Wednesday, January 23, 2008

Doubts about ABCP restructuring

(Financial Post) A month after an investors committee unveiled a proposal to restructure $33-billion of seized up asset-backed commercial paper, subprime worries have resurfaced, sending credit markets reeling and delivering a blow to hopes the restructuring will ever get done.

Benchmark measures of default risk soared yesterday, with the widely followed Markit credit default swap index on in-vestment-grade corporate debt trading as high as 127 basis points, close to the highest level since it was created in 2004 because of worries the U.S. government is not doing enough to bolster the economy.

The problem for holders of frozen ABCP is the bulk of the underlying assets are the same credit-default swaps that are getting buffeted in the market.

Credit-default swaps are essentially insurance policies on debt that pay off in the event of a default. The Canadian issuers of troubled ABCP were among the world's biggest issuers of such insurance, and now that defaults are starting to rise, they are feeling the impact.

The market for ABCP not sponsored by the banks seized up in early August after the issuers were unable to roll maturing notes. On Dec. 23, a group of investors and financial institutions unveiled an agreement in principle to restructure the stalled ABCP into longer-term notes.

Key to the deal was a $14-billion line of credit from a group of financial institutions that would be used to deal with margin calls on leveraged credit-default swaps. At the time, Bay Street lawyer Purdy Crawford, who is heading the committee, said the banks were being asked to kick in about $2-billion in total, though they had yet to formally step up.

Documents detailing the proposal were to be delivered to the various players by mid-January, but as yet they have not been sent, and sources say the mailing may not happen until the middle of February.

"I have a feeling people who agreed to those margin facilities are getting nervous now," said Daryl Ching, managing partner at Clarity Financial in Toronto. Given the troubles the banks have disclosed in recent weeks, particularly CIBC, they may have less capital to commit to the restructuring than they did when the deal was announced in December, Mr. Ching said. On top of that, the potential that margin calls will be made has also increased. The bottom line is that motivation for many players to formally approve the restructuring -- which was set to happen in March -- may have gone away, he said.

For their part, investors are frustrated over the delays and lack of information. Many hoped the restructuring would be completed by year-end, yet more than five months after the market melted down, it is still unclear when the restructured notes will start to trade.

But some observers warned that investors should be careful what they wish for. They said some of the financial institutions may profit handsomely from the restructuring. "The [margin facility] is a great deal for the banks, so I can't see why they wouldn't sign on," said Colin Kilgour, president of Connor, Clark & Lunn Wholesale Finance. "It's a highly attractive transaction because there's very little risk and it pays a lot of money. Plus, they become senior creditors so they have first call on the assets."

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