A more than $30 billion pool of corporate loans managed by
has slipped by virtually unnoticed, but merits close scrutiny as it sheds light on central bank lending standards loosened by regulators' fight against the global economic downturn.
The transaction, dubbed Newfoundland and rated triple-A by Moody's Investors Service looks to be the largest collateralized loan obligation ever issued, by a large margin. Most CLOs are in the $300 million range and anything over $1 billion is considered large, according to Bill May, an analyst at Moody's.
"It's certainly the biggest CLO I've ever heard of," May says.
Its purpose is almost certainly to allow Barclays to use its corporate loan portfolio as collateral to obtain short-term funding from a central bank, according to May and other analysts and economists. They are divided, however, on whether the European Central Bank or the Bank of England is the more likely lender. Neither central bank responded to requests for comment.
Barclays declined to discuss the transaction, which it does not appear to mention in its public regulatory filings and the existence of which was unknown even to close followers of the company like Sandy Chen, analyst at Panmure Gordon.
"The more light that can be shed on this, the better," Chen says.
Central banks have lowered lending standards in response to the global crisis, which has sparked controversy. So has the fact that they are relying on much-maligned
such as Moody's to determine what types of securities are suitable for use as collateral.
"The rating agencies have been fairly well discredited for structured products, and I advocate that their
Nationally Recognized Statistical Rating Organization designation be revoked," wrote Janet Tavakoli, president of
Tavakoli Structured Finance
, in an email to
The problem is that there is nothing to replace the rating agencies, Tavakoli continues. "The capital markets, regulatory agencies and Congress indulge in the hypocrisy that no one trusts the rating agencies, but we'll use the ratings to determine how we provide liquidity in the capital markets," she says.
has taken $1.9 trillion in different types of collateral during the crisis, but has refused to disclose what that collateral is or which institutions have posted it.
is suing the Fed under the Freedom of Information Act to try to get it to disclose this information, though the Fed is arguing it is not bound by FOIA laws.
Fed officials have said the secrecy is important because borrowing from the Fed could be seen as a stigma. According to a
report last month, Brian Madigan, the Fed's director of the Division of Monetary Affairs, said in a sworn statement that Citibank saw a bank run in Asia in the early 1990s sparked by rumors it was borrowing from the Fed window.
Given the current crisis, however, central bank borrowing by Barclays or any other bank should not necessarily be worrisome to their investors, says Vincent Reinhart , a resident scholar at the American Enterprise Institute, who formerly held Madigan's position at the Fed.
"Borrowing from central banks is supposed to be expensive when market functioning is normal. When market functioning isn't normal, these facilities look cheap and so it's perfectly reasonable for management in these circumstances to seek out cheaper funding," Reinhart says. He adds that the exact cost is difficult to calculate from the outside because prices can vary depending on the type of collateral banks use.
Barclays has had a run of positive news lately. It passed a stress test from its regulator last month, and shares have rebounded on news it is selling its iShares asset management business to private equity firm
CVC Capital Partners
for $4.4 billion. Its shares have far outpaced U.S.-based competitors like
in recent weeks, and have more than doubled in the past month.
While Barclays' health is not necessarily at issue, Reinhart says he worries the central banks' loosening of lending standards may prolong problems in the system as banks like Barclays postpone selling or at least marking down troubled assets.
"Rather than dealing with these impaired collateral, the ability to fund them at the central bank may allow management to delay the reckoning," he says.
Further, Tavakoli worries the central banks could be stuck with assets worth far less than they think. "It's kind of disturbing that the Fed and the ECB have decided to take on this kind of collateral, and they're really not equipped to scrub it," she said in a follow-up phone interview.
Collateralized debt obligations -- a broader category that includes CLOs and collateralized bond obligations -- are probably the best example of the so-called "toxic" securities at the heart of the current crisis. They have led to hundreds of billions in writedowns over the past year, wreaking havoc at once-proud institutions like
Since the crisis began, buyers for these instruments are scarce to non-existent. However, some banks have created so-called balance-sheet CLOs like Newfoundland in order to use their troubled loans as collateral to obtain short-term financing from central banks. The best-known example of such a transaction is a $2.8 billion CLO, known as Freedom, issued last year by
How many other banks are creating balance-sheet CLOs to borrow from central banks is difficult to know. Morgan Stanley analyst Vishwanath Tirupattur says there are others, though he is not aware of any that rival even Freedom in size, much less a $30 billion giant like Newfoundland. Such information is hard to come by, however. Even though he specializes in CLOs, Tirupattur was unaware of the second $16 billion issue from Newfoundland last month.
"Some of these balance-sheet deals are not broadly distributed. I mean they're not distributed at all," Tirupattur says.
That's because investors are too spooked to buy them, for now. Whether they will ever return to the market for such highly complex products remains to be seen. It is ironic, however, that banks are now creating new structured securities like Newfoundland to extract themselves from the very mess such securities created in the first place.
The Moody's report explaining the triple-A rating given to Newfoundland last month is highly technical, referring to a "Correlated Binomial Expansion Technique," and a "weighted-average rating factor of 1040."
While there may not yet be a market for these securities, the fact that banks are still producing them is an ominous sign to people like John Kanas, a consultant to private equity investors and the former CEO of
bank, bought by
Capital One Financial Corp.
"There should be a loud and clear voice demanding us to go back to simplicity and away from these esoteric products, but frankly I may be a lone voice in the wind because the creation and sale of these products is a very profitable business," Kanas says.