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April 28 (Reuters) - (The following statement was released by the rating agency)
Fitch Ratings has assigned an ‘AAA’(EXP) rating with Stable Outlook to Bank of Montreal (BMO; ‘AA-'/Outlook Stable/‘F1+') inaugural series of global registered covered bonds issued under its newly established legislative program. Fitch’s expected rating takes into account a hypothetical EUR-denominated jumbo issuance with a soft bullet maturity of up to seven years.
Rating Rationale: The expected ‘AAA’ rating on BMO’s legislative mortgage covered bonds is based on BMO’s long-term Issuer Default Rating (IDR) of ‘AA-', a Discontinuity Cap (D-Cap) of 3 (Moderate High Risk) and an asset percentage (AP) expected to be in line with Fitch’s ‘AAA’ breakeven level of 93.5%. Alternative Management Drives D-Cap: The D-Cap of 3 (moderate-high risk) is driven by Fitch’s assessment of systemic alternative management which reflects the significant roles being performed post issuer default by the trustee, acting on behalf of the guarantor, which would likely seek bondholder approval for major decisions and need to contract other parties to perform important functions. This assessment is consistent across all Canadian mortgage covered bond programs.
Cover Pool Credit Risk: The greatest contributor to the ‘AAA’ breakeven AP of 93.5% is the expected loss on the mortgage loans included in the initial cover pool. As of March 2014, the pool consisted of 42,424 first lien residential mortgage loans totaling CAD8.3 billion. It had a weighted average (WA) original combined loan-to-value (LTV) of 69.7%, a non-zero WA credit score of 751 and was primarily concentrated in Ontario (44%).
In an ‘AAA’ scenario, Fitch calculated a cumulative WA probability of default (PD) of 14.1%, a WA recovery rate (RR) of 55.2% and a WA expected loss of 7.8%, which incorporates an additional 1.4% loss attributable to interest accrued on defaulted loans from initial delinquency through liquidation.
BMO’s covered bonds’ rating would be vulnerable to a downgrade if: BMO’s IDR were to be downgraded to ‘AA-’ or lower; the D-Cap fell by at least two categories to 1 (very high risk); or the program’s contractual AP increased above 93.5%.
Fitch breakeven AP for a given covered bonds’ ratings 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.