Published June 2, 2009

'Sell' call on M'sian bank exposed to CLOs

Alliance Finance's case may mirror the predicament many banks could be in

By S JAYASANKARAN
IN KUALA LUMPUR

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A LOCAL securities house has called a 'sell' on the shares of Alliance Finance Group, one of Malaysia's smallest banks, partly on fears about the bank's seemingly risky exposure to bonds backed by collateralised loan obligations (CLOs), which are essentially asset-backed derivatives.

To be sure, the securities firm conceded the bank's 'healthy' balance sheet and the fact that it had made part provisions - of between 25 and 41 per cent - for its RM425 million (S$176 million) exposure to the CLOs. Indeed, the provisions were two times the actual defaults so far and to put it in perspective, Alliance's exposure to the CLOs represents 1.6 per cent of its total assets. Even so, the point remained that more defaults could happen going forward as the recession wore on.

Alliance's management had come clean on the CLOs, saying it had varying exposure to three: Kerisma, Idaman and CapOne. All three are special-purpose vehicles usually set up by banks - Alliance, for example, launched both Kerisma and Idaman - that buy corporate loans they make, securitise them (the CLOs) into a debt instrument (the bond), and sell them on.

The interest payments and principal from the loans form the stream of coupon and final payments the bond gives.

Unfortunately, however, these loans were given out in the optimistic days of 2006 and 2007 and since then, most of the special-purpose vehicles have been downgraded by the rating agencies. But most analysts think that the situation will not be that bad. In 1998, corporate debt defaults hit a high of over 8 per cent.

The Rating Agency of Malaysia recently predicted that corporate debt defaults would rise to 1.8 per cent this year, up from one per cent last year. In a worst-case scenario, it predicted a 4.8 per cent situation.

Alliance's situation is likely to mirror the predicament many Malaysian banks could find themselves in: nearly all of them have investment arms that used to manufacture instruments like CLOs. Thankfully, however, the downturn now isn't as bad as 1998 when non-performing loans went through the roof.

'So far it's utterly manageable,' a banker told BT. 'But if it starts getting bad then we could be in trouble. But so far, so good.'

Alliance is still profitable although its net profit for the year to end-March plunged to RM229 million from RM390 a year ago. But analysts have noted with approval the bank's tightened risk management processes: for its new loans book, the non-performing loans ratio is below one per cent.

And Alliance's management has set up a five-man management team to monitor the 'obligors' - those companies whose loans have been bundled into the CLOs.

The bank's largest shareholder (30 per cent) is Vertical Theme, a 51:49 joint venture between Malaysian holding company Langkah Bahagia and Singapore investment agency Temasek Holdings.

The Arab-Malaysian banking group yesterday called a 'sell' on the stock saying, at 1.2 book, its fair value should be RM2 apiece and that, in any case, the stock offered 'only limited upside.'

Investors were unfazed by the report and the stock closed one sen up yesterday at RM2.18 each.