Even as increasingly desperate falling knife catchers try to convince someone, anyone to buy up some or all of their shares of BP stock, which is certainly on its way to a guaranteed doubling, tripling or more, the real investing community is ever more carefully looking at the worst case, and its implications. Said implications would be vast, and in addition to wiping out billions in capital from BPs direct counterparties which are already limiting their BP exposure, a topic we touched upon briefly previously, would also impair indirect holders of pre-packaged securitized BP exposure. Today Moody's provides an analysis of which CSOs (just like CDOs but packed purely with synthetic products - think Goldman's Abacus) would be impaired should BP go bankrupt. The rating agency does not stop there, and also analyzes what a bankruptcy of BP peers Halliburton, Anadarko Petroleum, Transocean Inc., and Cameron International would look like, and who would be wiped out. Below are the results, which upon further analysis will likely indicate total loss potential well beyond BP's total outstanding debt exposure.
As the recent civil case involving Goldman and the Abacus (and soon potentially others) CDO showed, collateralized products have a special place in the heart of the regulators, due to their avalanche quality of blowing up seemingly completely unrelated entities, which share merely the stupidity of having invested in the same entity. BP, as a company with over $20 billion in debt outstanding, has over the years, seen many of its CDS packaged and repackaged in the form of many and increasingly more complex CSOs. Last week's blow out in BP spreads, in which the 1 Year CDS surged beyond 1,000 bps, has got many people concerned: the least of which are counterparties that are on the other side of the short risk trade. Others include investors in just such CSOs, and other companies whose CDS comprises various tranches in these synthetic obligations, as forced liquidations in any given CSO would result in the blow out spreads in even perfectly solvent companies who just have the displeasure of being packaged in one and the same CSO.
In the event of BP’s restructuring or bankruptcy, CSO transactions referencing BP or its affected subsidiaries may experience what is called a “credit event.” If the credit event occurs, the CSO transactions will have to meet their payment obligations to the protection buyers, which will result in the loss of subordination to the rated CSO tranches. In cases where the subordination is no longer available, CSO investors will incur the loss.
The rater elaborates:
Last week, credit default swap (CDS) spreads on BP plc widened to all-time highs, reflecting the mounting costs of the Gulf of Mexico oil spill and the ensuing rating actions. BP’s credit deterioration is in turn a credit negative for collateralized synthetic obligation (CSO) transactions that reference BP or the companies involved in the Gulf incident.
Rising Costs of the Spill. After almost two months of unsuccessful attempts to stop the worst oil spill in history, BP is potentially facing billions in containment, clean-up, and litigation costs. It is unclear what these expenses will ultimately amount to over the coming years, as the assessment of the damage is just beginning.
BP Downgraded, CDS Spreads Widen. Our recent downgrade and placement on watch for further possible downgrade of BP and its guaranteed subsidiaries reflects intensified risk that the extended oil spill in the Gulf of Mexico will significantly siphon the company’s free cash flows. Spreads on BP’s credit default swaps rose as much as 124.5 basis points (bp) in one day to a record 630.6 bp as of 16 June 2010. BP’s debt maturing next year recently traded at distressed levels, and there is a growing concern among credit investors over a scenario where BP plc might default.
So which CSOs should readers be very concerned if they have these among their holdings? Below is the list:
We reviewed our entire universe of outstanding CSOs and determined that exposure to BP and its rated subsidiaries appears in 117 (excluding CSOs backed by CSOs) transactions, which represents approximately 18% of global Moody’s-rated CSOs. Exposure ranged from 0.26% to 2% of the respective reference portfolios. The transaction with the largest exposure to BP and its subsidiaries is Arosa Funding Limited – Series 2005-5.
Restructuring or Bankruptcy of Other Oil Companies Involved in the Spill Also Affects CSOs. In addition, we assessed Moody’s-rated CSO exposure to the other four companies and their subsidiaries that were involved in the Gulf of Mexico incident, which are Halliburton, Anadarko Petroleum, Transocean Inc., and Cameron International. Halliburton appears in 43 CSOs, Anadarko Petroleum appears in 28 CSOs, Transocean Inc. appears in 79 CSOs, and Cameron International appears in 6 CSOs. We recently changed the credit outlooks for Transocean and Anadarko Petroleum, as well as their rated subsidiaries, to negative from stable because of uncertainties related to the companies’ involvement in the Gulf of Mexico incident and potential financial liabilities associated with it. The CSOs referencing one or more of these issuers would face credit event consequences in a scenario where any of them restructures or enters bankruptcy.
The exhibit below lists CSOs (excluding CSOs backed by CSOs) with over 3% exposure to the five companies involved in the Gulf of Mexico incident.
We will collect information on Arosa 2005-5 as well as the top three consolidated CSO, Dundee Series 45, Delaware 2004-34, and Orso Trust 1, as something tells us due to unrelated losses, the securitizations are already largely impaired. Should BP go down it will, on a diluted basis, wipe out many more pro rata billions in value once protection sellers scramble to cover margin and collateral calls. Add the other drilling usual suspects, and the losses could amount well into the hundreds of billions. We hope to have this analysis in advance of a possible BP chapter 11 to hopefully prevent investors from finding out they owe money only after the fact.