Moody's Proposes New SF Criteria in Troubled Euro Countries

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Moody's Investors Service is soliciting comments on the proposed changes to its modelling assumptions that account for the effect on structured finance deals of the rapid and significant credit deterioration in European countries.

The deadline for feedback on the proposed changes is Oct. 30, after which Moody's will be publishing an updated methodology after considering all comments received over that period. The proposal would add to its existing asset class methodologies.

The precipitous and considerable decline in the government finances, macroeconomic position and banking systems of many euro area countries will weaken these countries' structured finance deals.

"Assets backing these transactions will suffer from volatile performance, reduced financing availability and heightened market value risk, while the transactions themselves will come under increasing pressure as the number of viable transaction parties falls," the rating agency said in a release this morning.

Moody's wants to supplement its primary asset methodologies through two key parameters in determining the loss distribution, which are the maximum achievable rating and the minimum credit enhancement.

By publishing its report called Approach to Assessing the Impact of a Rapid Country Credit Deterioration on Structured Finance Transactions: Request for Comment, the rating agency seeks to offer increased transparency on and to clarify its approach.

Even though Moody's introduced these key parameters in April 2011, it has continued to refine their meaning. In its new report, Moody's tries to formalize the use of this approach to revise ratings across multiple classes of structured finance deals. This move is a response to the evolving euro area debt crisis.

These proposed changes to the approach improve the rating agency's ability to estimate the loss distribution on a pool from these beleaguered countries.

It also calculates the loss distribution using the same enhancement amount, although with a lower expected rating for a country undergoing stress, resulting in a loss distribution that includes an increased probability of high loss scenarios for the rated tranches.

This enables the rating agency to capture in the loss distribution any change in the level of country risk and will allow it to systematically look at the credit quality of all a capital structure's classes of the capital structure such as the mezzanine and junior tranches.

Moody's will also apply this new approach outside Europe if other countries were subject to rapid and significant deterioration. 

The proposed approach might cause downgrades of up to three to four notches in the mezzanine and junior tranches of the affected European structured finance deals. The proposed approach will not impact the rating on senior tranches.

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