Update: Fitch did more than warn of CDO cuts — it also downgraded $29.8 billion of subprime-exposed CDOs (hat tip to CR on this). Fitch Ratings today warned of its latest negative adjustment to the CDO market, saying it had placed ratings on $5.4 billion worth of collateralized debt obligations on negative watch. The CDOs in question here are so-called trust preferred securities, or TruPS, issued by real estate investment trusts (REITs), homebuilders and financial institutions specializing in residential mortgage lending. (For a discussion of TruPS, click here). Fitch has placed $5.4 billion of rated liabilities, across 120 classes of 15 TruPS CDOs, on negative watch; in five of the 15 transactions affected, Fitch has placed the entire capital structure on negative watch. From the press statement:

Fitch’s rating actions reflect continued deterioration in the credit quality of underlying issuers of trust preferred securities and subordinated debt. In particular, the credit profiles of many homebuilders, mortgage REITs and specialty finance companies continue to decline. Fitch currently maintains a Negative Rating Outlook on the homebuilder, residential and commercial mortgage REIT sectors. The challenges facings these sectors are expected to be even more pronounced with respect to the smaller-sized, shadow-rated entities which typically characterize REIT TruPS CDO portfolios. Based on public and shadow ratings performed by Fitch, it is estimated that an average of 22.9% of the portfolios underlying the 15 CDOs are currently rated ‘CCC+’ or below, ranging between 6.6% and 45.8%. Since Fitch’s last review of REIT TruPS CDOs in September, six underlying issuers representing a total exposure of $524.5 million have been identified by Fitch as exhibiting heightened credit risk, having either experienced a default or deferral on issued securities, a technical default, or ratings migrating to ‘CC’ or below, indicating that a default of some kind appears probable. Among these six identified credit risk securities is an underlying homebuilder which filed for bankruptcy protection on Nov. 9, 2007.

It’s getting ugly, no question about it.