Fitch Affirms Yorkshire Building Society's Mortgage Covered Bonds at 'AA+'; Outlook Stable

Mon Jan 20, 2014 9:52am EST

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(The following statement was released by the rating agency) LONDON, January 20 (Fitch) Fitch Ratings has affirmed Yorkshire Building Society's (YBS, BBB+/Stable/F2) GBP1.75bn equivalent regulated mortgage covered bonds at 'AA+' with a Stable Outlook. KEY RATING DRIVERS The covered bond rating is based on YBS's Long-term Issuer Default Rating (IDR) of 'BBB+', a Discontinuity Cap (D-Cap) of 4 (moderate risk) and the asset percentage (AP) between the covered bonds and the cover pool. Fitch takes into account the AP used in the asset coverage test (ACT; 83.7%). This provides a cushion compared with the breakeven AP of 86.0% for the 'AA+' rating. The Outlook on the covered bonds' rating is Stable, which reflects the Stable Outlook on YBS's IDR. The D-Cap of 4 is driven by the moderate risk assessment of the liquidity gap & systemic risk, systemic alternative management and privileged derivatives which are the weakest of the D-Cap components. The asset segregation has been assessed as very low and the cover pool-specific alternative management was assessed at low risk from a discontinuity point of view. The liquidity gap assessment reflects Fitch’s view of the mitigants in the form of a three-month interest reserve fund and a 12-month extendible maturity on the covered bonds. The systemic alternative management score reflects the positive effect of the active oversight taken by the FCA under the UK regulated covered bonds framework. Finally, the privileged derivatives assessment is due to the internal interest rate swaps being in place that are considered highly material. The Fitch 'AA+' breakeven AP has increased to 86.0% from 85.0%. It has improved due to (i) the lower refinancing stress assumptions, reflecting sustained decrease in UK RMBS spreads over the past 12 months. This results in a lower discounting of the cover assets when modelling a stressed sale of the assets in Fitch's cash flow model; and (ii) the improved weighted average (WA) recovery rate calculated in Fitch’s residential model, notably due to a better indexed loan-to-value (LTV) ratio for the pool and the impact of the improved repossession data provided by YBS on the total mortgage book. At end-November 2013, the cover pool consisted of GBP2.9bn of residential mortgages. The pool consisted of 30,150 loans secured on residential properties in the UK with 51.1% on capital repayment, 12.6% are on interest-only repayments and 36.4% are off-set loans. There are no buy-to-let loans in the pool and all borrower income has been verified. The mortgage portfolio had a WA current indexed LTV ratio of 56.9% and seasoning of 78 months. The cover pool assets are reasonably diversified over the UK, with the exception of Yorkshire & Humberside (20.2% of the pool). Fitch accounted for this potential concentration risk in its analysis by increasing the probability of default for these loans. In a 'AA+' scenario, Fitch has calculated the pool's cumulative WA frequency of foreclosure at 18.0% and a WA recovery rate of 67.9%, which results in a 5.8% expected loss. An ACT is calculated monthly to ensure that a minimum level of credit enhancement is maintained. In addition to the AP that applies to the nominal value of the assets, a ‘negative carry factor’ is used in the ACT to calculate an additional amount of collateral to compensate for the risk of the limited liability partnership having to hold funds yielding less than the interest on the covered bonds. The amount is the product of the WA remaining maturity of the outstanding series of covered bonds (3.1 years), the GBP equivalent of the aggregate amount of outstanding covered bonds (GBP1.75bn) and the negative carry factor (2.02%, a function of the WA margin on the covered bond swaps). The higher the WA margin on the covered bonds swaps, the higher the amount of additional collateral needed. Interest rate mismatches are hedged. The cover assets yield both floating and fixed rates and a swap is in place with YBS to transform the interest collections from the cover assets into three-month GBP LIBOR plus a spread. The bonds yield both fixed and floating rates and are denominated in euro and sterling. Both interest and currency rate risks are hedged with HSBC Bank plc (AA-/Stable/F1+). Maturity mismatches are significant, with the weighted-average life of the assets at 12.9 years and of the liabilities at 3.1 years. The Fitch breakeven AP for the covered bond rating will be affected, among others, by the profile of the cover assets relative to outstanding covered bonds, which can change over time, even in the absence of new issuances. Therefore, it cannot be assumed to remain stable over time. RATING SENSITIVITIES The 'AA+' rating would be vulnerable to downgrade if any of the following occurred: (i) the IDR was downgraded by one-notch to 'BBB'; or (ii) the D-Cap fell by one category to 3 (moderate high risk); or (iii) the asset percentage (AP) that Fitch takes into account in its analysis increased above Fitch's 'AA+' breakeven AP of 86.0%. Contacts: Primary Analyst Lukas Platzer Analyst +44 20 3530 1589 Fitch Ratings Limited 30 North Colonnade London E14 5GN Secondary Analyst Stephen Kemmy Associate Director +44 20 3530 1474 Committee Chairperson Cosme de Montpellier Senior Director +44 20 3530 1407 Media Relations: Christian Giesen, Frankfurt am Main, Tel: +49 69 768076 232, Email: christian.giesen@fitchratings.com. Additional information is available at www.fitchratings.com. Applicable criteria, 'Covered Bonds Rating Criteria', dated 4 Sept 2013, 'Counterparty Criteria for Structured Finance and Covered Bonds', dated 13 May 2013, 'Covered Bond Rating Criteria – Mortgage Liquidity & Refinance Stress Addendum', dated 3 June 2013, 'EMEA Residential Mortgage Loss Criteria', dated 6 June 2013 and 'EMEA Residential Mortgage Loss Criteria Addendum - United Kingdom', dated 09 August 2012, are available on www.fitchratings.com. Applicable Criteria and Related Research: Covered Bonds Rating Criteria here Counterparty Criteria for Structured Finance and Covered Bonds here Covered Bonds Rating Criteria - Mortgage Liquidity and Refinance Stress Addendum here EMEA Residential Mortgage Loss Criteria here EMEA Criteria Addendum - United Kingdom - Mortgage and Cashflow Assumptions here Additional Disclosure Solicitation Status here ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: here. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEBSITE 'WWW.FITCHRATINGS.COM'. 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.

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