Banks are hustling to ramp up portfolios of investment-grade credit-default swaps after a change in Standard & Poor's methodology injected value into higher-rated tranches of collateralized debt obligations. The alteration by S&P means dealers can pay higher returns on senior tranches, with one arranger noting a jump to 100 basis points from 40-50 bps in December. "Higher rated portfolios now require less subordination so they can pay more spread," a structurer told Derivatives Week, a CIN sister publication.
S&P has decreased the assumed probability of default on investment-grade names, and a report by analysts at The Royal Bank of Scotland say they expect a surge in the number of investment-grade CDS portfolios as a result. In conjunction, the agency increased the assumed default probability of BBB, or sub-investment grade credits, making them less attractive to structures. The change in S&P's rating model created a buzz in the market when announced in November, triggering a rush of issuance under the old regime. The alterations, according to market officials, bring S&P's model more in line with that of Moody's Investors Service.
The sudden jump in investment-grade yield has put pressure on houses to print transactions before market saturation squeezes spread levels in the sector. A number of structures are already roadshowing, including a E200 million plus deal from Calyon. Other firms in line include Morgan Stanley and UBS. Officials from both firms declined comment. "People will naturally gravitate toward the higher end to get kinder pricing," said an arranger at a U.S. house in London.
An official close to Calyon said its deal, named Sonata, is issuing a five-year note and a seven-year note linked to a portfolio of 125 investment-grade corporate CDS. It is paying more than 100bps over six-month LIBOR and has a fixed recovery rate of 40%. "A string of similar transactions will drive spreads tighter so they want to take advantage early," said the official. Arrangers at the French firm declined comment.
