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Credit Guarantee Facilities Applied in Structured Finance in Ex-Japan Asia. Presented by: Li Ma VP-Senior Analyst Structured Finance Group Hong Kong. Shanghai May 31, 2006. Agenda. The Role of Credit Enhancement (CE) in Structured Finance
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Credit Guarantee Facilities Applied in Structured Finance in Ex-Japan Asia Presented by: Li MaVP-Senior Analyst Structured Finance Group Hong Kong Shanghai May 31, 2006
Agenda • The Role of Credit Enhancement (CE) in Structured Finance • Applications of Credit Guarantee Facilities in ex-Japan Asia • Case Studies • Fully-supported Structure • Partially-supported Structure
Role of CE in Structured Finance • Structured finance is NOT a way to remove credit risk, but a way to re-allocate credit risk through a particular capital “Structure” • An important step in structuring a securitization transaction is determining the adequate level of CE which • Protects investors against loss when there is loss in the underlying collateral • Brings the credit quality of the transaction to the desired rating
Determining the Amount of CE • Based on the frequency, severity and timing of future losses on the collateral • Use of historical data to estimate future losses • Determine overall credit risk based on credit strength of the underlying assets • Based on the credit quality of the transaction party and the transaction structure to determine the timeliness of the CE availability
Types of CE • Internal • Overcollateralization • Senior/Subordinated Structure • Excess Spread / Excess Collection • Cash Reserve • External • Interest / FX Swaps • Political Insurance • Payment / Recovery Guarantee
External CE • Amount of Enhancement • Fully-supported Structure • Stand-by fully supported structure • Direct-pay fully supported structure • Partially-supported Structure • Thailand: EGAT • Philippines: PSALM
Fully-Supported Structure • Security Default = 3rd Party Default + Insufficient funds from collateral to pay off investors as promised (“two-party pay”) • Severity of loss is likely to be lower in the event of default • Rating of security depends on: • Quality of assets and the support provider • Correlation of asset quality with the fortunes of the 3rd party • Possible that the final rating will be higher than that of the 3rd party due to joint default probability
Partially-Supported Structure • 3rd Party only provides credit support • when certain conditions are met • during certain period • up to certain amount • Rating of security depends on: • Quality of assets and the support provider • Correlation of asset quality with the fortunes of the 3rd party • Rating of security may fluctuate over time
Providers of Credit Guarantee Facilities • Monoline insurers • FSA, MBIA, AMBAC, XLCA, etc. • Highly rated financial institutions • Highly rated corporations • Supranational organizations • World Bank, ADB, etc. • Swap Provider, Recovery Guarantee, etc.
Benefits of Credit Guarantee Facilities • For Investors • Increase investor confidence in the underlying securities, especially those from new markets • Alternative investment choices • For Issuers/Originators • Increase the credit quality/rating of the underlying security • Allows the rating of the transaction to be higher than the “country ceiling” • For Guarantors • Guarantee fee income • Market / portfolio / risk diversification • Macro-economy • Speed up the implementation of structured finance/alternative financing options in new market
Applications of Credit Guarantee Facilities in Ex-Japan Asia (1/3)
Applications of Credit Guarantee Facilities in Ex-Japan Asia (2/3)
Applications of Credit Guarantee Facilities in Ex-Japan Asia (3/3)
Fully-supported Structure (1/3) Hsinchu RMBS Transaction Structure Diagram
Fully-supported Structure (2/3) • Hsinchu RMBS Transaction • Originator: Hsinchu Int’l Bank (Not Rated) • Taiwan’s Foreign Currency Ceiling: Aa3 • Notes Rating (without Guarantee): Aa3 • Notes Rating (with Guarantee): Aaa • Guarantor: AMBAC • Guarantor’s Rating: Aaa
Fully-supported Structure (3/3) • Due to both internal credit enhancement and external 3rd party guarantee, the rating of the notes is • The same as the guarantor’s rating • Higher than the originator’s rating and • Pierces Taiwan’s foreign currency ceiling • The guarantee covers: • Full and timely interest payment of the notes • Ultimate repayment of principal by the notes’ legal maturity date • Notes issuer's payment obligation under the cross-currency swap
Partially-supported Structure (1/4) EGAT Bonds Structure Diagram
Partially-supported Structure (2/4) • EGAT Transaction • Issuer: Electricity Generating Authority of Thailand (Not Rated) • Thailand’s Foreign Currency Ceiling (1998): Ba1 • Bonds Rating (with Guarantee in 1998): A3 • Bonds Rating (2006): A1 • Guarantor: World Bank & Kingdom of Thailand • Guarantor’s Rating: Aaa & Ba1 (1998)
Partially-supported Structure (3/4) • Due to the 2 guarantees provided by two 3rd parties, the rating of the bonds is • Higher than the originator’s rating, • Pierces Thailand’s foreign currency ceiling, but • Lower than one of the guarantors at the beginning, • Will gradually migrates towards the World Bank’s rating as time passes
Partially-supported Structure (4/4) • The Kingdom of Thailand full guarantee unconditionally and irrevocably covers: • Full and timely interest payment of the bonds • The World Bank partial guarantee unconditionally and irrevocably covers: • One period of interest payment of the bonds (rolling) • Full repayment of principal at the bonds’ maturity date