CDO Defaults Reach $220 Billion on Deerfield Failure

CDO Defaults Reach $220 Billion on Deerfield Failure

By Neil Unmack

June 27 (Bloomberg) -- Deerfield Capital Management LLC and Declaration Management & Research LLC pushed the amount of collateralized debt obligations in default to $220 billion, according to Wachovia Corp. analysts.

Downgrades to mortgage bonds and their underlying securities triggered so-called events of default on 200 CDOs since October, including Rosemont, Illinois-based Deerfield\'s Knollwood CDO Ltd. and Kent Funding II, managed by Declaration in McLean, Virginia, Wachovia analysts wrote yesterday. The total compares with 191 CDOs totaling $212 billion on May 21, according to the bank.

The failures are equivalent to 36 percent of CDOs that include U.S. asset-backed debt sold since 2003, and 19.3 percent of all CDOs, Charlotte, North Carolina-based Wachovia said. Losses on the securities that pool assets including subprime mortgages contributed to the almost $400 billion of credit losses and writedowns by banks worldwide in the past year.

CDOs repackage assets such as mortgage bonds and other debt into new securities that are then sliced into pieces with different ratings.

About $32 billion of the funds have been wound down or face liquidation. CDOs of asset-backed bonds typically have rules that may force them to sell holdings when ratings of the underlying assets are downgraded below a set level. The triggers, or events of default, allow creditors to liquidate the fund or divert money to repay senior debt at the expense of other investors.

Issuance of asset-backed CDOs has tumbled to less than $1 billion this year from $227 billion in 2007, according JPMorgan Chase & Co. data.

Mortgage-Bond Prices

Liquidations have helped push down prices on subprime and Alt-A mortgage bonds rated lower than AAA, UBS AG analysts wrote in a June 24 report. The expectation that more CDOs will be forced to sell mortgage assets has also contributed to price declines, the analysts said.

The unwinding of CDOs and so-called structured investment vehicles offers ``serious resistance\'\' to the recent rally among asset-backed bonds, Deutsche Bank AG said in a June 16 report. While older AAA rated subprime-mortgage securities are priced to a ``severe recession,\'\' the potential for more forced sales makes the debt risky, the report said.