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Fitch Exposure Draft: Modeling Basis Risk in U.S. Structured Finance Transactions.

NEW YORK -- Fitch Ratings has introduced new model-based stress criteria for securitizations involving USD London Interbank Offered Rate (LIBOR) to better capture potential effects of basis risk, which securitizations can be vulnerable to in both rising and falling interest rate environments, according to Quantitative Financial Research (QFR) Managing Director and PhD Ahmet Kocagil.

'While some securitization structures use swaps to mitigate basis risk exposure, falling interest rates may increase compression between assets and liabilities, which may diminish excess spread and potentially lead to a liquidity shortage,' said Kocagil. 'Additionally, pay fixed-receive floating swaps can also result in an over-reliance on swap cash flows in a rising rate scenario, making it more difficult to isolate the transaction's own liquidity risk.'

Fitch's criteria changes stand to most greatly affect consumer ABS and RMBS, according to Managing Director Claire Mezzanotte. 'The majority of U.S. consumer ABS transactions, including credit card receivables, student loans, and home equities, are exposed to basis risk due to mismatches between the asset and liability coupon rates,' said Mezzanotte.

Fitch has been publishing vectors of shifts to spot LIBOR for each rating level since formally rolling out its interest rate stress criteria report for transactions involving USD LIBOR in May of this year. Once the basis risk criteria is finalized, Fitch will be updating the stresses each month. 'The major advantage of the new methodology is that the basis risk assumptions are applied uniformly over different securitized products based on past occurrences and future projections of market interest rate dynamics,' said Kocagil.

Fitch will be soliciting market feedback on this exposure draft for one month before releasing its final criteria. 'Basis Risk In Structured Finance Transactions: T-Bill, CP, and Prime versus USD LIBOR' is available on the Fitch Ratings web site at

Fitch's rating definitions and the terms of use of such ratings are available on the agency's public site, 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.
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Publication:Business Wire
Date:Jul 31, 2006
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