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Fitch: Disclosure, Calculation Key for WAC Caps in European SF
February 24, 2017 / 12:15 PM / 8 months ago

Fitch: Disclosure, Calculation Key for WAC Caps in European SF

(The following statement was released by the rating agency) LONDON, February 24 (Fitch) Excluding the interest due on European structured finance notes from our rating analysis when it exceeds a net weighted average coupon (WAC) cap would result in lower breakeven credit enhancement for the same rating level, Fitch Ratings says. But we would only do so providing there is no credit component in determining the cap, suitable disclosures are made to investors in the transaction documentation, and investors in the relevant market are familiar with WAC caps. An increasing number of UK RMBS featuring WAC caps have emerged over the past 12 months. In a traditional RMBS structure, the risk of an interest shortfall is borne first by the lowest ranking noteholder. WAC caps should therefore be carefully reviewed by investors, who may be exposed to more risks than in a traditional structure through potential subordination of interest amounts above a WAC cap. This is negative for mezzanine noteholders, but benefits the lower ranking note classes. Our ratings would only address the likelihood of payments up to the cap. The closing of another UK RMBS transaction that features WAC caps shows that investors may be more familiar with the product. Towd Point Mortgage Funding 2017 - Auburn 11 Plc, a securitisation of mostly buy-to-let UK mortgages, closed on 21 February. Fitch rated two classes of class A notes at 'AAAsf'. Fitch did not rate the five junior tranches, all of which feature a net WAC cap. The concept of a net WAC cap is more established in the US, but has appeared in European transactions in recent months. Auburn 11 is the sixth European SF deal to feature a net WAC cap since April 2016. All of these deals feature unhedged basis risk between the reference interest rates on the underlying mortgages and the notes. Unlike in some US transactions, senior notes in the six European deals have not, to date, featured a WAC cap. In Auburn 11, for example, nearly all the mortgage loans track the Bank of England base rate, while the notes pay three-month Libor plus a margin. If the spread between the reference rates widens and mortgage yields fall relative to the note obligations, the net WAC cap feature spreads the impact across different classes of notes. Should expected mortgage interest receipts be insufficient to pay the stated Libor plus the margin coupon to the most junior noteholders, payments to all noteholders other than the senior notes will be capped. Capped payments are then made in order of seniority. Amounts above the cap are deferred and subordinated in the priority of payments. They are repaid, if possible, from excess future revenue funds, or when the notes are paid in full. In Fitch's stresses, it is far from certain that deferred interest payments above the cap would ultimately be recovered. The calculation of the WAC is crucial to Fitch's analysis, as reduced interest payments due to credit-related issues would likely result in rating caps, according to our Criteria for Rating Caps and Limitations in Global Structured Finance Transactions. In Auburn 11, the WAC calculation includes expected interest from mortgages, whether performing, delinquent or defaulted. The WAC is set with reference to the total interest accrued on the mortgage loans (after senior fees and regardless of whether this has been collected) and the notes outstanding as a percentage of the mortgage pool. In other words, the WAC cap could reduce over time, only because of a rising spread between reference rates on the liabilities compared to the assets, and not due to asset underperformance. Contact: Duncan Paxman Director, RMBS +44 203 530 1428 Fitch Ratings Limited 30 North Colonnade London E14 5GN Alessandro Pighi Senior Director, RMBS +44 203 530 1794 Mark Brown Senior Analyst, Fitch Wire +44 203 530 1588 (Disclosure Statement): The above article originally appeared as a post on the Fitch Wire credit market commentary page. The original article can be accessed at www.fitchratings.com. All opinions expressed are those of Fitch Ratings. Media Relations: Athos Larkou, London, Tel: +44 203 530 1549, Email: athos.larkou@fitchratings.com. The above article originally appeared as a post on the Fitch Wire credit market commentary page. The original article can be accessed at www.fitchratings.com. All opinions expressed are those of Fitch Ratings. ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: here. 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