July 11, 2017 / 2:48 AM / in a year

Fitch Rates BOQ's Inaugural EUR500m Conditional Pass-Through Mortgage Covered Bonds 'AAA'

(The following statement was released by the rating agency) SYDNEY, July 10 (Fitch) Fitch Ratings has assigned Bank of Queensland Limited's (BOQ; A-/Stable/F2) Series 2017-1 covered bonds a final 'AAA' rating with a Stable Outlook. The fixed-rate EUR500 million bond with a five-year maturity is the first issued under the conditional pass-through covered bond programme and is also the first conditional pass-through bond to be issued in the Asia-Pacific region. KEY RATING DRIVERS The rating is based on BOQ's Long-Term Issuer Default Rating (IDR) of 'A-', a payment continuity uplift (PCU) of eight notches, a recovery uplift of two notches and the current contractual maximum asset percentage (AP) of 90.9%, which Fitch relies upon in its analysis. This AP provides more protection than Fitch's 'AAA' breakeven AP of 96.0%. This supports a 'AA' tested rating on a probability-of-default basis and two-notch recovery uplift, as it roughly absorbs the 4.2% stressed credit loss in a 'AAA' scenario. The Stable Outlook on the rating reflects the four-notch buffer against a downgrade of the bank's IDR. Breakeven AP The 'AAA' breakeven AP of 96.0% corresponds to a breakeven overcollateralisation (OC) of 4.2% and is driven by the credit loss component of 3.1%, which reflects the credit quality of the underlying cover pool. The asset disposal loss and cash flow valuation components are at 0.5% and 0.7%, respectively. The low asset disposal loss reflects the pass-through amortisation, which avoids forced asset sales. IDR Uplift The IDR uplift assigned is at zero notches. Fitch understands that in Australia, the regulator has the ability to resolve a bank under its supervisory powers pursuant to the Banking Act. However, Fitch views that the bail-in of creditors or the exemption of covered bonds in a bank resolution scenario is not contemplated under the current framework. Therefore, BOQ's Long-Term IDR is the floor for its covered bond rating. PCU The eight-notch PCU assigned to BOQ's CPT mortgage covered bond programme by Fitch reflects the principal protection stemming from the 31.5-year maturity extension for covered bond payments and the availability of a reserve fund providing three months of interest payment protection. The CPT feature eliminates refinancing risk if the payment source switches to the cover pool. Recovery Uplift BOQ's covered bonds benefit from a two-notch recovery uplift, as Fitch sees the underlying assets as standard and the AP relied upon by Fitch in its analysis roughly compensates for the credit loss modelled in a 'AAA' stress scenario. Fitch also expects minimal exposure to foreign-exchange risk, as the currency swaps on the covered bonds should cover the pass-through period. Therefore, Fitch does not expect any material downside risk to recovery expectations. A failure by the issuer to meet principal payments at the bonds' expected maturity triggers the bond's 31.5-year maturity extension for that series of bonds. Once a bond has been extended and fully repaid, the next due bond will immediately convert to pass-through, even if it has not reached its expected maturity date. This sequential pass-through mechanism speeds up the repayment of the bonds and is similar to that seen in mortgage-backed securities. The cover pool consisted of 4,044 loans secured by first-ranking mortgages of Australian residential properties as of 7 June 2017, with a total outstanding balance of AUD1 billion. The cover pool's weighted-average loan/value ratio (LVR) was 61.4%; the Fitch-calculated indexed current LVR was 57.4% and the weighted-average seasoning was 63 months. Investment loans formed 38.8% of the pool, while 19.6% of the pool was interest-only loans. The cover pool has a high concentration around Queensland, with 56.7% of loans in the pool originated in the state. The agency calculated that, in a 'AAA' scenario, there would be a cumulative weighted-average foreclosure frequency of 8.6% and a weighted-average recovery rate of 53.3% for the cover pool. Criteria Variation Fitch has applied a variation to the APAC Residential Mortgage Criteria, which states that the asset margin modelled will be capped at 2.0% for covered bonds where the margin exceeds that amount. Fitch has given credit to the servicer's ability to adjust cover asset mortgage rates to avoid interest-rate shortfalls in the programme, which could occur over time. In its analysis, Fitch has equalised the margin on the variable rate assets to the average extension margin on the covered bonds. Without the variation, the breakeven AP for the rating would remain higher than the AP Fitch relies on. Hence, Fitch believes the variation applied does not affect the assigned ratings. RATING SENSITIVITIES Bank of Queensland Limited's covered bonds are vulnerable to downgrade if the relied-upon asset percentage (AP) rises above the 'AAA' breakeven AP of 96.0% or if the bank's Long-Term Issuer Default Rating falls below 'BB+'. Fitch's 'AAA' breakeven AP for the covered bond rating will be affected by, among other factors, the profile of the cover assets relative to outstanding covered bonds, which can change over time, even in the absence of new issuance. Therefore, it cannot be assumed that the 'AAA' breakeven AP, which maintains the covered bond rating, will remain stable over time. Contact: Primary Analyst Claire Heaton Senior Director +61 2 8256 0361 Fitch Australia Pty Ltd Level 15, 77 King Street, Sydney NSW 2000 Secondary Analyst Sambit Agasti Associate Director +61 2 8256 0337 Committee Chairperson Ben McCarthy Managing Director +61 2 8256 0388 The source of information used to assess these ratings was Bank of Queensland Limited. The issuer has informed Fitch that not all relevant underlying information used in the analysis of the rated bonds is public. Media Relations: Leslie Tan, Singapore, Tel: +65 67 96 7234, Email: leslie.tan@fitchratings.com. Additional information is available on www.fitchratings.com Applicable Criteria APAC Residential Mortgage Rating Criteria (pub. 27 Apr 2017) here Covered Bonds Rating Criteria (pub. 26 Oct 2016) here Fitch's Cover Assets Refinancing Spread Level (RSL) Assumptions - Excel file (pub. 20 Jan 2017) here Fitch's Interest Rate Stress Assumptions for Structured Finance and Covered Bonds - Excel File (pub. 17 Feb 2017) here Global Bank Rating Criteria (pub. 25 Nov 2016) here Structured Finance and Covered Bonds Counterparty Rating Criteria (pub. 23 May 2017) here Structured Finance and Covered Bonds Counterparty Rating Criteria: Derivative Addendum (pub. 23 May 2017) here Structured Finance and Covered Bonds Interest Rate Stresses Rating Criteria (pub. 17 Feb 2017) here Additional Disclosures Dodd-Frank Rating Information Disclosure Form here Solicitation Status here Endorsement Policy here ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. 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