DBRS Assigns Ratings to Warwick Finance Residential Mortgages Number Four Plc

DBRS Ratings Limited (DBRS) assigned the following ratings to notes issued by Warwick Finance Residential Mortgages Number Four Plc:

-- Class A Notes rated AAA (sf)
-- Class B Notes rated AA (sf)
-- Class C Notes rated A (low) (sf)
-- Class D Notes rated BBB (high) (sf)
-- Class E Notes rated BB (high) (sf)

DBRS does not rate the Class F and Principal Residual Certificates (PRC).

The Class A, Class B, Class C, Class D and Class E notes and the PRC comprise the collateralised notes. The rating of the Class A notes addresses timely payment of interest and ultimate payment of principal. The Class B ratings address ultimate payment of principal and ultimate payment of interest prior to them being the most senior class of note outstanding and timely payment of interest once they are the most senior outstanding class of notes. The ratings on the Class C, Class D, and Class E notes address the ultimate payment of interest and principal.

Warwick 4 is a UK RMBS transaction which comprises seasoned owner-occupied and buy-to-let (BTL) non-conforming (NCF) portfolios of UK mortgages. As of 5 August 2019, the aggregate outstanding balance of the mortgage loans was GBP 313.7 million. In recent years, these loans have seen an improvement in performance, with a reduction in the overall proportion of delinquent loans (whether or not forbearance measures were applied).

57.9% of the loans in the mortgage portfolio were originated by Platform Funding Limited (PFL), 20% by Verso Limited (Verso), 11.2% by Kensington Mortgage Company Limited (KMC), 7.4% by Southern Pacific Mortgage Limited and the remaining 3.6% of the loans were originated by GMAC-RFC Limited (now called Paratus AMC Limited). The loans will be serviced by Western Mortgages Services Limited (WMS). The Co-operative Bank p.l.c. (Seller) sold the loans to the issuer at closing of the transaction.

The mortgage portfolio is highly seasoned with 14.3 years seasoning on a weighted-average basis.

The performance of the loans in the mortgage portfolio has improved. The payment history of the loans (since January 2008) shows approximately 30% of the loans in the mortgage portfolio were in the three-months-plus arrears status at some point in their life – however most of them have recovered currently only 1.3% of the loans are in this arrears bucket. The cure to performing status has been aided by the low interest rate environment with 67.7% of the loans paying interest linked to the Bank of England Base Rate (BBR) and 29.6% paying interest linked to the three-month Libor rate, both of which are at historic low levels. While 35.8% of the loans have been restructured, the majority of these loans were or are currently under a payment arrangement with a higher than normal monthly payment and this has enabled the respective loans to revert to a performing status. 5.1% of the loans are currently in the greater than one month arrears status. The cure to performing status, for the loans historically deep in arrears, looks sustainable and the performance of such loans is expected to be stable going forward given the low interest rates.

Interest-only (IO) loans make up 90.3% of the mortgage portfolio, where the principal is repaid bullet at maturity of the loan. The majority of these IO loans in the portfolio are owner-occupied (about 70% of the mortgage portfolio) and the remaining buy-to-let loans (19.7% of the mortgage portfolio). This poses a risk at the maturity of the loan if the borrower does not have a repayment strategy in place or is unable to refinance before the maturity date. 73.4% of the loans in the mortgage portfolio paying on an IO basis have a current loan-to-value (CLTV) (indexed) less than or equal to 70% with 55.5% of these having a CLTV (indexed) less than or equal to 60%, which is positive for opportunities to refinance at maturity. The IO loans do not all mature in the same year.

5.1% of the IO loans have reached their maturity date and are still outstanding. A subset of these (1.6% of portfolio balance) consists of loans which either have a indexed CLTV greater than or equal to 70% and/or are currently in some form of arrears. In DBRS opinion such loans will find very limited ability to refinance or repay principal from other sources – these are hence assumed as defaulted in its analysis.

The weighted-average CLTV (indexed) (WACLTV (ind)) of the mortgage portfolio is 51.3%. The WACLTV (ind) is relatively lower compared with other UK NCF RMBS transactions, which is a reflection of house price appreciation in the UK notwithstanding the high proportion of loans which repay on an IO basis (90.3% of the mortgage portfolio). The proportion of loans with a (CLTV) (ind) above 80% is approximately 5.2% of the mortgage portfolio.

The credit enhancement for the notes is provided by subordination of the junior notes and principal residual certificates. At closing of the transaction, the credit enhancement for the Class A notes is 15.0%, Class B at 10.5%, Class C at 7.5%, Class D at 6%, and Class E at 4.5%.

The liquidity of the Class A and Class B notes is supported by a non-amortising reserve fund, 1% of the aggregate balance of the Class A and Class B notes. All the rated notes will also receive liquidity support from principal receipts but only when they are the most senior class of notes.

The notes pay interest linked to the three-month GBP Libor rate. The terms and conditions on the notes do not envisage a transition to a new benchmark interest rate index in 2021. Moreover, 29.6% of the loans pay interest linked to the three-month GBP Libor rate. In the worst case scenario, if banks stop providing any quotes on this index interest rate, the terms and conditions on the notes will allow the three-month GBP Libor rate to remain at the level last determined from the quotes received. This may give rise to fixed-floating rate risk or basis risk exposure for the issuer. DBRS has assessed the cash flows of the assets and the interest liabilities on notes assuming a variable three-month GBP Libor rate for the life of the notes. DBRS will monitor any change from this status in 2021 or later.

The notes will pay interest linked to the three-month Libor rate and, in comparison, the loans in the mortgage portfolio pay interest linked to the BBR at 67.7%, or linked to the standard variable rate of 2.7%, with the remainder paying interest linked to the three-month Libor rate. The reset dates for the latter are different from the reset dates for the same index rate on the notes. The resulting basis risk is not hedged in the transaction. DBRS has stressed the spread between the BBR and three-month Libor to simulate potential basis risk in the cash flow analysis.

The ratings are based on DBRS’s review of the following analytical considerations:
-- Transaction capital structure and form and sufficiency of available credit enhancement.
-- The credit quality of the mortgage portfolio and the ability of the servicer to perform collection and resolution activities. DBRS calculated probability of default (PD), loss given default (LGD) and expected loss (EL) outputs on the mortgage portfolio. The PD, LGD and EL are used as inputs into the cash flow tool. The mortgage portfolio was analysed in accordance with DBRS’s “European RMBS Insight Methodology” and the “European RMBS Insight: U.K. Addendum” methodology.
-- The ability of the transaction to withstand stressed cash flow assumptions and repay the Class A, Class B, Class C, Class D, and Class E Notes according to the terms of the transaction documents. The transaction structure was analysed using Intex Dealmaker.
-- The sovereign rating of the United Kingdom of Great Britain and Northern Ireland rated AAA/R-1(high)/Stable (as of the date of this press release).
-- The legal structure and presence of legal opinions addressing the assignment of the assets to the issuer and the consistency with DBRS’s “Legal Criteria for European Structured Finance Transactions” methodology.

Notes:
All figures are in British pound sterling unless otherwise noted.

The principal methodology applicable to the ratings is: “European RMBS Insight: U.K. Addendum”.

DBRS has applied the principal methodology consistently and conducted a review of the transaction in accordance with the principal methodology.

Other methodologies referenced in this transaction are listed at the end of this press release.

These may be found on www.dbrs.com at: http://www.dbrs.com/about/methodologies.

For a more detailed discussion of the sovereign risk impact on Structured Finance ratings, please refer to “Appendix C: The Impact of Sovereign Ratings on Other DBRS Credit Ratings” of the “Rating Sovereign Governments” methodology at: https://www.dbrs.com/research/333487/rating-sovereign-governments.

The sources of data and information used for these ratings include The Co-operative Bank p.l.c., Merrill Lynch International and investor reports of publicly rated UK RMBS transactions.

DBRS did not rely upon third-party due diligence in order to conduct its analysis.

DBRS was supplied with third-party assessments. However, this did not impact the rating analysis.

DBRS considers the data and information available to it for the purposes of providing these ratings to be of satisfactory quality.

DBRS does not audit or independently verify the data or information it receives in connection with the rating process.

These ratings concern a new financial instrument. These are the first DBRS ratings on this financial instrument.

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

To assess the impact of changing the transaction parameters on the rating, DBRS considered the following stress scenarios, as compared to the parameters used to determine the rating (the Base Case):

-- In respect of the Class A Notes, a PD of 28.4% and LGD of 35.4%, corresponding to the AAA rating scenario, was stressed assuming a 25% and 50% increase in the PD and LGD.
-- In respect of the Class B Notes, a PD of 25.2% and LGD of 31.1%, corresponding to the AA rating scenario, was stressed assuming a 25% and 50% increase in the PD and LGD.
-- In respect of the Class C Notes, a PD of 19.3% and LGD of 24.9%, corresponding to the A (low) rating scenario, was stressed assuming a 25% and 50% increase in the PD and LGD.
-- In respect of the Class D Notes, a PD of 16.9% and LGD of 21.2%, corresponding to the BBB (high) rating scenario, was stressed assuming a 25% and 50% increase in the PD and LGD.
-- In respect of the Class E Notes, a PD of 11.8% and LGD of 18.5%, corresponding to the BB (high) rating scenario, was stressed assuming a 25% and 50% increase in the PD and LGD.

DBRS concludes the following impact on the rated notes:

Class A Notes:
-- A hypothetical increase of the base case PD by 25%, ceteris paribus, would lead to a downgrade of the Class A Notes to AA(high) (sf).
-- A hypothetical increase of the base case PD by 50%, ceteris paribus, would lead to a downgrade of the Class A Notes to AA (sf).
-- A hypothetical increase of the base case LGD by 25%, ceteris paribus, would lead to a downgrade of the Class A Notes at AAA (sf).
-- A hypothetical increase of the base case LGD by 50%, ceteris paribus, would lead to a downgrade of the ratings of the Class A Notes to AA (high) (sf).
-- A hypothetical increase of the base case PD by 25% and LGD by 25%, ceteris paribus, would lead to a downgrade of the Class A Notes to AA (sf).
-- A hypothetical increase of the base case PD by 25% and LGD by 50%, ceteris paribus, would lead to a downgrade of the Class A Notes to A (high) (sf).
-- A hypothetical increase of the base case PD by 50% and LGD by 25%, ceteris paribus, would lead to a downgrade of the Class A Notes to A (high) (sf).
-- A hypothetical increase of the base case PD by 50% and LGD by 50%, ceteris paribus, would lead to a downgrade of the Class A Notes to A (high) (sf).

Class B Notes:
-- A hypothetical increase of the base case PD by 25%, ceteris paribus, would lead to downgrade of the Class B Notes to A (high) (sf).
-- A hypothetical increase of the base case PD by 50%, ceteris paribus, would lead to a downgrade of the Class B Notes to A (low) (sf).
-- A hypothetical increase of the base case LGD by 25%, ceteris paribus, would lead to a downgrade of the Class B Notes to A (high) (sf).
-- A hypothetical increase of the base case LGD by 50%, ceteris paribus, would lead to a downgrade of the Class B Notes to A (high) (sf).
-- A hypothetical increase of the base case PD by 25% and LGD by 25%, ceteris paribus, would lead to a downgrade of the Class B Notes to A (sf).
-- A hypothetical increase of the base case PD by 25% and LGD by 50%, ceteris paribus, would lead to a downgrade of the Class B Notes to BBB (high) (sf).
-- A hypothetical increase of the base case PD by 50% and LGD by 25%, ceteris paribus, would lead to a downgrade of the Class B Notes to BBB (high) (sf).
-- A hypothetical increase of the base case PD by 50% and LGD by 50%, ceteris paribus, would lead to a downgrade of the Class B Notes to BBB (high) (sf).

Class C Notes:
-- A hypothetical increase of the base case PD by 25%, ceteris paribus, would lead to a downgrade of the Class C Notes to BBB (high) (sf).
-- A hypothetical increase of the base case PD by 50%, ceteris paribus, would lead to a downgrade of the Class C Notes to BBB (sf).
-- A hypothetical increase of the base case LGD by 25%, ceteris paribus, would lead to a downgrade of the Class C Notes to BBB (high) (sf).
-- A hypothetical increase of the base case LGD by 50%, ceteris paribus, would lead to a downgrade of the Class C Notes to BBB (high) (sf).
-- A hypothetical increase of the base case PD by 25% and LGD by 25%, ceteris paribus, would lead to a downgrade of the Class C Notes to BBB (sf).
-- A hypothetical increase of the base case PD by 25% and LGD by 50%, ceteris paribus, would lead to a downgrade of the Class C Notes to BBB (low) (sf).
-- A hypothetical increase of the base case PD by 50% and LGD by 25%, ceteris paribus, would lead to a downgrade of the Class C Notes to BBB (low) (sf).
-- A hypothetical increase of the base case PD by 50% and LGD by 50%, ceteris paribus, would lead to a downgrade of the Class C Notes to BB (high) (sf).

Class D Notes:
-- A hypothetical increase of the base case PD by 25%, ceteris paribus, would lead to a downgrade of the Class D Notes to BB (high) (sf).
-- A hypothetical increase of the base case PD by 50%, ceteris paribus, would lead to a downgrade of the Class D Notes to BB (high) (sf).
-- A hypothetical increase of the base case LGD by 25%, ceteris paribus, would lead to a downgrade of the Class D Notes to BBB (low) (sf).
-- A hypothetical increase of the base case LGD by 50%, ceteris paribus, would lead to a downgrade of the Class D Notes to BB (high)(sf).
-- A hypothetical increase of the base case PD by 25% and LGD by 25%, ceteris paribus, would lead to a downgrade of the Class D Notes to BB (high) (sf).
-- A hypothetical increase of the base case PD by 25% and LGD by 50%, ceteris paribus, would lead to a downgrade of the Class D Notes to BB (high) (sf).
-- A hypothetical increase of the base case PD by 50% and LGD by 25%, ceteris paribus, would lead to a downgrade of the Class D Notes to BB (high) (sf).
-- A hypothetical increase of the base case PD by 50% and LGD by 50%, ceteris paribus, would lead to a downgrade of the Class D Notes to BB (sf).

Class E Notes:
-- A hypothetical increase of the base case PD by 25%, ceteris paribus, would lead downgrade of the Class E Notes to BB (sf).
-- A hypothetical increase of the base case PD by 50%, ceteris paribus, would lead to a downgrade of the Class E Notes to B (high) (sf).
-- A hypothetical increase of the base case LGD by 25%, ceteris paribus, would lead to downgrade of the Class E Notes to BB (sf).
-- A hypothetical increase of the base case LGD by 50%, ceteris paribus, would lead to a downgrade of the Class E Notes to BB (low) (sf).
-- A hypothetical increase of the base case PD by 25% and LGD by 25%, ceteris paribus, would lead to a downgrade of the Class E Notes to BB (low) (sf).
-- A hypothetical increase of the base case PD by 25% and LGD by 50%, ceteris paribus, would lead to a downgrade of the Class E Notes to below B (high) (sf).
-- A hypothetical increase of the base case PD by 50% and LGD by 25%, ceteris paribus, would lead to a downgrade of the Class E Notes to below B (high) (sf).
-- A hypothetical increase of the base case PD by 50% and LGD by 50%, ceteris paribus, would lead to a downgrade of the Class E Notes to below B (sf).

For further information on DBRS historical default rates published by the European Securities and Markets Authority (ESMA) in a central repository, see: http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml.

Ratings assigned by DBRS Ratings Limited are subject to EU and US regulations only.

Lead Analyst: Kali Sirugudi, Vice President
Rating Committee Chair: Christian Aufsatz, Managing Director
Initial Rating Date: 23 August 2019

DBRS Ratings Limited
20 Fenchurch Street, 31st Floor,
London EC3M 3BY United Kingdom
Registered and incorporated under the laws of England and Wales: Company No. 7139960

The rating methodologies used in the analysis of this transaction can be found at: http://www.dbrs.com/about/methodologies.

-- European RMBS Insight Methodology and the European RMBS Insight: UK Addendum.
-- Legal Criteria for European Structured Finance Transactions
-- Interest Rate Stresses for European Structured Finance Transactions
-- Derivative Criteria for European Structured Finance Transactions
-- Operational Risk Assessment for European Structured Finance Servicers
-- Operational Risk Assessment for European Structured Finance Originators

A description of how DBRS analyses structured finance transactions and how the methodologies are collectively applied can be found at: http://www.dbrs.com/research/278375.

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