The market may begin to see increasingly more re-issued market value CDOs. That's because a significant amount of market value CDOs, which have performed relatively well, were launched in the late 1990s, so the first crop of such deals is reaching maturity now, according to Joo Hong, associate director at Fitch Ratings. Traditional market value CDOs typically have maturities of seven to eight years, while credit opportunity funds generally mature in five years, a CDO underwriter said.
Sankaty Advisors, a Boston-based credit affiliate of Bain Capital, is one firm that has decided to re-issue its $1 billion market-value CDO - Sankaty High Yield Partners II - and extend the deal for another two years. Late last month, Sankaty issued notes to refinance obligations from its original 1999 market-value CDO. The fund's portfolio consists of about 80% in bank loans and high-yield bonds, while it also invests in a variety of other assets, such as distressed debt, private equity, mezzanine and structured products. Fifteen-month old Halyard Securities, an affiliate of Precision Capital Advisors that includes six former Deutsche Bank Securities CDO professionals, arranged the refinancing for Sankaty's market value CDO. Deutsche Bank had underwritten a significant amount of the market value CDOs that emerged in the late 1990s.
"The fund has done very, very well, and there was significant investor demand to keep it in tact," said Jeff Hawkins, senior vice president of Sankaty, regarding the firm's decision to renew its market value deal.
Sankaty was able to lower the cost of funds, which is an improvement for the deal's equity investors, added Gina Laversa, a managing director at Halyard, who is familiar with the Sankaty High Yield Partners II refinancing. "And for the debt investors, this was an interesting transaction because it was a seasoned and well-performing deal," she said.
Indeed, the move by Sankaty to refinance may be the first in a line of other managers who may find it beneficial to extend their market value deals as well. "The Sankaty deal was approaching its maturity and they chose to extend the deal in order to maximize the return on equity, and we think it's possible that other deals are going to do that," said Alan Dunetz, a senior director at Fitch. "The [Sankaty] deal was performing well and Fitch had affirmed the ratings last fall. One difference from the original transaction is that the reissued senior notes reach a triple-A rating without the use of an insurance wrap," Dunetz noted.
One source noted it would not be surprising if Sankaty refinanced its High Yield Partners III market value CDO as well, as it has a similar structure to the High Yield Partners II deal. That deal matures in 2009.
Several fund managers agree that an influx of refinanced market value CDOs could materialize in the near future, especially if the deal has been performing well and cheap liability costs can be attained. In addition, refinancing a market value deal may be attractive for fund managers that have a fully invested portfolio that would be difficult to replicate again in a new deal.
That said, the ability for a manager to re-issue a market value CDO depends on the success of the CDO in the first place and the reputability of the manager, said a fund manager who has three market value CDOs under management. Therefore, not all market value CDOs may be able to refinance their deals. "It's on a deal-by-deal basis," the fund manager said, noting that his firm might consider refinancing its market value CDOs when they are set to mature.
Agreeable market conditions are also vital to the success of maintaining a market value CDO. "The markets right now are more attractive than they were a month ago," said a second portfolio manager. "These are markets that favor people with excellent credit teams."
According to Standard & Poor's, some market value CDOs or CBOs under management (besides Sankaty's), as of December 2004, included GoldenTree Asset Management's GoldenTree Credit Opportunities Financing I Ltd. deal; Chase Manhattan Bank's MOAT Funding CBO; Stanfield Capital Partners' Windsor Loan Funding CBO; BlackRock's Magnetite Asset Investors III CBO; and White Ridge Investment Advisors' Mt. Mitchell Capital Funding LLC CBO.
To be sure, many investment managers like the flexibility that market value CDOs offer compared with that of cash flow CDOs. "Some of the advantages of market value CDOs include the flexibility to use a wider range of asset classes, the lack of cash flow-based interest and principal [overcollateralization] coverage tests, and the ability of market-value structures to accommodate hedging and long/short strategies," Fitch said in a recent CDOpinions report.
"People can trade in and out of [market value CDOs] and they are subject to different lock-up periods," said the first fund manager. Many sources say market value CDOs resemble a hedge fund, however, they are considered asset-backed securitizations because they are debt obligations issued by a bankruptcy remote special purpose vehicle secured by some form of receivable.
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