The FINANCIAL -- London-01
July 2011: Fitch ratings has affirmed Principality Building Society's
(PBS; 'BBB+'/'F2') only series of UK residential mortgage covered bonds
at 'AAA'.
The bonds total GBP700m, with a scheduled maturity date of January 2012 and an extended maturity date of January 2052. The affirmation incorporates the application of Fitch covered bonds counterparty criteria, published 14 March 2011.
The rating is based on PBS's Long-term Issuer Default Rating (IDR) of 'BBB+' and the updated Discontinuity Factor (D-Factor) of 7.2% assigned to the programme. This combination continues to enable the covered bonds issued under the programme to reach 'AA+' on a probability of default (PD) basis, and 'AAA' when factoring in recoveries given default. The asset percentage (AP) supporting a 'AAA' rating stands at 94.5%, which provides some buffer above the 92% maximum level prescribed by the programme's asset coverage test. The AP supporting a given rating will be affected, among other things, by the profile of the cover assets relative to outstanding covered bonds, which can change over time, even in the absence of new issuances.
The increase in the D-Factor to 7.2% from 6.7% does not impact the covered bond rating or the rating on a probability of default basis. However, all else equal, the covered bonds can remain rated at 'AAA' provided the IDR is at least 'BBB' compared to 'BBB-' previously. The D-Factor alteration reflects concerns regarding derivative counterparty replacement where the derivative counterparty to the asset-owning special purpose vehicle is also the issuer. The impact of the agency's covered bond counterparty criteria on UK covered bond programmes is outlined in "Counterparty Risks in UK Covered Bond Programmes - New Criteria Highlight Key Risks", published 12 May 2011.
The AP supporting the 'AAA' rating has increased to 94.5% from 89.5% previously. This is primarily explained by an improvement in the credit quality of the cover pool. Indeed, the cover pool has reduced to GBP880m in May 2011 from GBP1.8bn at programme inception in January 2009, leading to a decrease in the remaining pool's weighted average (WA) original loan-to-value ratio (LTV) to 57.9% from 64.1%. In addition, Fitch has updated its underwriting hit for the cover pool analysis. Fitch has also reviewed its stressed re-financing assumptions for the UK to take into account the increased margin for UK prime mortgages.
The D-Factor of 7.2% assigned to PBS's mortgage covered bonds remains mainly driven by the pass-through feature of the covered bonds, which, in the event of a default by the issuer, removes the need for assets to be liquidated to meet covered bonds obligations. In addition, it reflects the segregation of the cover assets in the bankruptcy-remote, special-purpose company acting as guarantor; the mitigants to liquidity gaps in the form of a cash reserve covering three months of interest on the covered bonds; the provisions for replacing the issuer as servicer of the pool and the adequacy of the issuer's IT systems; no credit is given to the oversight of the Financial Services Authority for the benefit of the covered bondholders, as the programme is not regulated under the UK Regulated Covered Bond framework.
As of May 2011, the cover pool consisted of 12,562 PBS originated loans secured on residential properties in the UK, with a total outstanding balance of GBP880m. Compared to the total outstanding covered bonds of GBP700m, this equates to an available AP of 79.5%. The mortgage portfolio had a WA current indexed LTV of 58.4%. The cover pool assets are concentrated mainly in Wales 51.4%, London/south east 16.9% and the north west 7.2%. The WA seasoning of the loans was 64 months. In a 'AAA' scenario, Fitch has calculated the pool's cumulative WA frequency of foreclosure at 18.1% and a WA recovery rate of 71%.
Both the cover pool and the covered bonds are sterling-denominated. Whereas the cover assets yield a mix of fixed and floating rates, interest on the covered bonds is referenced to a floating rate. An interest rate swap is in place with PBS to transform interest collections from the cover assets into one-month GBP LIBOR plus a spread. There is a back-up arrangement with a suitably rated counterparty.
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