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Novel Euro Public Sector Structure Hits Mart

Morgan Stanley and DEPFA BANK are pitching a collateralized debt obligation which references public sector debt.

Morgan Stanley and DEPFA BANK are pitching a collateralized debt obligation which references public sector debt. The USD1 billion transaction is believed by credit officials to be the first synthetic risk transfer on a portfolio comprising both European and U.S. public sector exposures. It aims to hedge assets DEPFA, a Dublin-based public finance firm, holds on balance sheet, said an official familiar with the structure. Officials from the firm did not return calls and structurers at Morgan Stanley declined comment.

CDO firms started honing in on government-related debt last year (DW, 6/6). The Morgan/DEPFA transaction, called PSION, has re-focused attention on the emerging synthetic asset class. "It's a natural extension and diversification from corporates and asset-backed securities," said an analyst at a rating agency in London. He added only a smattering of public sector CDOS have been issued to date because few firms have the capacity and expertise to source the securities. These transactions referenced only a bucket of public sector assets or purely U.S. exposures.

PSION is a 10-year structure linked via credit-default swap to a portfolio of 62 municipal securities, student loan ABS, global sovereigns and quasi-sovereign exposures. The USD67 million of rated notes to be issued have been given preliminary ratings of AAA/Aaa to BB/Baa2 by Fitch Ratings and Moody's Investors Service, both of which had to adapt their rating models to accommodate correlation assumptions and recovery rates for public finance assets.

It could not be determined if other houses have public sector CDOs in the pipeline, but structurers at firms in Europe said the asset class is worth examining. Merrill Lynch and German bank KFW teamed with DEPFA last year when it launched a GBP391 million CLO called EPIC. Credit Suisse First Boston, Nordic Investment Bank together with the London branch of Sumitono Corporation have also structured transactions, officials noted.

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