CSO restructuring could become more expensive, says Dresdner research

Structured credit research from Dresdner Kleinwort suggests that now is an opportune time for investors to restructure bespoke tranches, ahead of likely further credit deterioration and possible additional CDO rating methodology changes.

The report notes that with correlation expected to drop imminently, restructuring costs will increase. It says that large pockets of value in the senior end of the capital structure, due to the high correlation environment, allow an increase in detachment points without increasing the final tranche width substantially. Meanwhile, steep tranche curves mean maturity extension can be undertaken opportunistically.

The report, called "CDOs - restructure now…" says that unwinding is an option, but is expensive given the significant spread widening of the last 12 months. Meanwhile, although buying extra subordination may work out cheaper than cyrstallising current mark-to-market losses, funding the cost on an upfront basis could prove unattractive.

The report says that reducing current coupon, increasing detachment point and/or increasing maturity provide alternative funding options.

Converting the upfront cost into a running spread and deducting the spread from the current coupon would be the simplest approach, but would result in a below-Libor coupon. However, the report says it could be feasible to combine coupon reduction with an upfront payment or changes in detachment point and maturity. It argues that restructuring via a combination of modifying attachment and detachment points together with a maturity extension would probably be the preferred solution.