OREANDA-NEWS. Fitch Ratings has affirmed Credito Emiliano S.p.A.'s (Credem, BBB+/Stable/F2) EUR2.1bn mortgage covered bonds (Obbligazioni Bancarie Garantite, OBG) guaranteed by CREDEM CB S.r.l. at 'A+'. The Outlook is Stable.

The affirmation follows the annual review of the programme.

KEY RATING DRIVERS
The rating is based on Credem's Long-term Issuer Default Rating (IDR) of 'BBB+', an unchanged IDR uplift of 0 and Discontinuity Cap (D-Cap) of 2 notches (high risk) and the 75.4% asset percentage (AP) that Fitch takes into account in its analysis, which provides more protection than the unchanged 80.5% 'A+' breakeven AP. The Stable Outlook on the covered bonds rating mirrors that on Credem's IDR.

The 75.4% programme AP provides at least 91% recoveries on the covered bonds assumed to be in default in a 'A+' scenario and allows a two-notch recovery uplift from the 'A-' tested rating on a probability of default basis. This level of AP would in theory be enough to reach the maximum achievable rating of 'AA-'. However, replacement provisions relating to the account bank in the programme's documentation limit the OBG rating to the 'A' category as per Fitch's Counterparty Criteria for Structured Finance and Covered Bonds.

The greatest contributor to the 'A+' 80.5% breakeven AP (corresponding to a breakeven overcollateralisation (OC) of 24.2%) continues to be the asset disposal loss component of 14.6% driven by the large maturity mismatches and the high refinancing spreads for Italian residential mortgage loans (399bps at 'A+').

This is followed by the cash flow valuation component of 7.6% driven by open interest rate positions, which account for around 50% in an increasing interest rate scenario. Fitch assumes optional loans (42.3% of the pool) to switch to a fixed rate and floating rate loans with cap (2.5% of the pool) to reach their weighted average (WA) cap. On the liabilities side, the EUR2.1bn fixed-rate covered bonds are 93.0% hedged via fixed to floating swaps and the cash flows are modelled after the swap.

The cover pool's credit loss of 5.0% reflects a 'A+' WA foreclosure frequency of 18.7% and a WA recovery rate of 74.4% for the cover pool. The credit loss has reduced compared with last year (6.5%) as Fitch no longer considers CreaCasa network's loans riskier than those originated directly by Credem based on historical and observed default rates provided by the issuer on the former.

The unchanged D-Cap of 2 notches is due to the weak link assessment of liquidity gap and systemic risk component. The IDR uplift remains at 0 despite the covered bonds' exemption from bail-in as none of the factors Fitch considers in assigning an IDR uplift are satisfied by the programme.

Fitch takes into account the highest AP of the last 12 months (75.4% October 2015), because the issuer has a Short-term rating of 'F2' and the programme is not in wind down or dormant.

RATING SENSITIVITIES
The 'A+' rating of Credito Emiliano S.p.A.'s (Credem) mortgage covered bonds, guaranteed by CREDEM CB S.r.l, would be vulnerable to downgrade if any of the following occurs: (i) Credem's Issuer Default Rating (IDR) is downgraded by two or more notches to 'BBB-' or below; or (ii) the number of notches represented by the IDR uplift and the discontinuity cap (D-Cap) is reduced to 0; or (iii) the AP that Fitch considers in its analysis increases above Fitch's 'A+' breakeven level of 80.5%.

If the AP that Fitch considers in its analysis drops to the contractual limit of 93%, it would not be sufficient to allow for timely payment of the covered bonds following an issuer default and the covered bond rating would likely be downgraded to 'A- ', because this level of OC would limit the covered bond rating to one-notch recovery uplift on the IDR as adjusted by the IDR uplift.

The Fitch breakeven AP for the covered bond rating will be affected, among others, by the profile of the cover assets relative to outstanding covered bonds, which can change over time, even in the absence of new issuance. Therefore the breakeven AP to maintain the covered bond rating cannot be assumed to remain stable over time.