Fitch Ratings has affirmed five classes of notes issued by Hamlet II Ltd./LLC. (Hamlet II). A detailed list of rating actions follows at the end of this release.
This review was conducted under the framework described in the report 'Global Structured Finance Rating Criteria'. Cash flow and portfolio default modeling were conducted in accordance with Fitch's 'Global Criteria for Cash Flow Analysis in CDOs - Amended', 'Global Rating Criteria for Corporate CDOs', 'Global Surveillance Criteria for Corporate CDOs' and 'Criteria for Interest Rate Stresses in Structured Finance Transactions'. Loss Severity (LS) ratings were assigned in compliance with Fitch's 'Criteria for Structured Finance Loss Severity Ratings'.
The affirmations are based on stable portfolio performance and improved credit enhancement to the rated notes due to a structural feature that directs excess interest proceeds to purchase additional portfolio collateral during the reinvestment period. Since closing approximately $31 million of excess interest that would have otherwise been paid to the subordinated noteholders has been reinvested. The reinvestment of excess interest proceeds has increased the size of portfolio assets and subsequently the credit enhancement levels for each class of notes. This feature has reduced the impact of losses from defaulted assets and credit risk sales that occurred since the last review. Fitch views this feature favorably, noting that it promotes the management of the portfolio for the benefit all noteholders. Additionally, Fitch notes that this feature is unique to Hamlet II, as most structures will invest excess interest proceeds only if an overcollateralization measurement is not satisfied. Hamlet II purchases additional collateral with excess interest proceeds without any tests or qualifications.
Hamlet II is still in its reinvestment period and has been actively managed since closing. Since Fitch's last review in August 2008, the average quality of the portfolio has been maintained at a rating level of 'B+/B'. According to the Feb. 4, 2010 trustee report, exposure to defaulted issuers and assets rated 'CCC' or below has increased to 3.3% and 6%, respectively, from 1.4% and 5.2%. Approximately 21% of the underlying portfolio ratings have a Negative Rating Outlook and 3% of ratings are on Rating Watch Negative, indicating the possibility of further negative rating migration. Currently, both the overcollateralization and interest coverage tests are passing their minimum test levels.
The portfolio is comprised of approximately 85% senior secured loans, 2% senior unsecured loans, 11% second lien loans and bonds and 2% structured finance assets. Hamlet II continues to invest in collateralized loan obligations (CLO), including some CLOs managed by Octagon Credit Investors, LLC (Octagon). Exposure to structured finance securities is limited to 5% of the portfolio under the terms of the transaction. Currently the asset distribution, credit quality and loss performance has been within Fitch's expectations. Looking forward, the maintenance of the portfolio quality and exposure to new losses will be a determining factor for future rating actions.
In its review, Fitch analyzed the structure's sensitivity to reduced U.S. corporate recoveries. To accomplish this, in one scenario Fitch reduced its average recovery rate assumptions for each asset type by 30%, where explicit Recovery Ratings were not available. The subordinated notes displayed a degree of sensitivity to lower recovery rates. This sensitivity, in addition to the sizeable portion of underlying portfolio credits with Negative Outlooks, prompted Fitch to assign a Negative Outlook to the subordinated notes. The class A and B notes displayed relatively limited sensitivity to lower recovery rates so Fitch maintains their Stable Outlook.
The notes were assigned LS ratings. The LS ratings indicate each tranche's potential loss severity given default, as evidenced by the ratio of tranche size to the base-case loss expectation for the collateral, as explained in Fitch's 'Criteria for Structured Finance Loss Severity Ratings'. The LS rating should always be considered in conjunction with the notes' long-term credit rating.
Hamlet II is a revolving cash flow transaction collateralized by a portfolio of primarily leveraged loans and bonds that closed on Nov. 21, 2006 and is managed by Octagon. Hamlet II will exit its reinvestment period in November 2013, unless specified reinvestment extension criteria is met, which could extend reinvestment for an additional two years. The stated maturity of the transaction is on May 11, 2021.
Fitch has affirmed and assigned LS ratings and Rating Outlooks to the following notes:
--$137,900,000 class A-1 notes affirmed at 'AAA/LS2'; Outlook Stable;
--$210,000,000 class A-2a notes affirmed at 'AAA/LS2'; Outlook Stable;
--$37,100,000 class A-2b notes affirmed at 'AAA/LS2'; Outlook Stable;
--$30,000,000 class B notes affirmed at 'A/LS4'; Outlook Stable;
--$85,000,000 subordinated notes affirmed at 'BBB-/LS3'; Outlook Negative.
These rating actions reflect the application of Fitch's current criteria which are available at www.fitchratings.com and specifically include the following reports:
--'Global Structured Finance Rating Criteria' (Sept. 30, 2009);
--'Global Rating Criteria for Corporate CDOs' (April 30, 2008);
--'Global Criteria for Cash Flow Analysis in CDOs - Amended' (Nov. 9, 2009);
--'Global Surveillance Criteria for Corporate CDOs' (Dec. 7, 2009);
--'Criteria for Structured Finance Loss Severity Ratings' (Feb. 17, 2009);
--'Criteria for Interest Rate Stresses in Structured Finance Transactions' (Feb. 17, 2010).
Fitch will continue to monitor and review this transaction for future rating adjustments. Additional transaction information and historical data are also available at www.fitchratings.com.
Additional information is available at www.fitchratings.com.
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