DBRS Morningstar Assigns Provisional Ratings to Verus Securitization Trust 2020-4

DBRS, Inc. (DBRS Morningstar) assigned provisional ratings to the following Mortgage Pass-Through Certificates, Series 2020-4 (the Certificates) to be issued by Verus Securitization Trust 2020-4 (Verus 2020-4 or the Trust):

-- $281.7 million Class A-1 at AAA (sf)
-- $27.9 million Class A-2 at AA (sf)
-- $44.2 million Class A-3 at A (sf)
-- $28.8 million Class M-1 at BBB (low) (sf)
-- $15.5 million Class B-1 at BB (sf)
-- $9.9 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 34.40% of credit enhancement provided by subordinate certificates. The AA (sf), A (sf), BBB (low) (sf), BB (sf), and B (sf) ratings reflect 27.90%, 17.60%, 10.90%, 7.30%, and 5.00% of credit enhancement, respectively.

This securitization is 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 1,084 mortgage loans with a total principal balance of $429,454,733 as of the Cut-Off Date (July 1, 2020).

The originators for the mortgage pool are Athas Capital Group, Inc. (35.9%), Calculated Risk Analytics LLC doing business as Excelerate Capital (16.1%), Sprout Mortgage Corporation (11.0%), and other originators, each comprising less than 10.0% of the mortgage loans. The Servicers of the loans are Shellpoint Mortgage Servicing (98.1%) and Specialized Loan Servicing LLC (1.9%).

Although the mortgage loans were originated to satisfy the Consumer Financial Protection Bureau’s (CFPB’s) Ability-to-Repay (ATR) rules, they were made to borrowers who generally do not qualify for agency, government or private-label nonagency prime jumbo products for various reasons. In accordance with the Qualified Mortgage (QM)/ATR rules, 51.1% of the loans are designated as non-QM, 0.1% are designated as QM safe harbor, and 0.2% are designated as QM rebuttable presumption. Approximately 48.6% 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 debt-to-income (DTI) ratio.

The sponsor, directly or indirectly through a majority-owned affiliate, will retain an eligible horizontal residual interest consisting of the 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 July 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 greater of (A) the class balances of the related Certificates plus accrued and unpaid interest, including any cap carryover amounts and (B) the class balances of the related Certificates less than 90 days delinquent with accrued unpaid interest plus fair market value of the loans 90 days or more delinquent and real estate owned properties. 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.

Similar to Verus 2020-2 and Verus 2020-3 (though dissimilar to other previously issued Verus non-QM deals), the principal and interest (P&I) Advancing Party will fund advances of delinquent P&I on any mortgage until such loan becomes 90 days delinquent. The P&I Advancing Party has no obligation to advance P&I on a mortgage approved for a forbearance plan during its related forbearance period. The Servicers, however, are 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 affected by the Coronavirus Disease (COVID-19). As a large number of borrowers may seek forbearance on their mortgages in the coming months, P&I collections may be reduced meaningfully.

Unlike Verus 2020-2 and Verus 2020-3 (though similar to other previously issued Verus non-QM deals), this transaction incorporates a sequential-pay cash flow structure with a pro rata feature among the senior tranches. Principal proceeds can be used to cover interest shortfalls on the Class A-1 and A-2 Certificates sequentially (IIPP) after a Trigger Event. 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-2.

Unlike previously issued Verus non-QM deals (though similar to the Verus INV shelf), 24.0% of the loans were originated under the Property Focused Investor Loan Debt Service Coverage Ratio program and 17.9% were originated under the Property Focused Investor Loan program. Both programs allow for property cash flow/rental income to qualify borrowers for income.

In contrast to other non-QM transactions, which employ a fixed coupon for senior bonds (Classes A-1, A-2, and A-3), Verus 2020-4's senior bonds are subject to a rate update starting on the distribution date in August 2024. From this distribution date forward, the Class A-1, A-2, and A-3 bonds are subject to a step-up rate (a yearly rate equal to 1.0%).

Coronavirus Impact
The coronavirus 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 continue to rise 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 or higher 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, loans on forbearance plans, 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: July Update,” published on July 22, 2020), for the non-QM asset class, DBRS Morningstar applies more severe market value decline (MVD) assumptions across all rating categories than what it previously used. Such MVD assumptions are derived through a fundamental home price approach based on the forecast unemployment rates and GDP growth outlined in the aforementioned moderate scenario. 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 Act, signed into law on March 27, 10.0% (as of July 6, 2020) of the borrowers had been granted forbearance or deferral plans because of financial hardship related to the coronavirus. These forbearance plans allow temporary payment holidays, followed by repayment once the forbearance period ends. The Servicers, in collaboration with the Servicing Administrator, are 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 Servicers will contact each related borrower to identify the options available to address related forborne payment amounts. As a result, the Servicers, 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 P&I collections and (2) limited servicing advances on delinquent P&I. These assumptions include the following:

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

For more information regarding rating methodologies and the coronavirus, please see the following DBRS Morningstar press releases and commentary: "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: July Update,” dated June 22, 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.

The transaction also includes the following challenges:

-- Borrowers on forbearance plans.
-- Three-month advances of delinquent P&I.
-- The representations and warranties framework.
-- Nonprime, non-QM, and investor loans.
-- The 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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