Morgan Stanley's global director of securitized product research Chip Schorin endorsed bond insurer MBIA Inc., saying that the odds of MBIA having its triple-A ratings cut due to poor CDO performance are unlikely given the senior positions of its exposure in the CDO market.
Speaking to investors at its annual ABS/CDO Research Roadshow last week, Schorin said the fact that approximately 80% of its CDO exposure is rated triple-A, combined with the fact that Morgan Stanley's estimate of MBIA's losses on its riskiest positions is manageable, leads Schorin to believe that MBIA is not at risk of an imminent downgrade.
Morgan Stanley stressed MBIA's reported CDO exposure at the triple-B and below level and, assuming a 20% annual default rate - double the peak annual rate for high yield bonds - and a 30% recovery rate, found that the for the insurer's losses for single-B ratings is only 28%. Adjusting to a still high 10% high yield bond default rate and losses are estimated at only 15%. This, according to the analysis, would absorb just 4% to 7% of MBIA's claims-paying ability.
The lesson, according to Schorin, is that MBIA is not at risk of an imminent downgrade. He added that even if a situation were to arise, federal regulators would most likely step in and map out a plan for an insurer to reduce certain exposures while maintaining its ratings.
Gotham, meanwhile, announced last Wednesday that it would wind down three of its funds, but not its credit default swap fund, named Gotham Credit Partners, which reportedly took a $1 billion position against MBIA in December.
Following Schorin was researcher Amol Prasad, who warned of further headline risk in the credit card sector in the coming year, as regulators may expand further the scrutiny that sent ripples through the market last year. .
Using Fair, Issac & Co. data, he showed that 82.5% of eventual defaults in credit card portfolios are from accounts with sub 660 FICO scores. While most credit card lenders argue that the cutoff for sub-prime should be in the 600 to 630 range, Prasad said that at 600, 58.3% of the accounts eventually default, failing to capture 24.2% of potential defaults. Therefore Pasad, believes 660 to be an accurate cutoff for the subprime borrower.
Using the rapid decline of NextCard Inc. as an example, Prasad also warned that the situation at The Metris Companies will be worth watching in the first half of the year, as a liquidity crunch may develop.
As charge-offs rose rapidly for the NextCard portfolio, within six months, three-month excess spread declined from 5.66% to negative territory. The fact that the Metris trust is below the 5.50% threshold and has already begun trapping cash could signal a liquidity crunch, as Prasad estimates the company may forego up to $40 million a month in account collections, which instead go to support triple-B ABS bondholders.
In his summation, Prasad noted that in the past, similar situations have worsened rapidly, due to declining receivables purchase rates that arise once a trust begins trapping cash.
