DBRS Publishes Interest Rate Stresses for European Structured Finance Transactions Methodology

DBRS published its “Interest Rate Stresses for European Structured Finance Transactions” methodology (the Methodology). The Methodology updates the criteria on which European structured finance securitisations ratings are based. The new version is effective as of 18 December 2017.

On 3 November 2017, DBRS requested comments on the Methodology, with the intent to replace the prior version of this methodology, “Unified Interest Rate Model for European Securitisations”, published on 2 November 2016. The comment period closed on 3 December 2017. No comments were received during the Request for Comment period and no material changes were made to the final Methodology.

The Methodology outlines DBRS’s framework for generating interest rate stresses that DBRS uses in the analysis of European structured finance transactions and covered bonds. It is primarily applicable to interest rates for currencies in which European structured finance transactions are commonly denominated.

The framework produces two sets of curves: one for upward stress and one for downward stress. Each set contains one curve for each broad rating category. For upward interest rate curves, beginning from the spot rate, interest rates are assumed to increase linearly to a short-term stress plateau where they remain for a fixed period of time. After remaining elevated at the plateau for a period of time, interest rates are assumed to decrease linearly to a longer-term level. This longer-term level is below the short-term plateau but remains elevated from the spot rate in order to provide sufficient stress given the rating assigned. The same approach, though inverted, is applied to generate downward interest rate stress scenarios.

The material changes from the previous methodology and their rationale are as follows:

The interest rate stress level derived from the Methodology is not based on the implied market volatility at the time of the analysis. Instead, the numerical values for the increases and decreases were chosen based on the historical movements of interest rates with a focus on constant maturity US Treasury yields for which a long time series is available. As a result, interest rate stresses are not dependent on changes of the market-implied volatility. The levels to which interest rates are stressed in an upward and downward scenario depend primarily on the level of the spot rate and are subject to a floor and cap. The rationale for the changes was to reduce the dependency of European interest stress rates on implied market volatility. Instead, the Methodology generates historically relevant interest rate stress scenarios, which are in itself more stable over time.

The impact of the adoption of the revised Methodology on European Structured Finance and Covered Bonds is neutral. DBRS expects no rating action on tranches and bonds of DBRS-rated transactions or covered bond programs in light of the revised Methodology.

Notes:
DBRS criteria and methodologies are publicly available on its website http://www.dbrs.com under Methodologies.

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

DBRS rating definitions and the terms of use of such ratings are available at www.dbrs.com.