TEXT-Fitch affirms Danske Bank's covered bonds at 'AAA'
July 23 - Fitch Ratings has affirmed Danske Bank's ('A'/Negative/'F1') covered bonds secured by pool D rating at 'AAA'. The affirmation follows Fitch's assessment of the cover pool's credit risk and the cash flow mismatches between the programme's assets and liabilities. The rating of the category D covered bonds is based on Danske Bank's long-term Issuer Default Rating (IDR) of 'A' and a Discontinuity Factor (D-Factor) of 19.2 %, the combination of which enables the D covered bonds to be rated as high as 'AA+' on a probability of default (PD) basis, provided that the overcollateralisation (OC) between the cover assets and the covered bonds is sufficient to sustain the corresponding stress scenario. The OC supporting a 'AA+' rating on a PD basis is 13.5%, which is below the lowest OC observed of the past 12 months of 14.9%. The 13.5% supporting OC also provides for more than 51% recoveries on the covered bonds in a 'AAA' scenario, which allows for a one-notch uplift above the rating on a PD basis to 'AAA'. The D-Factor assigned to the category D covered bonds reflects the strength of the asset segregation under the Danish legislation, taking into account residual set-off and claw back risks; the feasibility of the transition to an alternative cover pool manager; and strength of regulatory framework. The liquidity component of the D-Factor is driven by Fitch's view of the likelihood of the portfolio being liquidated within the 12 months extendible maturity in a stressed environment and the issuer's commitment to include liquid assets in the cover pool covering three months of interest if it is rated below 'A'. The D-Factor also reflects the complexity that derivatives add to the alternative manager's responsibilities after issuer insolvency, the potential difficulties in replacing the swap counterparties and the liquidity risk posed by potential swap termination payments. As of May 2012, the cover pool amounted to DKK35.9bn (EUR4.8bn) and consisted of 59,711 residential mortgage loans secured by properties located in Denmark. The cover pool is well seasoned (about 4.3 years) with a current indexed LTV of 63%. About 88% of the loans are secured by houses, 10% by flats and the remainder 2% by holiday houses. The expected loss on the asset portfolio is 9.9% in a 'AAA' rating scenario. Fitch compared the cash flows from the cover pool in a wind-down situation, subject to stressed defaults and losses, and under the management of a third party, to the payments due under the covered bonds. Maturity mismatches are assumed to be bridged through a portfolio sale occurring at a discounted sale price. The weighted average life (WAL) of the assets in the cover pool is 16.3 years, compared to the WAL of 6.5 years for the covered bonds. The assets are floating rate, DKK-denominated, whereas the bonds have been issued in EUR, CHF, DKK and NOK at a fixed rate and variable rate. Interest rate and currency risks are hedged via swaps with Danske Bank. Swap termination payments rank parri-passu with the covered bonds, which could lead to liquidity constraints following a default of the swap counterparty. Upon a downgrade of the issuer/swap counterparty below 'A'/'F1', the covered bond rating on a PD basis could be capped at the rating of the issuer if no structural mitigants were added to the programme. The mark-to-market of the swaps is currently in favour of the cover pool and amounts to DKK3.2bn. If the swap termination payment risk is mitigated in the programme, the rating of Danske D covered bonds could be maintained at 'AAA' if the issuer was rated at least 'A-'. Fitch is proposing enhancements to its criteria (see: 'Fitch: Proposed Enhancements to Covered Bonds Criteria to Increase Transparency dated 16 May 2012 at www.fitchratings.com). Although this is not expected to impact the rating of the covered bonds, it could impact the minimum IDR at which the ratings could be maintained at 'AAA'. Additional information is available at www.fitchratings.com. The ratings above were solicited by, or on behalf of, the issuer, and therefore, Fitch has been compensated for the provision of the ratings. Applicable criteria, 'Covered Bonds Rating Criteria', dated 30 May 2012; 'Covered Bonds Counterparty Criteria', dated 13 March 2012; 'EMEA Residential Mortgage Loss Criteria', dated 16 August 2011; www.fitchratings.com. Applicable Criteria and Related Research: Covered Bonds Rating Criteria Covered Bond Counterparty Criteria EMEA Residential Mortgage Loss Criteria
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