Page 251 - untitled
P. 251
FINANCIAL CRISIS INQUIRY COMMISSION REPORT
being, there were no downgrades on higher-rated tranches. Moody’s attributed the
downgrades to “aggressive underwriting combined with prolonged, slowing home
price appreciation” and noted that about of the securities affected contained
mortgages from one of four originators: Fremont Investment & Loan, Long Beach
Mortgage Company, New Century Mortgage Corporation, and WMC Mortgage
Corp.
Weill later told the FCIC staff that Moody’s issued a mass announcement, rather
than downgrading a few securities at a time, to avoid creating confusion in the mar-
ket. A few days later, Standard & Poor’s downgraded similar tranches. These
initial downgrades were remarkable not only because of the number of securities in-
volved but also because of the sharp rating cuts—an average of four notches per se-
curity, when one or two notches was more routine (for example, a single notch
would be a downgrade from AA to AA-). Among the tranches downgraded in July
were the bottom three mezzanine tranches (M, M, and M) of the Citi-
group deal that we have been examining, CMLTI -NC. By that point, nearly
of the original loan pool had prepaid but another were or more days
past due or in foreclosure.
Investors across the world were assessing their own exposure, and guessing at that
of others, however indirect, to these assets. A report from Bear Stearns Asset Man-
agement detailed its exposure. One of its CDOs, Tall Ships, had direct exposure to
our sample deal, owning million of the M and M tranches. BSAM’s High-Grade
hedge fund also had exposure through a million credit default swap position
with Lehman referencing the M tranche. And BSAM’s Enhanced Leverage hedge
fund owned parts of the equity in Independence CDO, which in turn owned the M
tranche of our sample deal. In addition, these funds had exposure through their
holdings of other CDOs that in turn owned tranches of the Citigroup deal.
Then, on October , Moody’s downgraded another , tranches (. bil-
lion) of subprime mortgage–backed securities and placed tranches (. bil-
lion) on watch for potential downgrade. Now the total of securities downgraded and
put on watch represented . of the original dollar volume of all subprime
mortgage–backed securities that Moody’s had rated. Of the securities placed on
watch in October, tranches (. billion) were originally Aaa-rated and (.
billion) were Aa-rated. All told, in the first months of , of the mortgage-
backed security deals issued in had at least one tranche downgraded or put on
watch.
By this point in October, of the loans in our case study deal CMLTI -
NC were seriously delinquent and some homes had already been repossessed. The
M through M tranches were downgraded as part of the second wave of mass
downgrades. Five additional tranches would eventually be downgraded in April
.
Before it was over, Moody’s would downgrade of all the Aaa mortgage-
backed securities tranches and all of the Baa tranches. For those securities issued in
the second half of , nearly all Aaa and Baa tranches were downgraded. Of all
