DBRS Morningstar Assigns Provisional Ratings to Starwood Residential Mortgage Trust 2021-2

DBRS, Inc. (DBRS Morningstar) assigned provisional ratings to the following Mortgaged-Backed Notes, Series 2021-2 (the Notes) to be issued by Starwood Residential Mortgage Trust 2021-2 (STAR 2021-2 or the Trust):

-- $172.9 million Class A-1 at AAA (sf)
-- $16.3 million Class A-2 at AA (sf)
-- $25.8 million Class A-3 at A (sf)
-- $16.4 million Class M-1 at BBB (low) (sf)
-- $10.5 million Class B-1 at BB (low) (sf)
-- $7.1 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 Notes reflects 31.90% of credit enhancement provided by subordinate notes. The AA (sf), A (sf), BBB (low) (sf), BB (low) (sf), and B (sf) ratings reflect 25.50%, 15.35%, 8.90%, 4.75%, and 1.95% of credit enhancement, respectively.

This securitization consists of a portfolio of fixed- and adjustable-rate, expanded prime and non-prime first-lien residential mortgages funded by the issuance of the Mortgage Pass-Through Certificates, Series 2021-2 (the Certificates). The Certificates are backed by 904 mortgage loans with a total principal balance of $253,917,040 as of the Cut-Off Date (April 1, 2021).

The originators for the mortgage pool are Impac Mortgage Corp. (Impac; 56.1%), CIVIC Financial Services (Civic; 20.0%), HomeBridge Financial Services, Inc. (HomeBridge; 11.5%); and other originators, each comprising less than 10% of the mortgage pool. The Servicer of the loans is Select Portfolio Servicing, Inc. (SPS).

Although the mortgage loans were originated to satisfy the Consumer Financial Protection Bureau’s (CFPB) QM and Ability-to-Repay (ATR) rules where applicable, 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, approximately 30.7% of the loans are designated as non-QM.

The Sponsor, directly or indirectly through a majority-owned affiliate, is expected to retain an eligible horizontal residual interest consisting of the 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. Also, it is expected that on the Closing Date, an affiliate of the Depositor will purchase at least a significant portion of the Class B-1, Class B-2, and Class B-3 certificates.

On or after the earlier of (1) the distribution date 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, Starwood Non-Agency Securities Holdings, LLC (SNASH) as Optional Redemption Holder may redeem all outstanding certificates (Optional Redemption) at a price equal to the greater of a) unpaid balances of the mortgage loans plus accrued, unpaid interest and the fair market value of all real estate-owned (REO) properties, and deferred amounts (excluding the forbearance Amounts as of the Cut-off Date) and b) the sum of the remaining aggregate balance of the Certificates plus accrued and unpaid interest, and any fees, expenses and indemnity payments due and unpaid to the transaction parties, including any unreimbursed servicing advances (Optional Redemption Price). The Optional Redemption Holder is an entity designated by the Depositor and a 50% affiliate of the Depositor.

The Seller (SMRF TRS LLC) will have the option, but not the obligation, to repurchase any mortgage loan that becomes 90 or more days delinquent under the Mortgage Bankers Association (MBA) method (or in the case of any mortgage loan that has been subject to a forbearance plan related to the impact of the Coronavirus Disease (COVID-19) pandemic, on any date from and after the date on which such loan becomes more than 90 days delinquent under the MBA Method from the end of the forbearance period) 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 (excluding any loan repurchased by the Seller related to a breach of a representation and warranty).

The transaction employs a sequential-pay cash flow structure with a pro rata principal distribution among the senior tranches subject to certain performance triggers related to cumulative losses or delinquencies exceeding a specified threshold (Trigger Event). Principal proceeds can be used to cover interest shortfalls on the Class A-1 and Class A-2 certificates (IIPP) before being applied sequentially to amortize the balances of the senior and subordinated certificates. For more subordinate certificates, including Class A-3 certificates after a Trigger Event, principal proceeds can be used to cover interest shortfalls as the more senior certificates are paid in full. Also, the excess spread can be used to cover realized losses first before being allocated to unpaid Cap Carryover Amounts due to Class A-1 down to Class B-3.

This portfolio contains 61.2% investor loans, which were originated to investors under debt service coverage ratio (DSCR) programs, which use property cash flow or the DSCR to qualify borrowers for income. DSCR is typically calculated as market rental value (validated by an appraisal report) divided by the principal, interest, taxes, insurance, and association dues (PITIA).

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 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, amongst 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: March 2021 Update,” published on March 17, 2021), 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, 21.8% of the borrowers were on forbearance plans at some point because the borrowers reported financial hardship related to coronavirus. These forbearance plans allow temporary payment holidays, followed by repayment once the forbearance period ends. SPS, in collaboration with Starwood Non-Agency Lending, LLC (SNAL), 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 to go on a repayment plan to catch up on missed payments for several, typically six months. During the repayment period, the borrower needs to make regular payments and additional amounts to catch up on the missed payments. DBRS Morningstar had a conference call with SPS and SNAL regarding their approach to the forbearance loans and understood that SPS would attempt to contact the borrowers before the expiration of the forbearance period and evaluate the borrowers' capacity to repay the missed amounts. As a result, SPS, in collaboration with SNAL, 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 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: March 2021 Update,” dated March 17, 2021.

The ratings reflect transactional strengths that include the following:

-- Improved underwriting standards
-- Robust loan attributes and pool composition
-- Strong servicer
-- Compliance with the ATR Rules
-- Satisfactory third-party due-diligence review.

The transaction also includes the following challenges:

-- Investor loans
-- Borrowers on forbearance plans.
-- Nonprime, non-QM, and investor loans.
-- Bank statement loans to self-employed borrowers
-- The representations and warranties framework.
-- Servicer advances of delinquent principal and interest

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 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.

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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