New year brings funding challenges for SIVs

Typically, SIVs rely on three sources of funding: 10% junior and capital notes, 30% short-term asset-backed commercial paper (ABCP) and 60% medium-term notes (MTNs). They were damaged when the ABCP market dried up earlier this year, but Dresdner's analysts point out that their medium-term financing will also soon be coming up for renewal.

"On average, about 21.6% of these MTNs will expire in the first quarter of 2008, and 74.5% by the end of 2008," said Marco Stoeckle, Priya Shah and Domenico Picone. "Outstanding MTN stands at $181 billion, which will be the next liquidity challenge they face." According to their estimates, SIV assets under management fell from$400 billion in March this year to \$282 billion in mid-October (more recent estimates are not available).

They said the partial liquidity support given to SIVs by their sponsors is unlikely to help. "Unlike a conduit structure, liquidity lines are not 100%, and therefore liability ratings are also dependant on the liquidity and market value risk associated with the collateral, and not just the default risk component." The tendency of many SIVs to invest in opaque or illiquid securities will make matters worse, they added.

These concerns were echoed in a draft document released today by rating agency Fitch. Proposing changes to its rating criteria, the agency said it would demand much higher credit enhancement before giving AAA or AA ratings to notes issued by "traditional" structures such as collateralised debt obligations, closed-end funds and SIVs. Structures containing "opaque or complex" asset classes would not be rated higher than A, and SIV capital notes would "likely be rated below investment grade".

Fitch also warned that the partial liquidity supports offered by SIV sponsors had been found wanting. "This most recent market stress has highlighted shortcomings in some partial liquidity mechanisms... less weight will likely be given to partial liquidity support."

Fitch will be publishing the final description of the changes in early February 2008, but if (as seems likely) the changes cause significant drops in credit ratings for SIV debt, the funding challenges predicted by Dresdner Kleinwort will only intensify.

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