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Fitch: Recoveries Are Key to Italy SME NPL Concentration Risk
April 3, 2017 / 2:15 PM / 8 months ago

Fitch: Recoveries Are Key to Italy SME NPL Concentration Risk

(The following statement was released by the rating agency) LONDON, April 03 (Fitch) Volatile recovery rates make obligor concentration harder to identify in securitisations of Italian non-performing loans than in deals backed by performing loans, Fitch Ratings says. Expected recoveries are a better indicator of concentration than some other measures, such as gross book value (GBV), which could understate the potential cash flow volatility in an NPL deal. Italian banks held about EUR200 billion of NPLs at end-2016, around 70% of which were SME exposures, according to the Bank of Italy. Securitisation is one way that the Italian authorities are encouraging banks to reduce their large stock of impaired loans, although the market remains small. The repayment of any debt backed by an NPL portfolio relies on recovery amounts. These will vary due to numerous factors, such as collateral quality, the time since default, the status of any legal enforcement process and servicing strategies. A first-ranking, secured claim could contribute a greater share of forecast recoveries than a larger unsecured claim, and failure or delay in collection could heavily jeopardise the portfolio's actual performance. CLOs backed by performing Italian SME loans typically measure concentration risk by the maximum current loan balance of any borrower as a percentage of the total portfolio (in practice, very few borrowers account for more than 0.5% due to selection criteria). Replicating this approach in an NPL deal (using GBV) would give a less accurate picture of idiosyncratic risk to portfolio performance than using reliance for recovery proceeds. The latter approach is, however, more complex and subjective. It depends on numerous assumptions, as well as the assessment of servicer business plans that may not be finalised when portfolios are assembled. The intrinsic volatility of recovery cash flows and typically high geographic and obligor concentration mean that we do not expect to assign Italian NPL deals ratings above 'BBBsf'. Excessive concentration of expected recoveries could result in a lower rating cap, or in Fitch declining to rate a deal. We may also decline to rate deals where all or most exposures are unsecured. In diverse Italian NPL portfolios, we would increase our market value decline (MVD) assumptions for properties securing loans to borrowers that account for at least 1% or 5% of expected recoveries (by 25% or 50%). Over the life of a deal, obligor concentration may increase, but this can be mitigated. We would expect servicers to prioritise the work-out of claims contributing most to expected recoveries. Structural mitigants (such as postponing interest payments on junior or mezzanine notes if minimum recovery collection targets are missed) may also be available. Fitch analysts will discuss our recently published methodology for analysing Italian NPL deals on a teleconference on 6 April. Details are available at Contact: Adele Sindoni Director, Structured Finance +39 02 879 087 245 Fitch Italia S.P.A. Via Morigi, 6 Ingresso Via Privata Maria Teresa, 8 20123 Milan MI Italy Pasquale Giordano Director, Structured Finance +1 212 908 0797 Ilaria Farina Senior Director, Structured Finance +39 02 879 087 242 Mark Brown Senior Analyst, Fitch Wire +44 20 3530 1588 Media Relations: Athos Larkou, London, Tel: +44 203 530 1549, Email: The above article originally appeared as a post on the Fitch Wire credit market commentary page. The original article can be accessed at All opinions expressed are those of Fitch Ratings. Applicable Criteria Non-Performing Loan Securitisations Rating Criteria (pub. 16 Mar 2017) here ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. 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