Fixed Income Research

Aggres-“SIV” Plan
to Save ABCP Market
In the wake of this summer’s credit market shake-up, structured investment vehicles
October 19, 2007
(SIV) have been unable to roll over their short-term funding. If conditions persist, there is
Prasanth Subramanian
a risk of a forced fire sale of assets from these entities. Presumably to prevent such a
212-526-8311 scenario, a consortium of large banks announced on Monday the creation of a conduit to
psubrama@lehman.com buy assets directly from troubled SIVs. The full details of this venture have not yet been
made public. However, from what we know, it seems that while the plan may initially
Olga Gorodetsky mitigate the risk of a fire sale of assets, it does not address the equally distressing issue of
212-526-8311
ogorodet@lehman.com
CP not rolling. In this publication, we analyze the issues facing SIVs and evaluate the
potential implications for the broad markets.

PLEASE SEE ANALYST CERTIFICATIONS AND IMPORTANT DISCLOSURES STARTING AFTER PAGE 6
Lehman Brothers | U.S. Securitized Products Research

Introduction to SIV Structure

SIVs are leveraged, off-balance-sheet structures that fund purchases of higher-yielding
long-term assets with cheaper short-term senior debt. Asset portfolios are typically well-
diversified and highly rated. There are some 30 SIV programs in existence today that
manage upwards of $350 billion in assets (Figure 1a).
Composition of Liabilities

SIV assets have a weighted-average life of roughly 3.5 years, whereas SIV liabilities
have a weighted-average life of approximately 0.5 years. SIVs are generally funded with
a mix of highly rated commercial paper (CP) and medium-term notes (MTN).
Subordinated capital notes and equity provide credit enhancement to the senior debt.
These compose roughly 5%-10% of the deal, resulting in leverage of 10x-20x. The
majority of outstanding SIV liabilities, totalling roughly $300 billion, are scheduled to
mature within the next year (Figure 1b).

Figure 1a. Summary of Outstanding Structures, $bn Figure 1b. Maturity of SIV Liabilities

Outstanding, $ bn $120

US Residential $100
Total CP
Assets
SIVs 350 85 18 $80
Multi Seller Conduits 750 625 68
$60
Single Seller Conduits 230 80 72
Sec-arb Conduits 196 135 59 $40
CDOs with CP 45 0 45
$20
Others 15 0 0
Total 1,586 925 261 $0
ABCP

Mar-08

Mar-09

Mar-10

>Mar-10
Sept-08

Sept-09

Source: Lehman Brothers, Federal Reserve. As of October 3, 2007. Source: Lehman Brothers. Shows MTN maturities in six-month intervals.

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Lehman Brothers | U.S. Securitized Products Research

Composition of Assets

SIVs invest in a broad spectrum of asset classes (Figure 2a). Portfolios generally have
large concentrations of residential mortgage-backed securities (RMBS) and financial
institutions. Other common holdings include CDOs/CLOs and consumer ABS. SIVs
invest exclusively in highly rated securities, with over 90% at the AAA or AA levels at
purchase (Figure 2b). Contrary to market perceptions, their exposure to U.S. RMBS is
light, amounting to just over 5.5% of assets, or $18 billion. It is unclear from rating
agency reports what their exposure to ABS CDOs is, but our impression is that their
holdings are rather low.
Other Structural Features

SIVs are mark-to-market vehicles, which differentiates them from multi- and single-
seller conduits. They are subject to a number of market value, liquidity, and eligibility
triggers that are meant to protect investors from severe declines in the value of their
holdings. Here, we summarize generic structural features. It is important to note that
language and terminology can vary dramatically by program. In a defeasance event, a
separate manager typically oversees “the orderly winding down of the portfolio” and “the
repayment of obligations as they fall due.” Defeasance does not trigger an early
redemption of debt. We summarize the guidelines governing SIV structures (Figure 3a):
• Credit enhancement: CP holders are protected to some extent from adverse
movements in asset prices by the existence of subordinated capital notes. A SIV
unwind is typically triggered when mark-to-market losses are greater than 50%
of the capital notes (“Capital Loss Limit”).
• Capital sufficiency: SIVs must maintain capital levels commensurate with
asset ratings, portfolio diversification, and liquidity levels (“Capital Sufficiency
Test”).
• Liquidity constraints: SIVs are required to maintain access to a short-term
liquidity facility that can provide the maximum net cumulative outflow (NCO)
typically for three weeks. This requirement is in place to rectify the small
mismatch in asset and liability cashflows. SIVs must maintain capital levels
commensurate with asset ratings, portfolio diversification, and liquidity levels.

Figure 2a. Asset Composition of Sector Figure 2b. Asset Composition by Rating

Other, 13% Consumer

ABS, 13%
Share of Balance (%)
CDO/CLO, AAA AA A Total
11%
Financials 8.4 24.7 7.8 41.0
RMBS (US) 5.2 0.4 0.1 5.7
RMBS (UK) 15.7 1.3 0.1 17.2
CDO/CLO 10.2 0.4 0.1 10.7
Financials, RMBS (UK),
17% Cons ABS 12.3 0.1 0.2 12.7
40%
Other 10.8 1.2 0.6 12.7
RMBS (US),
Total 62.7 28.1 8.9 100.0
6%

Source: Moody’s, Lehman Brothers. Source: Moody’s, Lehman Brothers.

October 19, 2007 3

Lehman Brothers | U.S. Securitized Products Research

• Eligible asset constraints: SIV portfolios are constrained by sector and rating
concentration limits. SIVs may be forced to dispose of assets if they are
downgraded below a certain threshold; in other cases, they are assigned a zero
value.
• Downgrade constraints: The downgrade of either the senior notes or the
liquidity providers may qualify as a defeasance event if not remedied.
• Hedging constraints: SIVs are required to manage interest rate and currency
exposure.
Unlike other ABCP vehicles, SIVs do not have a liquidity put provider, which is
typically a large, well-capitalized bank that can step in to either purchase or fund the
assets if CP does not roll over (Figure 3b). Instead, the risk of an inability to roll CP is
mitigated by the existence of a liquidity provision, as briefly mentioned above. These are
typically one-year renewable bank liens that can be tapped if the CP market is not
accessible. SIVs are more vulnerable to a forced unwind because of the absence of a
liquidity put provider.

Figure 3a. Structural Features of SIVs Figure 3b. Liquidity Provisions for ABCP Vehicles

Losses may not be greater than 50% of capital Type of Liquidity Provision
Credit Enhancement
notes and equity issued
Capital requirements set on the basis of asset Liquidity
Capital CP Issued Extendible Put Provider
ratings, maturity, portfolio diversification Provision

Availability of liquidity facility that can provide SIVs 85 – – 100%

Liquidity
NCO for three weeks
Multi-seller 625 – 100% –
Sector and rating concentration limits;
Asset Eligibility Single-seller 80 100% – –
downgrade limits
Ratings on senior notes and liquidity provider Sec-arbitrage 135 10% 90% –
Ratings
must be maintained
CDOs with CP 0 – 100% –
Interest rate and currency hedged must be
Hedging Total, $ bn 925 94 740 85
maintained

Source: Moody’s, Lehman Brothers. Source: Lehman Brothers, Federal Reserve, Moody’s. Based on data from
rating agency reports on ABCP conduits. As of October 3, 2007.

October 19, 2007 4

Lehman Brothers | U.S. Securitized Products Research

Estimating Mark-to-Market Losses

In aggregate, we estimate that SIVs have sustained mark-to-market losses of
approximately 1.7% since the end of June (Figure 4b). We arrived at this number by
calculating spread changes for each sector and rating through the beginning of October
(Figure 4a). We then scaled the change in price by asset exposure to arrive at the
aggregate change in value.
It should come as no surprise that the RMBS sector has sustained the highest losses.
However, financial institutions have contributed the most to aggregate SIV losses given
asset concentration in the sector. Individual SIVs with a high concentration of U.S.
RMBS or ABS CDO assets have likely suffered the worst mark-to-market losses and are
at the greatest risk of a forced unwind. However, in aggregate, we do not believe that
mark-to-market losses have reached a critical level.
Aside from mark-to-market losses, SIVs face the additional hurdle of roll dates
approaching. To date, CP has not been rolling, the result of a market-wide loss of risk
appetite, particularly in the form of residential mortgage credit. We believe that SIV
programs have been negotiating with existing CP holders to extend maturities and gain
some time. The larger problem awaits, as MTN maturities approach. In light of the
swelling losses in these structures, we assign a low probability to senior notes rolling in
the near future.

Figure 4a. Calculation of Mark-to-Market Losses Figure 4b. Mark-to-Market Loss Estimates

RMBS Change in Value (%)

Financials UK US CLO Cons ABS AAA AA A Total
Jun-30 4 10 21 24 -1 Financials -0.9 -1.3 -2.1 -1.4
Oct-5 26 35 130 70 30 RMBS (US) -3.3 -11.9 -50.6 -4.7
Change 21 25 109 47 31 RMBS (UK) -1.1 -3.1 -4.8 -1.3
Duration 4.4 4.4 3.0 7.0 3.0 CDO/CLO -0.7 -2.7 -6.5 -3.5
Chng in Price -0.9 -1.1 -3.3 -3.3 -0.9 Cons ABS -0.9 -1.5 -2.0 -1.0
Other -0.4 -1.3 -2.0 -1.0
Total -1.0 -0.4 -0.2 -1.7

Source: Lehman Brothers. Shows loss calculations for AAA bonds. Source: Lehman Brothers, Moody’s. Mark-to-market losses are based on
spread changes from 6/30-10/05. The exposure of SIVs to ABS CDOs is
unclear. As a result, actual losses from this sector could be higher.

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Lehman Brothers | U.S. Securitized Products Research

Bailout for SIVs?

With mounting roll difficulties as a backdrop, a consortium of banks announced the
creation of a master-liquidity enhancement conduit (M-LEC) on Monday. In what
amounts to a planned bailout, the bank-sponsored fund will have a capacity of $80-$100
billion to buy high-grade assets from troubled SIVs. According to the sponsors, the fund
is expected to be operational within 90 days.
The rationale for the measure is to create some semblance of liquidity. To the extent that
liabilities do not roll and SIVs are forced to sell assets, they now have somewhere to go.
As a result, this mechanism may forestall a massive fire sale of assets on the open market
for the time being. However, we remain sceptical about this development for the
following reasons:
• Transfer pricing: To date, SIVs have only suffered mark-to-market losses. In a
forced sale, losses would actually be realized for CP- and MTN-holders, raising
the question of whether CP will ever roll for those vehicles.
• Competition for funds: The creation of a fund backed by top-tier banks may
monopolize funds in an already illiquid market.
• Worse-quality assets remain: Our understanding is that the fund would limit
purchases to AAA and AA assets, leaving a sizeable mass of lower-rated bonds
with no outlet.
The only definitive conclusion we can draw at this point about the potential impact of the
super-fund is that we need to see more detailed plans before we can draw conclusions.

October 19, 2007 6

Analyst Certification
The views expressed in this report accurately reflect the personal views of Prasanth Subramanian and Olga Gorodetsky, the
primary analysts responsible for this report, about the subject securities or issuers referred to herein, and no part of such
analysts' compensation was, is or will be directly or indirectly related to the specific recommendations or views expressed herein.

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