Fitch Ratings expects to assign the following ratings and Rating Outlooks to Fannie Mae's risk transfer transaction, Connecticut Avenue Securities, series 2016-C07:
--$192,504,000 class 2M-1 notes 'BBB-sf'; Outlook Stable;
--$139,031,000 class 2M-2A notes 'BB+sf'; Outlook Stable;
--$310,146,000 class 2M-2B notes 'Bsf'; Outlook Stable;
--$449,177,000 class 2M-2 exchangeable notes 'Bsf'; Outlook Stable;
--$139,031,000 class 2M-2I exchangeable notional notes 'BB+sf'; Outlook Stable;
--$139,031,000 class 2M-2R exchangeable notes 'BB+sf'; Outlook Stable;
--$139,031,000 class 2M-2S exchangeable notes 'BB+sf'; Outlook Stable;
--$139,031,000 class 2M-2T exchangeable notes 'BB+sf'; Outlook Stable;
--$139,031,000 class 2M-2U exchangeable notes 'BB+sf'; Outlook Stable.
The following classes will not be rated by Fitch:
--$21,614,589,756 class 2A-H reference tranche;
--$10,132,779 class 2M-1H reference tranche;
--$7,317,785 class 2M-AH reference tranche;
--$16,324,366 class 2M-BH reference tranche;
--$60,000,000 class 2B notes;
--$165,151,976 class 2B-H reference tranche.
The 'BBB-sf' rating for the 2M-1 note reflects the 3.10% subordination provided by the 0.65% class 2M-2A note, the 1.45% class 2M-2B note and the 1.00% class 2B note, and their corresponding reference tranches. The notes are general senior unsecured obligations of Fannie Mae (rated 'AAA'/Outlook Stable) subject to the credit and principal payment risk of a pool of certain residential mortgage loans held in various Fannie Mae-guaranteed MBS.
The reference pool of mortgages will consist of mortgage loans with loan-to-value ratios (LTVs) greater than 80.01% and less than or equal to 97.00%.
Connecticut Avenue Securities, series 2016-C07 (CAS 2016-C07) is Fannie Mae's 16th risk transfer transaction issued as part of the Federal Housing Finance Agency's Conservatorship Strategic Plan for 2013 - 2017 for each of the government sponsored enterprises (GSEs) to demonstrate the viability of multiple types of risk transfer transactions involving single family mortgages.
The objective of the transaction is to transfer credit risk from Fannie Mae to private investors with respect to a $22.5 billion pool of mortgage loans currently held in previously issued MBS guaranteed by Fannie Mae where principal repayment of the notes are subject to the performance of a reference pool of mortgage loans. As loans liquidate, are modified or other credit events occur, the outstanding principal balance of the debt notes will be reduced by the loan's actual loss severity percentage related to those credit events.
While the transaction structure simulates the behavior and credit risk of traditional RMBS mezzanine and subordinate securities, Fannie Mae will be responsible for making monthly payments of interest and principal to investors. Because of the counterparty dependence on Fannie Mae, Fitch's expected rating on the 2M-1, 2M-2A and 2M-2B notes will be based on the lower of: the quality of the mortgage loan reference pool and credit enhancement (CE) available through subordination; and Fannie Mae's Issuer Default Rating. The notes will be issued as uncapped LIBOR-based floaters and will carry a 12.5-year legal final maturity.
KEY RATING DRIVERS
High Quality Mortgage Pool (Positive): The reference mortgage loan pool consists of high quality mortgage loans that were acquired by Fannie Mae from January 2016 through April 2016. In this transaction, Fannie Mae has only included one group of loans with LTVs from 80.01%-97.00%. Overall, the reference pool's collateral characteristics are similar to recent CAS transactions and reflect the strong credit profile of post-crisis mortgage originations.
Actual Loss Severities (Neutral): This will be Fannie Mae's eighth actual loss risk transfer transaction in which losses borne by the noteholders will not be based on a fixed loss severity (LS) schedule. The notes in this transaction will experience losses realized at the time of liquidation or modification, which will include both lost principal and delinquent or reduced interest.
Mortgage Insurance Guaranteed by Fannie Mae (Positive): The majority of the loans in the pool are covered either by borrower-paid mortgage insurance (BPMI) or lender-paid MI (LPMI). Fannie Mae will be guaranteeing the mortgage insurance (MI) coverage amount, which will typically be the MI coverage percentage multiplied by the sum of the unpaid principal balance as of the date of the default, up to 36 months of delinquent interest, taxes, and maintenance expenses. While the Fannie Mae guarantee allows for credit to be given to MI, Fitch applied a haircut to the amount of BPMI available due to the automatic termination provision as required by the Homeowners Protection Act when the loan balance is first scheduled to reach 78%.
12.5-Year Hard Maturity (Positive): The 2M-1, 2M-2A, 2M-2B, and 2B notes benefit from a 12.5-year legal final maturity. As a result, any collateral losses on the reference pool that occur beyond year 12.5 are borne by Fannie Mae and do not affect the transaction. Fitch accounted for the 12.5-year window in its default analysis and applied a reduction to its lifetime default expectations.
Limited Size/Scope of Third-Party Diligence (Neutral): This is the fourth transaction in which Fitch received third-party due diligence on a loan production basis as opposed to a transaction-specific review. Fitch believes that regular, periodic third-party reviews (TPRs) conducted on a loan production basis are sufficient for validating Fannie Mae's quality control (QC) processes. The sample selection was limited to a population of 7,391 loans that were previously reviewed as part of Fannie Mae's post-purchase QC review and met the reference pool's eligibility criteria. Of those loans, 1,998 were selected for a full review (credit, property valuation, and compliance) by third-party due diligence providers. Of the 1,998 loans, 347 were part of this transaction's reference pool. Fitch views the results of the due diligence review as consistent with its opinion of Fannie Mae as an above-average aggregator; as a result, no adjustments were made to Fitch's loss expectations based on due diligence.
Advantageous Payment Priority (Positive): The 2M-1 class strongly benefits from the sequential pay structure and stable CE provided by the more junior 2M-2A, 2M-2B, and 2B classes which are locked out from receiving any principal until classes with a more senior payment priority are paid in full. However, available CE for the junior classes as a percentage of the outstanding reference pool increases in tandem with the paydown of the 2M-1 class. Given the size of the 2M-1 class relative to the combined total of all the junior classes, together with the sequential pay structure, the class 2M-1 will de-lever and CE as a percentage of the outstanding balance for the remaining junior classes will build faster than in a pro rata payment structure.
Solid Alignment of Interests (Positive): While the transaction is designed to transfer credit risk to private investors, Fitch believes that it benefits from a solid alignment of interests. Fannie Mae will be retaining credit risk in the transaction by holding the 2A-H senior reference tranches, which have an initial loss protection of 4.00%, as well as at least 50% of the first loss 2B-H reference tranche, sized at 73 basis points (bps). Fannie Mae is also retaining an approximately 5% vertical slice/interest in the 2M-1, 2M-2A, and 2M-2B tranches.
Receivership Risk Considered (Neutral): Under the Federal Housing Finance Regulatory Reform Act, the Federal Housing Finance Agency (FHFA) must place Fannie Mae into receivership if it determines that Fannie Mae's assets are less than its obligations for more than 60 days following the deadline of its SEC filing, as well as for other reasons. As receiver, FHFA could repudiate any contract entered into by Fannie Mae if it is determined that the termination of such contract would promote an orderly administration of Fannie Mae's affairs. Fitch believes that the U.S. government will continue to support Fannie Mae; this is reflected in our current rating of Fannie Mae. However, if, at some point, Fitch views the support as being reduced and receivership likely, the ratings of Fannie Mae could be downgraded and the 2M-1, 2M-2A, and 2M-2B notes' ratings affected.
Fitch's analysis incorporates sensitivity analyses to demonstrate how the ratings would react to steeper market value declines (MVDs) than assumed at both the metropolitan statistical area (MSA) and national levels. The implied rating sensitivities are only an indication of some of the potential outcomes and do not consider other risk factors that the transaction may become exposed to or be considered in the surveillance of the transaction.
This defined stress sensitivity analysis demonstrates how the ratings would react to steeper MVDs at the national level. The analysis assumes MVDs of 10%, 20%, and 30%, in addition to the model-projected 23.4% at the 'BBBsf' level and 18.6% at the 'BBsf' level. The analysis indicates that there is some potential rating migration with higher MVDs, compared with the model projection.
Fitch also conducted defined rating sensitivities which determine the stresses to MVDs that would reduce a rating by one full category, to non-investment grade, and to 'CCCsf'. For example, additional MVDs of 11%, 11% and 35% would potentially reduce the 'BBBsf' rated class down one rating category, to non-investment grade, and to 'CCCsf', respectively.
DUE DILIGENCE USAGE
Fitch was provided with due diligence information from Adfitech, Inc. The due diligence focused on credit and compliance reviews, desktop valuation reviews and data integrity. Adfitech examined selected loan files with respect to the presence or absence of relevant documents. Fitch received certifications indicating that the loan-level due diligence was conducted in accordance with Fitch's published standards. The certifications also stated that the company performed its work in accordance with the independence standards, per Fitch's criteria, and that the due diligence analysts performing the review met Fitch's criteria of minimum years of experience. Fitch considered this information in its analysis and the findings did not have an impact on the analysis.
The offering documents for CAS 2016-C07 do not disclose any representations, warranties, or enforcement mechanisms (RW&Es) that are available to investors and which relate to the underlying asset pools. Please see Fitch's Special Report for further information regarding Fitch's approach to the disclosure of a transaction's RW&Es as required under SEC Rule 17g-7.
Additional information is available at www.fitchratings.com.
Sources of Information:
In addition to the information sources identified in Fitch's criteria listed below, Fitch's analysis incorporated data tapes, due diligence results, deal structure and legal documents provided by Fannie Mae.
Counterparty Criteria for Structured Finance and Covered Bonds (pub. 01 Sep 2016)
Global Structured Finance Rating Criteria (pub. 27 Jun 2016)
Rating Criteria for U.S. Residential and Small Balance Commercial Mortgage Servicers (pub. 23 Apr 2015)
U.S. RMBS Cash Flow Analysis Criteria (pub. 15 Apr 2016)
U.S. RMBS Loan Loss Model Criteria (pub. 29 Nov 2016)
U.S. RMBS Master Rating Criteria (pub. 27 Jun 2016)
U.S. RMBS Surveillance and Re-REMIC Criteria (pub. 15 Nov 2016)
Dodd-Frank Rating Information Disclosure Form
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