DBRS Comments on NAB’s writedown of US CDOs

DBRS has reviewed the announcement made by National Australia Bank (NAB or the Bank) that it has booked an additional $830 million charge against its approximately $1.2 billion portfolio of U.S. residential mortgage backed (RMBS) collateralized debt obligations (CDOs), bringing the total provision against this portfolio to about 90% following an earlier charge of $181 million. There are no rating implications at this time as the remaining $161 million exposure in this portfolio is not material to the Bank. DBRS currently rates NAB’s Deposits and Senior Debt at AA and Commercial Paper at R-1 (high), both with Stable trends.

The write-down is modeled on a worst-case scenario, driven by recent statistics on U.S. repossessed housing, the inventory of unsold housing and low security realizations. The writedown reflects 100% of the value of senior tranches and approximately 50% of the value of super-senior tranches. This portfolio is effectively the only exposure to the U.S. mortgage market, except a very small amount in recently acquired Great Western Bancorporation, a regional bank based in the U.S. mid-West.

The preliminary indication is that the impact on capital will be in the order of 20 basis points. Management expects the Tier 1 ratio to remain at the high end of the targeted range of 6.0% to 6.75% when it reports next, as at September 2008, which DBRS views as somewhat low but acceptable as a result of the generally low risk business model. There are a number of moving parts as the Bank is expecting to be accredited for Basel II at that time.

Aside from the US RMBS-backed CDOs, there are other off-balance sheet conduit assets of $13.2 billion, including $8.7 billion in NAB-originated assets and $4.5 billion in other purchased assets backed by corporate and commercial mortgage-backed securities sourced primarily in Europe and the United States. This asset class includes $1.6 billion in purchased corporate-backed synthetic CDOs and $1.7 billion in leveraged collateralized loan obligations. While the underlying loans of the $4.5 billion in other purchased assets are all performing, the credit fundamentals of the underlying assets are radically different than U.S. RMBS and almost 98% are in a super-senior structural position, DBRS cannot discount the potential for NAB to book charges against this portfolio as the global credit market turmoil continues, although the same could be said of any bank with exposure to structured products.

NAB’s domestic and U.K. banking businesses will almost certainly generate higher credit costs as a result of economic conditions, although this had already been anticipated and incorporated in the rating. Although likely to slow due to the higher interest-rate environment and higher fuel prices, the Australian economy remains in relatively good shape.

Note:
All figures are in Australian dollars unless otherwise noted.