Fitch: CRE CDOs Have Limited Exposure to U.S. Subprime

As the challenges in U.S. subprime RMBS markets continue to play out during 2007, commercial real estate (CRE) CDOs with exposure to mezzanine subprime RMBS have the potential to be downgraded towards the end of this year and into early 2008, though the exposure is minimal, according to a new report released Thursday by Derivative Fitch. Early vintage deals are static pools, Fitch noted, so no rating changes are anticipated due to the seasoning of the underlying subprime bonds and the low overall exposure. Additionally, recent issues of CRE CDOs rarely have included any subprime RMBS as investors have expressed a preference for CDOs that do not mix asset types. 13 of the 106 Fitch-rated CRE CDOs have exposure to U.S. subprime RMBS, the rating agency said, amounting to about 12 percent of the Fitch-rated CRE CDO universe. All were issued between 2000 and 2006, the agency said in its report. For the ten issuances in 2003 or after, exposure to subprime RMBS ranges from 15.5 percent to 60.7 percent.

Fitch’s report said that the greatest downgrade risk in RMBS subprime assets are in the subordinate part of the capital structure within the 2003 and 2004 vintages in the near term, as these assets are most at risk for default or downgrade due to their position in the capital structure. An increase in expected future pool losses coupled with slowing prepayment speeds is now more likely to breach the thinned credit enhancement levels of these vintages, Fitch said. In addition, subprime RMBS mezzanine assets of the late 2005 and 2006 vintages are at risk of downgrade as well. However, Fitch’s subprime RMBS group said it does not expect material negative rating actions for 2005 and 2006 subprime RMBS bonds to come until the second half of 2007. The underlying subprime deals of 2005 and 2006 already experienced higher delinquencies than 2004 and prior vintage subprime deals of the same seasoning; Fitch expects these trends to result in a more severe rating deterioration for late 2005 and 2006 subprime RMBS over the next few years. Five of the ten CRE CDOs issuedx after 2003 have exposure to the 2006 vintage subprime RMBS in particular, Fitch noted. Although the performance of this vintage is expected to be very poor, the maximum exposure in any one of these CRE CDOs is 2.7 percent. Moreover, all 2006 subprime RMBS bonds are of investment grade quality. For more information, visit

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