DBRS Morningstar Assigns Ratings to Canterbury Finance 4 plc

DBRS Ratings Limited (DBRS Morningstar) assigned ratings to the following classes of notes issued by Canterbury Finance 4 plc (Canterbury 4 or the Issuer):

Class A1 and Class A2 notes (together the Class A notes) at AAA (sf)
Class B notes at AA (sf)
Class C notes at A (low) (sf)
Class D notes at BBB (sf)
Class E notes at BB (sf)
Class F notes at B (low) (sf)
Class X notes at B (sf)

The ratings assigned to the Class A notes address the timely payment of interest and ultimate payment of principal. The ratings assigned to the Class B, Class C, Class D, Class E and Class F notes address the timely payment of interest when most senior and ultimate payment of principal. The ratings on Class X notes address timely payment of interest and ultimate payment of principal.

The transaction features a general reserve fund at closing, which will be funded at 1.5% of the Class A to Class F notes’ outstanding balance (beginning balance of the relevant payment period). The General Reserve Fund (GRF)
can amortise subject to the following performance conditions: (1) the call option is not exercised falling in May 2026, (2) the general reserve fund balance in the relevant interest payment date falls below 1.25% of Class A to F outstanding balance, (3) cumulative defaults are greater than 5%. Once any of the three events occurs, the GRF required amount will be 1.5% of the Class A to F beginning balance of the relevant interest payment period in which the event occurred.

In the event that the GRF balance in the relevant interest payment date falls below 1.25% of the Class A to F notes’ outstanding balance, the structure provisions for a liquidity reserve fund. The liquidity reserve will be funded from principal receipts at a required amount of 1.5% of the Class A and B notes’ outstanding balance. The liquidity reserve fund can be used for Class A notes interest payments and senior expenses after use of revenue collections, the GRF and use of principal. The liquidity reserve can only be used for Class B interest payments if the Class B principal deficiency ledger (PDL) is zero or once the Class B notes are senior notes outstanding.

At closing, credit enhancement will be 17.75% for the Class A Notes provided by overcollateralisation and the GRF. Credit enhancement will be 13.75% for Class B, 9.50% for Class C, 6.75% for Class D, 4.25% for Class E, and 1.5% for Class F. The Class X notes are excess spread notes and only benefit from soft credit enhancement. In case of an event of default, the Class A1 and Class A2 notes are repaid pro rata and pari passu; otherwise they are paid sequentially, i.e. Class A1 first.

As of 31 May 2021, the GBP 1.7 billion portfolio consisted of 7,111 buy to let (BTL), loans originated by OneSavings bank plc (OSB) to 5,839 borrowers. The weighted-average (WA) seasoning of the portfolio is 1.7 years, with a WA remaining term to maturity of 21.4 years. The WA indexed loan-to-value of the portfolio is 72.7% (as calculated by DBRS Morningstar). The portfolio primarily contains interest-only loans (95.9%), yielding a WA coupon of 3.7%. The WA teaser period on the portfolio is 34.1 months (only for the fixed-rate and discount-rate loans proportion). About 63.9% of the loans are granted on properties located in London and South East. The portfolio consists of 9.7% loans granted to properties used as a house in multiple occupation with no holiday lets included.

In response to the Coronavirus Disease (COVID-19), some borrowers were allowed to seek payment moratoriums. As of the cut-off date, 0.4% of the loans are in payment moratoriums or have received performance arrangements.

Most loans, 87.7%,pay a fixed rate of interest with a reset frequency of five years, followed by discount-rate loans (11.6%) and the remaining are floating-rate loans. All loans are indexed to the Standard Variable Rate (SVR) after their reversion date. The SVR is currently at 6.18%. Historically, the SVR has followed the Bank of England rate, but the basis risk between the SVR and the daily compounded Sterling Overnight Index Average (SONIA) is hedged via a SVR covenant where the minimum SVR rate can be set at a rate of SONIA plus 3% (with SONIA floored at zero).

The interest rate risk that arises due to fixed-rate loans will be hedged using an interest rate swap agreement between the issuer and Lloyds Bank Corporate Markets plc (LBCM). The notional schedule on the swap was provided to DBRS Morningstar and is based on a 2% prepayment rate. The current swap rate is 0.3605%. Based on the private rating of LBCM and the collateral posting provisions included in the documentation, DBRS Morningstar considers the risk of such counterparty to be consistent with the ratings assigned, in accordance with its “Derivative Criteria for European Structured Finance Transactions” methodology.

The Issuer account bank is Elavon Financial Services, D.A.C., UK Branch. Based on the account bank’s private ratings and the replacement provisions included in the transaction documents, DBRS Morningstar considers the risk of such counterparty to be consistent with the ratings assigned, in accordance with the “Legal Criteria for European Structured Finance Transactions” methodology.

DBRS Morningstar based its rating primarily on the following analytical considerations:
-- The transaction capital structure, including the form and sufficiency of available credit enhancement.
-- The credit quality of the mortgage loan portfolio and the ability of the parties to perform servicing and collection activities.
-- DBRS Morningstar calculated the portfolio default rate (PD), loss given default (LGD), and expected loss (EL) assumptions on the portfolio by using the European RMBS Insight Model.
-- The ability of the transaction to withstand stressed cash flow assumptions and repay the noteholders according to the terms and conditions of the notes. The transaction cash flows were analysed using Intex DealMaker.
-- The consistency of the legal structure with DBRS Morningstar’s “Legal Criteria for European Structured Finance Transactions” methodology and the presence of legal opinions addressing the assignment of the assets to the Issuer.
-- The relevant counterparties, as rated by DBRS Morningstar, are appropriately in line with DBRS Morningstar’s criteria to mitigate the risk of counterparty default or insolvency.
-- The structural mitigants in place to avoid potential payment disruptions caused by operational risk, such as downgrade and replacement language in the transaction documents.

The Coronavirus Disease (COVID-19) and the resulting isolation measures have caused an economic contraction, leading in some cases to increases in unemployment rates and income reductions for borrowers. DBRS Morningstar anticipates that delinquencies may continue to increase in the coming months for many structured finance transactions, some meaningfully. The ratings are based on additional analysis and, where appropriate, adjustments to expected performance as a result of the global efforts to contain the spread of the coronavirus. For this transaction, DBRS Morningstar incorporated an increase in probability of default for certain borrower characteristics, and conducted additional sensitivity analysis to determine that the transaction benefits from sufficient liquidity support to withstand potential high levels of payment holidays in the portfolio.

On 16 April 2020, the DBRS Morningstar Sovereign group released a set of macroeconomic scenarios for the 2020–22 period in select economies. These scenarios were last updated on 18 June 2021. For details, see the following commentaries: https://www.dbrsmorningstar.com/research/380281/global-macroeconomic-scenarios-june-2021-update and https://www.dbrsmorningstar.com/research/359903/global-macroeconomic-scenarios-application-to-credit-ratings. The DBRS Morningstar analysis considered impacts consistent with the moderate scenario in the referenced reports.

On 14 June 2021, DBRS Morningstar updated its 5 May 2020 commentary outlining the impact of the coronavirus crisis on performance of DBRS Morningstar-rated RMBS transactions in Europe one year on. For more details, please see: https://www.dbrsmorningstar.com/research/380094/the-impact-of-covid-19-on-european-mortgage-performance-one-year-on and https://www.dbrsmorningstar.com/research/360599/european-rmbs-transactions-risk-exposure-to-coronavirus-covid-19-effect.

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.

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

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

The principal methodologies applicable to the ratings in this transaction are the “European RMBS Insight Methodology” (3 June 2021) and the “European RMBS Insight: UK Addendum” (9 October 2020).

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

An asset and a cash flow analysis were both conducted. Due to the inclusion of a revolving period in the transaction, the analysis is based on the worst-case replenishment criteria set forth in the transaction legal documents.

Other methodologies referenced in this transaction are listed at the end of this press release. These may be found at: https://www.dbrsmorningstar.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 Morningstar Credit Ratings” of the “Global Methodology for Rating Sovereign Governments” at: https://www.dbrsmorningstar.com/research/364527/global-methodology-for-rating-sovereign-governments.

The sources of data and information used for these ratings include OSB and LBCM. DBRS Morningstar was provided with loan-level data as of 31 May 2021, and as well as received historical prepayment (from 2011), dynamic arrears (from 2015), and static vintages (from 2015) information.

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

DBRS Morningstar was supplied with one or more third-party assessments. DBRS Morningstar applied additional cash flow stresses in its rating analysis.

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

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

These ratings concern an expected to be issued new financial instrument. These are the first DBRS Morningstar ratings on this financial instrument.

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

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

-- In respect of the Class A notes, a PD of 26.6% and LGD of 58.1%, corresponding to the AAA (sf) 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 23.1% and LGD of 53.2%, corresponding to the AA (sf) 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 17.6% and LGD of 44.4%, corresponding to the A (low) (sf) 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 14.7% and LGD of 39.6%, corresponding to the BBB (sf) 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 9.9% and LGD of 32.3%, corresponding to the BB (sf) rating scenario, was stressed assuming a 25% and 50% increase in the PD and LGD.
-- In respect of the Class F notes, a PD of 5.5% and LGD of 25.3%, corresponding to the B (low) (sf) rating scenario, was stressed assuming a 25% and 50% increase in the PD and LGD.
-- In respect of the Class X notes, a PD of 6.5% and LGD of 27.9%, corresponding to the B (sf) rating scenario, was stressed assuming a 25% and 50% increase in the PD and LGD.

Class A1 Risk Sensitivity:
-- 25% increase in LGD, expected rating of AAA (sf)
-- 50% increase in LGD, expected rating of AAA (sf)
-- 25% increase in PD, expected rating of AAA (sf)
-- 25% increase in PD and 25% increase in LGD, expected rating of AAA (sf)
-- 25% increase in PD and 50% increase in LGD, expected rating of AAA (sf)
-- 50% increase in PD, expected rating of AAA (sf)
-- 50% increase in PD and 25% increase in LGD, expected rating of AA (high) (sf)
-- 50% increase in PD and 50% increase in LGD, expected rating of AA (high) (sf)

Class A2 Risk Sensitivity:
-- 25% increase in LGD, expected rating of AA (high) (sf)
-- 50% increase in LGD, expected rating of A (high) (sf)
-- 25% increase in PD, expected rating of AA (high) (sf)
-- 25% increase in PD and 25% increase in LGD, expected rating of AA (low) (sf)
-- 25% increase in PD and 50% increase in LGD, expected rating of A (sf)
-- 50% increase in PD, expected rating of AA (low) (sf)
-- 50% increase in PD and 25% increase in LGD, expected rating of A (high) (sf)
-- 50% increase in PD and 50% increase in LGD, expected rating of A (low) (sf)

Class B Risk Sensitivity:
-- 25% increase in LGD, expected rating of A (high) (sf)
-- 50% increase in LGD, expected rating of A (low) (sf)
-- 25% increase in PD, expected rating of A (high) (sf)
-- 25% increase in PD and 25% increase in LGD, expected rating of A (low) (sf)
-- 25% increase in PD and 50% increase in LGD, expected rating of BBB (high) (sf)
-- 50% increase in PD, expected rating of A (sf)
-- 50% increase in PD and 25% increase in LGD, expected rating of BBB (high) (sf)
-- 50% increase in PD and 50% increase in LGD, expected rating of BBB (low) (sf)

Class C Risk Sensitivity:
-- 25% increase in LGD, expected rating of BBB (high) (sf)
-- 50% increase in LGD, expected rating of BBB (sf)
-- 25% increase in PD, expected rating of BBB (high) (sf)
-- 25% increase in PD and 25% increase in LGD, expected rating of BBB (low) (sf)
-- 25% increase in PD and 50% increase in LGD, expected rating of BB (high) (sf)
-- 50% increase in PD, expected rating of BBB (low) (sf)
-- 50% increase in PD and 25% increase in LGD, expected rating of BB (high) (sf)
-- 50% increase in PD and 50% increase in LGD, expected rating of BB (high) (sf)

Class D Risk Sensitivity:
-- 25% increase in LGD, expected rating of BB (high) (sf)
-- 50% increase in LGD, expected rating of BB (high) (sf)
-- 25% increase in PD, expected rating of BB (high) (sf)
-- 25% increase in PD and 25% increase in LGD, expected rating of BB (high) (sf)
-- 25% increase in PD and 50% increase in LGD, expected rating of BB (sf)
-- 50% increase in PD, expected rating of BB (high) (sf)
-- 50% increase in PD and 25% increase in LGD, expected rating of BB (sf)
-- 50% increase in PD and 50% increase in LGD, expected rating of BB (low) (sf)

Class E Risk Sensitivity:
-- 25% increase in LGD, expected rating of BB (low) (sf)
-- 50% increase in LGD, expected rating of B (high) (sf)
-- 25% increase in PD, expected rating of BB (low) (sf)
-- 25% increase in PD and 25% increase in LGD, expected rating of B (high) (sf)
-- 25% increase in PD and 50% increase in LGD, expected rating of B (sf)
-- 50% increase in PD, expected rating of B (high) (sf)
-- 50% increase in PD and 25% increase in LGD, expected rating of B (sf)
-- 50% increase in PD and 50% increase in LGD, expected rating of B (low) (sf)

Class F Risk Sensitivity:
-- 25% increase in LGD, expected rating of CCC (sf)
-- 50% increase in LGD, expected rating of CCC (sf)
-- 25% increase in PD, expected rating of CCC (sf)
-- 25% increase in PD and 25% increase in LGD, expected rating of CCC (sf)
-- 25% increase in PD and 50% increase in LGD, expected rating of CCC (sf)
-- 50% increase in PD, expected rating of CCC (sf)
-- 50% increase in PD and 25% increase in LGD, expected rating of CCC (sf)
-- 50% increase in PD and 50% increase in LGD, expected rating of CCC (sf)

Class X Risk Sensitivity:
-- 25% increase in LGD, expected rating of B (low) (sf)
-- 50% increase in LGD, expected rating of B (low) (sf)
-- 25% increase in PD, expected rating of B (low) (sf)
-- 25% increase in PD and 25% increase in LGD, expected rating of CCC (sf)
-- 25% increase in PD and 50% increase in LGD, expected rating of CCC (sf)
-- 50% increase in PD, expected rating of CCC (sf)
-- 50% increase in PD and 25% increase in LGD, expected rating of CCC (sf)
-- 50% increase in PD and 50% increase in LGD, expected rating of CCC (sf)

For further information on DBRS Morningstar historical default rates published by the European Securities and Markets Authority (ESMA) in a central repository, see: https://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml. DBRS Morningstar understands further information on DBRS Morningstar historical default rates may be published by the Financial Conduct Authority (FCA) on its webpage: https://www.fca.org.uk/firms/credit-rating-agencies.

These ratings are endorsed by DBRS Ratings GmbH for use in the European Union.

Lead Analyst: Rehanna Sameja, Senior Vice President
Rating Committee Chair: Ketan Thaker, Managing Director
Initial Rating Date: 06 July 2021

DBRS Ratings Limited
20 Fenchurch Street, 31st Floor,
London EC3M 3BY United Kingdom
Tel. +44 (0) 20 7855 6600
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: https://www.dbrsmorningstar.com/about/methodologies.

-- European RMBS Insight Methodology (3 June 2021) and European RMBS Insight Model v. 5.2.0.0., https://www.dbrsmorningstar.com/research/379557/european-rmbs-insight-methodology.
-- European RMBS Insight: UK Addendum (9 October 2020), https://www.dbrsmorningstar.com/research/368132/european-rmbs-insight-uk-addendum.
-- Legal Criteria for European Structured Finance Transactions (6 April 2021), https://www.dbrsmorningstar.com/research/376314/legal-criteria-for-european-structured-finance-transactions.
-- Interest Rate Stresses for European Structured Finance Transactions (28 September 2020), https://www.dbrsmorningstar.com/research/367292/interest-rate-stresses-for-european-structured-finance-transactions.
-- Derivative Criteria for European Structured Finance Transactions (24 September 2020), https://www.dbrsmorningstar.com/research/367092/derivative-criteria-for-european-structured-finance-transactions.
-- Operational Risk Assessment for European Structured Finance Servicers (19 November 2020), https://www.dbrsmorningstar.com/research/370270/operational-risk-assessment-for-european-structured-finance-servicers.
-- Operational Risk Assessment for European Structured Finance Originators (30 September 2020), https://www.dbrsmorningstar.com/research/367603/operational-risk-assessment-for-european-structured-finance-originators.
-- DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings (3 February 2021),
https://www.dbrsmorningstar.com/research/373262/dbrs-morningstar-criteria-approach-to-environmental-social-and-governance-risk-factors-in-credit-ratings.

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

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