OREANDA-NEWS.  Fitch Ratings has downgraded Ulysses (European Loan Conduit No. 27) Plc's class D notes and affirmed the others, as follows:

GBP249m class A (XS0308745107) affirmed at 'BBBsf'; Outlook revised to Negative
GBP76m class B (XS0308747657) affirmed at 'Bsf'; Outlook Stable
GBP48m class C (XS0308748200) affirmed at 'B-sf'; Outlook Negative
GBP45m class D (XS0308748622) downgraded to 'CCsf' from 'CCCsf'; Recovery Estimate (RE) RE50%
GBP11m class E (XS0308749356) affirmed at 'CCsf'; RE0%

KEY RATING DRIVERS
The revision of the Outlook on the class A notes to Negative reflects the potential for this class to be downgraded should a sale of the asset not be secured 12 months before the July 2017 legal final maturity (LFM) of the notes. A full recovery of the interest shortfalls accruing on the class D notes is increasingly unlikely, which led to this class being downgraded to 'CCsf'.

With the London City office market experiencing a squeeze on floor space availability, the consequent increases in rental levels (across all property grades) add downward pressure on yields that are already depressed given significant investor appetite. This is reflected in the most recent valuation in December 2014, which revealed an increase in value to GBP498m from GBP444.3m earlier that year.

This bodes well for recovery prospects, which if this trend continues, could see the principal on all bonds (if not interest shortfalls on the D and E) repay in full - despite the presence of senior ranking issuer costs. These are in the form of a capex facility, drawings on the servicer advance facility (SAF) and break costs relating to the issuer's interest rate swap - the size of the latter two largely dependent on when the sale of the asset occurs.

However, valuations across the market are well above long-term trends, which questions the sustainability of current values even in the shorter term. Fitch's more conservative estimate of value is around GBP440m (before costs).

Asset management initiatives are progressing well with take up of previously vacant space leaving only 9,000 sq ft of floor space (1.5% of total) now unoccupied. This will be offset once four tenants (providing 14% of contracted rental income) vacate in mid-2016. However, it is very marketable space (on the upper floors), and the asset manager has access to GBP14m from the capex facility that it can use for tenant incentives.

The increased occupancy (net rental income increased to a peak of GBP6.9m in 2Q15 from GBP5.6m in 3Q14) has approximately halved the quarterly drawing on the SAF. As the accumulated drawings of GBP29.7m rank senior to note principal, continuing to restrict SAF drawdowns (which will be a greater challenge after the four tenants vacate next year) would lessen the final burden on the issuer.

The SAF is primarily being drawn to meet payments to the interest rate swap provider (which rank senior to interest under the notes). The swap, which covers the whole loan rather than just the securitised portion, creates a drag that has contributed to the interest shortfalls on the class D and E notes. As these are unlikely to be recovered in full prior to LFM, Fitch expects an eventual default of the notes even if full principal recovery is achieved.

The interest rate swap expires at bond maturity in July 2017. Fitch estimates its current mark-to-market value at around GBP35m to GBP40m (in favour of the bank counterparty). Assuming no significant change in interest rates, this issuer liability should fall to around GBP20m by mid-2016, when asset disposal is more likely.

RATING SENSITIVITIES
A failure to secure a sale of the asset by mid-2016 could result in a downgrade of the class A notes. A failure to secure lease extensions on key tenants, a downturn of market conditions or a tenant default resulting in increased drawings on the SAF could see further downward pressure on the ratings of the most junior notes.

DUE DILIGENCE USAGE
No third party due diligence was provided or reviewed in relation to this rating action.

DATA ADEQUACY
Fitch has checked the consistency and plausibility of the information it has received about the performance of the asset pool and the transaction. Fitch has not reviewed the results of any third party assessment of the asset portfolio information or conducted a review of origination files as part of its ongoing monitoring.

SOURCES OF INFORMATION
The information below was used in the analysis.
- Loan-by-loan data provided by Mount Street Mortgage Servicing as at 27 July 2015
- Transaction reporting provided by Mount Street Mortgage Servicing as at 27 July 2015