Rating action

Scope Ratings has today affirmed the AAA ratings with Stable Outlook on the French covered bonds (obligations foncières or OF) issued by Compagnie de Financement Foncier S.A. (CoFF), the fully owned subsidiary of Crédit Foncier de France, itself a wholly owned subsidiary of BPCE Group.

Additional information and research on the issuer and its covered bonds are available on scoperatings.com.

Key rating drivers

Sound issuer rating (positive). The issuer’s AA-/Stable rating reflects its close integration with Groupe BPCE (AA-/Stable), one of France’s leading banking franchises.

Fundamental credit support (positive). The strength of the French legal covered bond and resolution framework supports an uplift of up to six notches to the issuer rating.

Cover pool support (positive). The sound credit quality of the cover assets, low scheduled asset-liability mismatches, low to moderate sensitivity to interest rate movements, and available overcollateralisation well above the rating-supporting level are credit-supportive.

Rating-change drivers

Scope’s Stable Outlook on the covered bonds reflects the expectation of CoFF’s stable credit performance and the maintenance of the prudent risk profile of the covered bonds. The agency expects that both the parent and the direct issuer will remain willing and able to continuously provide the overcollateralisation needed to support the strong credit quality of the covered bonds.

Current ratings are likely to withstand a six-notch downgrade of the issuer due to the credit support already provided by the cover pool, as long as the covered bond programme’s risk structure does not change materially.

Fundamental credit support factors provide a six-notch uplift

The combination of the French covered bond legal framework, the resolution regime and the systemic importance of OFs elevates the covered bond rating up to six notches above that of the issuer.

The strong regulatory supervision of the covered bonds supports a two-notch rating differentiation. The French covered bond framework meets all provisions relevant to establishing and maintaining a high-quality cover pool that remains available after the issuer’s potential insolvency. The upcoming European covered bond harmonisation will also have no negative impact on this assessment.

Scope’s assessment of the resolution regime adds a credit uplift of four notches. This considers the preferential treatment of covered bonds when a regulator intervenes in the issuer, the resolvability and importance of CoFF as a covered bond issuer, the high systemic importance of OFs in France, and the strong stakeholder cohesiveness.

Cover pool provides additional rating stability

The EUR 74.7bn cover pool provides the EUR 62.8bn of outstanding covered bonds with 19.0% nominal overcollateralisation as of 31 December 2018 (regulatory overcollateralisation stands at 14.1%). This is well above the 6.0% of overcollateralisation needed to support the rating in the absence of fundamental support factors. The level of overcollateralisation mitigates identified credit, market and mismatch risks, and the programme’s sensitivity to low prepayments in combination with increasing and non-reverting interest rates.

The low to moderate cash flow risks in the covered bond programme reflect the issuer’s strategy to significantly reduce the impact of market risk (i.e. interest rate and foreign exchange risks). Residual interest rate risk is limited: 58.8% of fixed-rate assets against 51.5% of fixed-rate covered bonds (after hedges).

CoFF’s scheduled cash flows only become insufficient to meet redemptions in the medium term. This reflects the issuer’s strong focus on cash flow matching in particular in the short-term and the provision of immediate liquidity for the first 180 days via highly liquid collateral registered in the cover pool.

Credit risk is only a secondary risk driver, reflecting the sound quality of the cover pool assets. CoFF’s covered bond programme is secured by a mixed cover pool comprising public-sector loans (37.1%), mortgage exposures (54.0%) – thereof, 53.1% residential and 0.9% commercial – and 8.8% substitute assets.

Quantitative analysis and key assumptions

Scope’s projections of default on CoFF’s mortgage loans use an inverse Gaussian distribution. Based on credit performance data provided by the bank (‘90 days past due’ annual vintages between 2000 and 2016), Scope derived an effective lifetime mean default rate of 9.0% and a volatility of defaults (coefficient of variation) of 24.0%. Assumptions include an asset recovery rate of 95.0% in the base case and 57.0% in the most stressed scenario, based on recovery vintages delivered by the issuer.

Scope used a market-standard portfolio analysis to estimate default statistics for the public sector pool, taking the exposure’s credit quality, its amortisation profile and asset correlation assumptions into account. A default distribution was derived for the cover pool using name-by-name credit assessments. A correlation framework which accounts for both geographical and issuer concentration was also applied. The resulting non-parametric default distribution has a mean default rate of 3.0% and a coefficient of variation of 97.6%. For each exposure, Scope applied obligor-type-specific stressed recovery rates ranging between 40.0% and 75.0%.

The resulting loss distribution and default timing were used to project the covered bond programme’s losses and reflect its amortisation structure. The analysis also incorporated the impact of rating distance-dependent interest rate stresses. The covered bond programme is most sensitive to a scenario in which interest rates increase after two years and plateau at 10% thereafter. Foreign exchange risk is fully mitigated via eligible derivatives.

Scope has added a liquidity premium for French residential mortgage loans of 300 bps to the rating distance and scenario-dependent discount curve to calculate the cover pool’s net present value in the event of an asset sale. This reflects the large share of mortgages that are guaranteed but have high loan-to-value ratios, which Scope considers to be less liquid than the ‘standard’ French mortgage loan. For the public-sector pool, Scope applied a weighted average liquidity premium of 293bps reflecting the debtor’s type and its location.

For the mortgage assets, Scope tested for low (0%) and high (up to 15%) prepayments to stress the programme’s sensitivity to unscheduled repayments. No prepayments were assumed for the public sector pool as these typically have no prepayment rights. The programme is most sensitive to low prepayments because a maturity mismatch would result in asset sales being necessary to make timely payments on the bonds.

Scope has assumed recovery lags of 36 months for unguaranteed mortgage loans and latest after 96 months for guaranteed loans as it expects a significant delay on recovery proceeds from the government guarantee. A 48-month recovery lag was also assumed for the public sector assets.

Scope assumed servicing fees of 25 bps for mortgage loans and 10 bps for the public sector pool.

Cash flow analysis
Scope assessed the degree of cover pool support by performing a cash flow analysis to establish the expected loss for the covered bonds. The cash flow analysis uses the scheduled cash flows of the cover assets and covered bonds as a starting point. Scope then applies rating distance-dependant stresses to simulate the impact of increasing credit and market risks on cash flows. The cash flow analysis also includes the impact of stressed asset sales or other variables such as changing prepayment speeds or servicing costs.

Stress testing
No stress testing was performed.

Methodology
The methodology used for the covered bond ratings and outlook is the Covered Bonds Rating Methodology. The methodology is 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 definitions of default and rating notations can be found at https://www.scoperatings.com/#governance-and-policies/rating-scale.
The rating outlook indicates the most likely direction of the rating if the rating were to change within the next 12 to 18 months.

Solicitation, key sources and quality of information
The rated entity participated in the rating process.
The following substantially material sources of information were used to prepare the credit rating: public domain, the rated entity, third parties 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.
Prior to the issuance of the rating action, the rated entity was given the opportunity to review the rating and outlook and the principal grounds on which the credit rating and outlook is based. Following that review, the rating was not amended before being issued.

Regulatory disclosures
This credit rating and outlook is issued by Scope Ratings GmbH.
Lead analyst: Reber Acar, Senior Analyst
Person responsible for approval of the ratings: Karlo Fuchs, Executive Director
The ratings/outlooks were first released by Scope on 07.02.2017.

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
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