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

DBRS Ratings Limited (DBRS) has today assigned a Legal and Structuring Framework (LSF) Assessment to the seven Portuguese OH (Obrigações Hipotecárias, the Portuguese 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 to the Portuguese OH Programmes as follows:
- Banco de Investimento Imobiliário (BII): an LSF assessment of “Average”

• Banco Comercial Português (BCP): an LSF assessment of “Average”
• Novo Banco: an LSF assessment of “Average”
• Caixa Economica Montepio Geral (Montepio): an LSF assessment of “Modest”
• Caixa Geral de Depósitos (CGD): an LSF assessment of “Average”
• Banco Santander Totta (Totta): an LSF assessment of “Average”
• Banco Popular Portugal (BPP): an LSF assessment of “Modest”

The “Average” LSF Assessment associated with the BCP, Novo Banco, CGD and Totta OH programmes reflect DBRS’s view of: (1) the satisfactory level of segregation provided by the OH legal framework and the CB holders first priority right on the CP, in combination with possible residual commingling risk as addressed by DBRS; (2) the composition of the CP, being 100% prime residential mortgage loans concentrated in a BBB (low) Domicile Sovereign, combined with a contractual provision whereby each CB maturity can be extended by 12 months, even though the period may not be entirely available to attempt a firesale of the CP as the issuer is not immediately required to look for alternative refinancing arrangements; (3) the lack of any regulatory requirement or structural feature to cover temporary liquidity constraints; (4) the role of the Bank of Portugal in the supervision of the Portuguese OH, combined with the high penetration of the OH as a funding tool for Portuguese banks in a BBB (low) Host Sovereign, and the role of the asset monitor that only reports to the regulator indirectly.

The “Modest” LSF Assessment associated with the BPP OH programme reflects all the above mentioned considerations along with the composition of the CP, being mainly prime residential mortgage loans (16.6% of non-residential mortgages), and factors in the fact that the issuer has used the maturity extension for its own benefit. It is DBRS’s view that the main driver of this choice might be the programme being fully retained. As such, DBRS would default to a lower LSF assessment for those Portuguese OH programmes that are retained in full by the issuer and have a relatively short extension period, even when these are repoed. This treatment, however, would not apply for programmes that are purchased outright (this includes purchase by the ECB via its CB purchase programme in the primary market only).

The “Modest” LSF Assessment associated with the Montepio programme reflects all the above mentioned considerations and factors in the fact that the programme is fully retained and the role of the Bank of Portugal in the supervision of the retained Portuguese OH.

The “Average” LSF Assessment associated with the BII OH programme reflects all the above mentioned considerations and factors in the fact that the OH issued under the programme, although fully retained, have a substantial extension period of 20 years, during which time they become pass through. According to the unstressed amortization profile of the assets provided by the issuer, not considering any prepayments, approximately 24% of the cover pool is expected to be outstanding by the Extended Maturity Date. The assessment also takes into consideration the lack of liquidity provisions to avoid interruption of payments in the immediate aftermath of an assumed insolvency of the issuer.

Contingency plans in Portuguese OH are entirely dependent on the regulator’s supervision, as the regulator would select if and when a substitute credit institution should take over from the current issuer and act as cover pool administrator. The Bank of Portugal shall appoint a substitute credit institution at the time the autorisation of the Issuer to act as a credit institution in Portugal is revoked, or at the latest, at the time an insolvency event occurs in relation to the issuer. Notwithstanding the high penetration of the OH as a funding tool for Portuguese banks, DBRS considers that there is a positive track record of intervention by the Bank of Portugal although a Host Sovereign rated only BBB (low) does not provide sufficient comfort to support an LSF Assessment higher than “Average”.

The period of 12 months during which firesale could be attempted is only compatible with an LSF Assessment of at most “Average” when the Domicile Sovereign is rated down to BBB (low) and (given the nature of the extension), when it is likely that the regulator would intervene and activate contingency plans (including, if the case, liquidation of the cover pool), sufficiently ahead of an issuer’s default. As such, everything else equal, the “Average” LSF assessment associated to the OH Programme of BCP, Novo Banco, CGD and Totta, may be downgraded in any of the following cases: downgrade of the Portuguese sovereign to BB (high) or below, the CP composition worsening, the OH ownership composition becoming fully retained, any of the issuers using any part of the maturity extension for their own benefit without any public statement to this respect from the regulator.

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

The principal methodology applicable to Portuguese 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