5 to capture the leveraging effect and potential
ratings volatility of the underlying collateral. For CMBS,
this factor is equivalent to two times the probability of default (PD)
for non-Aaa and six times the PD for Aaa-rated collateral.
For CRE CDOs, this factor is equivalent to four times the probability
of default (PD) for non-Aaa and twelve times the PD for Aaa-rated
collateral. The lower stress for CMBS is due to the historical
stable performance of this asset class.
Second, in its cash flow modeling, Moody's will assume
a delay in the default timing to better reflect its expectation of how
the underlying real estate based collateral will perform in this recession.
Third, for CRE CDOs with non-CUSIP collateral, Moody's
is eliminating the additional default probability stress in CDOROM v2.5
that is applied to corporate debt as we anticipate that the underlying
non-CMBS collateral will experience lower default rates and higher
recovery rates.
Fourth, for CRE CDOs with non-CUSIP collateral, Moody's
is reducing the maximum over concentration stress applied to correlation
factors by half due to the diversity of tenants, property types,
and geographic locations inherent in the collateral pools. For
those deals that are significantly less diversified, we will add
back over concentration stress as warranted.
These changes bring into alignment Moody's modeling of CRE CDOs
with its expectations for the performance of the underlying real estate
collateral.
BACKGROUND
On December 19, 2008, Moody's placed on review for possible
downgrade 109 US CRE CDOs because of weakening commercial real estate
market fundamentals and revised key modeling parameters.
The revised parameters in Moody's model for rating and monitoring CRE
CDOs were related to asset correlation, default probability,
and recovery rate. These revisions were consistent with recent
revisions to key parameters for rating and monitoring other collateralized
debt obligation transactions backed by structured finance securities ("SF
CDOs").
Asset Correlation As part of the revised parameters, Moody's
updated its asset correlation assumption for the commercial real estate
sector to be consistent with the February 3, 2009 release of one
of its CRE CDO rating models, CDOROM v2.5 (for more details
on the model please refer to Moody's Special Report "CDOROM
v2.5 User Guide" available at www.moodys.com).
Previously, the average asset correlations used for CMBS within
CRE CDO deals ranged between 15% and 35%, depending
on vintage and issuer diversity. In light of the systemic seizure
of the credit markets, as well as higher intra industry and inter
industry asset correlations, the updated correlation parameters
for CRE CDOs resulted in an average range of asset correlations of between
30% and 60% for CMBS collateral.
Default Probability Default probability is typically captured in Moody's
models in the collateral weighted average rating factor (WARF).
In cases where CUSIP collateral is resecuritized, CDOROM v2.5
adds stress to capture the leveraging effect of the derivative transaction.
In lieu of applying this resecuritization stress to all CUSIP collateral,
Moody's had previously applied a vintage stress factor only to the
CRE CDOs' underlying CMBS collateral issued between 2006 and 2008.
This factor was equivalent to a one-half to two notch downgrade
to the underlying collateral depending on the vintage and was intended
to account in part for increased potential default probability and in
part for the leveraging effect.
Recovery Rate In Moody's analysis of synthetic CRE CDOs, it
historically employed a fixed recovery rate by the asset's original
rating and tranche size. Going forward, Moody's will
use a simulation based mean recovery rate based on the asset's current
rating and tranche size. This is consistent with the assumptions
underlying CDOROM v2.5. By simulating a range of potential
recovery rates around the mean, Moody's expects to capture
in its ratings more of the tail risk associated with variability of recovery
rates.
TIMETABLE FOR ACTION
Moody's review of the 109 transactions that were placed on review
for downgrade in December 2008 initially focused on transactions with
more than 75% pool concentration in CMBS collateral and issued
prior to January 2006. Moody's has completed reviews and
taken action on 30 of the 109 transactions.
Having completed a ratings sweep of 2006-2008 vintage conduit and
fusion CMBS deals in mid-February, Moody's is now embarking
on the second phase of its CRE CDO review which will include transactions
with CMBS collateral issued post-2005. Moody's will
also revisit nine transactions where the previous modeling parameters
were applied along with the 79 remaining CRE CDO transactions with CUSIP
collateral that are currently on review for downgrade. Moody's
anticipates completing reviews of all 109 transactions by March 31,
2009.
A final phase of Moody's CRE CDO ratings sweep will focus on 52
CRE CDOs collateralized primarily by non-CUSIP collateral,
including whole loans, B-notes, and mezzanine debt.
While initial phases of Moody's CRE CDO review involved mostly static
deals, the final phase will involve transactions that have a revolving
period and profile tests.
LIKELY MAGNITUDE OF RATINGS TRANSITIONS
For the 30 transactions that Moody's has completed reviews on and
taken action, the Aaa-rated CRE CDO classes were downgraded
by 8 to 10 notches, on average. Low investment-grade
and speculative grade bonds were downgraded by 4 to 8 notches, on
average.
For the remaining 79 CRE CDO transactions with CUSIP collateral,
Moody's anticipates that the downgrades on all rated classes will
range from 2 to 8 notches in most cases.
For deals with significant exposure to 2006-2008 vintage CMBS,
the magnitude of the downgrades is expected to be at the maximum end of
the range. For deals with earlier vintage CMBS collateral or a
lower weighted average rating factor (WARF), the magnitude of the
downgrades is expected to be at the minimum end of the range. However,
other factors, such as the current credit enhancement, bond
thickness, excess spread, and ratings distribution of the
underlying collateral (collectively, "contributing factors"),
will also influence the results.
For the 52 CRE CDOs collateralized primarily by non-CUSIP collateral,
Moody's anticipates that the downgrades on all rated classes will
range from 7 to 12 notches in most cases. The actual magnitude
of the ratings migration will vary based on the collateral performance,
contributing factors and coverage tests.
As always, Moody's ratings are determined by a committee process
that considers both quantitative and qualitative factors. The rating
outcome may differ from the model output.
This press release updates the modeling parameters in Moody's current
CRE CDO methodologies:
• "U.S. CMBS: Moody's Approach to Rating Synthetic
CMBS Resecuritizations" dated December 19, 2005;
• "U.S. CMBS: Moody's Approach to Rating Static
CDOs Backed by Commercial Real Estate Securities" dated June 17,
2004; and
• "CMBS: Moody's Approach to Revolving Facilities in CDOs Backed
by Commercial Real Estate Interests" dated July 29, 2004.
These methodologies can be found at www.moodys.com in the
Credit Policy & Methodologies directory, in the Ratings Methodologies
subdirectory. Other methodologies and factors that may have been
considered in the process of rating this issue can also be found in the
Credit Policy & Methodologies directory.
For more information please see www.moodys.com.
New York
Michael M. Gerdes
Senior Vice President
Structured Finance Group
Moody's Investors Service
JOURNALISTS: 212-553-0376
SUBSCRIBERS: 212-553-1653
New York
Deryk Meherik
VP - Senior Credit Officer
Structured Finance Group
Moody's Investors Service
JOURNALISTS: 212-553-0376
SUBSCRIBERS: 212-553-1653
Moody's updates four key assumptions for rating U.S. CRE CDOs
