NEW YORK--(BUSINESS WIRE)--Fitch Ratings has taken the following rating actions on tranches from eight collateralized debt obligations (CDOs) backed primarily by Trust Preferred (TruPS) securities issued by banks and insurance companies:
--Affirmed 57 tranches;
--Upgraded eight tranches.
KEY RATING DRIVERS
Credit Quality of Collateral: For all of the transactions, the credit quality of the collateral portfolios, as measured by a combination of Fitch's bank scores and ratings, remained stable or improved. Seven transactions experienced new deferrals or defaults.
Collateral Redemptions: Seven CDOs received various levels of redemptions that paid down the senior-most notes and increased credit enhancement (CE) levels for rated liabilities. The magnitude of redemptions for each CDO is reported in the accompanying rating action report. Potential upgrades were weighed against the risk of adverse selection in the remaining portfolios, especially those concentrated in fewer performing issuers, and considered in the context of the likely time horizon for the notes' paydown.
Excess Spread and CDO Structure: Excess spread continued to contribute to deleveraging of all. In four transactions the excess spread will be paying down the capitalized interest on mezzanine notes. In Preferred Term Securities XXIII the excess spread from the failure of third priority overcollateralization (OC) test is currently used to pay down the class A, B and C on a pro rata basis, that results in less benefit to the most senior notes.
Fitch estimates the additional CE from excess spread as described in 'Surveillance Criteria for TruPS CDOs,' dated April 21, 2015. The uplift to the passing ratings from the excess spread ranged in magnitude from none to three notches across the CDOs included in this review. Given that the base line of excess spread receives a bigger haircut in higher rating stresses, notes rated at high investment-grade levels received less credit from projected future excess spread. Therefore, the impact is in general more significant for notes rated below investment grade.
Resolution and Recovery of Defaults and Deferrals: The number of cures continued to trend upward, as Fitch reports in its quarterly Fitch Bank TruPS CDO index. Fitch assesses the likelihood of a cure for a current deferral based on the score history of a deferring issuer since deferral, as described in its criteria. Deferring issuers defined as 'strong' are assigned a higher likelihood of curing than 'weak' deferrals.
As a result of cures and transactions deleveraging, in three CDOs (Alesco Preferred Funding X, XII and XIV), the mezzanine or senior coverage OC tests began to pass which led to the resumption of interest payments to mezzanine classes previously cut off from distributions.
Fitch has observed six issuers across five different transactions to re-defer, after they had previously paid their cumulative deferred interest. These re-deferrals represent an average of 1.12% of portfolio notional across the five CDOs' portfolios. The re-deferring issuers are considered weak as defined in the 'Surveillance Criteria for TruPS CDOs'.
The ratings on the non-deferrable classes of the notes in Trapeza CDO IX reflect the risk of interest shortfall caused by an outsized interest rate swap and volatility of interest collections resulting from 12.7% of the collateral notional paying on a semi-annual basis. Although the notes can withstand higher rating stresses than their current ratings with regards to principal coverage, their ratings are limited by their ability to pay timely interest. The risk will be partially mitigated by the step down of the notional of the interest rate swap in July 2016, from $80 million to $50 million.
The key rating drivers highlighted above are incorporated in Fitch's TruPS model. The ratings on some notes passing at a high investment grade level were capped below their passing rating level, as indicated in the rating action report under 'Rating Rationale', due to portfolio concentration and/or expected long-term horizon for the notes' paydown that can result in rating volatility that Fitch views as inconsistent with the high investment-grade rating.
Changes in the rating drivers described above could lead to rating changes in the TruPS CDO notes. To address potential risks of adverse selection and increased portfolio concentration Fitch applied a sensitivity scenario, as described in the criteria.
To account for uncertainty around the pace of redemptions and cures and, consequently, magnitude of future excess spread, Fitch's rating analysis capped the levels of excess spread to the amounts projected only over the near term.
For non-deferrable notes, Fitch performs analysis of notes' interest sensitivity to additional defaults and deferrals, as described in the criteria. Ratings for non-deferrable notes are capped at the rating stress level corresponding to the magnitude of additional defaults and deferrals that could trigger a missed interest payment.
DUE DILIGENCE USAGE
No third party due diligence was reviewed in relation to this rating action.
Additional information is available at www.fitchratings.com.
Fitch Takes Various Actions on 8 Trust Preferred CDOs
Counterparty Criteria for Structured Finance and Covered Bonds (pub. 14 May 2014)
Criteria for Rating Caps and Limitations in Global Structured Finance Transactions (pub. 28 May 2014)
Global Rating Criteria for CLOs and Corporate CDOs (pub. 30 Jul 2015)
Global Structured Finance Rating Criteria (pub. 06 Jul 2015)
Surveillance Criteria for Trust Preferred CDOs (pub. 21 Apr 2015)
Dodd-Frank Rating Information Disclosure Form