Rating action

Scope Ratings GmbH (Scope) has today affirmed its AAA/Stable ratings on the Austrian covered bonds (Hypothekenpfandbriefe) issued by Salzburg-based Bausparkasse Wüstenrot AG (Wüstenrot). The Outlook remains Stable.

Rating rationale

Sound issuer rating (positive). Wüstenrot’s sound credit quality¹ reflects its low-risk business profile and adequate capitalisation.

Fundamental credit support (positive). The strength of the Austrian legal covered bond and resolution framework² supports up to four notches of uplift above the issuer rating. This effectively provides a floor against a deterioration in the credit quality of the cover pool.

Cover pool support (positive). Cover pool support³ is the primary rating driver and adds as much as seven notches of credit uplift, three notches in addition to fundamental support factors. The cover pool uplift reflects:

1. Cover pool complexity score (positive). Scope assigns the interplay between complexity and transparency a cover pool complexity score of 1, allowing for a maximum additional uplift of three notches on top of the fundamental uplift.
    
2. Overcollateralisation (positive). The 176.2% of overcollateralisation as of 31 March 2021, on an eligible-loan basis, shields the covered bonds from market and credit risks and is well above the minimum 12.0% of overcollateralisation that supports the three-notch cover pool-based uplift.
    
3. Sound credit quality (positive). The cover pool solely comprises residential and domestic cover assets with a low averaged unindexed eligible loan to value of about 50%.
    
4. Asset-liability mismatches (negative). Mismatch risk is moderate, reflecting a 26.2% share of floating-rate assets against 12.2% of floating-rate covered bonds. The maturity profiles of assets and liabilities are very well matched; however, the mismatch increases significantly when stressing for potential mortgage prepayments.

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, thereby maintaining the three notches of cover pool-based support; ii) Scope’s view that European covered bond harmonisation will not negatively impact the fundamental support factors relevant for the issuer and Austrian mortgage-covered bonds in general; and iii) Scope’s Stable Outlook on the issuer.

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

Quantitative analysis and assumptions

Scope’s projections of defaults on Wüstenrot’s mortgage loans use an inverse Gaussian distribution. Scope derived an effective lifetime mean default rate of 7.5% and coefficient of variation of 60%, based on internal loan-by-loan risk assessments provided by the bank and benchmarking.

Scope’s recovery rate calculations reflect rating-distance-dependent market value declines as well as the agency’s assumptions regarding the Austrian housing market and its unique characteristics. Scope’s stressed security values range between 45.0%-67.5%, depending on the property’s location. This results in recovery rates of 100% in the base case and 90.0% (both unchanged) in the most stressed scenario.

Credit risk only accounts for 2pp of the 12.0% supporting overcollateralisation, reflecting the low-risk nature of the fully residential mortgage cover pool.

Scope used the resulting loss distribution and default timing 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 ‘lower for longer’ scenario, in which interest rates drop to negative 1% after two years and remain at that rate until the last bond has been repaid. This reflects the interest rate mismatch, with 87.8% of fixed-rate covered bonds against only 73.8% of fixed-rate cover assets.

Scope tested for low (1%) and high prepayments (15%) to stress sensitivity to unscheduled repayments. The programme is most sensitive to high prepayments. As of 31 March 2021, the unstressed maturity profile of assets and liabilities is very well matched with the weighted average life of assets and covered bonds both standing at around 14.5 years. The mismatch, however, increases significantly when accounting for potential prepayments, thus increasing the costs of carry. The agency has floored the interest on the cash account above the short-term market rate at -50bps as the cash proceeds from the modelled prepayments are sizeable and available for a long period.

Market risk accounts for 10pp of the 12% supporting overcollateralisation, 5pp below the 15pp Scope calculated in its previous analysis. The decrease mainly reflects Wüstenrot’s issuance activity since Scope’s last review, resulting in a smaller stressed asset-liability maturity and interest mismatch as well as a decreased interest rate paid on the covered bonds. In combination and over the long remaining life of the covered bonds, this leads to a significantly lower cost of carry.

To calculate the cover pool’s net present value in the event of an asset sale, a refinancing premium of 150bps for Austrian residential mortgage loans was added to the rating-distance- and scenario-dependent discount curve. This, however, is not a risk factor as assets sales are unlikely in a high prepayment scenario.

The analysis applies country- and asset-type-specific servicing fees paid annually by the cover pool. For the residential mortgage loans, Scope assumed a servicing fee of 25bps. Scope further assumed a recovery timing of 30 months for residential mortgage loans in Austria.

The programme’s sensitivity was also tested to reinforce the programme’s supporting overcollateralisation, specifically against prepayments of up to 25% and front-loaded defaults.

Rating driver references
1. Wüstenrot – private issuer rating
2. Fundamental support assessment Austria
3. Confidential quarterly cover pool reportings

Stress testing
No stress testing was performed.

Cash flow analysis
The Credit Rating uplift is based on a cash flow analysis using Scope Ratings’ covered bond model (CobEL version 1.0). The model applies Credit 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.

Methodology
The methodologies used for this Credit Rating and Outlook (Covered Bond Rating Methodology, 18 May 2021; General Structured Finance Rating Methodology, 14 December 2020) are available on https://www.scoperatings.com/#!methodology/list.
The model used for this Credit Rating and Outlook is (Covered Bonds Expected Loss Model version 1.0), available in Scope’s list of models, published under: https://www.scoperatings.com/#!methodology/list.
Scope Ratings GmbH and Scope Ratings UK Limited apply the same methodologies/models and key rating assumptions for their credit rating services, while Scope Hamburg GmbH’s methodologies/models and key rating assumptions are different from those of Scope Ratings GmbH and Scope Ratings UK Limited.
Information on the meaning of each Credit Rating category, including definitions of default, recoveries, Outlooks and Under Review, can be viewed in ‘Rating Definitions – Credit Ratings, Ancillary and Other 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 Credit Rating performance report at https://www.scoperatings.com/#governance-and-policies/regulatory-ESMA. 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 Ratings’ definitions of default and Credit 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 factors) are incorporated into the Credit Rating can be found in the respective sections of the methodologies or guidance documents provided on https://www.scoperatings.com/#!methodology/list.
The Outlook indicates the most likely direction of the Credit Rating if the Credit Rating were to change within the next 12 to 18 months. 

Solicitation, key sources and quality of information
The Rated Entity and/or its Related Third Parties participated in the Credit 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 Ratings' 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 the Credit Rating 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. 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 are based. Following that review, the Credit Rating was not amended.

Regulatory disclosures
The Credit Rating and/or 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: Reber Acar, Associate Director
Person responsible for approval of the Credit Rating: Benoit Vasseur, Executive Director
The Credit Rating/Outlook was first released by Scope Ratings on on 6 April 2017. The Credit Rating/Outlook were last updated on 14 July 2020.

Potential conflicts
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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