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This presale report is based on information as of June 23, 2008. The ratings shown are preliminary. This report does not constitute a recommendation to buy, hold, or sell securities. Subsequent information may result in the assignment of final ratings that differ from the preliminary ratings.
*The rating on each class of certificate is preliminary and subject to change at any time. Issuer: Hongkong
and Shanghai Banking Corp. Ltd., Taipei Branch (HSBC Taipei, HSBC is rated
AA/Stable/A-1+ by Standard & Poor's Ratings Services) in its capacity
as trustee for Capital Securities Cash Flow 2008-1 Special Purpose Trust
(the SPT). Taiwan Ratings Corp.
assigns its 'twAAA', 'twAAA', 'twAA', and 'twA+' preliminary ratings respectively
to Taiwan dollar (NT$)4,000 million (Class A), NT$2,400 million (Class
B), NT$800 million (Class C), and NT$800 million (Class D) trust beneficial
certificates issued through the SPT. The four certificates will be backed
by a portfolio of Taiwan dollar denominated corporate bonds and supranational
bonds, as well as one US dollar denominated Synthetic CDO referring to
a number of sovereign, corporate, and financial obligors. The preliminary ratings are based on the following factors:
STRENGTHS,
CONCERNS, AND MITIGATING FACTORS:
Concerns:
Mitigating Factors:
The transaction process for the deal is similar to most existing CBO deals. The deal will adopt true sale structure and use a Special Purpose Trust (SPT) as the intermediate entity. The SPT will have to comply with Taiwan Rating's Special Purpose Vehicle criteria. The transaction begins with the implementation of necessary procedures for perfecting the asset transfer. At closing, the originator will transfer US dollar Synthetic Collateralized Bond Obligations (SCDO) and NT dollar bonds to the SPT. The trustee on behalf of the trust will issue NT dollar denominated Class A (twAAA), Class B (twAAA), Class C (twAA), and Class D (twA+) trust certificates. 50% of the proceeds raised from investors will be converted into US dollars with the swap counterparty. The US dollar proceeds, combined with the remaining NT dollar proceeds will be paid to the originator in consideration of the transferred SCDO and domestic bonds. The rated certificates will be issued at par and in the form of fixed interest rate coupons. Our rating will address timely interest payment and ultimate principal repayment by legal maturity date for these four certificates. The transaction will initially incur interest rate, currency, and payment timing mismatch as well as provide no cash reserve paying senior fees at closing. The trustee will enter into the hedge instruments, including Credit Contingent Interest Rate Swaps, a Credit Contingent Cross Currency Swap, and a tax refund/ expense transaction to mitigate such risks. The Hedge counterparty, BNP Taipei Branch, must maintain a commensurate credit quality throughout the life of the transaction or it is obligated to find a qualified successor to takeover its obligations under such hedge instruments. Taiwan Ratings will review all hedge documents to make sure they comply with such requirements. The legal council must also address the enforceability of the hedge agreements. There is no cash reserve set aside at closing. In addition, the interest as well as principal collections from the underlying assets will not cover the senior fees, namely Financial Assets Securitization Law 105 Surveillance fee, trustee fee, and trust fee during the entire life of the transaction. All of these fees thus will be paid by the hedge counterparty promising to pay a satisfactory amount. Interest collection
will be distributed according to the interest waterfall. The excess interest
will be kept on the account instead of distributing to the Class D certificate
holder until the event of trust termination. TERMS AND CONDITIONS OF THE CERTIFICATES Interest payment All of the certificates will pay a fixed coupon rate in arrears on a semi-annually basis. Principal payment The transaction is structured as a pass-through with principal repayments being used to repay the trust certificates as they are received. Article 41 of the Financial Asset Securitization Law stipulates, "Incomes from trust property, after deducting costs and necessary expenses, belong to the beneficiaries. The interest distribution for Class A, B, C, and D will be subject to withholding tax at the rate stipulated by the tax authority. Consequently, interest received by certificate holders will be net of tax withheld." Credit Contingent Interest Rate Swaps (CIRS) This transaction is exposed to interest rate risk because the SPT will receive structured coupon rates such as inverse floater (a constant rate minus a floating reference rate) and range accrual (coupon rate depends on which range the reference rate falls in) from the underlying Taiwan dollar assets but will pay fixed-rate coupon rates on all Trust Certificates. The relevant interest rate risk will be eliminated through asset specific interest rate swap on each Taiwan dollar denominated bond. Since the hedge instrument is the credit contingent interest rate swap, there will be no breakage cost if the swap is terminated due to an underlying asset default. However, in the event of any Taiwan dollar asset's early redemption exclusively incurred by a change in the law resulting in the immediate termination of the relevant swap, the potential swap breakage cost payable to the swap counterparty, if any, could negatively affect the cash available for distribution to the certificate holders. Credit Contingent Cross Currency Swap The US dollar denominated SCDO will pay a floating-rate coupon rate in US dollars to the SPT, while the SPT will pay fixed-rate coupon rates in Taiwan dollars to certificate holders. At closing, the SPT will enter into CCCS to eliminate the relevant currency risk and interest rate risk. If the total losses exceed the attachment point of the SCDO tranche and in turn the swap notional amount needs to be adjusted accordingly, no swap breakage cost would be incurred. However, in the event of the SCDO early redemption incurred by certain conditions, such as tax event or a resolution from its certificate holders meeting, resulting in the immediate termination of the swap, the potential swap breakage cost payable to the swap counterparty, if any, could negatively affect the cash available for distribution to the certificate holders. Tax refund/ expense transaction The senior fees, namely Financial Asset Securitization Law 105 surveillance fee, trustee expense and trust expense in this transaction relies on neither the interest collection nor principal collection from the underlying assets. Instead, the hedge counterparty will either cover some portions of these fees up to some satisfactory amount or fully cover the rest without any condition, in return for tax refund from Taiwan dollar bonds. The Taiwan dollar asset pool for this transaction will be static, i.e. neither can the seller entrust new bonds to the SPT nor can any third party substitute any existing bonds after the closing date. Taiwan dollar asset pool will be composed of three corporate bonds and four supranational bonds at closing. The three corporate bonds can be attributable to one obligor and guaranteed by a number of banks with different rating levels. The four supranational bonds can be attributable to three obligors all with AAA rating level. All of the Taiwan dollar assets are structured notes. The weighted average tenor of the NT bonds will be around 1.5 years. The amount of Taiwan dollar portfolio will be NT$ 4,000 million. The US dollar pool only has one synthetic CDO with a 7-year tenor. The reference entities of this SCDO may be substituted under the conditions of maintaining the credit rating of the SCDO as well as avoiding any credit loss incurred from its reference entities. In addition, only by receiving the consent from certificate holders can this substitution process be executed. The rating of this US dollar asset will be AAA and its amount will be equivalent to about NT$ 4,000 million. In terms of par amount, around 81.25% of the total portfolio will be rated AAA while the rest of the portfolio will be rated from AA to BBB at closing. All underlying bonds are rated at investment grades by Taiwan Ratings and/or Standard & Poor's as of the publishing date of this report. Taiwan Ratings relies on Standard & Poor's CDO Evaluator, a thorough pool profile analysis, and a cash flow model provided by the arranger to assess the portfolio risks and verify the adequacy of the transaction's capital structure, hedge mechanisms, and sufficiency of the cash reserve. The CDO Evaluator is an integral part of Taiwan Ratings' methodology for rating and monitoring CDO transactions. Through a Monte Carlo simulation, the CDO Evaluator assesses the credit quality of a portfolio, taking into consideration the credit ratings or estimates (if the obligor is not currently rated by Taiwan Ratings or Standard & Poor's), size, and maturity of each asset, the correlation among assets, and the bivariate emerging market risk, if any. A probability distribution for potential default rates presents the credit quality of the portfolio. From this probability distribution, the CDO Evaluator derives a scenario default rate (SDR) under each rating scale. Each SDR identifies the minimum level of portfolio defaults a CDO tranche must withstand to support the corresponding rating level. In addition, to verify that full and timely payment of interest and ultimate repayment of principal on the certificates could be met, Taiwan Ratings performed a cash flow analysis and subjected the transaction to a variety of stress scenarios. The following elements were taken into account in the modeling to capture the specifics of the transaction.
Commingling risk Commingling risk is fairly remote with this transaction given the direct remittance mechanism of most payments from the asset pool to the trust accounts. The trustee will be responsible for defaulted bonds' workout and will deposit any recovery proceeds there-from directly into the trust accounts. Obligor set-off risk Set-off risk will arise if the seller has payment obligations with the underlying bond issuers and such payment obligations exist before the transfer of the bonds and such claims mature on or prior to the maturity of such bonds. Potential set-off risk will be mitigated by a warranty from the seller declaring no payment obligations to the underlying bond issuers before the closing date. Liquidity risk Liquidity risk initially exists with this transaction due to the interest rate, payment timing and no cash reserve. However, hedge instruments mitigate all such risks. Service provider operational risk The misconduct of service providers might incur loss to the investors. The existence of the Trustee Termination Event enables investors to replace the service providers through trust certificate holders' resolution. ' The transaction will be structured in accordance with the Financial Asset Securitization Law of Taiwan, which provides for the establishment of the SPT, the perfected transfer of assets from the originator to the SPT, and protection from other creditors' and third parties' claims. Taiwan Ratings will need to receive satisfactory legal and tax opinions prior to the closing of the transaction.
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