Structured Finance. Criteria Addendum: UK. Residential Mortgage Assumptions. Residential Mortgage / United Kingdom. Sector-Specific Criteria Report

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1 Residential Mortgage / United Kingdom Residential Mortgage Assumptions Sector-Specific Criteria Report ResiEMEA The mortgage loss criteria described in this addendum will be implemented in Fitch s residential mortgage asset model, ResiEMEA. ResiEMEA is publicly available at For more details, please refer to ResiEMEA Model User Guide English Version, available at Related Criteria Global Structured Finance Rating Criteria (July 2015) EMEA RMBS Rating Criteria (August 2015) Counterparty Criteria for Structured Finance and Covered Bonds (May 2014) Counterparty Criteria for Structured Finance and Covered Bonds: Derivative Addendum (May 2014) Criteria for Servicing Continuity Risk in Structured Finance (July 2014) Criteria for Rating Caps and Limitations in Global Structured Finance Transactions (May 2014) Related Research Global Housing and Mortgage Outlook (January 2015) Scope This report outlines Fitch Ratings assumptions for analysing securities backed by UK residential mortgage loans. This report is an addendum to Fitch s EMEA RMBS Rating Criteria. The assumptions are used to rate new and existing RMBS transactions, and mortgage covered bond programmes. In addition, the market value decline assumptions are applicable to the ratings of SME CLO transactions secured by residential real estate. These assumptions are applicable to portfolios comprised of mortgages with market-standard characteristics, as embedded in the data used to derive such assumptions and adjustments. Fitch may apply assumptions or adjustments beyond those specified in this report where a portfolio materially deviates from such market-standard characteristics. Key Assumptions Foreclosure Frequency: Fitch s base Bsf foreclosure frequency (FF) assumption is 1.6% for a standard prime residential loan and 4.9% for a non-conforming residential loan. The base FF multiplied by FF adjustment assumptions for each loan results in a Bsf weighted-average FF (WAFF) of 2.1% for a representative prime residential portfolio and 9.2% for a non-conforming pool. Fitch applies a rating multiple of 6.2 for prime and 3.8 for non-conforming to determine the AAAsf assumption. Sustainable House Price Discount: Fitch s sustainable price discount (SPD), which represents the difference between current house prices and sustainable house prices derived from historical data, is 24.8% on average for the UK based on 3Q15 values. SPD assumptions are defined at the regional level within this report and updated periodically based on house price and income movements. Stress Below Sustainable Price: Fitch stresses house prices below the sustainable level from 0% in a Bsf scenario to 35% in a AAAsf scenario. Stresses for all rating categories are outlined in this report. Quick-Sale Adjustment: Fitch s average quick-sale adjustment (QSA) ranges from 17% (owner-occupied house) to 35% (buy-to-let flat). Where adequate lender-specific data is available, the QSA assumptions are based on that data. Fitch s QSA assumptions are detailed in this report. Foreclosure Timing: Fitch assumes that the foreclosure timing process will take 18 months for an owner-occupied property and 15 months for a buy-to-let (BTL) property in a Bsf rating scenario. For a AAAsf rating scenario, it is assumed to be 24 months for owner-occupied and 21 months for BTL. Fitch s foreclosure timing and foreclosure cost assumptions are specified in this report. Analysts Robbie Sargent robbie.sargent@fitchratings.com Sanja Paic sanja.paic@fitchratings.com Master Trust Cash Flow Assumptions: Fitch applies specific cash flow assumptions in the analysis of UK master trust structures, as these have unique structural features that are different from standard pass-through transactions. These assumptions are specified in this report. 16

2 Foreclosure Frequency The base FF at Bsf reflects Fitch s lifetime default risk expectations for a standard UK mortgage loan with the following characteristics: full-time employed borrower with full income verification and no adverse credit history; amortising loan paying monthly; and loan purpose consisting of purchase/refinancing of the primary residence. for non-conforming loans: the loan has not been delinquent within the last 24 months (or since origination if the loan has been originated within the last 24 months). Fitch's base FF is set at 1.6% for standard prime loans and 4.9% for standard non-conforming loans. This reflects the relatively stable macroeconomic environment in the UK. Figure 1 Base Foreclosure Frequency Matrix ('Bsf' Scenario) Prime sltv (%) a Class 1 (<20) Class 2 (20-25) Class 3 (25 30) DTI (%) Class 4 (30 35) Class 5 (35 40) Class 6 (40 45) Class 7 (>=45) < a In case a loan sltv falls on the boundary of the LTV band, it will be assumed to be in the higher sltv band Figure 2 Base Foreclosure Frequency Matrix ( Bsf Scenario) Non-Conforming sltv (%) a Class 1 (<20) Class 2 (20-25) DTI (%) Class 3 (25 30) Class 4 (30 35) Class 5 (35 40) Class 6 (40 45) Class 7 (>=45) < a In case a loan sltv falls on the boundary of the LTV band, it will be assumed to be in the higher sltv band Prime vs. Non-Conforming Based upon a review of the originator s underwriting practices and of the loan data, Fitch will classify each portfolio, or sub-portfolio, as prime or non-conforming. Prime portfolios are expected to exclude borrowers with material adverse credit history and include a high level of borrower income verification and adherence to the lenders underwriting guidelines. 2

3 Debt to Income For owner occupied mortgages Fitch calculates the debt-to-income ratio (DTI). A borrower's monthly mortgage payment is calculated assuming a repayment loan with a stressed interest rate, which is the higher of 4% plus the relevant margin or current Libor plus relevant margin. Net income is calculated by deducting National Insurance contributions and UK income tax from the borrower's income. The monthly mortgage payment is then divided by this monthly net income payment to give a DTI. This DTI is used in the application of Figures 1 and 2. Interest Coverage Ratio The affordability of BTL loans is assessed using an interest coverage ratio (ICR) approach. Fitch calculates the ICR by dividing the estimated monthly rent (as assessed by a qualified surveyor and provided to Fitch by the lender) by the monthly interest charge. The monthly interest charge is calculated by Fitch for an interest-only loan using a stressed interest rate of 4% (or the current rate, whichever is higher) plus the relevant margin. Where the estimated rental amount is assessed by a party other than a qualified surveyor, adjustments may be made to the stated rental amount. The ICRs are categorised into bands (see Figure 3). Figure 3 Buy-to-Let Treatment in Base Foreclosure Frequency Matrix Fitch ICR (%) Class 1 >160 Class Class Class Class Class Class 7 95 Willingness to Pay Fitch believes that the sustainable loan to value (sltv) is one of the key determinants of a borrower's willingness to pay. The sltv is calculated by dividing the current loan amount by the long-term sustainable price of the property (see Figure 4). For concentration hits, see the section Appendix 2: Analysis of Concentration Risks on page 34 of Fitch s report EMEA RMBS Rating Criteria. For lender-specific adjustments, see the section Lender Adjustment on page 11 of Fitch s report, EMEA RMBS Rating Criteria. Figure 4 Sustainable LTV Example Property value (GBP) a 165,000 Loan amount (GBP) 115,500 CLTV (%) 70 Estimated sustainable price (GBP) 124,080 Sustainable price discount (%) 24.8 sltv (%) 93.1 a Property value as at 3Q15, Halifax house price data 3Q15 Adjustments to Base Foreclosure Frequency Fitch applies adjustments to the base FF to address the risk profile of a UK loan with nonstandard borrower, loan or product features. Further adjustments can be made depending on the specific circumstances of the transaction and deviations are possible if suggested by reliable evidence and data. 3

4 Figure 5 Adjustments to the Base Foreclosure Frequency Borrowerspecific adjustments Self-employed with verified income: 20% increase Non-verified income (for all employment types): 30% increase The borrower-specific adjustments listed above are not applied to BTL loans where the rental income is verified. Prior Adverse Credit Adjustments a First-time buyers: 10% increase for non-conforming owner-occupied and BTL loans. Prior Bankruptcy Order or Individual Voluntary Arrangement: 300% increase where the borrower has a prior bankruptcy order or individual voluntary arrangement on file Number of County Court Judgements: Increase dependent on the number of county court judgements (CCJs) a borrower has. Adjustment for CCJ Number of CCJs Increase to foreclosure frequency (%) >=6 100 Prior mortgage/rental arrears: increase dependent on the number and timing of missed mortgage and rental payments by a borrower in 12 months before taking out the current mortgage. Adjustment for Prior Mortgage Arrears (1-6 Months Before Origination) Number of months in arrears Increase to foreclosure frequency (%) >2 80 Adjustment for Prior Mortgage Arrears (7-12 Months Before Origination) Number of months in arrears Increase to foreclosure frequency (%) >3 80 Recent Arrears: 30% increase to FF for non-conforming loans where the loan is currently performing but has been 1 month or more in arrears in the past 24 months (or since origination where the loan has been originated less than 24 months ago) a Prior Adverse Credit Adjustments The increase to FF applied for bankruptcy order/individual voluntary arrangement, CCJ, recent arrears and prior mortgage/rental arrears are all intended to assess a borrower's previous credit history. Therefore if a borrower has more than one category of adverse credit, e.g. both a history of bankruptcy orders and CCJs, only one of the FF adjustments will be applied this will be the one which results in a greater increase to FF. In addition, for loans which are seasoned for over 5 years, only half the proposed increases to FF relating to non-verified income, prior bankruptcy order / individual voluntary arrangement, CCJs or prior mortgage arrears will be applied. If the borrower, in this case, is self-employed a 20% increase will still be applied to the FF of the loan, even if the adjustment due to non-verified income has been halved as self-employed hits are not halved after a 5-year period. 4

5 Adjustments to the Base Foreclosure Frequency (Cont.) Loan-specific adjustments (continued) Interest Only (IO) Loans Adjustment for IO Loans Loan term to maturity (years) Indexed CLTV (%) <5 <10 < >= >= >= >= < The above IO adjustment is not applied for BTL loans. Fitch treats part and part loans as IO loans. Fitch will assess the sensitivity of ratings where IO loans (including BTL) maturing within a three-year period account for more than 20% of the portfolio balance (testing the three-year period with the highest concentration). Where the rating sensitivities for the higher rating categories, namely AAAsf, AAsf and Asf, indicate a higher than three-notch impact, Fitch will use the adjusted FF in its rating analysis. Fitch will assume FF for all IO concentration loans, as below: AAAsf 50% AAsf 35% Asf 25% BBBsf 15% BBsf 5% FF applied to IO Concentration loans Bsf Bsf WAFF Fitch will assume an FF equal to the Bsf WAFF for the rest of the pool. If, for any rating category, the WAFF after applying the IO concentration FF and the Bsf WAFF is lower than the unstressed WAFF on the rating category, Fitch will assume the unstressed rating category WAFF for the purposes of this concentration test. If at the point of the initial rating analysis, the three-year IO concentration is more than 50% of the initial pool balance, Fitch may consider applying a rating cap to the transaction. The analysis and testing for the IO concentration sensitivity will not be carried out within the ResiEMEA model. Payment holiday: 5% increase applied to loans currently on a payment holiday. Debt consolidation: 100% increase applied to non-conforming loans. Product-specific adjustment Buy to let: 25% increase Portfolio concentration: The geographic distribution of loans is compared with the population distribution across regions, if there is a significant geographic concentration of 2x population or above, a 15% increase is applied to all loans in that region. 5

6 Assumptions for High Rating Scenarios The Bsf FF shown in Figures 1 and 2 are increased by the application of scenario multipliers, as shown in Figures 6 and 7 for prime and non-conforming respectively. Figure 6 Scenario Multipliers of Bsf Foreclosure Frequency Matrix Prime AAAsf 6.2 AAsf 5.0 Asf 3.7 BBBsf 2.5 BBsf 1.5 Bsf 1.0 Figure 7 Scenario Multipliers of Bsf Foreclosure Frequency Matrix Non- Conforming AAAsf 3.8 AAsf 3.2 Asf 2.7 BBBsf 2.1 BBsf 1.5 Bsf 1.0 Loans in Arrears The FF for loans in arrears is subject to a floor. In each rating scenario, the FF for loans in arrears will be the higher of that derived from Figures 1, 2, 5, 6 and 7 or that specified in Figure 8 and 9. Figure 8 Foreclosure Frequency for Prime Loans in Arrears (%) Rating/arrears bucket 0-30 days days days days Over 180 days AAAsf AAsf Asf BBBsf BBsf Bsf Figure 9 Foreclosure Frequency for Non-Conforming Loans in Arrears (%) Rating/arrears bucket 0-30 days days days days Over 180 days AAAsf AAsf Asf BBBsf BBsf Bsf Loss Severity In determining the loss severity and recovery rate for each loan, Fitch assesses the value of the property in each rating scenario category and assumes that the recovery will be lower of the amount due and the net recovery from sale of the property. Additionally a minimum loss severity at loan level is also assumed which ranges from 35% at AAAsf rating level to 15% for Bsf rating level. 6

7 The valuation is undertaken using a four stage process. The agency: evaluates the indexed value of the property; applies the applicable sustainable price discount, depending upon the location of the property; applies an inflation adjustment of 4% over a 2 year period applies the applicable stress below the sustainable price, depending on the rating scenario; and applies the applicable QSA, depending upon the property and mortgage type. Fitch repeats the four steps for each year in the transaction life to create a recovery rate vector to be used in its cash flow analysis (see Recovery Rate Vector below for further information). Fitch's loss severity assumptions are detailed below and the data used to derive these assumptions is listed in Appendix 1. Indexing Property Values To estimate the current value of a property Fitch indexes the original property value using the quarterly Halifax House Price Index. Fitch applies a 2% haircut on the valuation of the property where valuation is not a full valuation. Where an automated valuation model (AVM) has been used please see Appendix 2. Sustainable Price Discount Fitch s sustainable house prices are calculated on a regional basis by applying a multiple to the gross disposal income per head. The multiples are derived based upon an analysis of the long term average observed levels. Fitch s sustainable price discounts (SPD) are calculated by comparing the prevailing average regional house price to Fitch s sustainable house price for the relevant region. See Figure 10. Indexed property values are adjusted by the relevant SPD, which is calculated at a regional level. As the SPD is expressed in real terms, the property value is modified through a general adjustment for inflation, at the time of liquidation, to take into account the likely foreclosure timeline. This is assumed to be 2% a year over a two-year period. Figure 10 Sustainable Price Discounts 3Q15 Estimated Gross disposable income per head LT house price to income multiple 3Q15 house price Sustainable house prices 3Q15 Sustainable price discount (%) North West W Midlands Scotland North York & Humber E Midland South West Wales N Ireland E Anglia London South East 15,734 16,046 17,623 15,406 15,675 16,384 18,103 16,036 14,533 19,051 23,017 20,322 18, , , , , , , , , , , , , , , , , , , , , , , , , , , Source: Halifax (all houses, all buyers, non-seasonally adjusted, as at end-3q15), Office of National Statistics, Fitch UK 7

8 Stress Below Sustainable Price Depending upon the rating scenario, the value will be reduced below the sustainable level as per Figure 11. Figure 11 Scenario Stress Below Sustainable Price AAAsf 35 AAsf 28 Asf 21 BBBsf 14 BBsf 7 Bsf 0 (%) Quick-Sale Adjustment Depending upon property and mortgage type, the value will be reduced below the stressed sustainable level. Average adjustment for UK is shown in Figure 12. Fitch will analyse a lender s loan-by-loan repossession data in its rating analysis to determine the QSA. Illiquid properties (see Figure 13) would be excluded from the calculation of QSA as these are expected to have higher QSA and are accounted for via illiquid property adjustments. If a lender is unable to provide loan-by-loan repossession data, then the agency will make assumptions, taking into account the lender s valuation and foreclosure practices. Figure 12 Quick-Sale Adjustments (%) Owner-occupied Buy-to-let House Bungalow Flat Maisonette Other Illiquid Property Adjustments Where the indexed property value, before the SPD, is above the thresholds specified in Figure 13, the indexed property values will be reduced by the specified percentage in Figure 14. Figure 13 Illiquid Property Thresholds (GBP) Top 1 Top 5 East Midlands 587, ,000 East Anglia 877, ,000 London 1,616, ,000 North 522, ,000 North West 597, ,000 Northern Ireland 526, ,000 Scotland 602, ,000 South East 1,086, ,000 South West 775, ,000 Wales 488, ,000 West Midlands 645, ,000 Yorkshire and Humber 622, ,000 Values as of 3Q15 Figure 14 Illiquid Property Adjustments (%) (%) Top 1 Top 5 QSA increase

9 Foreclosure Costs A sum equal to GBP3,000 plus 2.5% of the value of the property after application of indexation and sustainable price discount is assumed as the foreclosure cost. Fitch assumes a Libor of 4% + loan margin when calculating carry costs over the foreclosure period. For prior charge amounts Fitch assumes a stressed loan margin of 4.5% for the purposes of calculating carry costs. Loss Severity Floor Loss Severity at a loan level will be the higher of the model implied values and the loss severity floors as outlined in Figure 15 below. Figure 15 Loss Severity Floor AAA 35 AA 30 A 25 BBB 20 BB 17 B 15 (%) A worked example of recovery rate calculation is shown in Figure 16 below Figure 16 Loss Severity and Recovery Rate Calculation Example AAAsf stress Bsf stress Original property value (as at July 2007) 200, ,000 Original loan balance (OLTV = 60%) 120, ,000 (a) Current loan balance (CLTV = 60%) 120, ,000 (b) Accrued defaulted interest (loan pays Libor + 2%) 14,400 10,800 Total amount due 134, ,800 Indexed property value (as at September 2015) a 195, ,782 Less: Sustainable price discount (20.1%) a 39,352 39,352 Equals: Sustainable value (h) 156, ,430 Plus: Inflation Adjustment (2%p.a. over 2 years) 162, ,750 Less: Stress below sustainable price (35%/0%) 56,962 - Equals: Stressed value 105, ,750 Less: QSA (17%) 17,984 27,667 Equals: Distressed value 87, ,082 Less: Fixed costs 3,000 3,000 Less: Variable costs (2.5%) 2,195 3,377 (c) Equals: Recovery Value (p) 82, ,705 Total Loss Suffered 51,792 2,095 (d) Loss Severity before applying floor(%) Calculated as: (a+b-c) / (a) (e) Recovery rate before applying floor(%) Calculated as: (1-e) + (b / a) (f) Applicable Loss Severity Floor(%) (g) Loss Severity after application of floor (%) Calculated as: Max(d, f) (h) Recovery rate after application of LS floor (%) Calculated as: (1-g) + (b / a) a Property located in West Midlands

10 Recovery Rate Vector Fitch calculates a recovery rate for each year of the transaction life after closing, using the methodology above. It provides credit to the expected amortisation by projecting each loan s outstanding balance forward using its scheduled amortisation profile. The recovery rate vector is used in Fitch s cash flow analysis, with the model using each period s recovery rate when determining losses for a given default period. The vector aligns Fitch s modelling on the recovery side with the dynamic default distributions specified through Fitch s default timing curves. Fitch will use this approach, in conjunction with a variation of other assumptions, to apply specific back-loaded default timing assumptions in its cash flow analysis where the agency has a concern about a transaction s IO term-end default exposure. Foreclosure Timing Figure 17 Foreclosure Timing Assumption (Months) AAAsf AAsf Asf BBBsf BBsf Bsf Owner occupied Buy to let Cash Flow Assumptions Prepayment Rates For more information on servicing costs and prepayment assumptions, see the sections Prepayment Rates and Transaction and Servicing Costs on pages 5 and15 respectively of Fitch s report EMEA RMBS Cash Flow Analysis Criteria. Figure 18 Voluntary Prepayment Rate Assumptions (%) Low (%) and thereafter Low (all rating scenarios) Year Figure 19 Voluntary Prepayment Rate Assumptions (%) High Year and thereafter AAAsf AAsf Asf BBBsf BBsf and below Transaction and Servicing Costs Figure 20 Transaction and Servicing Cost Assumptions (%) AAAsf AAsf Asf BBBsf BBsf Bsf Prime Non-conforming a The fees are applied to the outstanding portfolio balance, including performing, delinquent and defaulted loans a Lower end of range usually applied. Where either the primary or backup servicing fees are higher than market norm, the upper end of the range would apply Standard Variable Rate Treatment For standard UK prime mortgages in rising interest rate scenarios, the agency will assume that standard variable rate (SVR) will over the long term be Libor + 2.0% to 3.0%. Where the margin 10

11 of the SVR-Libor swap is lower than this, or the administration agreement stipulates setting the SVR at a lower rate, the agency will use those lower margin assumptions. For standard UK prime mortgages in stable and decreasing interest rate scenarios, Fitch will assume the SVR margin to be the then current margin for the lender, or the basket of lenders as the case may be, minus a 50bp haircut. For non-conforming mortgages, to reflect the higher funding cost on such assets, the SVR assumption is likely to be higher than the range above. Bank Base Rate Treatment Fitch will assume a haircut on the bank base rate (BBR) loan spread of 100bp-200bp for the first year of the transaction depending on the rating scenario and a smaller haircut of 50bp thereafter. In its analysis, Fitch will assume that the BBR rate is floored at zero. Figure 21 Libor-BBR Spread Stress Year 1 (bp) After year 1 (bp) AAAsf AAsf Asf BBBsf BBsf Bsf Further Advances and Product Switches Sponsors may allow borrowers in the mortgage loan portfolio to change to a different mortgage loan product (product switch) or provide an additional loan (further advance). Product switches and further advances may change the credit profile of the mortgage portfolio, as a borrower may change their mortgage product to one with a higher risk characteristic (e.g. an IO loan) and increase the levels of loss severities (e.g. a further advance). However, Fitch views these risks as minimal, as instances of product switches and further advances are limited. Furthermore, if the issuer is required to purchase any further advances granted to borrowers in the securitised portfolio, Fitch would expect appropriate transaction and asset performance triggers to be present in the transaction documentation. These should ensure that the issuer only purchases further advances while the transaction is performing within expectations. In the absence of appropriate performance triggers, Fitch will increase its loss expectation for the mortgage portfolio. Master Trust Cash Flow Assumptions UK master trust transactions have unique structural features that are different to standard passthrough transactions. These structural features can have an impact on the prepayment expectations and default timings; in addition, UK master trust transactions introduce different risks that are not present in pass-through structures. Consequently, Fitch has modified its cash flow criteria assumptions to reflect these structural features. Recession Timings Pass-through transactions typically begin to repay their notes immediately after the transaction closes; or for certain transactions, immediately after the revolving period. Therefore, assuming a recession occurs immediately after closing is the more conservative scenario. However, the liability structures of UK master trusts are more flexible. In some cases, notes will not be repaid until three to five years after closing. Any principal funds not used to repay the notes will be used to pay down the seller s interest of the trust, reducing the seller s exposure to losses. In some cases, master trusts allow the repayment of junior notes before the senior notes, which results in a reduction in credit 11

12 enhancement protection. Fitch assumes recessions occur at various times in order to model the impact of mortgage defaults on the notes in circumstances described above. Non-Asset Trigger Timing After a non-asset trigger event, all principal funds will be paid to the funding share of the transaction and any outstanding notes will become immediately due and payable and will pay down on a pass-through basis. In some cases, a non-asset trigger event could extend the life of specific notes. Fitch stresses the impact of non-asset triggers using the timing in Figure 22. Call Option Typically, UK master trusts allow the seller to call notes on their call date through a refinancing contribution to the trust. There can be circumstances where subordinated notes can be called while more senior notes remain outstanding, reducing credit enhancement. Fitch s cash flow criteria assess the impact of the seller calling notes on their call dates in its rating analysis. Sale of New Loans Sponsors of UK master trust programmes have the ability to sell new loans to the master trusts, usually to aid the issuance of further notes from the programme. Transaction documents restrict the amount of new loans that can be sold to programmes (typically 15% a quarter). Among other conditions, there are limits on the original LTV, current LTV and DTI (or income multiple), which limit the potential migration of credit quality of the mortgage portfolio. Figure 22 Fitch Cash Flow Scenario Stresses Rating level High CPR (% p.a.) a Low CPR (% p.a.) b Non-asset trigger timing (months from closing) Recession timing (months from closing) AAAsf , 2.0 1, 13, 25, 37, 500 1, 13, 25 AAsf , 2.0 1, 13, 25, 37, 500 1, 13, 25 Asf , 2.0 1, 13, 25, 37, 500 1, 13, 25 BBBsf , 2.0 1, 13, 25, 37, 500 1, 13, 25 a Higher end of the range will be used where significant structural prepayments expected (e.g. buyback of further advances and product switches) b 2.0% Low CPR scenario will only be tested if hard bullet notes are present in the capital structure In its asset analysis, where Fitch expects mortgages to be added to the master trust pool after closing of the transaction, Fitch will assume the mortgage portfolio will migrate to the collateral limits contained in the transaction documents and will increase its loss expectation to estimate the impact of the potential migration of the mortgage portfolio due to the sale of new loans. Fitch may also stress the margin of the mortgage portfolio if it considers that there is a strong likelihood that the sponsor will sell new assets to the programme. This is to account for the risk of lower-yielding assets being sold to the programme and reducing the yield generated by the mortgage loan portfolio. 12

13 Appendix 1: Data Sources Foreclosure Frequency Prime The base FF is derived using: reported performance data from Fitch-rated UK prime RMBS transactions; arrears and repossession data published by the Council of Mortgage Lenders; loan-by-loan performance data covering loans in three-month arrears from a number of UK originators; Bank of England data for transactions; house-price data provided by Halifax; and macroeconomic data provided by the Office for National Statistics, Oxford Economics, the International Monetary Fund, European Commission, the Office for Budget Responsibility, and the National Institute of Economic and Social Research. Non-Conforming aggregate issuer information on delinquencies, repossessions and recoveries for Fitchrated UK non-conforming RMBS transactions; reported performance data from UK Fitch-rated non-conforming RMBS transactions; aggregate static-pool performance information (delinquencies and losses) from several UK lenders; roll rates of delinquencies to default for several non-conforming lenders; Bank of England data for transactions; house-price data provided by Halifax; and loan-by-loan performance information, including worst ever status and month-by-month payment history for a number of non-conforming lenders. The data analysed comprises a cross-section of mainstream and specialist lenders. Fitch considers the quality, amount and periods of the data analysed as appropriate for it to derive its assumptions. Adjustments to the Base Foreclosure Frequency The FF adjustments were derived from the analysis of historical data and loan-by-loan data provided by UK originators and supported by Fitch's expectations of behaviour in stressed environments. The FF for loans in arrears is based on the agency's conservative estimate in a stressed environment instead of actually observed roll rates, which are lower. Quick-Sale Adjustment and Illiquid Property Adjustments As part of the rating process, Fitch requests loan-by-loan repossession data covering the period since the last recession from every UK lender. Overall, the agency has foreclosure data on over 27,000 loans that have been foreclosed in recent years, and which include both prime and non-conforming loans. Foreclosure Costs and Foreclosure Timing Foreclosure cost assumptions are based on loan-by-loan repossession data, legal terms and conditions, and estimates provided by a number of UK servicers in the context of the operational reviews held for rating purposes. Foreclosure timing assumptions are derived from the loan-level repossession data and information supplied by servicers during the rating process. 13

14 Prepayment Rates Prepayment assumptions are based on empirical evidence from UK RMBS transactions rated by Fitch and the agency's expectation of future trends based on the current dynamics of the mortgage market and expected macroeconomic developments. Automated Valuation Models The key data sources for each AVM provider include UK mortgage lenders, the English Land Registry and the Registers of Scotland, chartered surveyor information, and proprietary data collected through ancillary business lines in the housing market. 14

15 Appendix 2: Automated Valuation Model Treatment The use of AVMs to value properties remains relatively low in the UK, and is ordinarily limited to the following purposes: low-risk, low-ltv internal remortgages; a second opinion to spot major discrepancies in surveyor valuations; and quality-control purposes (to prevent fraud) and to revalue mortgage portfolios. AVM Providers Rightmove, Hometrack and Calnea are the largest AVM providers in the UK. Hometrack and Rightmove have provided data to the agency that is adopted into Fitch s asset analysis models. The AVM model for each provider uses comparable analysis and hedonic price models for its valuations, with recalibrations performed every month, involving an update of all databases and the re-estimation of the model parameters. Adjustments for AVM Valuations General Adjustment A 2.5% haircut will be applied to take into account the time lag between registration of a property and its eventual incorporation into the AVM database. This time lag is typically 1.5 months, up to a maximum of three months. Adjustment Accounting for Standard Deviation by Relative Reliability Level Providers typically report confidence grades as an indication of the predicted accuracy level of a particular AVM valuation. Fitch makes adjustments for confidence grades based on calculations performed on the data provided to Fitch by AVM providers. Figure 23 AVM Adjustment for Relative Reliability Level Hometrack Hometrack confidence level Valuation haircut (%) >0 and <=2 2.5 >2 and <=3 2.0 >3 and <=4 1.5 >4 and <=5 1.0 >5 and <=6 0.5 >6 0, Hometrack Figure 24 AVM Adjustment for Relative Reliability Level Rightmove Rightmove confidence level Valuation haircut (%) V 2.0 E 1.5 D 1.0 C 0.5 B 0 A 0, Rightmove 15

16 Adjustments for Low Value Properties Low-value properties are defined as those in the bottom 10 percentile as in Figure 25. An additional adjustment to the valuation of these properties is applied as shown in Figure 26. Figure 25 Low Property Value Thresholds (GBP) Threshold East Midlands 94,105 East Anglia 138,431 London 224,740 North 72,057 North West 81,000 Northern Ireland 72,163 Scotland 76,990 South East 159,705 South West 135,396 Wales 83,450 West Midlands 98,686 Yorkshire and Humber 81,279 Figure 26 AVM Adjustment for Low Property Value AVM provider Valuation haircut (%) Hometrack 3.5 Rightmove 0, Hometrack, Rightmove 16

17 ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEB SITE AT PUBLISHED RATINGS, CRITERIA, AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE, AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE CODE OF CONDUCT SECTION OF THIS SITE. FITCH MAY HAVE PROVIDED ANOTHER PERMISSIBLE SERVICE TO THE RATED ENTITY OR ITS RELATED THIRD PARTIES. DETAILS OF THIS SERVICE FOR RATINGS FOR WHICH THE LEAD ANALYST IS BASED IN AN EU-REGISTERED ENTITY CAN BE FOUND ON THE ENTITY SUMMARY PAGE FOR THIS ISSUER ON THE FITCH WEBSITE. Copyright 2015 by Fitch Ratings, Inc., Fitch Ratings Ltd. and its subsidiaries. 33 Whitehall Street, NY, NY Telephone: , (212) Fax: (212) Reproduction or retransmission in whole or in part is prohibited except by permission. All rights reserved. In issuing and maintaining its ratings and in making other reports (including forecast information), Fitch relies on factual information it receives from issuers and underwriters and from other sources Fitch believes to be credible. Fitch conducts a reasonable investigation of the factual information relied upon by it in accordance with its ratings methodology, and obtains reasonable verification of that information from independent sources, to the extent such sources are available for a given security or in a given jurisdiction. The manner of Fitch s factual investigation and the scope of the third-party verification it obtains will vary depending on the nature of the rated security and its issuer, the requirements and practices in the jurisdiction in which the rated security is offered and sold and/or the issuer is located, the availability and nature of relevant public information, access to the management of the issuer and its advisers, the availability of pre-existing third-party verifications such as audit reports, agreed-upon procedures letters, appraisals, actuarial reports, engineering reports, legal opinions and other reports provided by third parties, the availability of independent and competent thirdparty verification sources with respect to the particular security or in the particular jurisdiction of the issuer, and a variety of other factors. Users of Fitch s ratings and reports should understand that neither an enhanced factual investigation nor any third-party verification can ensure that all of the information Fitch relies on in connection with a rating or a report will be accurate and complete. Ultimately, the issuer and its advisers are responsible for the accuracy of the information they provide to Fitch and to the market in offering documents and other reports. In issuing its ratings and its reports, Fitch must rely on the work of experts, including independent auditors with respect to financial statements and attorneys with respect to legal and tax matters. Further, ratings and forecasts of financial and other information are inherently forward-looking and embody assumptions and predictions about future events that by their nature cannot be verified as facts. 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