The default of a Regulation XXX structure shows the market for securitizing premium-term life reserves has some additional healing to do before it can return to normalcy.
Earlier this week, Standard & Poor’s announced it had cut the senior debt rating of Orkney Re II — from “CC” to “D” — after the vehicle missed an interest payment on its Class A-2 notes.
An S&P press release also noted that the company would not make the payment within the three-day cure period.
Orkney II is an Irish-based captive that holds $382 million in reserves for cedent Scottish Re.
Gary Martucci, director and credit analyst with S&P, says the asset values of Orkney II’s surplus accounts were drained by investments in the residential mortgage-backed securities market (RMBS).
“It’s not the fact that mortality was really bad, but there was an over concentration in RMBS,” he says. “Especially in Alt-A and other subprime structures.”
The reserves in a Reg XXX transactions are marked-to-market in order for the cedent to get credit for reinsurance, Martucci adds. After the assets are valued at the end of the quarter and a shortfall is discovered, the cash flow is pulled in to meet the reserve requirements rather than service the notes.
This is the second Scottish Re life reserve structure to trip up on RMBS. Last year, Ballantyne Re bonds were downgraded because of asset value declines in mortgage holdings.
Ballantyne has subsequently made its payments current by recapturing assets on a ceded block of business, according to published reports.
Martucci adds that although he could not comment if other Reg XXX structures are in threat of default, he did say that the entire sector is suffering asset declines because of bad RMBS investments.
“There some level of losses, but [Orkney II and Ballantyne] were the most concentrated,” Martucci says.
