DBRS Morningstar Finalizes Provisional Ratings on Freddie Mac Structured Pass-Through Certificates, Series K-128

DBRS, Inc. (DBRS Morningstar) finalized provisional ratings to the following classes of Structured Pass-Through Certificates (SPCs), Series 2021-K128 issued by Freddie Mac Structured Pass-Through Certificates, Series K-128 (Freddie Mac SPCs K-128):

-- Class A-1 at AAA (sf)
-- Class A-2 at AAA (sf)
-- Class X1 at AAA (sf)

All trends are Stable.

The Class X1 balance is notional.

With regard to the Coronavirus Disease (COVID-19) pandemic, the magnitude and extent of performance stress posed to global structured finance transactions remains highly uncertain. This considers the fiscal and monetary policy measures and statutory law changes that have already been implemented or will be implemented to soften the impact of the crisis on global economies. Some regions, jurisdictions, and asset classes are, however, feeling more immediate effects. DBRS Morningstar continues to monitor the ongoing coronavirus pandemic and its impact on both the commercial real estate sector and the global fixed income markets. Accordingly, DBRS Morningstar may apply additional short-term stresses to its rating analysis; for example, by front-loading default expectations and/or assessing the liquidity position of a structured finance transaction with more stressful operational risk and/or cash flow timing considerations.

The collateral consists of 64 fixed-rate loans secured by 64 properties, including 39 garden-style multifamily properties, 11 manufactured housing communities, five high-rise or mid-rise multifamily properties, and nine nontraditional multifamily properties that are independent living, age restricted, student housing, or have a military concentration. Additionally, the pool contains two groups of cross-collateralized loans. As a result, DBRS Morningstar combined the crossed loans and lowered the deal loan count to 60. The transaction is a sequential-pay pass-through structure and losses are allocated first to the lowest-priority certificates. DBRS Morningstar analyzed the conduit pool to determine the provisional ratings, reflecting the long-term probability of loan default within the term and its liquidity at maturity.

Classes A-1, A-2, A-M, X1, XAM, and X3 of the FREMF 2021-K128 Mortgage Trust, Series 2021-K128 (FREMF 2021-K128) transaction have been conveyed into a trust by Freddie Mac to issue corresponding classes of SPCs guaranteed by Freddie Mac. All DBRS Morningstar-rated classes will be subject to ongoing surveillance, confirmations, upgrades, or downgrades by DBRS Morningstar after the date of issuance. DBRS Morningstar assigned the initial ratings to the FREMF 2021-K128 Certificates and the Freddie Mac SPCs K-128 without giving effect to the Freddie Mac guarantee. Please see the FREMF 2021-K128 Structural and Collateral Term Sheet for more information about the structure of the Freddie Mac SPCs K-128.

Freddie Mac has strong origination practices, and the K-Program exhibits strong historical loan performance. Loans on Freddie Mac's balance sheet, which it originates according to the same policies as those for securitization, have an extremely low delinquency rate of 0.01% as of February 2021. This compares favorably with the delinquency rate for commercial mortgage-backed security (CMBS) multifamily loans of approximately 3.89%. Since the inception of the K-Program through February 2021, Freddie Mac has securitized 20,807 loans, totaling approximately $423.61 billion in issuance balance. To date, Freddie Mac has not realized any credit losses on its guaranteed issuances, although B-piece investors have realized a combined $18.9 million in total losses, representing fewer than 1.0 basis points of total issuance.

The pool has a weighted-average expected loss of 2.17%, which compares favorably with recent FREMF transactions rated by DBRS Morningstar. The pool has a WA DBRS Morningstar Issuance LTV of 70.0%, which is more than 2.0% lower than recent comparable transactions. The average haircut was -5.2% across the DBRS Morningstar sample of loans. The average compares favorably with recent transactions and is probability of default (POD) positive. 96.7% of the loans were assigned a DBRS Morningstar sponsor strength of Strong and credit positive. Sponsors generally represent large, financially capable individuals or companies led by experienced professionals with minimal prior credit issues. In many cases, sponsors are repeat borrowers of FREMF and have a proven credit record with no performance issues. DBRS Morningstar identified three assets that exhibited superior quality and had Above Average property quality scores. These three loans, Empire, Berkeley And Quincy Lofts, and The Hyve Apartments, represent approximately 12.7% of the total pool balance, which is higher than recent transactions and POD positive. Higher quality assets retain better tenancy, achieve higher rental rates, and have superior occupancy. Conversely, no loan received Below Average or Poor property quality scores. 35% of the loans are in DBRS Morningstar Metropolitan Statistical Area (MSA) Group 3, which is credit positive and results in a lower POD than other MSA groups. The MSAs in Group 3 include New York City, Los Angeles, San Diego, San Francisco, and Washington, D.C.

82.3% of the loans have a debt service reserve (DSR) that can be used if the property experiences performance declines attributable to the coronavirus pandemic. Reserves were generally sized from six to nine months of debt service and borrowers may request disbursement from the reserve in the amount of a shortfall upon submission of rental collection, current rent schedule, and a current trailing-12-month operating statement. The reserves will be released at least 90 days following the lifting of all governmental actions related to the coronavirus affecting the property.

Multifamily properties may encounter weaker performance and softer market conditions if the pandemic leads to further financial fallout. Apartment tenants could be affected by higher unemployment, lifting of eviction moratoriums, and a reduction in unemployment benefits.

In response to the ongoing coronavirus pandemic, Freddie Mac made changes to its standard servicing practices to permit a temporary deferral of loan payments and forbearance of various remedies that could, among other things, adversely affect cash flow. While DBRS Morningstar views the inclusion of coronavirus-related upfront DSRs for a majority of the loans as a positive mitigant of some of the potential coronavirus-related disruptions, the economic fallout from the ongoing pandemic continues to evolve. DBRS Morningstar generally expects multifamily properties to fare better than hospitality and retail properties; however, short- and medium-term challenges still exist in this sector. In addition to imposing various containment-related restrictions, certain jurisdictions have also placed temporary moratoriums on the eviction of tenants that may be continued, extended, or expanded. Furthermore, government programs, such as the Coronavirus Aid, Relief, and Economic Security Act, provided, among other things, supplemental unemployment benefits to displaced employees. An additional coronavirus relief bill was signed in March 2021 that extended supplemental unemployment benefits to displaced employees until September 2021. This could result in additional stress on properties whose residents have been disproportionately affected by furloughs and layoffs. In addition, the resurgence of coronavirus cases has created additional uncertainty and increased stress on the planned reopening of businesses. DBRS Morningstar also published its “Global Macroeconomic Scenarios: March 2021 Update” and is projecting generalized commercial real estate asset value declines for the U.S. of approximately 15% under its moderate scenario and 30% under its adverse scenario.

The pool is split between multifamily properties, which encompass 96.0% of the pool, and manufactured housing properties, encompassing 4.0% of the pool. Nine properties in the pool, representing 10.2% of the total pool balance, have disclosed a military or student tenant concentration ranging from 1.0% to 90.0%. One property in the pool, representing 0.5% of the total pool balance, offers independent living units, but DBRS Morningstar treated this property as multifamily. Compared with other property types, multifamily assets generally benefit from staggered lease rollover and lower expense ratios. While revenue is quick to decline in a downturn because of the short-term nature of the leases, it is also quick to respond when the market improves. Forty-eight loans, representing 69.0% of the pool, exhibited a recent occupancy rate above 95.0%, and another 12 loans, representing 15.3% of the pool, exhibited an occupancy rate between 90.0% and 94.9%. Only two loans, representing approximately 1.0% of the pool, exhibited an occupancy less than 90.0%. Additionally, four properties had relatively high percentages of military personnel or students. DBRS Morningstar modeled these with a student housing property type, which has a small POD penalty compared with the multifamily property type.

ESG CONSIDERATIONS
A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework can be found in the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings at https://www.dbrsmorningstar.com/research/373262.

Class X1 is an interest-only (IO) certificate that references a single rated tranche or multiple rated tranches. The IO rating mirrors the lowest-rated applicable reference obligation tranche adjusted upward by one notch if senior in the waterfall.

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

For supporting data and more information on this transaction, please log into www.viewpoint.dbrsmorningstar.com. DBRS Morningstar provides analysis and in-depth commentary in the DBRS Viewpoint platform.

DBRS Morningstar provides updated analysis and in-depth commentary in the DBRS Viewpoint platform for the following loans in the transaction:

-- Prospectus ID#1 – Acadia by Cortland (8.6% of the pool)
-- Prospectus ID#2 – CalSTRS Portfolio (6.8% of the pool)
-- Prospectus ID#3 – Empire (6.2% of the pool)
-- Prospectus ID#4 – The Reserve At Warner Center (6.1% of the pool)
-- Prospectus ID#5 – Starwood Portfolio (6.0% of the pool)
-- Prospectus ID#6 – The Perry (5.6% of the pool)
-- Prospectus ID#7 – Tivoli Apartments (4.0% of the pool)
-- Prospectus ID#8 – Arborview At Riverside And Liriope (3.8% of the pool)
-- Prospectus ID#9 – Icon 9700 (3.7% of the pool)
-- Prospectus ID#10 – Berkeley and Quincy Lofts (3.6% of the pool)
-- Prospectus ID#11– The Hyve Apartments (3.0% of the pool)
-- Prospectus ID#12– Arioso City Lofts (2.8% of the pool)
-- Prospectus ID#13– Harmon Hills (2.7% of the pool)
-- Prospectus ID#14 – Arlington At Eastern Shore (2.7% of the pool)
-- Prospectus ID#15 – DeKalb (2.6% of the pool)

For complimentary access to this content, please register for the DBRS Viewpoint platform at www.viewpoint.dbrsmorningstar.com. The platform includes issuer and servicer data for most outstanding CMBS transactions (including non-DBRS Morningstar rated), as well as loan-level and transaction-level commentary for most DBRS Morningstar-rated and -monitored transactions.

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

With regard to due diligence services, DBRS Morningstar was provided with the Form ABS Due Diligence-15E (Form-15E), which contains a description of the information that a third party reviewed in conducting the due diligence services and a summary of the findings and conclusions. While due diligence services outlined in Form-15E do not constitute part of DBRS Morningstar’s methodology, DBRS Morningstar used the data file outlined in the independent accountant’s report in its analysis to determine the ratings referenced herein.

The principal methodology is the North American CMBS Multi-Borrower Rating Methodology (March 26, 2021), which can be found on dbrsmorningstar.com under Methodologies & Criteria. For a list of the structured-finance-related methodologies that may be used during the rating process, please see the DBRS Morningstar Global Structured Finance Related Methodologies document, which can be found on dbrsmorningstar.com in the Commentary tab under Regulatory Affairs. 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.

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.

For more information regarding the structured finance rating approach and Coronavirus Disease (COVID-19), please see the following DBRS Morningstar press release: https://www.dbrsmorningstar.com/research/359905.

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.

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

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