DBRS Morningstar Assigns Provisional Ratings to Verus Securitization Trust 2020-2

DBRS, Inc. (DBRS Morningstar) assigned provisional ratings to the following Mortgage Pass-Through Certificates, Series 2020-2 (the Certificates) to be issued by Verus Securitization Trust 2020-2 (Verus 2020-2 or the Trust):

-- $281.8 million Class A-1 at AAA (sf)
-- $21.4 million Class A-2 at AA (sf)
-- $27.8 million Class A-3 at A (sf)
-- $20.8 million Class M-1 at BBB (low) (sf)
-- $10.1 million Class B-1 at BB (sf)
-- $7.6 million Class B-2 at B (sf)

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

The AAA (sf) rating on the Class A-1 Certificates reflects 27.60% of credit enhancement provided by subordinate Certificates. The AA (sf), A (sf), BBB (low) (sf), BB (sf), and B (sf) ratings reflect 22.10%, 14.95%, 9.60%, 7.00%, and 5.05% of credit enhancement, respectively.

This transaction is a securitization of a portfolio of fixed- and adjustable-rate, expanded prime and nonprime, first-lien residential mortgages funded by the issuance of the Certificates. The Certificates are backed by 870 mortgage loans with a total principal balance of $389,209,724 as of the Cut-Off Date (May 1, 2020).

The originators for the mortgage pool are Athas Capital Group, Inc. (Athas; 14.6%), Sprout Mortgage Corporation (Sprout; 14.1%), Calculated Risk Analytics LLC dba Excelerate Capital (Excelerate; 13.3%), and other originators, each comprising less than 10.0% of the mortgage loans. The Servicer of the loans is Shellpoint Mortgage Servicing (Shellpoint).

Although the mortgage loans were generally originated to satisfy the Consumer Financial Protection Bureau’s (CFPB) Ability-to-Repay (ATR) rules, they were made to borrowers who generally do not qualify for agency, government, or private-label non-agency prime jumbo products for various reasons. In accordance with the QM/ATR rules, 80.8% of the loans are designated as non-QM, 0.4% as QM-Rebuttable Presumption, and 0.9% as QM-Safe Harbor. Approximately 18.0% of the loans are made to investors for business purposes and, hence, are not subject to the QM/ATR rules. All of the loans not subject to the QM/ATR rules were underwritten using the borrower's DTI.

The sponsor, directly or indirectly through a majority-owned affiliate, will retain an eligible horizontal residual interest consisting of the Class B-2, Class B-3, and Class XS Certificates, representing at least 5% of the Certificates to satisfy the credit risk-retention requirements under Section 15G of the Securities Exchange Act of 1934 and the regulations promulgated thereunder.

On or after the earlier of (1) the Distribution Date occurring in May 2023 or (2) the date when the aggregate stated principal balance of the mortgage loans is reduced to 30% of the Cut-Off Date balance, the Administrator, at the Issuer’s option, may redeem all of the outstanding Certificates at a price equal to the class balances of the related Certificates plus accrued and unpaid interest, including any cap carryover amounts. After such purchase, the Depositor must complete a qualified liquidation, which requires (1) a complete liquidation of assets within the Trust and (2) proceeds to be distributed to the appropriate holders of regular or residual interests.

The Representation Provider will have the option, but not the obligation, to repurchase any mortgage loan that becomes 90 or more days delinquent at the repurchase price (par plus interest), provided that such repurchases in aggregate do not exceed 10% of the total principal balance as of the Cut-Off Date. The P&I Advancing Party will fund advances of delinquent principal and interest on any mortgage until such loan becomes 90 days delinquent. The Servicers are also obligated to make advances in respect of taxes, insurance premiums and reasonable costs incurred in the course of servicing and disposing of properties.

In contrast to other non-QM transactions, which employ a fixed coupon for senior bonds (Class A-1, A-2, and A-3), Verus 2020-2's senior bonds are subject to a step-up rate (a per annum rate equal to 1.0%) starting on the distribution date in June 2024.

Unlike the prior Verus non-QM securitizations for which the Servicers and P&I Advancing Party fund advances of delinquent principal and interest (P&I) on loans up to 180 days delinquent, for this transaction, the P&I Advancing Party will fund advances only up to 90 days of delinquent P&I. The Servicer, however, is obligated to make advances in respect of taxes, insurance premiums, and reasonable costs incurred in the course of servicing and disposing properties. The three-month advancing mechanism may increase the probability of periodic interest shortfalls in the current economic environment impacted by the Coronavirus Disease (COVID-19). As a large number of borrowers seek forbearance on their mortgages in the coming months, principal and interest collections may be reduced meaningfully.

Unlike the prior Verus non-QM (or traditional non-QM) securitizations, which incorporate a pro rata feature among the senior tranches, this transaction employs a sequential-pay cash flow structure across the entire capital stack. Principal proceeds can be used to cover interest shortfalls on the A-1 and A-2 Certificates sequentially (IIPP). For more subordinated Certificates, principal proceeds can be used to cover interest shortfalls as the more senior Certificates are paid in full. Furthermore, excess spread can be used to cover realized losses and prior period bond writedown amounts first before being allocated to unpaid cap carryover amounts to Class A-1 down to Class B-1.

The Coronavirus Disease (coronavirus or COVID-19) pandemic and the resulting isolation measures have caused an economic contraction, leading to sharp increases in unemployment rates and income reductions for many consumers. DBRS Morningstar anticipates that delinquencies may arise in the coming months for many residential mortgage-backed securities (RMBS) asset classes, some meaningfully.

The non-QM sector is a traditional RMBS asset class that consists of securitizations backed by pools of residential home loans that may fall outside of the CFPB’s ATR rules, which became effective on January 10, 2014. Non-QM loans encompass the entire credit spectrum. They range from high-FICO, high-income borrowers who opt for interest-only (IO) or higher debt-to-income (DTI) ratio mortgages, to near-prime debtors who have had certain derogatory pay histories but were cured more than two years ago, to nonprime borrowers whose credit events were only recently cleared, among others. In addition, some originators offer alternative documentation or bank statement underwriting to self-employed borrowers in lieu of verifying income with W-2s or tax returns. Finally, foreign nationals and real estate investor programs, while not necessarily non-QM in nature, are often included in non-QM pools.

As a result of the coronavirus, DBRS Morningstar expects increased delinquencies and loans on forbearance plans, slower voluntary prepayment rates, and a potential near-term decline in the values of the mortgaged properties. Such deteriorations may adversely affect borrowers’ ability to make monthly payments, refinance their loans, or sell properties in an amount sufficient to repay the outstanding balance of their loans.

In connection with the economic stress assumed under its moderate scenario, (see Global Macroeconomic Scenarios: Implications for Credit Ratings, published on April 16, 2020), for the non-QM asset class DBRS Morningstar assumes a combination of higher unemployment rates, lower voluntary prepayment rates, and more conservative home price assumptions than what DBRS Morningstar previously used. In addition, for pools with loans on forbearance plans, DBRS Morningstar may assume higher loss expectations above and beyond the coronavirus assumptions. Such assumptions translate to higher expected losses on the collateral pool and correspondingly higher credit enhancement.

In the non-QM asset class, while the full effect of the coronavirus may not occur until a few performance cycles later, DBRS Morningstar generally believes loans originated to (1) borrowers with recent credit events, (2) self-employed borrowers, or (3) higher loan-to-value ratio (LTV) borrowers may be more sensitive to economic hardships resulting from higher unemployment rates and lower incomes. Borrowers with prior credit events have exhibited difficulties in fulfilling payment obligations in the past and may revert to spotty payment patterns in the near term. Self-employed borrowers are potentially exposed to more volatile income sources, which could lead to reduced cash flows generated from their businesses. Higher LTV borrowers, with lower equity in their properties, generally have fewer refinance opportunities and therefore slower prepayments. In addition, certain pools with elevated geographic concentrations in densely populated urban metropolitan statistical areas may experience additional stress from extended lockdown periods and the slowdown of the economy.

In addition, for this transaction, as permitted by the Coronavirus Aid, Relief, and Economic Security (CARES) Act, signed into law on March 27, 7.1% (as of May 14, 2020) of the borrowers are on forbearance plans because of financial hardship related to coronavirus. These forbearance plans allow temporary payment holidays, followed by repayment once the forbearance period ends. The Servicer, in collaboration with the Servicing Administrator, is generally offering borrowers a three-month payment forbearance plan. Beginning in month four, the borrower can repay all of the missed mortgage payments at once or opt for other loss mitigation options. Prior to the end of the applicable forbearance period, the Servicer will contact each related borrower to identify the options available to address related forborne payment amounts. As a result, the Servicer, in conjunction with or at the direction of the Servicing Administrator, may offer a repayment plan or other forms of payment relief, such as deferral of the unpaid principal and interest amounts or a loan modification, in addition to pursuing other loss mitigation options.

For these loans, DBRS Morningstar applied additional assumptions to evaluate the impact of potential cash flow disruptions on the rated tranches, stemming from (1) lower principal and interest collections and (2) limited servicing advances on delinquent P&I. These assumptions include:

1. Increasing delinquencies on the AAA (sf) and AA (sf) rating levels for the first 12 months,
2. Increasing delinquencies on the A (sf) and below rating levels for the first nine months,
3. Assuming no voluntary prepayments for the first 12 months for the AAA (sf) and AA (sf) rating levels.
4. Assuming no liquidation recovery for the first 12 months for all rating levels.

For more information regarding rating methodologies and the coronavirus, please see the following DBRS Morningstar press releases: DBRS Morningstar Provides Update on Rating Methodologies in Light Of Measures to Contain Coronavirus Disease (COVID-19), dated March 12, 2020; DBRS Morningstar Global Structured Finance Rating Methodologies and Coronavirus Disease (COVID-19), dated March 20, 2020; and Global Macroeconomic Scenarios: Implications for Credit Ratings, dated April 16, 2020.

The ratings reflect transactional strengths that include the following:

-- robust loan attributes and pool composition,
-- satisfactory third-party due-diligence review,
-- improved underwriting standards, and
-- current loans and faster prepayments.

The transaction also includes the following challenges:

-- borrowers on forbearance plans,
-- three-month advances of delinquent P&I,
-- a representations and warranties framework, and
-- nonprime, non-QM, and investor loans, and
-- P&I advance party’s financial capability.

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

A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework and its methodologies can be found at: https://www.dbrsmorningstar.com/research/357792.

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

The principal methodology is RMBS Insight 1.3: U.S. Residential Mortgage-Backed Securities Model and Rating Methodology (April 1, 2020), which can be found on dbrsmorningstar.com under Methodologies & Criteria.

For more information regarding rating methodologies and Coronavirus Disease (COVID-19), please see the following DBRS Morningstar press release: https://www.dbrsmorningstar.com/research/357883.

For more information regarding structured finance rating methodologies and Coronavirus Disease (COVID-19), please see the following DBRS Morningstar press release: https://www.dbrsmorningstar.com/research/358308.

The rated entity or its related entities did participate in the rating process for this rating action. DBRS Morningstar 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 [email protected].

For more information on this credit or on this industry, visit www.dbrsmorningstar.com or contact us at [email protected].

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