2008-09-16 23:34:02 -

- Fitch Ratings is currently assessing the potential ratings impact of the bankruptcy of Lehman Brothers Holdings Inc. (LBHI) on synthetic collateralised debt obligations (CDOs) that it rates. Following LBHI's declaration of bankruptcy on Sept. 15, Fitch downgraded the Issuer Default Rating (IDR) and debt ratings of LBHI and its parent of Lehman Brothers Inc., along with other subsidiaries. These

downgrades are expected to adversely impact the ratings of synthetic CDOs whose credit quality is linked in some way to that of Lehman-related entities.

Lehman Brothers Holdings Inc., Lehman Brothers Inc., Lehman Brothers Special Financing Inc., and other Lehman entities were active participants in the synthetic CDO market in recent years. The participation of the Lehman entities expected to impact CDO ratings can be divided into two main categories; instances where Lehman provided credit support to the CDO, either as a credit default swap (CDS) counterparty or as a charged asset, and instances where Lehman's debt was referenced as part of the CDO portfolio.

Lehman acted as swap counterparty in 69 Fitch-rated synthetic CDOs; 31 in Europe; 35 in Asia; three in the U.S. In many of these transactions, Lehman Brothers Special Financing Inc. acted as the buyer of credit protection from the CDO as CDS swap counterparty, and Lehman Brothers Holdings Inc. acted as a guarantor or credit support provider. The impact on CDO note ratings where a Lehman entity acts as swap counterparty will depend upon many factors, including whether the CDO transaction faces an automatic unwind following the Lehman bankruptcy, whether the swap may be transferred to another counterparty, and the extent to which noteholders may be subject to market value risk of eligible securities in the event of early termination of the transaction.

Fitch expects early termination events to be triggered for most transactions where LBHI acts as swap counterparty or credit support provider unless a replacement counterparty is found within the required time period (usually 10 to 30 days). If an early termination is triggered where the swap counterparty is the defaulting party, the eligible securities are typically liquidated and used to repay the CDO notes before any swap termination payment is potentially due to LBHI. In these instances, the CDO noteholders risk profile may shift from the portfolio of reference entities to the liquidation of the eligible securities. The CDO noteholders will either be paid in full from proceeds of the eligible securities, or will incur a shortfall if liquidation of the eligible securities results in a market value loss that is not offset by any overcollateralisation and collateral posting requirements of the transaction.

Lehman debt instruments are eligible securities, or collateral, to four Fitch-rated funded synthetic CDOs. Funded synthetic CDOs typically depend upon swap counterparties to meet interest payments to noteholders, as well as a charged asset as collateral to make the final principal payment. CDO notes are credit-linked to the charged asset, and as such Fitch expects to downgrade notes exposed to Lehman entities as the charged asset to 'CCC' or 'D'.

Lehman related debt is referenced in the portfolios of approximately 150 Fitch-rated synthetic CDO. They were the 41st most referenced entity, appearing in approximately 25% of the portfolios of synthetic CDOs rated by Fitch. The impact of the bankruptcy and downgrade of Lehman is expected to have a much smaller impact on these transactions, as individual entities typically account for between 0.5% and 2% of the overall portfolio. The extent of impact on individual CDO ratings will depend upon the exposure to Lehman relative to the transaction's remaining credit enhancement, the extent of recoveries on the defaulted debt, and the remaining term of the transaction.

Fitch will issue rating actions on synthetic CDOs exposed to Lehman entities following analysis of transaction-specific performance and features.

Fitch's rating definitions and the terms of use of such ratings are available on the agency's public site, www.fitchratings.com. Published ratings, criteria and methodologies are available from this site, at all times. Fitch's code of conduct, confidentiality, conflicts of interest, affiliate firewall, compliance and other relevant policies and procedures are also available from the 'Code of Conduct' section of this site.

Fitch Ratings
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Philip McDuell, +44 (0) 207 417 3485
John Olert, +1-212-908-0663
Kevin Kendra, +1-212-908-0760
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