DBRS Finalizes Provisional Ratings on Angel Oak Mortgage Trust I, LLC 2018-3

DBRS, Inc. (DBRS) finalized its provisional ratings on the following Mortgage-Backed Certificates, Series 2018-3 (the Certificates) issued by Angel Oak Mortgage Trust I, LLC 2018-3 (AOMT 2018-3 or the Trust):

-- $258.0 million Class A-1 at AAA (sf)
-- $34.4 million Class A-2 at AA (sf)
-- $32.8 million Class A-3 at A (sf)
-- $20.2 million Class M-1 at BBB (sf)
-- $11.7 million Class M-2 at BBB (low) (sf)
-- $10.9 million Class B-1 at BB (sf)
-- $14.2 million Class B-2 at B (sf)

The AAA (sf) rating on the Certificates reflects the 34.80% of credit enhancement provided by subordinated Certificates in the pool. The AA (sf), A (sf), BBB (sf), BBB (low) (sf), BB (sf) and B (sf) ratings reflect 26.10%, 17.80%, 12.70%, 9.75%, 7.00% and 3.40% of credit enhancement, respectively.

Other than the specified classes above, DBRS does not rate any other classes in this transaction.

This transaction is a securitization of a portfolio of primarily first-lien fixed- and adjustable-rate non-prime and prime residential mortgages. The Certificates are backed by 966 loans with a total principal balance of $395,765,158 as of the Cut-Off Date (August 1, 2018).

Angel Oak Home Loans LLC (AOHL), Angel Oak Mortgage Solutions LLC (AOMS) and Angel Oak Prime Bridge LLC (together, Angel Oak) originated 100.0% of the portfolio. The Angel Oak first-lien mortgages were mainly originated under the following nine programs:

(1) Platinum (41.8%) — Made to borrowers who have prime or near-prime credit scores but who are unable to obtain financing through conventional or governmental channels because (a) they fail to satisfy credit requirements, (b) they are self-employed and need alternative income calculations using 12 months or 24 months of bank statements or (c) they may have been subject to a bankruptcy or foreclosure 48 or more months prior to origination.

(2) Portfolio Select (32.4%) — Made to borrowers with near-prime credit scores who are unable to obtain financing through conventional or governmental channels because (a) they fail to satisfy credit requirements, (b) they are self-employed and need an alternate income calculation using 12 months’ or 24 months’ bank statements to qualify, (c) they may have a credit score that is lower than that required by government-sponsored entity underwriting guidelines or (d) they may have been subject to a bankruptcy or foreclosure 24 or more months prior to origination.

(3) Prime Jumbo (11.0%) — Made to borrowers who have prime credit scores and cleaner housing history with no bankruptcy or foreclosure in the 60 months prior to origination. The loan amounts will also allow high balance-conforming loan limits. Interest-only features are allowed. The income documentation requirements follow Appendix Q.

(4) Non-Prime General (7.3%) — Made to borrowers who have not sustained a housing event in the past 24 months but whose credit reports show multiple 30+- and/or 60+-day delinquencies on any reported debt in the past 12 months.

(5) Investor Cash Flow (2.7%) — Made to real estate investors who are experienced in purchasing, renting and managing investment properties with an established five-year credit history and at least 24 months of clean housing payment history but who are unable to obtain financing through conventional or governmental channels because (a) they fail to satisfy the requirements of such programs or (b) they may be over the maximum number of properties allowed. Loans originated under the Investor Cash Flow program are considered business-purpose and are not covered by the Ability-to-Repay (ATR) rules or the TILA-RESPA Integrated Disclosure rule.

(6) Asset Qualifier (2.4%) — Made to borrowers with prime credit and significant assets who can purchase the property with their assets but choose to use a financing instrument for cash flow purposes. Assets should cover the purchase of the home plus 60 months of debt service and six months of reserves. No income documentation is obtained, but the borrower is qualified based on certain credit requirements (minimum score 700) and significant asset requirements. These loans are available within both the Platinum and Portfolio Select programs.

(7) Non-Prime Recent Housing (1.1%) — Made to borrowers who have completed or have had their properties subject to a short sale, deed in lieu, notice of default or foreclosure. Borrowers who have filed for bankruptcy 12 or more months prior to origination or have experienced severe delinquencies may also be considered for this program.

(8) Non-Prime Foreign National (0.8%) — Made to investment property borrowers who are citizens of foreign countries and do not reside or work in the United States. Borrowers may use alternative income and credit documentation. Income is typically documented by the employer or accountant, and credit is verified by letters from overseas creditholders.

(9) Non-Prime Investment Property (0.2%) — Made to real estate investors who may have financed up to four mortgaged properties with the originators (or 20 mortgaged properties with all lenders).

In addition, the pool contains 0.4% second-lien mortgage loans, which were originated under the guidelines established by the Federal National Mortgage Association and overlaid by Angel Oak.

Select Portfolio Servicing, Inc. (SPS) is the Servicer for the loans. AOHL and AOMS will act as Servicing Administrators, and Wells Fargo Bank, N.A. (Wells Fargo; rated AA with a Stable trend by DBRS) will act as the Master Servicer. U.S. Bank National Association (rated AA (high) with a Stable trend by DBRS) will serve as Trustee and Custodian.

Although the mortgage loans were originated to satisfy the Consumer Financial Protection Bureau (CFPB) ATR rules, they were made to borrowers who generally do not qualify for agency, government or private-label non-agency prime jumbo products for the various reasons described above. In accordance with the CFPB Qualified Mortgage (QM) rules, 8.4% of the loans are designated as QM Safe Harbor, 0.4% are designated as QM Rebuttable Presumption and 83.1% are designated as Non-QM. Approximately 8.2% of the loans are for investment properties and thus are not subject to QM rules.

The Servicing Administrators or Servicer will generally fund advances of delinquent principal and interest on any mortgage until such loan becomes 180 days delinquent and are obligated to make advances in respect of taxes, insurance premiums and reasonable costs incurred in the course of servicing and disposing of properties.

On or after the distribution date in August 2021, the Depositor has the option to purchase all of the outstanding Certificates at a price equal to the outstanding class balance plus accrued and unpaid interest, including any cap carryover amounts.

The transaction employs a sequential-pay cash flow structure with a pro rata principal distribution among the senior tranches. Principal proceeds can be used to cover interest shortfalls on the Certificates as the outstanding senior Certificates are paid in full. Further, excess spread can be used to cover realized losses first before being allocated to unpaid cap carryover amounts up to Class B-1.

The ratings reflect transactional strengths that include the following:

(1) Strong Underwriting Standards: Whether for prime or non-prime mortgages, underwriting standards have improved significantly from the pre-crisis era. All of the mortgage loans (except for Investor Cash Flow, Investment Property and Foreign National) were underwritten in accordance with the eight underwriting factors of the ATR rules, although they may not necessarily comply with Appendix Q of Regulation Z.

(2) Robust Loan Attributes and Pool Composition:

-- The mortgage loans in this portfolio generally have robust loan attributes, as reflected in the combined loan-to-value (LTV) ratios, borrower household incomes and liquid reserves, including the loans in the Non-Prime programs that have weaker borrower credit.
-- LTV ratios gradually reduce as the programs move down the credit spectrum, suggesting the consideration of compensating factors for riskier pools.
-- The pool comprises 65.6% hybrid adjustable-rate mortgages with an initial fixed period of five to ten years, allowing borrowers sufficient time to credit cure before rates reset. The remaining 34.4% of the pool comprises fixed-rate mortgages, which have the lowest default risk because of the stability of monthly payments.

(3) Satisfactory Third-Party Due Diligence Review: A third-party due diligence firm conducted property valuation and credit reviews on 100% of the loans in the pool. For 97.3% of the loans (i.e., the entire pool, excluding 79 Investor Cash Flow loans), a third-party due diligence firm performed a regulatory compliance review. Data integrity checks were also performed on the pool.

(4) Strong Servicer: SPS, a strong residential mortgage servicer and a wholly owned subsidiary of Credit Suisse AG (rated “A” with a Stable trend by DBRS), services the pool. In this transaction, AOHL and AOMS, as the Servicing Administrators, or SPS, as the Servicer, is responsible for funding advances to the extent required. In addition, the transaction employs Wells Fargo as the Master Servicer. If the Servicing Administrators or the Servicer fails in their obligation to make principal and interest advances, Wells Fargo will be obligated to fund such servicing advances.

(5) Current Loans and Faster Prepayments: Angel Oak began originating non-agency loans in Q4 2013. Since the first transaction was issued in December 2015, voluntary prepayment rates have been relatively high, as these borrowers tend to credit cure and refinance into lower-cost mortgages. Also, the loans in the AOMT 2018-3 portfolio are 100% current. Although 1.4% of the pool has experienced prior delinquencies, these loans have all cured.

The transaction also includes the following challenges and mitigating factors:

(1) Representations and Warranties (R&W) Framework and Provider: Although slightly stronger than other comparable Non-QM transactions rated by DBRS, the R&W framework for AOMT 2018-3 is weaker compared with post-crisis prime jumbo securitization frameworks. Instead of an automatic review when a loan becomes seriously delinquent, this transaction employs a mandatory review upon less immediate triggers. In addition, the R&W provider, guarantor or backstop provider are unrated entities; have limited performance history in Non-QM securitizations; and may potentially experience financial stress that could result in the inability to fulfill repurchase obligations. DBRS notes the following mitigating factors:

-- Satisfactory third-party due diligence was conducted on 100% of the loans included in the pool with respect to credit, property valuation and data integrity. A regulatory compliance review was performed on all but 79 Investor Cash Flow loans. A comprehensive due diligence review mitigates the risk of future R&W violations.
-- An independent third-party R&W reviewer, Recovco Mortgage Management, LLC, is named in the transaction to review loans for alleged breaches of R&W.
-- DBRS conducted an on-site originator review of AOHL and AOMS and deems the mortgage companies to be operationally sound.
-- The Sponsor or Co-Sponsor, both affiliates of Angel Oak, will retain an eligible vertical interest in at least 5% of each class’s certificates, aligning Sponsor and investor interest in the capital structure.
-- Notwithstanding the above, DBRS adjusted the originator scores downward to account for the potential inability to fulfill repurchase obligations, the lack of performance history and the weaker R&W framework. A lower originator score results in increased default and loss assumptions and provides additional cushions for the rated securities.

(2) Non-Prime, QM Rebuttable Presumption or Non-QM Loans: As compared with post-crisis prime jumbo transactions, this portfolio contains mortgages originated to borrowers with weaker credits or who have prior derogatory credit events, as well as QM Rebuttable Presumption or Non-QM loans. In addition, certain loans were underwritten to 24-month bank statements for income (30.7%), to 12-month bank statements for income (18.1%) or as business-purpose loans (2.7%). DBRS notes the following mitigating factors:

-- All loans subject to the ATR rules were originated to meet the eight required underwriting factors.
-- Underwriting standards have improved substantially since the pre-crisis era.
-- Bank statements as income and business-purpose loans are treated as less-than-full documentation in the RMBS Insight model, which increases expected losses on those loans.
-- The RMBS Insight model incorporates loss severity penalties for Non-QM and QM Rebuttable Presumption loans, as explained further in the Key Loss Severity Drivers section of the related rating report.
-- For loans in this portfolio that were originated through the Non-Prime General and Non-Prime Recent Housing Event programs, borrower credit events had generally happened, on average, 35 months and 27 months, respectively, prior to cut-off. In its analysis, DBRS applies additional penalties for borrowers with recent credit events within the past two years.

(3) Geographic Concentration: Compared with other recent securitizations, the AOMT 2018-3 pool has a high concentration of loans located in Florida (24.0% of the pool). Mitigating factors include the following:

-- Although the pool is concentrated in Florida, the loans are well dispersed among the metropolitan statistical areas (MSAs). The largest Florida MSA, Miami-Miami Beach-Kendall, represents only 3.8% of the entire transaction. DBRS does not believe the AOMT 2018-3 pool is particularly sensitive to any deterioration in economic conditions or to the occurrence of a natural disaster in any specific region.
-- DBRS’s RMBS Insight model generates an elevated asset correlation for this portfolio, as determined by the loan size and geographic concentration, compared with pools with similar collateral, resulting in higher expected losses across all rating categories.

(4) Servicer Advances of Delinquent Principal and Interest: The Servicing Administrators or Servicer will advance scheduled principal and interest on delinquent mortgages until such loans become 180 days delinquent. This will likely result in lower loss severities to the transaction because advanced principal and interest will not have to be reimbursed from the Trust upon the liquidation of the mortgages but will increase the possibility of periodic interest shortfalls to the Certificateholders. Mitigating factors include the fact that (a) principal proceeds can be used to pay interest shortfalls to the Certificates as the outstanding senior Certificates are paid in full and (b) subordination levels are greater than expected losses, which may provide for payment of interest to the Certificates. DBRS ran cash flow scenarios that incorporated principal and interest advancing up to 180 days for delinquent loans; the cash flow scenarios are discussed in more detail in the Cash Flow Analysis section of the rating report.

The DBRS ratings of AAA (sf) and AA (sf) address the timely payment of interest and full payment of principal by the legal final maturity date in accordance with the terms and conditions of the related Certificates. The DBRS ratings of A (sf), BBB (sf), BBB (low) (sf), BB (sf) and B (sf) address the ultimate payment of interest and full payment of principal by the legal final maturity date in accordance with the terms and conditions of the related Certificates.

The full description of the strengths, challenges and mitigating factors are detailed in the related rating report.

Notes:
All figures are in U.S. dollars unless otherwise noted.

The principal methodologies are RMBS Insight 1.3: U.S. Residential Mortgage-Backed Securities Model and Rating Methodology, Unified Interest Rate Model for Rating U.S. Structured Finance Transactions, Third-Party Due Diligence Criteria for U.S. RMBS Transactions, Representations and Warranties Criteria for U.S. RMBS Transactions, Legal Criteria for U.S. Structured Finance, Assessing U.S. RMBS Pools Under the Ability-to-Repay Rules, Operational Risk Assessment for U.S. RMBS Originators and Operational Risk Assessment for U.S. RMBS Servicers, which can be found on dbrs.com under Methodologies.

The rated entity or its related entities did participate in the rating process. DBRS had access to the accounts and other relevant internal documents of the rated entity or its related entities in connection with this rating action.

Please see the related appendix for additional information regarding the sensitivity of assumptions used in the rating process.

The full report providing additional analytical detail is available by clicking on the link under Related Documents or by contacting us at info@dbrs.com.