S&P May Cut $578 Billion of Corporate Debt Securities

S&P May Cut $578 Billion of Corporate Debt Securities

Sept. 17 (Bloomberg) -- Standard & Poor’s may downgrade $578 billion of securities linked to corporate debt after adding tests into its ratings methods to reflect how they would perform in severe economic slumps.

About 4,790 pieces, or so-called tranches, of the collateralized debt obligations may be put on watch for downgrades because of changes in how the securities are rated, New York-based S&P said today in a statement. It will add “supplemental tests” to the models that already had been used to simulate the chances of losses in increased defaults.

Lawmakers including Senate Banking Committee Chairman Christopher Dodd have criticized how S&P and New York-based Moody’s Investors Service rated structured securities such as CDOs, saying they wrongly assigned top rankings to subprime- mortgage bonds just before that market collapsed in 2007. Banks and financial companies worldwide have taken more than $1.6 trillion in writedowns and losses since the start of that year.

The changes “will provide a more robust analysis than using only simulation models,” Henry Albulescu, S&P’s global criteria officer for structured credit, said in the statement. They also “have made it easier and more transparent for investors to understand our ratings and analysis,” he said.

S&P’s changes, which are effective immediately for new and existing transactions, affect CDOs that are composed of bonds and loans as well as credit-default swaps, which are derivatives that are linked to the debt.

‘Great Depression’ Stress

CDO tranches that are given its top ranking of AAA would have to be able to withstand default rates seen during “extreme macroeconomic stress, such as the Great Depression,” S&P said. Those with lower BBB ratings would have to pass the highest default rates that have occurred during the past 28 years.

CDOs that are backed by credit-default swaps likely will be cut by four grades on average, Chief Credit Officer Thomas Gillis said in the statement. Those backed by actual bonds and loans likely will be cut by three grades on average, he said.

S&P put $250.5 billion of European CDOs on watch for a downgrade because of the changes, the company said in a separate statement. The 1,626 portions put on watch represents almost all of the company’s ratings on European transactions that weren’t already on review, S&P said.

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