Fitch last week completed what might be the first CDO default study based entirely on actual CDO collateral data, as opposed to using the high-yield market as a proxy for high-yield CDO default and recovery statistics.
Notably, Fitch believes that its data dispels the J-Curve methodology - the belief that by holding a defaulted asset, as it approaches workout, the recovery value will increase. Fitch maintains the opposite is often true.
"We determined that not only is the slope of the curve not strongly positive, but it is, in fact, flat or even slightly negative," said Brian Gordon, analyst and author of the report. "Forget about the time-value of money, holding assets to get a better value has not been an effective strategy for CDO managers over the past several years."
As to whether or not this holds true for the rest of the high-yield market, Gordon says, "We are specifically not making any judgments about the high-yield market, which I think is both a limitation and a strength of this particular study."
For the sampling, Fitch pulled 95 deals from its database of about 300, which included all cash flow deals that experienced defaults, as well as selected synthetic deals. The rating agency observed 1,119 data points. All in all, the study looked at nearly $4 billion worth of defaults.
From this data, Fitch concludes that Iridium is the "biggest total wipeout in CDO history," because it was the most widely held asset to suffer total loss (defined as recoveries between $.01 and $.05 on the dollar).
Recall that Iridium was a satellite-telephone venture spun off by Motorola. The company tapped the high-yield market for approximately $1.5 billion before filing for bankruptcy under Chapter 11 in August of 1999.
Thirteen CDOs held Iridium, which accounted for a total par loss of $36.85 million. In Fitch's sampling, there are 124 total losses, for approximately $393 million in par write-downs. Interestingly, some CDOs still carry these wiped out assets on their trustee reports at zero value, and, in a few cases, they are still part of the weighted-average rating calculation, Fitch said in its report.
Overall, for the years 1999 and 2000, Fitch concludes that the high-yield universe (collateral) contained in CDOs outperforms the overall high-yield market. Fitch compares its CDO default findings, 1.83% for 1999 and 3.87% for 2000, with previously issued Fitch reports on the overall high-yield market (4.30% for 1999 and 5.14% for 2000).
Cited from the report: "Based on this data, CDOs appear to benefit from professional management."