Fitch Rates Freddie Mac Structured Agency Credit Risk Debt Notes, Series 2015-DNA1
--\$280,000,000 class M-1 notes 'AA-sf'; Outlook Stable;
--\$280,000,000 class M-1F exchangeable notes 'AA-sf'; Outlook Stable;
--\$280,000,000 class M-1I notional exchangeable notes 'AA-sf'; Outlook Stable;
--\$280,000,000 class M-2 notes 'Asf'; Outlook Stable;
--\$280,000,000 class M-2F exchangeable notes 'Asf'; Outlook Stable;
--\$280,000,000 class M-2I notional exchangeable notes 'Asf'; Outlook Stable;
--\$350,000,000 class M-3 notes 'BB+sf'; Outlook Stable;
--\$350,000,000 class M-3F exchangeable notes 'BB+sf'; Outlook Stable;
--\$350,000,000 class M-3I notional exchangeable notes 'BB+sf'; Outlook Stable;
--\$910,000,000 class MA exchangeable notes 'BB+sf'; Outlook Stable;
--\$560,000,000 class M-12 exchangeable notes 'Asf'; Outlook Stable.
The following classes will not be rated by Fitch:
--\$30,521,016,850 class A-H reference tranche;
--\$38,757,355 class M-1H reference tranche;
--\$38,757,356 class M-2H reference tranche;
--\$48,446,695 class M-3H reference tranche;
--\$100,000,000 class B notes;
--\$218,757,357 class B-H reference tranche.
The 'AA-sf' rating for the M-1 notes reflects the 3.25% subordination provided by the 1.00% class M-2 notes, the 1.25% class M-3 notes and the 1.00% class B notes. The 'Asf' rating for the M-2 notes reflects the 2.25% subordination provided by the 1.25% class M-3 notes and the 1.00% class B notes. The notes are general unsecured obligations of Freddie Mac (rated 'AAA'/Outlook Stable by Fitch) subject to the credit and principal payment risk of a pool of certain residential mortgage loans held in various Freddie Mac-guaranteed MBS.
STACR 2015-DNA1 is Freddie Mac's first actual loss severity risk transfer transaction issued as part of the Federal Housing Finance Agency's Conservatorship Strategic Plan for 2013-2017 for each of the government sponsored enterprises (GSEs) to demonstrate the viability of multiple types of risk-transfer transactions involving single-family mortgages.
The objective of the transaction is to transfer credit risk from Freddie Mac to private investors with respect to a \$31.9 billion pool of mortgage loans currently held in previously issued MBS guaranteed by Freddie Mac where principal repayment of the notes is subject to the performance of a reference pool of mortgage loans. As loans liquidate or other credit events occur, the outstanding principal balance of the debt notes will be reduced by the actual loan's loss severity (LS) percentage related to those credit events, which includes borrower's delinquent interest.
While the transaction structure simulates the behavior and credit risk of traditional RMBS senior-subordinate securities, Freddie Mac will be responsible for making monthly payments of interest and principal to investors. Because of the counterparty dependence on Freddie Mac, Fitch's rating on the M-1, M-1F, M-1I, M-2, M-2F, M-2I, M-3, M-3F, M-3I, MA and M-12 notes will be based on the lower of: the quality of the mortgage loan reference pool and credit enhancement available through subordination; and Freddie Mac's Issuer Default Rating. The M-1, M-2, M-3 and B notes will be issued as uncapped LIBOR-based floaters and will carry a 12.5-year legal final maturity.
KEY RATING DRIVERS
Seasoned Reference Pool: The reference mortgage loan pool consists of 135,794 very high quality mortgage loans totaling \$31.9 billion that were acquired by Freddie Mac in fourth-quarter 2012 and have weighted average (WA) current combined loan-to-value (CLTV) of just 62% and a sustainable LTV (sLTV) of 65%. The WA debt-to-income (DTI) of 32.1% and credit score of 766 reflect the strong credit profile of post-crisis mortgage originations. The reference pool also benefits from significant geographic diversity, with the largest metropolitan statistical area (MSA) accounting for 9.1%.
Actual Loss Severities: This will be Freddie Mac's inaugural actual loss risk transfer transaction in which losses borne by the noteholders will not be based on a fixed LS schedule. The notes in this transaction will experience losses realized at the time of liquidation, which will include both lost principal and delinquent interest. Fitch's model loss severities for the 'AA-sf'/'Asf' rating scenarios of roughly 37% and 33%, respectively, approximate the average fixed LS schedule of about 35% and 34%, respectively.
12.5-Year Hard Maturity: M-1, M-2 and M-3 notes benefit from a 12.5-year legal final maturity as opposed to the 10-year maturity for prior STACRs. Thus, any credit events on the reference pool that occur beyond year 12.5 are borne by Freddie Mac and do not affect the transaction. In addition, credit events that occur prior to maturity with losses realized from liquidations that occur after the final maturity date will not be passed through to the noteholders. This feature more closely aligns the risk of loss to that of the 10-year, fixed LS STACRs where losses were passed through at the time a credit event occurred - i.e. loans became 180 days delinquent with no consideration for liquidation timelines. Fitch accounted for the 12.5-year hard maturity in its default analysis and applied a 7.5% reduction to its lifetime default expectations.
Loans With Prior Delinquencies: Approximately 0.9% and 0.1% of the reference pool was either 1x 30 or 2x 30 days delinquent in the past 24 months, respectively. All loans have been current in the past 12 months. Loans with prior delinquencies are assigned a higher probability of default compared to loans with clean pay histories.
No Rep and Warranty Sunset: Because the loan pool consists of fourth-quarter 2012 acquisitions, the seller representation and warranty framework versions 1 and 2 implemented by the FHFA are not applicable. Fitch considers this positively as the reps and warranties made to Freddie Mac are not subject to a sunset. Furthermore, Freddie Mac will be conducting quality control (QC) reviews on all loans that experience a credit event, irrespective of the seller's insolvency, to determine whether an underwriting defect has taken place. Fitch believes that this provision more closely aligns the deal's rep enforcement mechanism with what the agency considers a full framework.
Updated Values Using Freddie's HVE Model: The loan pool consists entirely of seasoned collateral, for which Fitch expects an updated property valuation, such as a broker price opinion (BPO), to be provided for loans seasoned over 12 months to ensure that the current LTV and default and loss expectations take into account home price movements. However, for this pool, Freddie Mac's Home Value Explorer (HVE) valuation model product was used to value the properties, which is an exception to criteria. Based on discussions with Freddie Mac on the HVE product and the BPOs obtained as part of the third party due diligence review, Fitch believes the use of the HVE value does not introduce additional risk to the transaction.
Solid Lender Review and Acquisition Processes: Fitch found that Freddie Mac has a well-established and disciplined process in place for the purchase of loans and views its lender-approval and oversight processes for minimizing counterparty risk and ensuring sound loan quality acquisitions as positive. Loan QC review processes are thorough and indicate a tight control environment that limits origination risk. Fitch has determined Freddie Mac to be an average aggregator for its 2012 acquisitions and above-average aggregator for its 2013 and later product. The lower risk was accounted for by Fitch by applying a lower default estimate for the reference pool.
Eminent Domain Risk Mitigated: The transaction includes a provision that protects investors against eminent domain risk. Loans will be removed from the reference pool if they are seized pursuant to any special eminent domain proceeding brought by any federal, state or local government.
Advantageous Payment Priority: The payment priority of the M-1 class will result in a shorter life and more stable credit enhancement (CE) than mezzanine classes in private-label (PL) RMBS, providing a relative credit advantage. Unlike PL mezzanine RMBS, which often do not receive a full pro rata share of the pool's unscheduled principal payment until year 10, the M-1 class can receive a full pro rata share of unscheduled principal immediately, as long as a minimum CE level is maintained and the net cumulative net loss is within a certain threshold and delinquency test is within a certain threshold. Additionally, unlike PL mezzanine classes, which lose subordination over time due to scheduled principal payments to more junior classes, the M-2, M-3 and B classes will not receive any scheduled or unscheduled principal allocations until the M-1 class is paid in full. The B class will not receive any scheduled or unscheduled principal allocations until the M-3 class is paid in full.
Solid Alignment of Interests: While the transaction is designed to transfer credit risk to private investors, Fitch believes the transaction benefits from solid alignment of interests. Freddie Mac will retain credit risk in the transaction by holding the senior reference tranche A-H, which has 4.25% of loss protection, as well as a minimum of 50% of the first-loss B tranche, sized at 100 basis points (bps). Initially, Freddie Mac will retain a 37% vertical slice/interest in the M-1, M-2 and M-3 tranches.
Receivership Risk Considered: Under the Federal Housing Finance Regulatory Reform Act, Federal Housing Finance Agency (FHFA) must place Freddie Mac into receivership if it determines that the GSE assets are less than its obligations for longer than 60 days following the deadline of its SEC filing. As receiver, FHFA could repudiate any contract entered into by Freddie Mac if it is determined that such action would promote an orderly administration of Freddie Mac's affairs. Fitch believes that the U.S. government will continue to support Freddie Mac, as reflected in its current rating of the GSE. However, if at some point, Fitch views the support as being reduced and receivership likely, the rating of Freddie Mac could be downgraded and ratings on M-1, M-2 and M-3 notes, along with their corresponding MAC notes, could be affected.
RATING SENSITIVITIES
Fitch's analysis incorporates sensitivity analyses to demonstrate how the ratings would react to steeper market value declines (MVDs) than assumed at both the MSA and national levels. The implied rating sensitivities are only an indication of some of the potential outcomes and do not consider other risk factors that the transaction may become exposed to or be considered in the surveillance of the transaction.
This defined stress sensitivity analysis demonstrates how the ratings would react to steeper MVDs at the national level. The analysis assumes MVDs of 10%, 20%, and 30%, in addition to the model projected 31.5% at the 'AA-sf' level, 28.4% at the 'Asf' level and 20.4% at the 'BB+sf' level. The analysis indicates that there is some potential rating migration with higher MVDs, compared with the model projection.
Fitch also conducted defined rating sensitivities which determine the stresses to MVDs that would reduce a rating by one full category, to non-investment grade, and to 'CCCsf'. For example, additional MVDs of 7%, 22% and 48% would potentially move the 'AA-sf' rated class down one rating category, to non-investment grade, and to 'CCCsf', respectively.
Key Rating Drivers and Rating Sensitivities are further detailed in Fitch's accompanying presale report, available at 'www.fitchratings.com' or by clicking on the link.
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