Press Release

DBRS Morningstar Upgrades Ratings on European Residential Loan Securitisation 2018-1 DAC, Assigns Stable Trends and Resolves the Under Review with Negative Implications

Nonperforming Loans

February 04, 2021

DBRS Ratings GmbH (DBRS Morningstar) upgraded its ratings of the following classes of notes issued by European Residential Loan Securitisation 2018-1 DAC (the Issuer):

-- Class A at A (high) (sf) from A (sf)
-- Class B at BBB (high) (sf) from BBB (sf)

The Under Review with Negative Implications was resolved and Stable trends were assigned.

The transaction represents the issuance of the Class A, Class B, Class P, and Class Z Notes by European Residential Loan Securitisation 2018-1 DAC (the Issuer). The rating of the Class A notes addresses the timely payment of interest and the ultimate payment of principal on or before the legal final maturity date. The rating of the Class B notes addresses the ultimate payment of interest and principal. The Class P and Class Z notes are not rated by DBRS Morningstar and were retained by the seller.

Proceeds from the issuance of the Class A to Z notes were used to purchase a portfolio of first-charge performing and nonperforming Irish residential mortgage loans originated by Irish Nationwide Building Society (INBS) and predominantly secured by Irish residential properties (loans secured by non-Irish properties represented 0.3% of the mortgage portfolio at issuance). As of the closing date in March 2018, the portfolio had a total outstanding balance (OB) of EUR 356.2 million, 48.8% of which was represented by loans less than one month in arrears. Shoreline Residential DAC purchased the mortgage portfolio from ERLS 2016-1 and sold the same to the Issuer at closing.

Pepper Finance Corporation (Ireland) DAC services the portfolio. Hudson Advisors Ireland DAC was appointed as the issuer administration consultant and as such acts in an oversight and monitoring capacity and provides input on asset resolution strategies.

According to the December 2020 investor report, the OB of the portfolio was EUR 156.9 million, 90.1% of which is more than three months in arrears.

RATING RATIONALE
The rating upgrades follow a review of the transaction and are based on the following analytical considerations:
-- Transaction performance: Assessment of the portfolio recoveries as of 30 November 2020, with a focus on:
(1) Comparison between actual recoveries and servicer’s business plan forecast;
(2) Recovery performance observed since issuance and in the period following the outbreak of the Coronavirus Disease (COVID-19);
(3) Historical collections trend and average pay rate recorded in the last six months; and
(4) Comparison between current performance and DBRS Morningstar’s expectations.
-- Portfolio characteristics: Loan pool composition as of 30 November 2020 and evolution of its core features, also in light of the disposal of a portion of the underlying pool of receivables which occurred in June 2019, with a focus on the portfolio breakdown by arrears status and the observed increase in the share of nonperforming loans since issuance.
-- Liquidating structure: The order of priority entails a fully sequential amortisation of the notes – i.e., the Class B notes will begin to amortise following the full repayment of the Class A notes; the Class P notes will begin to amortise following the full repayment of all the rated notes (except for cases in which the Class P notes may receive excess amounts from portfolio sales or proceeds from the unwinding of the interest rate cap). Additionally, the payment of interest on the Class B notes is fully subordinated to the repayment of both interest and principal on the Class A notes.
-- Liquidity support: The transaction benefits from (1) an amortising Class A reserve fund, with target amount equal to 3% of the principal outstanding on the Class A Notes, and (2) a separate non-amortising Class B reserve fund which mitigate temporary collection shortfalls on the payment of (1) senior costs and interest on the Class A notes, (2) interest on the Class B notes, respectively. Moreover, following the portfolio sale which occurred in June 2019, the transaction benefits from additional liquidity coverage deriving from the portfolio sale reserve fund, which was originally credited with EUR 15.5 million, representing 10% of the balance of the portfolio that was sold.

According to the latest investor report dated 24 December 2020, the principal amount outstanding of the Class A, Class B, Class P, and Class Z notes was equal to EUR 37.9 million, EUR 18.7 million, EUR 23.3 million, and EUR 95.5 million, respectively. The balance of the Class A notes amortised by approximately 82.4% since issuance. The current aggregated transaction balance is EUR 175.4 million.

According to the December 2020 investor report, the Class A reserve was fully funded, the Class B reserve had an outstanding balance of EUR 0.5 million, and the portfolio sale reserve fund had an outstanding balance of EUR 9.7 million.

As of 30 November 2020, the transaction was performing significantly above the servicer’s initial expectations. The actual cumulative gross collections were EUR 194.6 million, mostly consisting of the proceeds from the portfolio sale (69.5%), whereas the servicer’s initial business plan estimated cumulative gross collections of EUR 132.8 million for the same period. Therefore, as of 30 November 2020, the transaction’s performance was above the servicer’s initial expectations by approximately EUR 61.8 million (+46.5%).

At issuance, DBRS Morningstar estimated cumulative gross collections for the same period of (1) EUR 39.6 million in a rising interest rate environment and EUR 38.4 million in a declining interest rate environment in a A (sf) stressed scenario and (2) EUR 43.7 million in a rising interest rate environment and EUR 42.7 million in a declining interest rate environment in a BBB (sf) stressed scenario.

The rated notes may pass higher rating stress scenarios; however, DBRS Morningstar believes higher ratings would not be commensurate with the risk of the transaction in consideration of (1) the tail risk in the portfolio following the disposal in June 2019 of around 97% of the portfolio’s performing component and (2) the potential higher variability of nonperforming loan (NPL) cash flows.

The final maturity date of the transaction is 24 January 2061.

DBRS Morningstar analysed the transaction structure using Intex DealMaker.

The Coronavirus Disease (COVID-19) and the resulting isolation measures have caused an economic contraction, leading to sharp economic contraction, increases in unemployment rates and reduced investment activities. DBRS Morningstar anticipates that collections in European nonperforming loan securitisations will continue to be disrupted in coming months and that the deteriorating macroeconomic conditions could negatively affect recoveries from NPLs and the related real estate collateral. The ratings are based on additional analysis and adjustments to expected performance as a result of the global efforts to contain the spread of the coronavirus. For this transaction, DBRS Morningstar assumed reduced collections for the next two quarters and incorporated its revised expectation of a moderate medium-term decline in residential property prices, albeit partial credit to house price increases from 2023 onwards is given in non-investment grade scenarios.

On 16 April 2020, the DBRS Morningstar Sovereign group released a set of macroeconomic scenarios for the 2020-22 period in select economies. These scenarios were last updated on 28 January 2021. For details see the following commentaries: https://www.dbrsmorningstar.com/research/372842/global-macroeconomic-scenarios-january-2021-update and https://www.dbrsmorningstar.com/research/359903/global-macroeconomic-scenarios-application-to-credit-ratings. The DBRS Morningstar analysis considered impacts consistent with the moderate scenario in the referenced reports.

For more information on DBRS Morningstar considerations for European NPL transactions and Coronavirus Disease (COVID-19), please see the following commentaries: https://www.dbrsmorningstar.com/research/362326 and https://www.dbrsmorningstar.com/research/360393

For more information regarding rating methodologies and Coronavirus Disease (COVID-19), please see the following DBRS Morningstar press release: https://www.dbrsmorningstar.com/research/357883.

For more information regarding structured finance rating methodologies and Coronavirus Disease (COVID-19), please see the following DBRS Morningstar press release: https://www.dbrsmorningstar.com/research/358308.

ESG CONSIDERATIONS
A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework and its methodologies can be found at: : https://www.dbrsmorningstar.com/research/357792.

Notes:
All figures are in euros unless otherwise noted.

The principal methodology applicable to the ratings is: “Master European Structured Finance Surveillance Methodology” (22 April 2020).

DBRS Morningstar has applied the principal methodology consistently and conducted a review of the transaction in accordance with the principal methodology.

A review of the transaction legal documents was not conducted as the legal documents have remained unchanged since the most recent rating action.

Other methodologies referenced in this transaction are listed at the end of this press release. These may be found at: https://www.dbrsmorningstar.com/about/methodologies.

For a more detailed discussion of the sovereign risk impact on Structured Finance ratings, please refer to “Appendix C: The Impact of Sovereign Ratings on Other DBRS Morningstar Credit Ratings” of the “Global Methodology for Rating Sovereign Governments” at: https://www.dbrsmorningstar.com/research/364527/global-methodology-for-rating-sovereign-governments.

The sources of data and information used for these ratings include the Issuer and/or its agents, which comprise a data tape as of 30 November 2020, detailed performance data as of 30 November 2020, and monthly investor report dated 24 December 2020.

DBRS Morningstar did not rely upon third-party due diligence in order to conduct its analysis.

At the time of the initial ratings, DBRS Morningstar was supplied with third-party assessments. However, this did not impact the rating analysis.

DBRS Morningstar considers the data and information available to it for the purposes of providing these ratings to be of satisfactory quality.

DBRS Morningstar does not audit or independently verify the data or information it receives in connection with the rating process.

The last rating action on this transaction took place on 4 November 2020, when DBRS Morningstar maintained the Under Review with Negative implications to the ratings of the Class A and Class B notes.

Information regarding DBRS Morningstar ratings, including definitions, policies, and methodologies, is available on www.dbrsmorningstar.com.

To assess the impact of changing the transaction parameters on the ratings, DBRS Morningstar considered the following stress scenarios, as compared to the parameters used to determine the ratings (the Base Case):

-- The expected principal and interest collections in a declining interest rate scenario at the A (high) (sf) rating level, a 5% and 10% reduction in the expected collections.
-- DBRS Morningstar concludes that a hypothetical decrease of the Recovery Rate by 5%, ceteris paribus, would lead to a confirmation of the Class A notes at A (high) (sf).
-- DBRS Morningstar concludes that a hypothetical decrease of the Recovery Rate by 10%, ceteris paribus, would lead to a confirmation of the Class A notes at A (high) (sf).
-- The expected principal and interest collections in a declining interest rate scenario at the BBB (high) (sf) rating level, a 5% and 10% reduction in the expected collections.
-- DBRS Morningstar concludes that a hypothetical decrease of the Recovery Rate by 5%, ceteris paribus, would lead a confirmation of the Class B notes at BBB (high) (sf).
-- DBRS Morningstar concludes that a hypothetical decrease of the Recovery Rate by 10%, ceteris paribus, would lead a confirmation of the Class B notes at BBB (high) (sf).

For further information on DBRS Morningstar historical default rates published by the European Securities and Markets Authority (ESMA) in a central repository, see: https://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml. DBRS Morningstar understands further information on DBRS Morningstar historical default rates may be published by the Financial Conduct Authority (FCA) on its webpage: https://www.fca.org.uk/firms/credit-rating-agencies.

This rating is endorsed by DBRS Ratings Limited for use in the United Kingdom.
Lead Analyst: Sebastiano Romano, Assistant Vice President
Rating Committee Chair: Gareth Levington, Managing Director
Initial Rating Date: 21 March 2018

DBRS Ratings GmbH
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The rating methodologies used in the analysis of this transaction can be found at: https://www.dbrsmorningstar.com/about/methodologies.

A description of how DBRS Morningstar analyses structured finance transactions and how the methodologies are collectively applied can be found at: https://www.dbrsmorningstar.com/research/278375

For more information on this credit or on this industry, visit www.dbrsmorningstar.com or contact us at info@dbrsmorningstar.com.

ALL MORNINGSTAR DBRS RATINGS ARE SUBJECT TO DISCLAIMERS AND CERTAIN LIMITATIONS. PLEASE READ THESE DISCLAIMERS AND LIMITATIONS AND ADDITIONAL INFORMATION REGARDING MORNINGSTAR DBRS RATINGS, INCLUDING DEFINITIONS, POLICIES, RATING SCALES AND METHODOLOGIES.

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