DBRS Morningstar Upgrades and Confirms Ratings on Gemgarto 2018-1 PLC

DBRS Ratings Limited (DBRS Morningstar) took the following rating actions on the bonds issued by Gemgarto 2018-1 PLC (the Issuer):

-- Class A Notes confirmed at AAA (sf)
-- Class B Notes confirmed at AA (sf)
-- Class C Notes confirmed at AA (low) (sf)
-- Class D Notes confirmed at A (sf)
-- Class E Notes confirmed at BB (high) (sf)
-- Class X Notes upgraded to AA (sf) from CCC (sf)

The ratings on the Class A, Class B, Class C, Class D, and Class E Notes address the timely payment of interest and the ultimate payment of principal on or before the legal final maturity date. The rating on the Class X Notes addresses the ultimate payment of interest and principal on or before the legal final maturity date.

The rating actions follow an annual review of the transaction and are based on the following analytical considerations:
-- Portfolio performance, in terms of delinquencies, defaults, and losses, as of the June 2021 payment date;
-- Portfolio default rate (PD), loss given default (LGD), and expected loss assumptions on the remaining receivables;
-- Current available credit enhancement to the notes to cover the expected losses at their respective rating levels;
-- Current economic environment and an assessment of sustainable performance, as a result of the Coronavirus Disease (COVID-19) pandemic; and
-- No revolving termination events have occurred.

The transaction is a securitisation of UK first-ranking owner-occupied residential mortgages originated and serviced by Kensington Mortgage Company Limited (KMC). Notable features of the portfolio are Help-to-Buy (HTB), Right-to-Buy mortgages, borrowers with adverse borrower features including self-employed borrowers, and borrowers with prior county court judgments.

The transaction is currently in its four-year replenishment period, which is scheduled to end on the payment date in September 2022. During the replenishment period, principal funds are first allocated toward the amortisation of the Class A Notes to the target notional amount before being applied to purchase additional loans. The end of the replenishment period also coincides with a step-up in the margin of the Class A to E Notes. The transaction legal maturity date is on the payment date in September 2065.

PORTFOLIO PERFORMANCE
The transaction saw an increasing trend in delinquencies over 2020 in the context of the coronavirus pandemic. KMC offered principal payment holidays between one and three months from March 2020 onward. As of the June 2021 payment date, 0.9% of the outstanding portfolio balance had been granted principal payment holidays, down from 35.3% a year ago.

As of the June 2021 payment date, loans two to three months in arrears represented 0.8% of the outstanding portfolio balance, stable from one year ago; however, the 90+-day delinquency ratio was 2.3%, up from 0.6% one year ago, and total arrears increased to 4.4% of the portfolio outstanding balance compared with 2.6% one year ago. Meanwhile, the cumulative loss ratio stood at 0.0%.

As of the June 2021 payment date, 45.2% of the loans were granted to self-employed borrowers and 11.0% had prior county court judgments. The loan portfolio consisted of 17.0% HTB loans. DBRS Morningstar incorporated these adverse features into its analysis.

PORTFOLIO ASSUMPTIONS AND KEY DRIVERS
DBRS Morningstar has analysed a stressed collateral portfolio to represent potential deterioration in the characteristics that can affect the transaction, subject to portfolio-wide covenants. DBRS Morningstar conducted a loan-by-loan analysis of the remaining pool of receivables and updated its base case PD and LGD assumptions on the stressed collateral portfolio to 7.6% and 16.2% from 7.4% and 15.9%, respectively, at the last annual review. DBRS Morningstar’s assumptions incorporate adjustments related to the coronavirus.

CREDIT ENHANCEMENT
The credit enhancement (CE) consists of the subordination of junior notes from the Class B to Class F Notes (excluding the Class X and Z Notes) and a General Reserve Fund (GRF).

Since last year, the CE increased as follows:
-- CE to the Class A Notes increased to 20.2% from 19.7%,
-- CE to the Class B Notes increased to 14.6% from 14.2%,
-- CE to the Class C Notes increased to 11.8% from 11.5%,
-- CE to the Class D Notes increased to 9.5% from 9.3%, and
-- CE to the Class E Notes increased to 5.6% from 5.5%.

The increase in CE is due to the repayment of the Class A Notes, as per the target notional schedule during the replenishment period.

The Class X Notes are repaid via excess spread in the interest priority of payments and, as of the June 2021 payment, stood at GBP 576,940. The rating upgrade on the Class X Notes reflects its rapid payment since a year ago.

The GRF is nonamortising and available to cover senior fees and senior swap payments as well as interest and principal losses via the principal deficiency ledgers (PDLs) on the Class A to Class E Notes. Once the Class E Notes are fully redeemed, the target balance of the GRF becomes zero. As of the June 2021 payment date, all PDLs were clear. The GRF is currently funded to its target level of GBP 5 million, equal to 2% of the initial balance of the Class A to Class F Notes.

If the GRF balance falls below 1.5% of the outstanding Class A to F Notes, a Liquidity Reserve Fund (LRF) will be funded through available principal funds to 2% of the outstanding Class A and Class B Notes balance. The LRF will be available to cover senior fees, senior swap payments, and interest on the Class A and Class B Notes.

The transaction is exposed to interest rate risk as 65.3% of the outstanding portfolio balance pays a fixed rate of interest on a short-term basis and a floating rate of interest indexed currently to three-month GBP Libor. From the September 2021 payment date, the floating rate will switch to the Kensington Standard Rate (KSR) while the rated notes are indexed to Sonia. Please see the following commentary for more details on KSR: https://www.dbrsmorningstar.com/research/375394/dbrs-morningstar-comments-on-gemgarto-2018-1-plc-following-amendment.

Citibank N.A./London Branch (Citibank London) acts as the account bank for the transaction. Based on DBRS Morningstar’s private rating on Citibank London, the downgrade provisions outlined in the transaction documents, and other mitigating factors inherent in the transaction structure, DBRS Morningstar considers the risk arising from the exposure to the account bank to be consistent with the rating assigned to the Class A Notes, as described in DBRS Morningstar's "Legal Criteria for European Structured Finance Transactions" methodology.

BNP Paribas London Branch acts as the swap counterparty for the transaction. DBRS Morningstar's private rating on BNP Paribas London Branch is above the First Rating Threshold as described in DBRS Morningstar's "Derivative Criteria for European Structured Finance Transactions" methodology.

DBRS Morningstar analysed the transaction structure in Intex DealMaker.

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 the expected default rate for self-employed borrowers.

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

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.

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 methodology applicable to the ratings is “Master European Structured Finance Surveillance Methodology” (8 February 2021).

Other methodologies referenced in this transaction are listed at the end of this press release. These may be found at: http://www.dbrsmorningstar.com/about/methodologies.

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

An asset and a cash flow analysis were both conducted. Due to the inclusion of a revolving period in the transaction, the analysis continues to consider potential portfolio migration based on replenishment criteria set forth in the transaction legal documents.

A review of the transaction legal documents was not conducted as the legal documents have remained unchanged since the last amendment on the transaction effective on 16 March 2021.

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/381451/global-methodology-for-rating-sovereign-governments.

The sources of data and information used for these ratings include investor reports and loan-level data provided by Citibank London as well as additional information provided by KMC.

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

At the time of the initial ratings, DBRS Morningstar was supplied with third-party assessments. However, this did not impact the 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.

The last rating action on this transaction took place on 30 July 2020, when DBRS Morningstar confirmed its ratings on the Class A, Class B, and Class E Notes at AAA (sf), AA (sf), and BB (high) (sf), respectively, and upgraded its ratings on the Class C, Class D, and Class X Notes to AA (low) (sf), A (sf), and CCC (sf), respectively, from A (high) (sf), A (low) (sf), and C (sf), respectively.

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 with the parameters used to determine the rating (the Base Case):

-- DBRS Morningstar expected a lifetime base case PD and LGD for the pool based on a review of the current assets. Adverse changes to asset performance may cause stresses to base case assumptions and therefore have a negative effect on credit ratings.
-- The base case PD and LGD of the current pool of loans for the Issuer are 7.6% and 16.2%, respectively.
-- The risk sensitivity overview below illustrates the ratings expected if the PD and LGD increase by a certain percentage over the base case assumption. For example, if the LGD increases by 50%, the rating of the Class A Notes would be expected to fall to AA (high) (sf), assuming no change in the PD. If the PD increases by 50%, the rating of the Class A Notes would be expected to fall to AA (high) (sf), assuming no change in the LGD. Furthermore, if both the PD and LGD increase by 50%, the rating of the Class A Notes would be expected to fall to A (high) (sf).

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

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

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

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

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

For further information on DBRS Morningstar historical default rates published by the European Securities and Markets Authority (ESMA) in a central repository, see: http://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: Natalia Coman, Senior Analyst
Rating Committee Chair: Alfonso Candelas, Senior Vice President
Initial Rating Date: 12 July 2018

DBRS Ratings Limited
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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: http://www.dbrsmorningstar.com/about/methodologies.

-- Master European Structured Finance Surveillance Methodology (8 February 2021), https://www.dbrsmorningstar.com/research/373435/master-european-structured-finance-surveillance-methodology.
-- European RMBS Insight Methodology (3 June 2021), https://www.dbrsmorningstar.com/research/379557/european-rmbs-insight-methodology.
-- European RMBS Insight: UK Addendum (9 October 2020) and European RMBS Insight Model v.5.2.0.0, https://www.dbrsmorningstar.com/research/368132/european-rmbs-insight-uk-addendum.
-- 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.
-- Legal Criteria for European Structured Finance Transactions (6 April 2021), https://www.dbrsmorningstar.com/research/376314/legal-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: http://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].