Transaction Update: Deutsche Apotheker- und Aerztebank eg Mortgage Covered Bond Program

Transcription

1 Transaction Update: Deutsche Apotheker- und Aerztebank eg Mortgage Covered Bond Program Hypothekenpfandbriefe Primary Credit Analyst: Natalie Swiderek, Madrid (34) ; Secondary Contact: Maria Luisa Gomez Grande, Madrid (34) ; Table Of Contents Major Rating Factors Outlook Rationale Program Description Rating Analysis Additional Factors Related Criteria And Research SEPTEMBER 7,

2 Transaction Update: Deutsche Apotheker- und Aerztebank eg Mortgage Covered Bond Program Hypothekenpfandbriefe Ratings Detail Major Rating Factors Strengths Large share of residential mortgages in the cover pool which we view as less risky than commercial mortgages. Available overcollateralization of 56.1% by far exceeds the required credit enhancement of 4.4% at the 'AAA' rating level. Public commitment to address commingling risk by adding overcollateralization upon loss of the minimum issuer credit rating (ICR). Availability of five unused notches, which protects the ratings on the covered bonds if the issuer is downgraded. Weaknesses Absence of commitment for specific overcollateralization level. Narrow focus of cover pool assets on German health care professionals. Exposure to assets with higher whole-loan loan-to-value (LTV) ratios, which we have taken into account in our estimated default rate at the 'AAA' rating level. SEPTEMBER 7,

3 Outlook S&P Global Ratings' stable outlook on German-based cooperative bank Deutsche Apotheker- und Aerztebank eg's (apobank) mortgage covered bond program reflects that a downgrade would likely only occur if we were to lower our long-term ICR on the issuer by multiple notches, or if there were to be a fundamental change in its cover pool management. Since it takes one notch of uplift above the 'aa+' rating reference level (RRL) on apobank to reach the 'AAA' rating rather than the six available notches, the covered bonds have a potential cushion of five unused notches. Therefore, a downgrade of apobank would not automatically result in a negative rating action on its covered bonds. Furthermore, the outlook on our long-term ICR on apobank is stable. We also think it is unlikely that the available overcollateralization would fall below the credit enhancement level that is commensurate with the 'AAA' rating based on our understanding of apobank's cover pool management strategy. Rationale On Aug. 29, 2016, we affirmed our 'AAA' ratings on apobank's German mortgage covered bonds (see "Ratings Affirmed At 'AAA' On apobank's German Mortgage Covered Bonds Following Review; Outlook Stable"). From our analysis of the legal and regulatory framework for covered bonds in Germany, we have concluded that the assets in apobank's cover pool are isolated from bankruptcy or insolvency by the issuing bank. This asset isolation allows us to assign a higher rating to the covered bond program than the ICR on apobank itself. In our view, there is also no operational risk from apobank's cover pool management and loan origination that would constrain the covered bond rating to the long-term ICR. apobank's covered bonds are subject to refinancing risk due to mismatches between the maturities of cover pool assets and the covered bonds. As a result, we link the covered bond rating to the issuer's creditworthiness and determine a maximum achievable covered bond rating above the long-term ICR by analyzing the factors set out in our "Covered Bonds Criteria," published on Dec. 9, For apobank's mortgage covered bonds this level is 'AAA' based on the following key factors: The RRL, which is the starting point for any further uplift in our analysis, is two notches higher than the long-term ICR on apobank at 'aa+'. The jurisdiction-supported rating level (JRL) on apobank's mortgage covered bonds is 'aaa'. Ratings on mortgage covered bonds in Germany including those issued by apobank, are eligible for three notches of uplift from the RRL given our very strong jurisdictional support assessment of German mortgage covered bonds. For apobank's mortgage covered bonds, the 'AAA' maximum achievable covered bond rating is subject to coverage of at least a 'AAA' level of credit stress in our collateral support analysis, according to our criteria. As of June 30, 2016, the credit enhancement that is commensurate with a 'AAA' level of stress is 4.4%, which is driven by the result of our largest obligor test under our criteria "Methodology And Assumptions: Analyzing European Commercial Real Estate Collateral In European Covered Bonds," published on March 31, 2015 (CRE criteria). apobank's covered bonds exceed this requirement with an available overcollateralization level of 56.09%. SEPTEMBER 7,

4 Our 'AAA' ratings on the mortgage covered bonds reflect that they are not constrained by counterparty, country, legal, and regulatory risks. Program Description Table 1 Program Overview* Jurisdiction Germany Rating at closing/year AAA/2008 Covered bond type Legislation-enabled Outstanding covered bonds (bil. ) 2,574 Redemption profile Hard bullet Underlying assets Residential mortgages, commercial mortgages, and public sector assets Jurisdictional support uplift 1 Unused notches for jurisdictional support 2 Target credit enhancement (%) 4.37 Credit enhancement commensurate with current rating (%) 4.37 Available credit enhancement (%) Collateral support uplift 0 Unused notches for collateral support 3 Total unused notches 5 *Based on data as of June 30, Constrained by the results of our largest obligor concentration test applicable to commercial mortgages. apobank's mortgage covered bonds (Hypothekenpfandbriefe) are issued under Germany's legal covered bond framework. Therefore, the program structure is similar to that of other rated legislation-enabled covered bonds by German issuers. It is an established program that we have rated since 2008 and there is limited but recurring issuance. The covered bonds are apobank's unsubordinated senior secured debt obligations. As such, they provide bondholders with dual recourse; first to apobank, and then to the assets in the cover pool should the bank default. apobank issued the outstanding mortgage covered bonds through its 15 billion debt issuance program, or stand-alone documentations. All of the mortgage covered bonds nonetheless rank pari passu with each other, and rank senior to all of the issuer's other unsecured obligations. The only counterparty to the mortgage covered bonds is apobank in its role as bank account provider. There are no swaps registered in the cover pool. SEPTEMBER 7,

5 Our analysis is based on stratified data as of June 30, On that date, there were approximately 2.57 billion of covered bonds outstanding, backed by about 4.02 billion of predominantly German residential, and to a lesser extent German commercial mortgages, and substitute assets. Since our last review on Sept. 30, 2014, the pool's performance has been fairly stable. Table 2 Participants Role Name Rating Rating dependency Issuer/ bank account provider apobank AA-/Stable/A-1+ Yes Rating Analysis Legal and regulatory risks We consider that the German covered bond legal framework satisfies the relevant legal aspects of our covered bond criteria. This enables us to assign ratings to the covered bonds that exceed our long-term ICR on the issuer. The German Covered Bond Act (Pfandbriefgesetz; "PfandBG") and the relevant secondary legislation provide the legal framework for the issuance of German covered bonds (Pfandbriefe). The current Covered Bond Act was introduced in 2005 and last amended in November Under the framework, banks can issue mortgage, public-sector, ship, and aircraft covered bonds in separate cover pools. Covered bond investors have a preferential claim to a cover pool of assets. For mortgage covered bonds, this may comprise exposure to properties and rights equivalent to real property located both in a member state of the European Union, the European Economic Area, Switzerland, the U.S., Canada, Japan, Australia or Singapore. Mortgages may be SEPTEMBER 7,

6 used as cover pool assets up to the first 60% of the property's value only, as estimated in accordance with the Pfandbrief Act. The cover pool may also include exposures to public-sector entities from similar geographic areas as those stipulated for the mortgage assets. Additionally, the cover pool can also comprise eligible substitute assets. According to the legal framework, the issuer must maintain overcollateralization of at least 2% on a net present value basis for the outstanding covered bonds, and ensure 180 days of liquidity needs at all times. An independent trustee is responsible for monitoring the cover pool (cover pool monitor) until an independent cover pool administrator ('Sachwalter') is appointed in case of the issuer's insolvency. BaFin, the German supervisory authority for financial institutions, appoints and supervises the cover pool monitor and cover pool administrator. BaFin also regularly conducts a special covered bond audit, usually every two years (see paragraph 3 of the PfandBG). In our analysis of legal risk, we considered the guidelines in "Europe Asset Isolation And Special-Purpose Entity Criteria--Structured Finance," published on Sept. 13, 2013, as well as "Covered Bond Ratings Framework: Methodology And Assumptions," published on June 30, Operational and administrative risks In our opinion, there is no operational risk from the issuer's management of the cover pool and its loan origination that would constrain the covered bond rating to the long-term ICR. There are also no operational risks that would require a particular adjustment to our standard credit or cash flow assumptions. We are of the opinion that apobank has strict underwriting and loan management policies. apobank actively reduces the cover pool's exposure to nonperforming assets and assets in arrears, and has a track record of prudently managing refinancing risks within the covered bond program. These risks may arise if the issuer defaults, and depend on the magnitude of timing mismatches between the maturities of its cover pool assets and covered bonds. apobank also has a track record of maintaining overcollateralization that well exceeds the credit enhancement required at a 'AAA' rating level. We also believe that it is highly likely that a replacement cover pool manager could be appointed, if apobank were to become insolvent. BaFin has the authority to appoint an independent administrator in such a scenario. Furthermore, we believe that potential back-up servicers would be available considering that Germany is an established covered bond market and the cover pool does not comprise product features that would materially limit the range of available replacement cover pool managers or servicers. We applied our covered bond ratings framework criteria in our analysis of operational and administrative risks. Resolution regime analysis The RRL on apobank, which is the starting point for any further uplift in our analysis, is 'aa+'. We consider the following factors: apobank is domiciled in Germany, which is subject to the EU's Bank Recovery And Resolution Directive (BRRD). The adjusted ICR is at the same level as the bank's long-term ICR of 'AA-' given that it does not include any uplift for the likelihood of extraordinary government support or intervention; and We add two notches of uplift to the adjusted ICR because we consider covered bonds to have very strong systemic importance to Germany. SEPTEMBER 7,

7 These factors collectively increase the likelihood that apobank would continue servicing its covered bonds without accessing the cover pool, even if it were to become insolvent. Jurisdictional support analysis The JRL on apobank's mortgage covered bonds is 'aaa'. Based on our covered bonds criteria, ratings on mortgage covered bonds in Germany, are eligible for three notches of uplift from the RRL given our very strong jurisdictional support assessment of German mortgage covered bonds (see "Assessments For Jurisdictional Support According To Our Covered Bonds Criteria," published on July 16, 2016). We also consider that apobank's cover pool continues to comply with legal and regulatory minimum standards in Germany and that the long-term sovereign rating on Germany does not constrain the ratings on the covered bonds. Collateral support analysis We base our analysis on stratified data as of June 30, On that date, there were 2.57 billion of covered bonds outstanding backed by a cover pool of 4.02 billion. Available credit enhancement as of June 30, 2016 is 56.1%, a significant reduction from the 179.3% as of our September 2014 review. This is due to more covered bonds being issued than the proportion of cover pool assets added. Our collateral support analysis for apobank's mortgage covered bonds focuses on whether the covered bonds have credit enhancement that is commensurate with a 'AAA' level of stress. According to our covered bonds criteria, this is a prerequisite for the covered bonds to achieve a 'AAA' rating, even solely based on jurisdictional support. apobank's mortgage covered bonds meet this requirement given that available overcollateralization of 56.1% as of June 30, 2015 comfortably covers 'AAA' credit risk, taking into account obligor concentration of 4.4%. This result is driven by our largest obligor concentration test applicable to the commercial mortgages in line with our CRE criteria. Accordingly, under a 'AAA' credit stress, we expect the covered bonds to have sufficient credit enhancement to cover the loss related to the largest 10 commercial obligors with a maximum recovery rate of 25%. Overcollateralization also fully covers refinancing costs, as we model them, but is uncommitted. We therefore deduct one notch from the maximum potential collateral-based uplift of four notches. This means that apobank's mortgage covered bonds would be eligible for up to three notches of currently unused collateral-based uplift, if needed to maintain our 'AAA' ratings on them. Cover pool composition and credit risk The cover pool comprises residential (80.7%) and commercial mortgages (17%) for borrowers from the medical profession (see table 3). In addition, a small portion of 2.3% of the cover pool comprises substitute collateral, which the issuer uses primarily for liquidity management purposes. Relative to our previous analysis in Sept. 30, 2014, the share of commercial mortgages has increased slightly by about 5%. We understand that apobank will continue to gradually increase the share of commercial mortgages in the cover pool, although we don't expect to see a fundamental change in the pool's composition. All mortgage cover pool assets are located in Germany, with the largest region being North Rhine-Westphalia (27.9% of the total mortgage exposure; see table 8). We assess regional exposures relative to the distribution of a countryś GDP, or population. In this respect the commercial cover pool includes regional concentrations of mortgages (relative SEPTEMBER 7,

8 to the distribution of Germany's GDP), in particular, in Berlin. In line with our CRE criteria, we took this into account by increasing our base-case foreclosure frequency assumption for the share of such exposures by 10%. The mortgage loan portfolio remains granular, although the proportion of jumbo loans for residential mortgages, i.e., loans with a balance in excess of 400,000, has increased slightly. As of June 30, 2016, jumbo loans accounted for about 5.3% of the residential portfolio compared with 2.3% in our last review. According to our German residential mortgage-backed securities (RMBS) criteria, we have taken this into account in our analysis by increasing the foreclosure frequency of these loans (see "Criteria for Rating German Residential Mortgage-Backed Securities," published on Aug. 31, 2001, and "Update To The Criteria For Rating German Residential Mortgage-Backed Securities," published on Jan. 6, 2009). For each of the three sub-portfolios--commercial mortgages, residential mortgages, and public sector assets--we have applied our corresponding asset-specific criteria. We analyze the credit quality of the residential mortgage collateral using our German RMBS criteria. For the commercial mortgages, we applied our CRE criteria. For the substitute assets, we have applied our criteria "Methodology And Assumptions For Assessing Portfolios Of International Public Sector And Other Debt Obligations Backing Covered Bonds And Structured Finance Securities," published on Dec. 9, For the mortgage portfolio, we have applied stresses that are commensurate with a 'AAA' rating scenario to estimate the level of defaults as determined by the weighted-average foreclosure frequency (WAFF), and to estimate the level of losses as determined by the weighted-average loss severity (WALS). The results of our analysis have largely been affected by the application of our CRE criteria. As of June 30, 2016, our WAFF for the mortgage portfolio has reduced to 22.45% from 27.50% in Sept. 30, Contributing factors to this reduction are lower LTV ratios, and lower foreclosure frequency assumptions for certain LTV buckets under our CRE criteria. For the combined mortgage portfolio, the WALS at 14.2%, and with a weighted-average time to recovery of two years, is higher than the WALS of 5.5% obtained in our previous review (see table 4). This is mainly driven by the application of our CRE criteria, and more specifically, our increased market value decline (MVD) assumptions for commercial loans when compared to our last review. Nonetheless, the WALS for the mortgage cover pool remains lower than that of the issuer's domestic peers due to the pool's higher share of residential mortgages. Our analysis of the commercial mortgages also takes into account obligor concentration risk by applying a largest obligor test as outlined in our CRE criteria (see "Collateral support analysis"). The result of this test at 4.4%, constitutes the floor for the minimum required credit enhancement at the 'AAA' rating level, and any collateral-based uplift. apobank's substitute collateral pool represents about 2.3% of total cover pool assets, and comprises exposures to German regional governments and supranational institutions. However, since the sub-pool has low granularity of fewer than 10 assets, we assume that all assets with an asset rating below 'AAA' would default and we apply recovery assumptions in line with our largest obligor tests for public sector assets. These characteristics result in a default rate assumption for the sub-pool of 40.4%, and a recovery rate of 60% with a four-year recovery lag before restructured SEPTEMBER 7,

9 payments are received. Table 3 Pool Composition June 30, 2016 Sept. 30, 2014 Asset type Value (mil. ) Percentage of cover pool Value (mil. ) Percentage of cover pool Residential , Commercial , Substitute Total 4, , Table 4 Key Credit Metrics June 30, 2016 Sept. 30, 2014 Average loan size ( ) 80,030 72,831 Weighted average loan-to-value (LTV) ratio (%) Weighted average loan seasoning (months) (% residential mortgage pool only)* Balance of loans in arrears (%) 0 0 Buy-to-let loans (%) Credit analysis results: Weighted average foreclosure frequency (WAFF; %) Weighted average loss severity (WALS; %) AAA credit risk (%) *Seasoning refers to the elapsed loan term. Floored by the results of our largest obligor concentration test applicable to commercial mortgages. Table 5 Cover Pool Assets By Loan Size --June 30, Sept. 30, ( '000s) --Percentage of mortgage cover pool--(%) < , ,000-2, ,500-5, ,000-10, ,000-25, Table 6 Loan-To-Value Ratios --June 30, * --Sept. 30, (%) --Percentage of mortgage cover pool (%) SEPTEMBER 7,

10 Table 6 Loan-To-Value Ratios (cont.) --June 30, * --Sept. 30, Above *Not entirely comparable with Sept. 30, 2014 figures due to changes in the issuerś reporting system. Table 7 Loan Seasoning Distribution* --June 30, Sept. 30, Remaining term to maturity (months) --Percentage of residential mortgage portfolio (%)-- Less than More than Total *Seasoning refers to the elapsed loan term. Table 8 Geographic Distribution Of Loan Assets --June 30, Sept. 30, Top five concentrations --Percentage of total mortgage cover pool (%)-- North Rhine-Westphalia Bavaria Lower-Saxony Baden-Württemberg Hesse Other Total Payment structure and cash flow mechanics We have analyzed the cash flow profiles of apobank's cover pool assets and covered bond issuances under our covered bonds criteria. This is part of our analysis to determine the level of overcollateralization that is commensurate with coverage of at least a 'AAA' level of credit risk, hence, the maximum achievable covered bond rating. Our cash flow analysis includes the asset default and recovery assumptions, and the recovery timings outlined under "Cover pool composition and credit risk". It also includes different default timings and patterns, interest rate, and prepayment stresses. Based on data as of June 30, 2016, we determined that the credit enhancement at a 'AAA' level of stress is 4.4%. This figure is driven by the result of our largest obligor concentration test, which sets the floor for the minimum required credit enhancement at the 'AAA' rating level. We also determined the credit enhancement that is commensurate with the maximum potential collateral-based uplift (target credit enhancement; TCE) under our covered bonds criteria. The TCE includes full coverage of refinancing SEPTEMBER 7,

11 costs as defined in our criteria. As of June 30, 2016, we have determined that the TCE is also equivalent to the result of our largest obligor test concentration test of 4.4%. The TCE is low compared with the available overcollateralization in the cover pool of 56.1%. We analyze cash flow risk according to our covered bonds criteria. Table 9 Collateral Uplift Metrics --June 30, Asset WAM (years) 5.76 Liability WAM (years) 4.88 Maturity gap (years) 0.88 Available credit enhancement (%) Required credit enhancement for first notch of collateral uplift (%) 4.37* Required credit enhancement for second notch of collateral uplift (%) 4.37* Required credit enhancement for third notch of collateral uplift (%) 4.37* Target credit enhancement for maximum uplift (%) 4.37* Required credit enhancement at current rating level (%) 4.37* Potential collateral-based uplift (notches) 4 Adjustment for liquidity (Y/N) N Adjustment for committed overcollateralization (Y/N) Y Collateral support uplift (notches) 3 WAM--Weighted average maturity. *Floored by the largest obligor concentration test applicable to commercial mortgages. Additional Factors Counterparty risk apobank collects payments from borrowers related to cover pool assets in an account on its own books. While the bank generally reinvests these balances promptly in cover pool assets, there is a risk that in case of its insolvency, cash received from the cover pool assets could be commingled with the cash belonging to the bank, resulting in a loss to the cover pool. We have determined that the German Covered Bond Act effectively segregates cash received after the issuer's insolvency, but that cash received shortly before insolvency and not reinvested in the cover pool assets could be exposed to commingling risk. apobank's covered bonds contain mitigating factors that are consistent with a 'AAA' rating to address such risk. To address this risk, apobank has published a statement on its website by which it commits itself to increasing overcollateralization within 60 calendar days upon loss of the minimum ICR (as assigned by S&P Global Ratings) that would be required in accordance with our counterparty criteria to maintain the covered bond ratings. The minimum rating to support the 'AAA' covered bond ratings according to these criteria is 'A'. There are no exposures to swap counterparties, as there are no derivatives in the cover pool. We have assessed counterparty risk by applying our counterparty criteria (see "Counterparty Risk Framework SEPTEMBER 7,

12 Methodology And Assumptions," published on June 25, 2013, and "Covered Bonds Counterparty And Supporting Obligations Methodology And Assumptions," published on May 31, 2012). Country risk Country risk does not constrain our ratings on the covered bonds. Assets in the cover pool are located in Germany, except for marginal exposure to supranational entities within the substitute asset sub-pool only. Therefore, we consider Germany to be the relevant country risk and apply our structured finance criteria for rating above the sovereign (see "Ratings Above The Sovereign - Structured Finance: Methodology And Assumptions," published on Aug. 8, 2016). Since our long-term sovereign rating on Germany is 'AAA/Stable', country risk does not constrain our ratings on the mortgage covered bonds. Related Criteria And Research Related Criteria General Criteria: Methodology: Credit Stability Criteria - May 03, 2010 Ratings Above The Sovereign - Structured Finance: Methodology And Assumptions - Aug. 8, 2016 Criteria - Structured Finance - RMBS: Methodology And Assumptions: Update To The Criteria For Rating German Residential Mortgage-Backed Securities - January 06, 2009 Criteria - Structured Finance - RMBS: Criteria for Rating German Residential Mortgage-Backed Securities - August 31, 2001 Criteria - Structured Finance - RMBS: Methodology And Assumptions: Update To The Cash Flow Criteria For European RMBS Transactions - January 06, 2009 Criteria - Structured Finance - RMBS: Cash Flow Criteria for European RMBS Transactions - November 20, 2003 Criteria - Structured Finance - Covered Bonds: Covered Bond Ratings Framework: Methodology And Assumptions - June 30, 2015 Criteria - Structured Finance - General: Counterparty Risk Framework Methodology And Assumptions - June 25, 2013 Legal Criteria: Europe Asset Isolation And Special-Purpose Entity Criteria--Structured Finance - September 13, 2013 Criteria - Structured Finance - Covered Bonds: Methodology And Assumptions For Assessing Portfolios Of International Public Sector And Other Debt Obligations Backing Covered Bonds And Structured Finance Securities - December 09, 2014 Criteria - Structured Finance - Covered Bonds: Covered Bonds Criteria - December 09, 2014 Criteria - Structured Finance - Covered Bonds: Methodology And Assumptions: Analyzing European Commercial Real Estate Collateral In European Covered Bonds - March 31, 2015 Related Research Ratings Affirmed At 'AAA' On apobank's German Mortgage Covered Bonds Following Review; Outlook Stable, Aug. 29, 2016 Assessments For Target Asset Spreads According To Our Covered Bonds Criteria, Aug. 15, 2016 Assessments For Jurisdictional Support According To Our Covered Bonds Criteria, July 20, 2016 Europe's Economic Outlook After The Brexit Vote, July 4, 2016 Germany 'AAA/A-1+' Ratings Affirmed; Outlook Stable, July 8, 2016 Global Covered Bond Characteristics And Rating Summary Q2 2016, July 7, 2016 Who Has The Most To Lose From Brexit? Introducing The Brexit Sensitivity Index, June 9, SEPTEMBER 7,

13 European Economic Snapshots, May 2016, May 31, 2016 Deutsche Apotheker- und Aerztebank eg, Nov. 10, 2015 Covered Bond Monitor: Technical Note, Aug. 12, 2015 Additional Contact: Covered Bonds Surveillance; SEPTEMBER 7,

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