London, 06 December 2012 -- Moody's Investors Service has downgraded to Aa2 from Aa1 on review for downgrade the ratings of the covered bonds issued by Hypothekenbank Frankfurt AG (the issuer; Baa2 deposits; BFSR E/BCA ba1, P-2, outlooks negative) issued under its Mortgage Pfandbrief programme governed by German Pfandbrief law. Today's downgrade was prompted by the issuer's decision not to put in place over-collateralisation (OC) in a committed form that would have been sufficient to maintain an Aa1 rating on the covered bonds.
Moody's previously downgraded the covered bonds to Aa1 on review for downgrade on 8 June 2012 and today's rating action concludes Moody's review of the covered bonds.
The downgrade follows the issuer's decision not to increase the committed OC over and above the statutory level of 2% on a stressed net present value basis. According to Moody's methodology, the overall OC that is necessary to maintain the Aa1 ratings is 14%, of which the issuer should provide 6% in contractually committed form.
Based on the statutory OC held by the issuer, the maximum rating achievable is Aa2, provided that the issuer maintains overall OC of 10.5%, which can be in uncommitted form.
Moody's would regard OC as committed if the issuer's discretion to remove the OC is sufficiently restricted.
The TPI assigned to this transaction is "High". Moody's TPI framework does not constrain the rating of the covered bonds.
The rating assigned by Moody's addresses the expected loss posed to investors. Moody's ratings address only the credit risks associated with the transaction. Other non-credit risks have not been addressed, but may have a significant effect on yield to investors.
KEY RATING ASSUMPTIONS/FACTORS
Covered bond ratings are determined after applying a two-step process: an expected loss analysis and a TPI framework analysis.
EXPECTED LOSS: Moody's determines a rating based on the expected loss on the bond. The primary model used is Moody's Covered Bond Model (COBOL), which determines expected loss as (1) a function of the issuer's probability of default (measured by the issuer's rating); and (2) the stressed losses on the cover pool assets following issuer default.
The cover pool losses for this programme are 18.5%. This is an estimate of the losses Moody's currently models if the issuer defaults. Cover pool losses can be split between market risk of 10.0% and collateral risk of 8.5%. Market risk measures losses as a result of refinancing risk and risks related to interest-rate and currency mismatches (these losses may also include certain legal risks). Collateral risk measures losses resulting directly from the credit quality of the assets in the cover pool. Collateral risk is derived from the collateral score; the collateral score for this programme is currently 12.8%.
The OC in the cover pool is 16.1% on a present value basis, of which Hypothekenbank Frankfurt provides 2% on a committed basis. The minimum OC level that is consistent with the Aa2 rating target is 10.5%, of which 0% should be provided in a committed form. These numbers show that Moody's is relying on uncommitted OC in its expected loss analysis.
All numbers in this section are based on Moody's most recent modelling (based on data, as per 30 September 2012).
TPI FRAMEWORK: Moody's assigns a "timely payment indicator" (TPI), which indicates the likelihood that timely payment will be made to covered bondholders following issuer default. The effect of the TPI framework is to limit the covered bond rating to a certain number of notches above the issuer's rating.
The robustness of a covered bond rating largely depends on the issuer's credit strength.
The TPI Leeway measures the number of notches by which the issuer's rating may be downgraded before the covered bonds are downgraded under the TPI framework.
Based on the current TPI of High, the TPI Leeway for this programme is one notch, meaning the covered bonds might be downgraded as a result of a TPI cap once the issuer rating is downgraded below Baa3, all other variables being equal.
A multiple-notch downgrade of the covered bonds might occur in certain limited circumstances, such as (1) a sovereign downgrade negatively affecting both the issuer's senior unsecured rating and the TPI; (2) a multiple-notch downgrade of the issuer; or (3) a material reduction of the value of the cover pool.
The principal methodology used in these ratings was "Moody's Approach to Rating Covered Bonds" published in July 2012. Please see the Credit Policy page on www.moodys.com for a copy of this methodology.
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