DBRS Assigns Provisional Ratings to FREMF 2018-K86 Mortgage Trust, Series 2018-K86

DBRS, Inc. (DBRS) assigned provisional ratings to the following classes of Multifamily Mortgage Pass-Through Certificates, Series 2018-K86 to be issued by FREMF 2018-K86 Mortgage Trust:

-- Class A-1 at AAA (sf)
-- Class A-2 at AAA (sf)
-- Class X1 at AAA (sf)
-- Class XAM at AA (low) (sf)
-- Class A-M at A (high) (sf)
-- Class B at BBB (high) (sf)
-- Class C at BBB (low) (sf)

All trends are Stable.

The Class X1 and XAM balances are notional.

The collateral consists of 54 fixed-rate loans secured by 54 commercial and multifamily properties. Four loans are cross-collateralized and cross-defaulted into the Florida Multifamily Portfolio 1 loan and two loans are cross-collateralized and cross-defaulted into the Florida Multifamily Portfolio 2 loan. DBRS’s analysis of this transaction incorporates these loans as two portfolios, resulting in a modified loan count of 50, and the loan number references within this report reflect this total. All loans within the transaction are structured with ten-year loan terms. The transaction is a sequential-pay pass-through structure. The conduit pool was analyzed to determine the provisional ratings, reflecting the long-term probability of loan default within the term and its liquidity at maturity. When the cut-off loan balances were measured against the DBRS Stabilized net cash flow (NCF) and their respective actual constants, four loans, representing 12.2% of the aggregate pool balance, had a DBRS Term debt service coverage ratio (DSCR) below 1.15 times (x), a threshold indicative of a higher likelihood of mid-term default. Additionally, to assess refinance risk given the current low interest-rate environment, DBRS applied its refinance constants to the balloon amounts. This resulted in 43 loans, representing 95.8% of the pool, having refinance DSCRs below 1.00x and 24 loans, representing 69.8% of the pool, having refinance DSCRs below 0.90x.

Nineteen loans, representing 45.7% of the total pool balance, are acquisition financings. The acquisition financings within this securitization generally require the respective sponsor(s) to contribute material cash equity as a source of funding in conjunction with the mortgage loan, resulting in a higher sponsor cost basis in the underlying collateral. The acquisition financing concentration in this pool is well above the 23.0%, 24.1% and 35.3% in the FREMF 2018-K75, FREMF 2018-K77 and FREMF 2018-K82 transactions, respectively, and in line with the 43.1% in the FREMF 2018-K79 transaction, all of which were rated by DBRS. Underlying collateral analysis is prudent as evidenced by an average DBRS NCF variance of -5.3% on the sampled loans. In general, revenue has been set to levels similar to the recent trailing 12-month amount and lower than a recent annualized rent roll.

Twenty loans, representing 56.8% of the pool, including six of the largest ten loans, are structured with interest-only (IO) payments for the full term. An additional 23 loans, representing 35.6% of the pool, have partial-IO periods ranging from 12 months to 72 months. The DBRS Term DSCR is calculated by using the amortizing debt service obligation and the DBRS Refinance (Refi) DSCR is calculated considering the balloon balance and lack of amortization when determining refinance risk. DBRS determines probability of default (POD) based on the lower of the Term or Refi DSCRs; therefore, loans that lack amortization will be treated more punitively. Furthermore, the largest loan in the pool, Ocean at 1 West Street, representing 12.8% of the pool and 22.6% of the full-term IO concentration, has an excellent location in a super-dense urban market that benefits from steep investor demand. The property also has a low appraised loan-to-value (LTV) ratio of 44.9% at maturity.

Eighteen loans, representing 25.6% of the pool, are secured by properties located in rural or tertiary markets. Properties located in tertiary and rural markets were analyzed with significantly higher loss severities than those located in urban and suburban markets. Furthermore, the weighted-average (WA) DBRS Exit Debt Yield of 8.2% for loans secured by properties located in rural and tertiary markets is above the WA DBRS Exit Debt Yield of 8.0% for loans secured by properties in suburban, urban and super-dense urban markets.

The DBRS Refi DSCR is 0.86x, indicating a higher refinance risk on an overall pool level. In addition, 43 loans, representing 95.8% of the pool, have DBRS Refi DSCRs below 1.00x, including all top 15 loans. There are 24 loans, representing 69.8% of the pool, with DBRS Refi DSCRs below 0.90x, including 11 of the top 15 loans. The pool’s DBRS Refi DSCRs for these loans are based on a WA stressed refinance constant of 9.30%, which implies an interest rate of 8.58% amortizing on a 30-year schedule. This represents a significant stress of 4.15% over the WA contractual interest rate of the loans in the pool. DBRS models the POD based on the more constraining of the DBRS Term DSCR and DBRS Refi DSCR.

The transaction has a notable affiliated sponsorship concentration risk which, when combined, totals 20 loans, representing 40.5% of the pool. A loan group increases the aggregate risk of consolidation since it involves the same sponsor. The largest concentration (Group 1) consists of 13.2% of the pool. Furthermore, the sponsor of Group 5, representing 1.6% of the pool, was deemed to be Bad/Litigious as a result of prior voluntary bankruptcy, litigation and/or other negative credit events. Freddie Mac generally requires non-consolidation opinions for loans with an original principal balance of $25.0 million or more. The loans in the transaction generally benefit from experienced and financially strong borrowers compared with typical commercial mortgage-backed securities (CMBS) multifamily loans. Many borrowers are repeat clients of Freddie Mac. DBRS increased POD significantly for loans with identified sponsorship concerns.

The loans benefit from strong origination practices. Loans on Freddie Mac’s balance sheet, which are originated according to the same policies as those for securitization, have an extremely low delinquency rate of 0.01% as of September 2018. This compares favorably with the delinquency rate for CMBS multifamily loans of approximately 3.52 % over the same period. As of October 31, 2018, Freddie Mac has securitized 14,329 loans totaling approximately $275.3 billion in guaranteed issuance balance. To date, Freddie Mac has not realized any credit losses on its guaranteed issuances, although a combined $11.9 million in total losses has been realized by B-Piece Investors, representing less than one basis point of total issuance.

Classes X1 and XAM are IO certificates that reference a single rated tranche or multiple rated tranches. The IO rating mirrors the lowest-rated reference tranche adjusted upward by one notch if senior in the waterfall.

All ratings will be subject to ongoing surveillance, which could result in ratings being upgraded, downgraded, placed under review, confirmed or discontinued by DBRS.

For more information on this transaction and supporting data, please log into www.viewpoint.dbrs.com. DBRS will continue to monitor this transaction with periodic updates provided in the DBRS Viewpoint platform.

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

With regard to due diligence services, DBRS was provided with the Form ABS Due Diligence-15E (Form-15E), which contains the description of the information that the third party reviewed in conducting the due diligence services and a summary of the findings and conclusions. While DBRS did not require due diligence services outlined in Form-15E, DBRS did use the Data File outlined in the Independent Accountant’s Report in its analysis to determine the ratings.

The principal methodology is North American CMBS Multi-borrower Rating Methodology, which can be found on dbrs.com under Methodologies. For a list of the Structured Finance related methodologies that may be used during the rating process, please see the DBRS Global Structured Finance Related Methodologies document on www.dbrs.com. Please note that not every related methodology listed under a principal Structured Finance asset class methodology may be used to rate or monitor an individual structured finance or debt obligation.

The rated entity or its related entities did participate in the rating process for this rating action. 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 below or by contacting us at info@dbrs.com.