DBRS Assigns AAA Rating to BMO Covered Bonds, Series 5, Tranche 1

DBRS Limited (DBRS) has today assigned a rating of AAA to the Series 5, Tranche 1 covered bonds issued under the Bank of Montreal (BMO) EUR 10 billion Global Public Sector Covered Bond Programme (the Programme). The Series 5 (USD 2 billion) covered bonds have a coupon rate of 1.95% and a maturity date of January 30, 2017. As all covered bonds issued under the Programme (the Covered Bonds) rank pari passu with each other, DBRS has also confirmed the AAA ratings of all other outstanding series.

The rating is based on several factors:

(1) The Covered Bonds are senior unsecured direct deposit obligations of BMO, which is the fourth-largest bank in Canada by assets, rated AA and R-1 (high) with Stable trends by DBRS.

(2) In addition to a general recourse to BMO’s assets, the Covered Bonds are supported by a diversified collateral pool (the Cover Pool) of first-lien prime residential mortgages insured by Canada Mortgage and Housing Corporation (CMHC). CMHC is an agent of Her Majesty in right of Canada and is rated AAA by DBRS. The Cover Pool was approximately $9.4 billion as of December 31, 2011, and was subsequently increased to an amount sufficient for the issuance of the Series 5 covered bonds.

(3) The Covered Bonds benefit from several structural features, such as a reserve fund, when applicable, and rating thresholds for the swap counterparties, servicer and cash manager.

(4) Upon a default by BMO, the final maturity date on the Covered Bonds can be extended for 12 months, which increases the likelihood that the Covered Bonds can be fully repaid.

Despite the above strengths, the Covered Bonds could face the following challenges:

(1) A weakened housing market in Canada could result in higher defaults and lower recoveries than the assumptions used for credit protection assessment. This risk is significantly mitigated as DBRS considers the credit loss negligible for defaulted mortgages as a result of the mortgage insurance covering principal and interest provided by AAA-rated CMHC.

(2) BMO may be required to add mortgages to maintain the Cover Pool, incurring substitution and potential credit deterioration risk. These risks are mitigated by the mortgage insurance provided by CMHC and the ongoing monitoring of the Cover Pool to ensure the overcollateralization available is commensurate with the AAA rating assigned. Based on the latest review of the Cover Pool, DBRS considers 3.1% overcollateralization (corresponding to an asset percentage of 97%) as the amount commensurate with a AAA rating. In comparison, at least 5.3% overcollateralization was available for the Covered Bonds, which is based on the asset percentage of 95% as of December 31, 2011.

(3) There is an inherent liquidity gap between the scheduled repayments of the Covered Bonds and the repayment of underlying mortgage loans over time. This risk is mitigated by the overcollateralized Cover Pool, the buildup of a reserve fund if BMO is not rated at least A (low) and R-1 (middle) and the 12-month maturity extension upon a default by BMO.

(4) There is no specific covered bond legislative framework in Canada. This risk is mitigated by the contractual obligations of the transaction parties, supported by the well-developed commercial and bankruptcy laws in Canada, satisfactory opinions provided by legal counsel to BMO and a generally creditor-friendly legal environment in Canada.

BMO is Canada’s fourth largest bank, with assets of $477.4 billion and $25.3 billion in common equity as at October 31, 2011. It is the servicer of the mortgages in the Cover Pool.

Notes:
All figures are in Canadian dollars unless otherwise noted.

The principal methodology applicable is Rating Canadian Covered Bonds, which can be found on www.dbrs.com.

The sources of information used for this rating include loan-level data provided by BMO. DBRS considers the information available to it for the purposes of providing this rating to be of satisfactory quality.

This rating concerns a newly issued financial instrument.

This is the first DBRS rating on this financial instrument.

For additional information on this rating, please see DBRS Limited: Canadian Covered Bonds Linking Document.

Lead Analyst: Kevin Chiang
Rating Committee Chair: Jamie Feehely
Initial Rating Date: January 30, 2012
Most Recent Rating Update: January 30, 2012

There is no rating report for this issuance. More details on the Cover Pool and the Programme are provided in the Monthly Canadian Covered Bond Report, which is available by clicking on the link under Related Research at the right of the screen or by contacting us at info@dbrs.com.