DBRS Morningstar Finalises Provisional Credit Ratings on Gemgarto 2023-1 PLC

DBRS Ratings Limited (DBRS Morningstar) finalised its provisional credit ratings on the residential mortgage-backed notes issued by Gemgarto 2023-1 PLC (the Issuer) as follows:

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

The credit rating on the Class A notes addresses the timely payment of interest and the ultimate repayment of principal on or before the final maturity date in December 2073. The credit ratings on the Class B, Class C, Class D, Class E, and Class F notes address the timely payment of interest once they are the senior-most class of notes outstanding and the ultimate repayment of principal by the legal final maturity date.

DBRS Morningstar does not rate the Class G or the Class Z notes also issued in this transaction.

CREDIT RATING RATIONALE
The Issuer is a bankruptcy-remote special-purpose vehicle incorporated in the UK. The Issuer used the proceeds from the issuance of the collateralised notes to fund the purchase of prime and performing owner-occupied (OO) mortgage loans originated by Kensington Mortgage Company Limited (KMC) and secured over properties located in the UK. The mortgage portfolio consists of GBP 548 million of first-lien mortgage loans collateralised by OO residential properties in England, Scotland, and Wales. The mortgages were mostly granted between 2021 and 2023, with a few cases dating back to 2019.

The Issuer issued seven tranches of collateralised mortgage-backed securities (the Class A to Class G notes) to finance the purchase of the portfolio. The transaction is structured to initially provide 14.0% of credit enhancement to the Class A notes. This includes subordination of the Class B to Class G notes.

The transaction also features a general reserve fund (GRF) and a liquidity reserve fund (LRF). The GRF provides liquidity and credit support to the Class A to Class F notes. The GRF was funded from the issuance of the Class Z notes on the closing date, and its balance is 1.0% of the initial balance of the Class A to Class G notes as at the cut-off date until the Class F notes have been redeemed. The GRF is available to cover shortfalls in senior fees, Senior Deferred Consideration payments, interest, and any principal deficiency ledger (PDL) debits on the Class A to Class F notes after the application of revenue. After full amortisation of the Class A to Class F notes, the GRF will form part of the available revenue funds.

Additionally, if the GRF balance falls below 0.5% of the Class A to Class G notes’ balance, principal available funds will be used to fund the LRF, which will be available to cover shortfalls in senior fees, Senior Deferred Consideration payments, and interest payments on the Class A and Class B notes after the application of revenue and the GRF (subject to a 10% PDL condition for Class B unless senior-most). Any drawing on the LRF will be recorded as debit to the PDL. On each interest payment date, any excess above the LRF target amount will form part of the available principal funds.

Principal can be used to cure any shortfalls in senior fees, Senior Deferred Consideration payments, and unpaid interest payments on the rated notes, after using revenue funds and both reserves, which will be recorded as a debit in the PDL. The PDL comprises seven subledgers that will track the principal used to pay interest, LRF drawdowns, as well as realised losses, in a reverse-sequential order that begins with the Class G subledger. The availability of principal for paying interest on notes that are not the most-senior class of notes outstanding is subject to the relevant PDL of each class of notes being debited by less than 10% (Class B) or 0% (Class C to Class F), respectively.

The notes' terms and conditions allow interest payments, other than on the most-senior class of notes, to be deferred if the available funds are insufficient, and deferred interest becomes due when the class becomes senior-most. Deferred interest accrues further interest on the deferred amounts, at the same rate of interest that each note pays.

On the interest payment date in March 2027, the coupon due on the notes and Senior Deferred Consideration will step up and the notes may be optionally called. The notes must be redeemed for an amount sufficient to fully repay them, at par, plus pay any accrued interest.

As of 31 October 2023, the portfolio consisted of 2,926 loans with an aggregate principal balance of GBP 547.7 million. The majority of the loans in the pool were originated during 2023 (4.6%), 2022 (81.2%), and 2021 (14.1%). Because of this, the weighted-average (WA) seasoning of the pool is relatively low at 17 months. The WA original loan-to-value ratio (LTV) is 85.7% and the WA indexed current LTV (CLTV) of the portfolio as calculated by DBRS Morningstar is 83.4%, with 89.5% of the loans having an indexed CLTV higher than 80%. This relatively high LTV compared with peer transactions in the UK reflects KMC’s business model targeting borrowers it sees as underserved by high street banks, including contractors, applicants who have failed credit scores with other lenders, those with complex income, first-time buyers, and the self-employed.

The portfolio contains 8.4% shared ownership loans, which are granted to borrowers for the purchase of only a portion of the property they reside in with the other share remaining with the original owner. Approximately 25.6% of the portfolio is granted to self-employed borrowers. Furthermore, loans with prior County Court Judgements (CCJs) comprise 17.7% of the mortgage pool. All of these loans have at least three years of clean credit history in terms of CCJs, defaults, Individual Voluntary Arrangements, and bankruptcies. As of the cut-off date, loans in arrears between one and three months represent 0.8% of the outstanding principal balance of the portfolio; no loans were more than three months in arrears.

All loans in the portfolio are fixed-rate loans for an initial period of time (2.8 years on a WA basis) before they revert to KMC’s standard variable rate (KSR) plus a predetermined margin (WA 4.5%). The current WA coupon of the portfolio is 5.3%. The interest on the notes is calculated based on the daily-compounded Sterling Overnight Index Average (Sonia), which gives rise to interest rate risk.

The Issuer has entered into a fixed-floating swap with Barclays Bank PLC (Barclays) to mitigate the interest rate risk from the fixed-rate mortgage loans and Sonia payable on the notes. Based on DBRS Morningstar’s ratings on Barclays (which has a Long-Term Issuer Rating of “A” and a Long Term Critical Obligations Rating of AA (low)), the downgrade provisions outlined in the documents, and the transaction structural mitigants, DBRS Morningstar considers the risk arising from the exposure to Barclays to be consistent with the credit ratings assigned to the notes as described in DBRS Morningstar's “Derivative Criteria for European Structured Finance Transactions” methodology.

Monthly mortgage receipts are deposited into the collections account at Barclays and held in accordance with the collection account declaration of trust. The funds credited to the collection account are swept on the next business day to the Issuer’s account. The collection account declaration of trust provides that interest in the collection account is in favour of the Issuer over the seller. Commingling risk is considered mitigated by the collection account declaration of trust and the regular sweep of funds. If the collection account provider is downgraded below BBB (low), the collection account bank will be replaced or guaranteed by an appropriately rated bank within 60 calendar days.

Barclays holds the Issuer’s transaction account from the closing date. Based on DBRS Morningstar’s ratings on Barclays, replacement provisions, and investment criteria, DBRS Morningstar considers the risk arising from the exposure to Barclays to be consistent with the credit ratings assigned to the rated notes as described in DBRS Morningstar's “Legal Criteria for European Structured Finance Transactions” methodology.

KMC originated and services the mortgages. CSC Capital Markets UK Limited is the backup servicer facilitator in the transaction.

DBRS Morningstar based its credit ratings on a review of the following analytical considerations:
-- The transaction’s capital structure and the 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 the probability of default (PD), loss given default (LGD), and expected loss (EL) outputs on the mortgage portfolio. DBRS Morningstar uses the PD, LGD, and ELs as inputs into the cash flow tool. DBRS Morningstar analysed the mortgage portfolio in accordance with its “European RMBS Insight: UK Addendum” methodology.
-- The ability of the transaction to withstand stressed cash flow assumptions and repay the Class A, Class B, Class C, Class D, Class E, and Class F 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’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 consistency of the legal structure with DBRS Morningstar’s “Legal Criteria for European Structured Finance Transactions” methodology and the presence of legal opinions that address the assignment of the assets to the Issuer.

DBRS Morningstar’s credit rating on the rated notes addresses the credit risk associated with the identified financial obligations in accordance with the relevant transaction documents. The associated financial obligations for each of the rated notes are the related Interest Amounts and the related Class Balances.

DBRS Morningstar’s credit rating on the rated notes also addresses the credit risk associated with the increased rate of interest applicable to each of the rated notes if the rated notes are not redeemed on the Optional Redemption Date (as defined in and) in accordance with the applicable transaction documents.

DBRS Morningstar’s credit rating does not address non-payment risk associated with contractual payment obligations contemplated in the applicable transaction documents that are not financial obligations.

DBRS Morningstar’s long-term credit ratings provide opinions on risk of default. DBRS Morningstar considers risk of default to be the risk that an issuer will fail to satisfy the financial obligations in accordance with the terms under which a long-term obligation has been issued.

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/416784/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 pound sterling unless otherwise noted.

The principal methodologies applicable to the credit ratings are the: “European RMBS Insight Methodology” (27 March 2023), https://www.dbrsmorningstar.com/research/411634/european-rmbs-insight-methodology and the “European RMBS Insight: UK Addendum” (11 August 2023), https://www.dbrsmorningstar.com/research/419141/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 methodologies consistently and conducted a review of the transaction in accordance with the principal methodologies.

For a more detailed discussion of the sovereign risk impact on Structured Finance credit 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/421590.

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.

The sources of data and information used for these credit ratings include those provided by KMC and its representatives. DBRS Morningstar was provided with loan-level data as of 31 October 2023 and historical performance data (dynamic defaults, dynamic delinquencies, and prepayment data) covering the period from June 2018 to May 2023, and data on retention rates from September 2018 to August 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 credit rating analysis.

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

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

These credit ratings concern newly issued financial instruments. These are the first DBRS Morningstar credit ratings on these financial instruments.

This is the first credit rating action since the Initial Rating Date.

Information regarding DBRS Morningstar credit 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 credit ratings, DBRS Morningstar considered the following stress scenarios as compared with the parameters used to determine the credit ratings (the base case):

-- In respect of the Class A notes, a PD of 20.2% and an LGD of 38.5% 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 15.7% and an LGD of 30.7% 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 C notes, a PD of 14.0% and an LGD of 27.9% corresponding to the A (high) (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 9.9% and an LGD of 22.4% corresponding to the BBB (high) (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 6.0% and an LGD of 17.5% 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 4.7% and an LGD of 15.5% corresponding to the BB (low) (sf) rating scenario, was stressed assuming a 25% and 50% increase in the PD and LGD.

Class A Notes 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 AA (high) (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 (sf)

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

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

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

For further information on DBRS Morningstar historical default rates published by the European Securities and Markets Authority (ESMA) in a central repository, see: https://registers.esma.europa.eu/cerep-publication. 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 credit ratings are endorsed by DBRS Ratings GmbH for use in the European Union.

Lead Analyst: Roger Bickert, Vice President
Rating Committee Chair: Ketan Thaker, Managing Director
Initial Rating Date: 24 November 2023

DBRS Ratings Limited
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London EC1Y 1HQ United Kingdom
Tel. +44 (0) 20 7855 6600
Registered and incorporated under the laws of England and Wales: Company No. 7139960

The credit 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), https://www.dbrsmorningstar.com/research/411634/european-rmbs-insight-methodology and European RMBS Insight Model v. 6.0.1.0.
-- European RMBS Insight: UK Addendum (11 August 2023), https://www.dbrsmorningstar.com/research/419141/european-rmbs-insight-uk-addendum.
-- Legal Criteria for European Structured Finance Transactions (30 June 2023), https://www.dbrsmorningstar.com/research/416730/legal-criteria-for-european-structured-finance-transactions.
-- Derivative Criteria for European Structured Finance Transactions (18 September 2023), https://www.dbrsmorningstar.com/research/420754/derivative-criteria-for-european-structured-finance-transactions.
-- Operational Risk Assessment for European Structured Finance Servicers (15 September 2023), https://www.dbrsmorningstar.com/research/420572/operational-risk-assessment-for-european-structured-finance-servicers.
-- Operational Risk Assessment for European Structured Finance Originators (15 September 2023), https://www.dbrsmorningstar.com/research/420573/operational-risk-assessment-for-european-structured-finance-originators.
-- Interest Rate Stresses for European Structured Finance Transactions (15 September 2023), https://www.dbrsmorningstar.com/research/420602/interest-rate-stresses-for-european-structured-finance-transactions.
-- DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings (4 July 2023),
https://www.dbrsmorningstar.com/research/416784/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].