Rating action

Scope Ratings GmbH (Scope) has today affirmed the AAA rating with a Stable Outlook on the Norwegian covered bonds (obligasjoner med fortrinnsrett) issued by Landkreditt Boligkreditt AS, the fully owned mortgage subsidiary of Landkreditt Bank AS (both banks rated A-/Stable).

Key rating drivers

Sound issuer rating (positive). Landkreditt Boligkreditt’s issuer rating¹ of A-/Stable is fully aligned with the rating of its parent, Landkreditt Bank, the leading provider of financial services to Norway’s agricultural sector.

Cover pool support (positive)^2,3. Cover pool support is the primary rating driver and adds at least six notches of credit uplift, reflecting:

1. Overcollateralisation (positive). Available overcollateralisation of 15.4% shields the covered bonds from market and credit risks and is well above the minimum 5.0% that supports the cover pool uplift.
    
2. Sound credit quality (positive). The granular and fully residential cover pool with a low loan-to-value ratio has low credit risk even under the highest rating stresses.
    
3. Asset-liability mismatches (negative). Asset-liability mismatch risk arises from the slow scheduled amortisation of the cover assets against the faster redemption of the covered bonds, also given their soft bullet structure. The cover pool does not benefit from additional short-term substitute assets.

Fundamental credit support (positive). The strength of the Norwegian legal covered bond and resolution framework supports up to five notches of uplift above the issuer rating and effectively provides a floor against a deterioration in the cover pool’s credit quality.

Rating-change drivers

Scope’s Stable Outlook on the covered bonds reflects: i) the continuous availability of high overcollateralisation, which provides a significant buffer against a rise in credit and market risks; ii) Scope’s view that the European covered bond harmonisation will not negatively impact the fundamental support factors relevant for the issuer and Norwegian mortgage-covered bonds in general; and iii) Scope’s Stable Outlook on the credit quality of the issuer.

The covered bond ratings may be downgraded if: i) the issuer’s credit quality deteriorates by three notches or more; ii) risk in the covered bond programme increases and the overcollateralisation provided no longer supports a six-notch rating uplift; or iii) there is a deterioration in Scope’s view on fundamental support factors relevant to the issuer and Norwegian mortgage-covered bonds in general.

Quantitative analysis and assumptions

Scope’s projections of default on Landkreditt Boligkreditt’s mortgage loans were made using an inverse Gaussian distribution. Based on credit performance data provided by the bank (historical delinquencies, portfolio loss rates) and benchmarking, Scope derived an effective lifetime mean default rate of 10% (annual 61bps) and a volatility of default (coefficient of variation) of 50%. The asset recovery assumption ranged between 99.9% in the base case and 88.5% in the most stressed scenario. Scope’s loss-given-default analysis assumed that credit lines for flexible loans are fully drawn and pay interest only at the expected maturity, assuming a loan term of 15 years.

Scope applied rating-distance-dependent market value declines to establish recovery rates. Assumptions reflect the agency’s analysis of Norwegian housing market developments and their unique characteristics. Scope’s stressed security value haircuts for the properties securing the mortgage loans range between 45% and 62.5% (up from 57.5%), depending on the property’s location.

Overall, credit risk only accounts for 1.5pp of the 5.0% rating-supporting overcollateralisation, unchanged since the previous review.

Scope used the resulting loss distribution and default timing to project the covered bond programme’s losses and to reflect the programme’s amortisation structure. The analysis also incorporated the impact of rating-distance-dependent interest rate stresses. The covered bond programme is relatively resilient to interest rate stresses as both the cover assets and the covered bonds are floating rate.

To calculate the cover pool’s net present value in the event of an asset sale, Scope added a 150bps liquidity premium to the rating-distance- and scenario-dependent discount curve for Norwegian residential mortgage loans. The liquidity premium was based on an analysis of the long-term development of trading spreads on Norwegian and other ‘core country’ covered bond spreads.

Scope used low (0%) and high (up to 15%) prepayment rates to stress the programme’s sensitivity to unscheduled repayments. The programme is most sensitive to low prepayments as the large maturity mismatch means asset sales are necessary to make timely bond payments. The mismatch arises from the 6.9-year gap in weighted average life between the assets (11.1 years, based on their legal terms) and the bonds (only 4.2 years, up from 4.0 years in the previous analysis).

Market risk accounts for 3.5pp of the 5.0% rating-supporting overcollateralisation, down from 5.5pp in the previous analysis, reflecting the reduced asset-liability maturity mismatch.

Scope assumed a recovery lag of 18 months for residential loans originated by Landkreditt Boligkreditt. The recovery timing for the mortgage loans is based on an analysis of Norwegian enforcement processes, considering that collateral is most exposed to the Oslo and Viken regions, where liquidity is higher than for Norway’s rural regions.

Scope applied country- and asset-type-specific servicing fees of 25bps for the residential mortgage loans that the cover pool needs to pay annually.

Rating driver references
1. Landkreditt Boligkreditt AS – public issuer rating
2. Landkreditt Boligkreditt public quarterly reporting 
3. Confidential cover pool reporting

Stress testing
No stress testing was performed.

Cash flow analysis
The cover pool-supported rating uplift is based on a cash flow analysis using Scope’s covered bond model (CobEL version 1.0). The model applies rating distance-dependent stresses to scheduled cash flows to simulate the impact of increasing credit and market risks. The model outcome is the expected loss for a given level of overcollateralisation as well as the impact of stressed asset sales or variables such as changing prepayment speeds or servicing costs.

Methodology
The methodologies used for this rating and rating outlook (Covered Bonds Rating Methodology, 22 July 2020, General Structured Finance Rating Methodology, 14 December 2020 and Methodology for Counterparty Risk in Structured Finance, 8 July 2020) are available on https://www.scoperatings.com/#!methodology/list.
The model used for this rating and rating outlook (Covered Bonds Expected Loss Model version 1.0) is available in Scope’s list of models, published under: https://www.scoperatings.com/#!methodology/list.
Information on the meaning of each rating category, including definitions of default and recoveries can be viewed in the “Rating Definitions - Credit Ratings and Ancillary Services” published on https://www.scoperatings.com/#!governance-and-policies/rating-scale. 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. Guidance and information on how Environmental, Social or Governance factors (ESG factor) are incorporated into the rating can be found in the respective sections of the methodologies or guidance documents provided on https://www.scoperatings.com/#!methodology/list.
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 and/or its agents 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 Ratings considers the quality of information available to Scope Ratings on the rated entity or instrument to be satisfactory. The information and data supporting Scope Ratings’ credit ratings originate from sources Scope Ratings considers to be reliable and accurate. Scope Ratings does not, however, independently verify the reliability and accuracy of the information and data.
Scope Ratings has not received a third-party asset due diligence assessment/asset audit. Scope Ratings has performed its own analysis of the data quality, based on information received from the rated entity or related third parties, which is not and should be not deemed equivalent to the performance of due diligence or an audit. The internal analysis was considered when preparing the credit rating and it has no impact on the credit rating.
Prior to the issuance of the credit rating action, the rated entity was given the opportunity to review the credit rating and/or outlook and the principal grounds on which the credit rating and/or outlook is based. Following that review, the credit rating was not amended before being issued.

Regulatory disclosures
This credit rating and/or rating outlook is issued by Scope Ratings GmbH, Lennéstraße 5, D-10785 Berlin, Tel +49 30 27891-0. The credit rating and/or outlook is UK endorsed.
Lead analyst: Mathias Pleißner, Director
Person responsible for approval of the Credit Rating(s): Karlo Fuchs, Managing Director 
The ratings/outlooks were first released by Scope on 4 April 2018. The ratings/outlooks were last updated on 20 March 2020.

Potential conflicts
Please see www.scoperatings.com under Governance & Policies/EU Regulation/Disclosures 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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