Reports from abroad show that while funded note issuance and unfunded credit default swap volume is down, the European CDO market has maintained a strong level of growth. According to Standard & Poor's, continued support of these CDOs is due mostly to more flexible structures and managed transactions.

As of June 2003, S&P reported 89 CDO transactions closed, compared with 47 for the same timeframe last year.

However, volume was down especially in the funded note and unfunded CDS areas; E14 billion (US$16 billion) in funded CDO-backed notes came to the market through June compared with E19 billion for the same period in 2002. As for unfunded CDS, notionals fell to E2.7 billion from E11 billion in 2002.

These numbers don't quite reflect the actual activity in the market, said S&P credit analyst Herve-Pierre Flammier. "Firstly, the figures only include public transactions, whereas the market has been driven by private arbitrage transactions done synthetically," Flammier. "Secondly, 2003 has seen the development of single-tranche CDOs, where the notes issued only amount to a very small portion of the portfolio without the use of a super senior swap structure."

Flammier went on to note that single-tranche CDOs and managed synthetic transactions allow for greater buyside involvement in transaction structuring. Also, there has been a trend toward managed synthetic deals. Last year's poor performance in the corporate credit market helped drive this trend.

The benefits of managed portfolios were made apparent by rating volatility in certain CDO transactions, as static deals generally do not allow for trading out credit-impaired assets.

While volumes are unlikely to recover to the levels seen in 2002, the market has shown itself adaptable to changing conditions. "The transactions may be smaller, but the number of deals brought to market in the second half of this year, carefully tailored to suit investors' needs, is likely to beat 2002 levels," Flammier said.

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