Rating action

The following rating actions result from Scope’s regular monitoring (effective balances as of 25 October 2018):

Tranche A, EUR 1,272m: affirmed at AAA_SF
Tranche B, EUR 111m: affirmed at AA_SF
Tranche C, EUR 178m: affirmed at A+_SF
Tranche D, EUR 120m: affirmed at BBB+_SF
Tranche E, EUR 145m: downgraded to BBSF from BB+_SF
Tranche F, EUR 99m: not rated

The ratings reflect the risk for the credit protection seller to make payments with respect to a credit event under the terms of the credit protection deed. The ratings do not address potential losses arising from the transaction’s early termination, nor any market risk associated with the transaction. All ratings reflect the expected loss on each respective tranche, in a risk horizon equal to the expected weighted average life of the tranche.

Rating rationale

The rating actions reflect i) the evolution of the reference portfolio after amortisations and repayments, as well as after a credit event that has resulted in the restructuring of one of the underlying projects (i.e. transportation sector, indirectly exposed to the Spanish public sector); ii) the portfolio modelling assumptions updated to the current characteristics of the transaction; and iii) recovery assumptions which reflect expected recovery performance under stress in line with the principles outlined in Scope’s project finance methodology.

The affirmation of tranches A through D reflects the comfortable level of credit enhancement from subordination (i.e. 33.9%, 28.2%, 18.9%, and 12.6% respectively as of 25 October 2018) despite the pro-rata amortisation, which would only stop under severe scenarios via a trigger at 2% cumulative realised losses relative to the initial balance of the reference portfolio.

The downgrade of tranche E reflects the current 5.1% credit enhancement (down from 5.3% at closing) provided by the subordination of the unrated tranche F. The recent credit event resulted in losses of 12bp, which were in line with Scope’s expected severity for credit impairment events in this transaction. Nevertheless, the credit event signals the fundamental economic weakness of several projects in the reference portfolio, which might suffer similar restructurings over the life of the transaction, particularly if Spanish macroeconomic conditions deteriorated further due to political instability.

Scope has assumed an 8.9% weighted-average lifetime portfolio default rate (same as closing) and an 89% weighted-average portfolio recovery rate under a ‘B’ rating conditional scenario and 44% under ‘AAA’, based on its analysis of the portfolio using mapped loan-by-loan input assumptions. The non-parametric default-rate distribution resulting from the simulation exhibits a 77% coefficient of variation. The portfolio factor is 84%, accounting for nominal balances as of 25 October 2018. The reference portfolio’s remaining weighted average life is still 7.3 years assuming no restructurings, defaults or prepayments.

These metrics reflect the reference portfolio’s expected credit quality (commensurate with Scope’s idealised losses for BBB+ ratings), the concentrations in Spanish assets, and relatively good diversification across 213 reference obligations (from 241 at closing). The current portfolio is exposed to two projects, each representing more than 2.5% of the total balance (but well under 5.0%). Scope has applied stresses to the largest exposures, consolidated by project, which include a 10% haircut to rating-conditional recovery rates and a 20pp increase to the pair-wise correlation. The largest four exposures were selected for this stress based on their relative size and contribution to portfolio expected loss.

Scope has applied the following correlation assumptions for the analysis of this transaction: i) a minimum 2.0pp for all loans (down from 3.8pp at closing); ii) 5.0pp assigned to asset pairs sharing the same country (down from 7.5pp at closing); iii) 15pp to pairs sharing the same sector; iv) 7.5pp to pairs sharing the same country and sector; and v) 15pp to pairs sharing the same key agent – which applies to all projects deemed by Scope to be directly or indirectly exposed to the Spanish public sector.The global and country correlation factor weights reflect the global cross-asset correlation level, and still stresses the analysis of multi-sector project finance assets in different countries within the same region. These assumptions are aligned with those used for the analysis of FITZROY 2018-1 CLO DAC, another synthetic project finance CLO originated by Santander UK.

Rating-change drivers

Positive. Tranche B might benefit from the build-up of a strong performance record of the portfolio, and after all projects referenced consolidate the operational phase.

Negative. Adverse macroeconomic developments in Spain with an impact on public finances might result in portfolio underperformance. If defaults and recoveries diverge significantly from Scope’s expectations (e.g. due to an adverse event affecting a major portfolio segment), the agency may reassess the default likelihood and stressed recovery rates of reference obligations, which could result in downgrades.

Cash flow analysis

The transaction is synthetic. Scope has analysed the reference portfolio loan by loan, using a single-step Monte Carlo simulation implementing a Gaussian-copula dependency framework. The pro-rata allocation of referenced balance reductions and the strict sequential allocations of losses to the most junior tranche was modelled using Scope’s proprietary cash flow model.

Stress testing

Stress testing was performed by applying rating-adjusted recovery rate assumptions and considering the stochastic distribution of portfolio defaults.

Sensitivity analysis

As part of the rating analysis, Scope has tested the resilience of the rating against deviations of main input characteristics: portfolio mean default rate and its coefficient of variation, and the portfolio recovery rate. This analysis has the sole purpose of illustrating the sensitivity of the rating to input assumptions and is not indicative of expected or likely scenarios.

The following list shows how the ratings for each rated tranche changes when the portfolio’s expected default rate increases by 50%, the portfolio default rate’s coefficient of variation increases by 50%, and the portfolio’s expected recovery rate reduces by 50% (respectively):

• Tranche A: one, one, and two notches
• Tranche B: two, two, and five notches
• Tranche C: three, three, and five notches
• Tranche D: two, two, and five notches
• Tranche E: two, one, and five notches.

Methodology

The methodologies applicable for these final ratings are the ‘General Structured Finance Rating Methodology’, and the ‘Rating Methodology for Counterparty Risk in Structured Finance Transactions’. The analysis also considered the analytical principles of the ‘General Project Finance Rating Methodology’. All documents are available on www.scoperatings.com.

Historical default rates of the entities rated by Scope Ratings can be viewed in the rating performance report on https://www.scoperatings.com/#governance-and-policies/regulatory-ESMA Please also refer to the central platform (CEREP) of the European Securities and Markets Authority (ESMA): http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml. A comprehensive clarification of Scope’s definition of default as well as definitions of rating notations can be found in Scope’s public credit rating methodologies on www.scoperatings.com.

Solicitation, key sources and quality of information

The rated entity and/or its agents participated / did not participate in the rating process.

The following substantially material sources of information were used to prepare the credit rating: the originating bank, the project finance consortium, and Scope internal sources.

Scope considers the quality of information available to Scope on the rated entity or instrument to be satisfactory. The information and data supporting Scope’s ratings originate from sources Scope considers to be reliable and accurate. Scope does not, however, independently verify the reliability and accuracy of the information and data.”

Scope Ratings GmbH has not relied on a third-party asset due diligence/asset audit. Scope has performed its own analysis of the assets, based on information received from the rated entity or related third parties, which is not and should be not deemed equivalent to a due diligence or an audit. The internal analysis has no negative impact on the credit rating.

Prior to the issuance of the rating or outlook action, the rated entity was given the opportunity to review the rating and/or outlook and the principal grounds on which the credit rating and/or outlook is based. Following that review, the rating was not amended before being issued.

Regulatory disclosures
This credit rating and/or rating outlook is issued by Scope Ratings GmbH.
Lead analyst Carlos Terré, Managing Director
Person responsible for approval of the rating: Guillaume Jolivet, Managing Director
The ratings were first released by Scope in December 2017. The ratings are first updated on this date.

Potential conflicts
Please see www.scoperatings.com. for a list of potential conflicts of interest related to the issuance of credit ratings.

Conditions of use / exclusion of liability
© 2018 Scope SE & Co. KGaA and all its subsidiaries including Scope Ratings GmbH, Scope Analysis GmbH, Scope Investor Services GmbH and Scope Risk Solutions GmbH (collectively, Scope). All rights reserved. The information and data supporting Scope’s ratings, rating reports, rating opinions and related research and credit opinions originate from sources Scope considers to be reliable and accurate. Scope does not, however, independently verify the reliability and accuracy of the information and data. Scope’s ratings, rating reports, rating opinions, or related research and credit opinions are provided ‘as is’ without any representation or warranty of any kind. In no circumstance shall Scope or its directors, officers, employees and other representatives be liable to any party for any direct, indirect, incidental or other damages, expenses of any kind, or losses arising from any use of Scope’s ratings, rating reports, rating opinions, related research or credit opinions. Ratings and other related credit opinions issued by Scope are, and have to be viewed by any party as, opinions on relative credit risk and not a statement of fact or recommendation to purchase, hold or sell securities. Past performance does not necessarily predict future results. Any report issued by Scope is not a prospectus or similar document related to a debt security or issuing entity. Scope issues credit ratings and related research and opinions with the understanding and expectation that parties using them will assess independently the suitability of each security for investment or transaction purposes. Scope’s credit ratings address relative credit risk, they do not address other risks such as market, liquidity, legal, or volatility. The information and data included herein is protected by copyright and other laws. To reproduce, transmit, transfer, disseminate, translate, resell, or store for subsequent use for any such purpose the information and data contained herein, contact Scope Ratings GmbH at Lennéstrasse 5 D-10785 Berlin.

Scope Ratings GmbH, Lennéstrasse 5, 10785 Berlin, District Court for Berlin (Charlottenburg) HRB 192993 B, Managing Director: Torsten Hinrichs.