Morningstar DBRS Confirms Credit Ratings and Removes Under Review With Developing Implications Status on Tranche Amounts of Kawartha CAD Ltd., Boreal 2022-2

DBRS, Inc. (Morningstar DBRS) confirmed its provisional credit ratings on the Senior Tranche, Tranche B, Tranche C, Tranche D, and Tranche E (collectively, the Tranche Amounts) of two unexecuted, unfunded financial guarantees (the Financial Guarantees) of Kawartha CAD Ltd., Boreal 2022-2 with respect to a portfolio of Canadian commercial real estate (CRE) secured loans originated or managed by the Bank of Montreal (BMO; rated AA with a Stable trend by Morningstar DBRS) as follows:

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

The provisional credit ratings on the Tranche Amounts address the likelihood of a reduction to the respective tranche notional amounts resulting from obligor defaults within the guaranteed portfolio during the period from the Effective Date until the Scheduled Termination Date. For obligors within the guaranteed portfolio, default events are limited to payment default, insolvency, and restructuring events.

Morningstar DBRS also confirmed the following credit ratings on the Boreal Series 2022-2 Class B Guarantee Linked Notes (the Class B Notes), the Boreal Series 2022-2 Class C Guarantee Linked Notes (the Class C Notes), the Boreal Series 2022-2 Class D Guarantee Linked Notes (the Class D Notes), and the Boreal Series 2022-2 Class E Guarantee Linked Notes (the Class E Notes) (collectively, the Notes) issued by Kawartha CAD Ltd. (the Issuer) referencing the executed Junior Loan Portfolio Financial Guarantees (the Financial Guarantee), dated December 2, 2022, between the Issuer as Guarantor and BMO as Beneficiary with respect to a portfolio of Canadian CRE secured loans originated or managed by BMO:

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

The credit ratings on the Notes address the timely payment of interest and ultimate payment of principal on or before the Scheduled Termination Date (as defined in the Financial Guarantee). The payment of the interest due to the Notes is subject to the Beneficiary’s ability to pay the Guarantee Fee Amount (as defined in the Financial Guarantee).

CREDIT RATING RATIONALE/DESCRIPTION
The credit rating actions are a result of Morningstar DBRS’ review of the transaction performance and application of the “Global Methodology for Rating CLOs and Corporate CDOs” (the CLO Methodology), including the Morningstar DBRS CLO Insight Model, initially released on October 22, 2023. On November 9, 2023, the credit ratings were placed Under Review with Developing Implications to allow Morningstar DBRS to review the credit ratings using the CLO Methodology.

Kawartha CAD Ltd., Boreal 2022-2 is a synthetic risk transfer transaction with BMO as Beneficiary. The Scheduled Termination Date is February 20, 2028. The Replenishment Cut-Off Date is November 20, 2024.

In its analysis, Morningstar DBRS considered the following:
(1) The Financial Guarantee dated as of December 2, 2022.
(2) The integrity of the transaction structure.
(3) Morningstar DBRS’ assessment of the portfolio quality.
(4) Adequate credit enhancement to withstand projected collateral loss rates.

Morningstar DBRS analyzed the transaction using its CMBS Insight Model and CLO Insight Model, based on certain reference portfolio characteristics, including Eligibility Criteria and Replenishment Criteria, as defined in the Financial Guarantee. As of January 30, 2024, certain Replenishment Criteria were not met. Morningstar DBRS considered each failure in its analysis. The reference portfolio consists of well-diversified CRE secured loans across various obligors. The analysis produced satisfactory results, which supported the confirmations of the credit ratings on the Tranche Amounts and the Notes.

The provisional credit ratings on the Tranche Amounts take into consideration only the creditworthiness of the reference portfolio. The provisional ratings do not address counterparty risk nor the likelihood of any event of default or termination event under the agreement occurring. BMO bought protection under a similar executed financial guarantee for certain issued notes but has not executed contracts related to the tranche notional amounts.

Morningstar DBRS’ provisional credit ratings on the Tranche Amounts are expected to remain provisional until the underlying agreements are executed. BMO may have no intention of executing the Financial Guarantees. Morningstar DBRS will maintain and monitor the provisional ratings throughout the life of the transaction or while it continues to receive performance information.

To assess portfolio credit quality, Morningstar DBRS may provide a credit estimate, internal assessment, or ratings mapping of BMO’s internal ratings model. Credit estimates, internal assessments, and ratings mappings are not ratings; rather, they represent an abbreviated analysis, including model-driven or statistical components of default probability for each obligor that is used in assigning a rating to a facility sufficient to assess portfolio credit quality.

The transaction assumptions consider Morningstar DBRS’ baseline macroeconomic scenarios for rated sovereign economies, available in its commentary “Baseline Macroeconomic Scenarios for Rated Sovereigns March 2024 Update,” published on March 27, 2024 (https://dbrs.morningstar.com/research/430189). These baseline macroeconomic scenarios replace Morningstar DBRS’ moderate and adverse coronavirus pandemic scenarios, which were first published in April 2020.

For more information regarding Morningstar DBRS’ additional adjustment for select industries related to the coronavirus, please see its May 18, 2020, commentary “CLO Risk Exposure to the Coronavirus Disease (COVID-19)” at https://dbrs.morningstar.com/research/361112.

ENVIRONMENTAL, SOCIAL, GOVERNANCE CONSIDERATIONS
Environmental (E) Factors
The following Environmental factor had a relevant effect on the credit analysis: The portfolio of 453 exposures includes 10 loans, representing 2.7% of the total guaranteed obligation amount, backed by properties that have been flagged for environmental issues. This E factor has a relevant effect on the credit analysis of the transaction, because Morningstar DBRS includes a penalty for the loss given default (LGD) estimate for loans flagged with environmental issues, which increases the estimated required credit enhancement at each rating level.

There were no Social or Governance factors that had a relevant or significant effect on the credit analysis.

A description of how Morningstar DBRS considers ESG factors within the Morningstar DBRS analytical framework can be found in the Morningstar DBRS Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings (January 23, 2024) at: https://dbrs.morningstar.com/research/427030.

Notes:
All figures are in U.S. dollars unless otherwise noted.

The principal methodologies applicable to the credit ratings are Global Methodology for Rating CLOs and Corporate CDOs, including its Appendix II: Mapping Financial Institution Internal Ratings to Morningstar DBRS Credit Ratings for Global Structured Credit Transactions, and the CLO Insight Model version 1.0.1.0 (February 23, 2024) https://dbrs.morningstar.com/research/428544 and North American CMBS Multi-Borrower Rating Methodology and North American CMBS Insight Model 1.2.0.0 (March 1, 2024) https://dbrs.morningstar.com/research/428797.

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

Morningstar DBRS materially deviated from its principal methodologies when determining the credit ratings assigned to the Tranche Amounts and the Notes. The LGD assumptions for the CRE Builder Developer portion of the guaranteed portfolio were derived via BMO’s LGD estimates and historical realized LGDs, rather than as part of any primary or related methodologies. The material deviation is warranted given that no primary or related methodology governs the application of LGD assumptions for CRE Builder Developer loans.

The credit rating was initiated at the request of the rated entity.

The rated entity or its related entities did participate in the credit rating process for this credit rating action.

Morningstar DBRS had access to the accounts, management and other relevant internal documents of the rated entity or its related entities in connection with this credit rating action.

This is a solicited credit rating.

DBRS, Inc.
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The credit rating methodologies used in the analysis of this transaction can be found at: https://dbrs.morningstar.com/about/methodologies.

Operational Risk Assessment for CLOs and CDOs (September 14, 2023)
https://dbrs.morningstar.com/research/420608

Legal Criteria for U.S. Structured Finance (December 7, 2023)
https://dbrs.morningstar.com/research/425081

Interest Rate Stresses for U.S. Structured Finance Transactions (February 26, 2024)
https://dbrs.morningstar.com/research/428623

For more information on this credit or on this industry, visit dbrs.morningstar.com or contact us at info-DBRS@morningstar.com.