DBRS Morningstar Assigns Provisional Ratings to Castell 2023-1 PLC

DBRS Ratings Limited (DBRS Morningstar) assigned provisional ratings to the following classes of notes to be issued by Castell 2023-1 PLC (the Issuer):

-- Class A notes at AAA (sf)
-- Class B notes at AA (high) (sf)
-- Class C notes at AA (low) (sf)
-- Class D notes at A (low) (sf)
-- Class E notes at BB (high) (sf)
-- Class F notes at BB (high) (sf)
-- Class X notes at BB (high) (sf)

DBRS Morningstar does not rate the Class G or Class H notes also expected to be issued in this transaction.

The provisional ratings on the Class A notes and Class X notes address the timely payment of interest and the ultimate repayment of principal on or before the legal final maturity date. The provisional ratings on the Class B, Class C, Class D, Class E, and Class F notes address the timely payment of interest once most senior and the ultimate repayment of principal on or before the final maturity date.

The provisional ratings are based on information provided to DBRS Morningstar by the Issuer and its agents as of the date of this press release. These ratings will be finalised upon a review of the final version of the transaction documents and of the relevant opinions. If the information therein were substantially different, DBRS Morningstar may assign different final ratings to the notes.

The Issuer is a bankruptcy-remote special-purpose vehicle incorporated in the UK. The notes will be used to fund the purchase of UK second-lien mortgage loans originated by UK Mortgage Lending Ltd. (UKML). Pepper UK Limited (Pepper) will be the primary and special servicer of the portfolio. UKML, formerly Optimum Credit Ltd. (Optimum Credit), was established in November 2013 as a specialist provider of second-lien mortgages based in Cardiff, Wales. Optimum Credit was fully integrated into Pepper Money (PMB) Limited in January 2022 and its name was changed to UK Mortgage Lending Ltd. on 17 January 2022. Both UKML and Pepper are part of the Pepper Group Limited, a worldwide consumer finance business, third-party loan servicer, and asset manager. CSC Capital Markets UK Limited will be appointed as the backup servicer facilitator.

RATING RATIONALE
DBRS Morningstar received information on the provisional mortgage portfolio as of 28 February 2023. The portfolio consists of 9,075 mortgage loans with an aggregate principal balance of GBP 399.75 million. The average loan per borrower is GBP 44,050.

All of the mortgage loans in the provisional portfolio are owner occupied and almost all loans are repaying on a capital and interest basis. Within the portfolio, 86.8% of the loans are fixed-rate loans that switch to floating rate upon completion of the initial fixed-rate period whereas 8.2% are floating-rate loans for life and an additional 2.1% are fixed-rate loans for life. The remaining 2.9% of the loans are “discount” loans, which are fixed-rate loans on a teaser period that will revert to a floating rate at a future date. Interest rate risk is expected to be hedged through a fixed-floating interest rate swap with Banco Santander SA (Santander) to mitigate the fixed interest rate risk from the mortgage loans and Sonia payable on the notes. The Issuer will pay the swap counterparty an amount equal to the swap notional amount multiplied by the swap rate and, in turn, the Issuer will receive the swap notional amount multiplied by Sonia. Santander currently has a DBRS Morningstar Long Term Critical Obligations Rating of AA (low) and a Long-Term Issuer Rating of A (high), both with Stable trends. Following a review of the provisions outlined in the swap agreement, DBRS Morningstar concluded that Santander meets DBRS Morningstar’s criteria to act in such capacity. The transaction documents contain downgrade and collateral posting provisions with respect to Santander’s role as hedging counterparty, consistent with DBRS Morningstar’s criteria.

Furthermore, 3.50% of the portfolio by loan balance comprises loans originated to borrowers with a prior county court judgement, 0.15% comprises those with a flagged bankruptcy, and 1.20% comprises those in arrears for three months or more. In addition, 14.4% of the loans were granted to self-employed borrowers, unemployed borrowers, or pensioners (referring to the primary borrower’s employment status only). The weighted-average (WA) seasoning of the portfolio is relatively low at 15.8 months and the WA remaining term is approximately 15.7 years. The WA current loan-to-value ratio, including any prior-ranking balances of the portfolio, is 59.2%.

The transaction documents allow the seller to grant product switches, where the borrower can accept or request to change or switch their mortgage type to another Pepper mortgage product. The changes allowed refer to the interest rate type and interest rate paid on the loan.

Credit enhancement for the Class A notes is expected to be 27.00% at closing and will be provided by the subordination of the Class B to Class H notes (excluding the uncollateralised Class X notes). The Class A notes benefit from further liquidity support provided by an amortising liquidity reserve, which can support the payment of senior fees and interest on the Class A notes. The liquidity reserve fund (LRF) will be zero at closing and its required amount of 1.0% of the outstanding balance of the Class A notes balance will be funded through principal receipts. Any subsequent use of the LRF will be replenished from revenue receipts. The excess amounts following amortisation of the Class A notes will form part of the available principal.

The structure includes a principal deficiency ledger (PDL) comprising eight subledgers (Class A PDL to Class H PDL) that provision for realised losses as well as the use of any principal receipts applied to meet any shortfall in payment of senior fees and interest. The losses will be allocated starting from the Class H PDL and then to the subledgers of each class of notes in reverse-sequential order.

Available principal funds can be used to provide liquidity support to the transaction. Following the application of the available revenue funds and liquidity reserve, available principal funds can be used to pay senior fees, swap payments, and interest shortfalls on the Class A to Class F notes. In more detail, principal is available to provide liquidity support to the Class B to Class G notes, provided that the respective PDL balance is less than 10% of the outstanding balance of the respective class of notes if not the most senior class outstanding. There is no condition for principal used to provide liquidity support for the Class A notes, given that available revenue funds and the LRF will be applied first. Any use will be recorded as a debit in the PDL.

The coupon on the notes will step up on the interest payment date falling in October 2026, which is also the first optional redemption date. The notes can be redeemed in full, at the outstanding balance plus accrued interest, on any subsequent payment date. DBRS Morningstar considered the increased interest payable on the notes on the step-up date in its cash flow analysis.

The Issuer account bank is Citibank N.A./London Branch. Based on DBRS Morningstar’s private rating on the account bank, the downgrade provisions outlined in the transaction documents, and structural mitigants, DBRS Morningstar considers the risk arising from the exposure to the account bank to be consistent with the ratings assigned to the notes, as described in DBRS Morningstar's "Legal Criteria for European Structured Finance Transactions" methodology.

DBRS Morningstar based its ratings on a review of the following analytical considerations:
-- The transaction’s capital structure and form and sufficiency of available credit enhancement.
-- The credit quality of the mortgage portfolio and the ability of the servicer to perform collection and resolution activities. DBRS Morningstar calculated probability of default (PD), loss given default (LGD), and expected loss (EL) outputs on the mortgage portfolio, which DBRS Morningstar used as inputs into the cash flow tool. DBRS Morningstar analysed the mortgage portfolio in accordance with its “European RMBS Insight: UK Addendum”.
-- The ability of the transaction to withstand stressed cash flow assumptions and repay the Class A, Class B, Class C, Class D, Class E, Class F, and Class X notes according to the terms of the transaction documents.
-- The structural mitigants in place to avoid potential payment disruptions caused by operational risk, such as a downgrade, and replacement language in the transaction documents. DBRS Morningstar analysed the transaction structure in Intex DealMaker, considering the default rates at which the rated notes did not return all specified cash flows.
-- DBRS Morningstar’s sovereign rating on the United Kingdom of Great Britain and Northern Ireland at AA with a Stable trend as of the date of this press release.
-- The expected consistency of the transaction’s legal structure with DBRS Morningstar’s “Legal Criteria for European Structured Finance Transactions” methodology and the presence of legal opinions that are expected to address the assignment of the assets to the Issuer.

ENVIRONMENTAL, SOCIAL, GOVERNANCE CONSIDERATIONS
There were no Environmental/Social/Governance factors that had a significant or relevant effect on the credit analysis.

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/396929/dbrs-morningstar-criteria-approach-to-environmental-social-and-governance-risk-factors-in-credit-ratings.

DBRS Morningstar analysed the transaction structure in Intex DealMaker, considering the default rates at which the rated notes did not return all specified cash flows.

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

The principal methodologies applicable to the ratings are the “European RMBS Insight Methodology” (27 March 2023), https://www.dbrsmorningstar.com/research/411634/european-rmbs-insight-methodology and “European RMBS Insight: UK Addendum” (16 September 2022), https://www.dbrsmorningstar.com/research/402864/european-rmbs-insight-uk-addendum.

Other methodologies referenced in this transaction are listed at the end of this press release.

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

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/401817/global-methodology-for-rating-sovereign-governments.

The DBRS Morningstar Sovereign group releases baseline macroeconomic scenarios for rated sovereigns. DBRS Morningstar analysis considered impacts consistent with the baseline scenarios as set forth in the following report: https://www.dbrsmorningstar.com/research/384482/baseline-macroeconomic-scenarios-application-to-credit-ratings.

The sources of data and information used for these ratings include UKML and Citibank plc. DBRS Morningstar was provided with loan-level data as of 28 February 2023 and historical performance data (dynamic delinquencies, payment data, and cumulative prepayments). Dynamic delinquency data covered the period from July 2014 to January 2023, and cumulative prepayments for a period from January 2015 to January 2023.

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

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.

These ratings concern expected-to-be-issued new financial instruments. These are the first DBRS Morningstar ratings on these financial instruments.

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

Sensitivity Analysis: To assess the impact of changing the transaction parameters on the rating, DBRS Morningstar considered the following stress scenarios as compared with the parameters used to determine the rating (the base case):

-- In respect of the Class A notes, a PD of 25.62% and LGD of 82.33%, 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 23.78% and LGD of 78.50%, corresponding to the AA (high) (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 21.09% and LGD of 72.23%, corresponding to the AA (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 16.55% and LGD of 61.61%, 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 E notes, a PD of 9.26% and LGD of 47.61%, corresponding to the BB (high) (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 9.26% and LGD of 47.61%, corresponding to the BB (high) (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 9.26% and LGD of 47.61%, corresponding to the BB (high) (sf) rating scenario, was stressed assuming a 25% and 50% increase in the PD and LGD.

DBRS Morningstar concludes the following impact on the Class A notes:
-- 25% increase of the PD, ceteris paribus, would not lead to a downgrade of the Class A Notes;
-- 50% increase of the PD, ceteris paribus, would lead to a downgrade to AA (high) (sf);
-- 25% increase of the LGD, ceteris paribus, would not lead to a downgrade of the Class A Notes;
-- 50% increase of the LGD, ceteris paribus, would not lead to a downgrade of the Class A Notes;
-- 25% increase of the PD and 25% increase of the LGD, ceteris paribus, would lead to a downgrade to AA (sf);
-- 50% increase of the PD and 25% increase of the LGD, ceteris paribus, would lead to a downgrade to A (high) (sf);
-- 25% increase of the PD and 50% increase of the LGD, ceteris paribus, would lead to a downgrade to AA (low) (sf);
-- 50% increase of the PD and 50% increase of the LGD, ceteris paribus, would lead to a downgrade to A (sf).

DBRS Morningstar concludes the following impact on the Class B notes:
-- 25% increase of the PD, ceteris paribus, would lead to a downgrade to AA (sf);
-- 50% increase of the PD, ceteris paribus, would lead to a downgrade to A (high) (sf);
-- 25% increase of the LGD, ceteris paribus, would lead to a downgrade to AA (low) (sf);
-- 50% increase of the LGD, ceteris paribus, would lead to a downgrade to A (high) (sf);
-- 25% increase of the PD and 25% increase of the LGD, ceteris paribus, would lead to a downgrade to A (high) (sf);
-- 50% increase of the PD and 25% increase of the LGD, ceteris paribus, would lead to a downgrade to A (low) (sf);
-- 25% increase of the PD and 50% increase of the LGD, ceteris paribus, would lead to a downgrade to A (low) (sf);
-- 50% increase of the PD and 50% increase of the LGD, ceteris paribus, would lead to a downgrade to BBB (high) (sf).

DBRS Morningstar concludes the following impact on the Class C notes:
-- 25% increase of the PD, ceteris paribus, would lead to a downgrade to A (sf);
-- 50% increase of the PD, ceteris paribus, would lead to a downgrade to BBB (high) (sf);
-- 25% increase of the LGD, ceteris paribus, would lead to a downgrade to A (sf);
-- 50% increase of the LGD, ceteris paribus, would lead to a downgrade to A (low) (sf);
-- 25% increase of the PD and 25% increase of the LGD, ceteris paribus, would lead to a downgrade to A (low) (sf);
-- 50% increase of the PD and 25% increase of the LGD, ceteris paribus, would lead to a downgrade to BBB (high) (sf);
-- 25% increase of the PD and 50% increase of the LGD, ceteris paribus, would lead to a downgrade to BBB (high) (sf);
-- 50% increase of the PD and 50% increase of the LGD, ceteris paribus, would lead to a downgrade to BBB (Low) (sf).

DBRS Morningstar concludes the following impact on the Class D notes:
-- 25% increase of the PD, ceteris paribus, would lead to a downgrade to BBB (sf);
-- 50% increase of the PD, ceteris paribus, would lead to a downgrade to BB (high) (sf);
-- 25% increase of the LGD, ceteris paribus, would lead to a downgrade to BBB (high) (sf);
-- 50% increase of the LGD, ceteris paribus, would lead to a downgrade to BBB (low) (sf);
-- 25% increase of the PD and 25% increase of the LGD, ceteris paribus, would lead to a downgrade to BBB (low) (sf);
-- 50% increase of the PD and 25% increase of the LGD, ceteris paribus, would lead to a downgrade to BB (high) (sf);
-- 25% increase of the PD and 50% increase of the LGD, ceteris paribus, would lead to a downgrade to BB (high) (sf);
-- 50% increase of the PD and 50% increase of the LGD, ceteris paribus, would lead to a downgrade to BB (high) (sf).

DBRS Morningstar concludes the following impact on the Class E notes:
-- 25% increase of the PD, ceteris paribus, would not lead to a downgrade of the Class E notes;
-- 50% increase of the PD, ceteris paribus, would lead to a downgrade to BB (low) (sf);
-- 25% increase of the LGD, ceteris paribus, would not lead to a downgrade of the Class E notes;
-- 50% increase of the LGD, ceteris paribus, would not lead to a downgrade of the Class E notes;
-- 25% increase of the PD and 25% increase of the LGD, ceteris paribus, would not lead to a downgrade of the Class E notes;
-- 50% increase of the PD and 25% increase of the LGD, ceteris paribus, would lead to a downgrade to BB (low) (sf);
-- 25% increase of the PD and 50% increase of the LGD, ceteris paribus, would lead to a downgrade to BB (sf);
-- 50% increase of the PD and 50% increase of the LGD, ceteris paribus, would lead to a downgrade to BB (low) (sf).

DBRS Morningstar concludes the following impact on the Class F notes:
-- 25% increase of the PD, ceteris paribus, would lead to a downgrade to BB (low) (sf);
-- 50% increase of the PD, ceteris paribus, would lead to a downgrade to B (high) (sf);
-- 25% increase of the LGD, ceteris paribus, would lead to a downgrade to BB (sf);
-- 50% increase of the LGD, ceteris paribus, would lead to a downgrade to BB (low) (sf);
-- 25% increase of the PD and 25% increase of the LGD, ceteris paribus, would lead to a downgrade to BB (low) (sf);
-- 50% increase of the PD and 25% increase of the LGD, ceteris paribus, would lead to a downgrade to B (high) (sf);
-- 25% increase of the PD and 50% increase of the LGD, ceteris paribus, would lead to a downgrade to B (high) (sf);
-- 50% increase of the PD and 50% increase of the LGD, ceteris paribus, would lead to a downgrade to B (sf).

DBRS Morningstar concludes the following impact on the Class X notes:
-- 25% increase of the PD, ceteris paribus, would lead to a downgrade to BB (low) (sf);
-- 50% increase of the PD, ceteris paribus, would lead to a downgrade to B (high) (sf);
-- 25% increase of the LGD, ceteris paribus, would not lead to a downgrade of the Class X Notes;
-- 50% increase of the LGD, ceteris paribus, would not lead to a downgrade of the Class X Notes;
-- 25% increase of the PD and 25% increase of the LGD, ceteris paribus, would lead to a downgrade to BB (low) (sf);
-- 50% increase of the PD and 25% increase of the LGD, ceteris paribus, would lead to a downgrade to B (high) (sf);
-- 25% increase of the PD and 50% increase of the LGD, ceteris paribus, would lead to a downgrade to BB (low) (sf);
-- 50% increase of the PD and 50% increase of the LGD, ceteris paribus, would lead to a downgrade to B (high) (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. For further information on DBRS Morningstar historical default rates published by the Financial Conduct Authority (FCA) in a central repository, see https://data.fca.org.uk/#/ceres/craStats.

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

Lead Analyst: Alessandra Maggiora, Vice President
Rating Committee Chair: Ketan Thaker, Managing Director
Initial Rating Date: 17 April 2023

DBRS Ratings Limited
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London EC3M 3BY United Kingdom
Registered and incorporated under the laws of England and Wales: Company No. 7139960
Tel. +44 20 7855 6609

The rating methodologies used in the analysis of this transaction can be found at: https://www.dbrsmorningstar.com/about/methodologies.

-- European RMBS Insight Methodology (27 March 2023) and European RMBS Insight Model v. 5.7.1.0., https://www.dbrsmorningstar.com/research/411634/european-rmbs-insight-methodology.
-- European RMBS Insight: UK Addendum (16 September 2022), https://www.dbrsmorningstar.com/research/402864/european-rmbs-insight-uk-addendum.
-- Legal Criteria for European Structured Finance Transactions (22 July 2022),
https://www.dbrsmorningstar.com/research/400166/legal-criteria-for-european-structured-finance-transactions.
-- Interest Rate Stresses for European Structured Finance Transactions (22 September 2022),
https://www.dbrsmorningstar.com/research/402943/interest-rate-stresses-for-european-structured-finance-transactions.
-- Derivative Criteria for European Structured Finance Transactions (20 September 2021),
https://www.dbrsmorningstar.com/research/384624/derivative-criteria-for-european-structured-finance-transactions.
-- Operational Risk Assessment for European Structured Finance Servicers (15 September 2022),
https://www.dbrsmorningstar.com/research/402774/operational-risk-assessment-for-european-structured-finance-servicers.
-- Operational Risk Assessment for European Structured Finance Originators (15 September 2022), https://www.dbrsmorningstar.com/research/402773/operational-risk-assessment-for-european-structured-finance-originators.
-- DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings (17 May 2022), https://www.dbrsmorningstar.com/research/396929/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].