DBRS Assigns Legal and Structuring Framework Assessment to Italian Covered Bonds Programmes

DBRS Ratings Limited (DBRS) has today assigned a Legal and Structuring Framework (LSF) Assessment to the two Italian OBG (Obbligazioni Bancarie Garantite, the Italian legislative mortgage covered bonds) it rates. The LSF Assessment is one of the four pillars of DBRS’s Rating European Covered Bonds methodology (the Methodology) and expresses DBRS’s view on the likelihood that payment obligations under the Covered Bonds (CBs) could be smoothly and efficiently transferred from a troubled bank to another bank, or the Cover Pool (CP), administered by a third party. Each LSF assessment is programme-specific and reflects the legal and structural features of each CB programme.

DBRS has assigned LSF Assessments as follows:
- ISP OBG programme: an LSF assessment of “Strong”

• BMPS CB 2 programme: an LSF assessment of “Very Strong”

The “Strong” LSF Assessment associated with the ISP OBG programme reflect DBRS’s view of: (1) the satisfactory level of segregation provided by the OBG legal framework and the CB holders first priority right on the CP, in combination with appropriate contractual mitigants in relation to set-off, commingling, and clawback risk; (2) the composition of the CP, being at least 80% prime residential mortgage loans and less than 10% commercial mortgage loans to corporate borrowers concentrated in a A (low) Domicile Sovereign, combined with a contractual provision to automatically extend each and all CB maturities by 12 months upon an event of default of the issuer, while a firesale of the CP is triggered immediately following such event of default; (3) a contractual dynamic liquidity reserve set on each payment date prior to an issuer event of default to a level sufficient to cover CB interests and senior costs (including payments under the hedge agreements) due during the subsequent three months rolling along with substantial liquid assets that DBRS has observed as persistent and that are subject to replacement triggers in line with the rating of the OBG; (4) the role of the Bank of Italy in the supervision of the Italian OBG, combined with the moderate penetration of the OBG as a funding tool for Italian banks and an asset monitor that only indirectly reports to the regulator.

The “Very Strong” LSF Assessment associated with the BMPS CB 2 programme reflect DBRS’s view of: (1) the satisfactory level of segregation provided by the OBG legal framework and the CB holders first priority right on the CP, in combination with appropriate contractual mitigants in relation to set-off, commingling, and clawback risk; (2) the pass-through nature of the structure whereby, following an event of default of the issuer, each and all CB maturities are extended until December 2057 (which date DBRS expects to be sufficient for all loans in the CP to amortise fully) and proceeds from the cover pool are allocated pro rata and pari passu to all series of CB with a modified pass-through process; (3) a dynamic liquidity reserve set on each payment date prior to an issuer event of default to a level sufficient to cover CB interests and senior costs due during the subsequent six months rolling (the reserve is currently fully funded); (4) the role of the Bank of Italy in the supervision of the Italian OBG, combined with the moderate penetration of the OBG as a funding tool for Italian banks and an asset monitor that only indirectly reports to the regulator.

Contingency plans in Italian OBG are purely left to contractual arrangement and DBRS understands that the regulator is not requested to address any potential problem arising at the issuer level with a specific view to protect the interest of CB holders beside the general depositors and markets interest. DBRS has observed that it is a customary contractual provision that a portfolio manager is appointed upon an issuer event of default to facilitate the cover pool liquidation, where needed. DBRS notes that the contractual terms of certain programmes also envisage a prescriptive process for the appointment of the portfolio manager and the methods for the sale of the cover pool assets.

Everything else equal, the “Strong” LSF assessment associated with the ISP OBG programme might be downgraded in any of the following cases: downgrade of the Italian sovereign to BBB (high) or below, the CP composition being less than 80% prime residential mortgages or more than 10% commercial mortgage loans to corporate borrowers.

For further information on each OBG programme, please refer to the ratings report that can be found on www.dbrs.com.

The principal methodology applicable to Italian covered bonds is: “Rating European Covered Bonds” (December 2014). This can be found on www.dbrs.com at: http://www.dbrs.com/about/methodologies.

Information regarding DBRS ratings, including definitions, policies and methodologies are available on www.dbrs.com.