Criteria for Rating German Residential Mortgage ... - Standard & Poor's

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Table 3 Criteria Structured Finance RMBS: Criteria for Rating German Residential Mortgage-Backed Securities Characteristics Affecting Base Foreclosure Frequency and Related Adjustment Guidelines Description of characteristic Foreclosure frequency adjustment guidelines Loan-to-value (LTV) < 55% Base multiplied by 0.8 LTV 55% to 80% Base multiplied by 1.0 (no change) LTV > 80% Base multiplied by 1.1 to 3.0 according to a continuous function. Indicative multiples at discrete LTV levels are given as follows: 85% LTV = base multiplied by 1.2 90% LTV = base multiplied by 1.6 95% LTV = base multiplied by 2.4 100% LTV = base multiplied by 3.0 Interest-only loans (endfaellige Darlehen) without satisfactory additional collateral (term < 20 years) Base multiplied by 1.67 Letting loans (fremdvermietete Objekte) Base multiplied by 1.5 to 1.8 and then added to base (e.g., for a base of 12%: base multiplied by 1.67 = 20%; base plus 20% = 32% Loan size > €400,000 or equivalent Increases by 1% to 20% of base (increases as loan size increases and caps when loan size reaches €1,000,000) Unacceptable geographic concentration Case-by-case consideration Affordability not adequately assessed Case-by-case consideration Completion date >18 months (with no arrears) Subtract 10% to 25% of base (increases as seasoning increases and caps when seasoning reaches about 60 months) Arrears Case-by-case consideration, based on arrears management and performance data Loan-to-Value (LTV) LTV is defined as the ratio of aggregate mortgage debt divided by the value of the property. This ratio has historically been a key foreclosure predictor, with low LTV ratios associated with lesser probabilities of loan default. A low LTV ratio indicates that a borrower has a high equity investment in a property, but can also indicate some prior financial management. Standard & Poor's ability to rely on LTV ratios is crucial, given that the LTV ratio is important in the estimation of foreclosure frequency (and loss severity, see below). In general, securitized loans in Germany have benefited from full property valuations. German mortgage lending banks typically have in-house valuation experts, with extensive experience in the building and construction industry. German banks normally use a material value method (Sachwertverfahren) or a return value method (Ertragswertverfahren) to determine the value of a property. The resulting market valuation is then deducted by a certain percentage to give a "lendable" value or Beleihungswert. Lenders use this reduction as potential coverage in a forced sale situation. Typically, the less liquid the property is considered to be, the higher the deducted percentage (or haircut) is from the property value. This approach stems from Mortgage Banking Act requirements for those banks regulated by this act, but has also been adopted by nonmortgage banks. In order to give benefit to this conservative valuation haircut, Standard & Poor's adjusts the lendable values in its calculation of LTV ratios. Subsequent references to LTV in this article refer to this adjusted LTV. The degree of uplift to the valuation depends on the transaction structure. In synthetic structures, where a minimum level of haircut is stated in the eligibility criteria, and where all losses are audited prior to being allocated, Standard & Poor's will typically re-engineer the valuation, giving full benefit to the haircut. The timing and comprehensiveness of the audit will affect this analysis. In the case of true sale transactions, partial benefit is given, resulting in a valuation that is below market value but in excess of the Beleihungswert. Standard & Poors | RatingsDirect on the Global Credit Portal | August 31, 2001 6 867630 | 300323561
Note that in the case of multiple loans secured on one property, the aggregate of this mortgage debt is used to calculate a single LTV per property. Loan Repayment Type Most German residential mortgage loans have fixed interest rates and fixed repayment characteristics for a period of time. The length of this fixing period varies from one to 15 years, but is most commonly set at five to 10 years. Upon maturity of the fixing period, the lending bank is obliged to provide a new offer for the next fixing period. The offer typically relates to a new interest rate, but some lenders allow the principal amortization features to change as well. Mortgage payments are usually direct debited monthly, but quarterly, semiannual, and annual payments can also be arranged. Borrowers repay their loan using either a full repayment or an interest-only scheme (endfaelliges Darlehen). With a full repayment loan, the principal amortizes over the life of the loan; that is, the borrower repays principal and pays interest at each mortgage payment date. Standard & Poor's does not consider repayment loans to have any increased or decreased risk of foreclosure, but these loan types can affect the structural analysis (see Extension Risk below). With an interest-only loan, the borrower makes monthly interest payments, with the total principal due at final maturity. German borrowers typically accrue this principal payment elsewhere (e.g., in a life insurance investment vehicle, Kapitallebensversicherung, or in a building society savings plan, Bausparvertrag). These schemes are normally assigned to the lender and used to redeem the loan at maturity. Standard & Poor's will discuss with the originator to what degree any additional security has been taken for interest-only loans, and will examine the potential mismatch between the collateral arrangements and the mortgage loan amount due at maturity to assess any refinancing risk. After these assessments, interest-only loans with original terms of less than 20 years may be considered to carry greater credit risk. Letting Loans In general, there is relatively low home ownership in Germany compared with other European countries. Letting-loan properties are exposed to different risks than owner-occupied properties. Such risks include the borrower's level of reliance on the rental receipts to meet mortgage payments, and the borrower's prior experience in managing rental properties. The German environment for letting properties exposes the borrower to a number of additional risks. Primarily, there are tax incentives associated with rental properties, so high degrees of leverage are often used to maximize these benefits. The tax benefits can also result in inflated prices for rental properties. Secondly, there are strong legal tenant protections. These protections fix the maximum increase in rent amount, allow for increases in the tenant resignation period over time, and restrict the landlord's ability to terminate the renting contract. Lastly, the yield associated with rental properties is generally low. Without incorporating the tax benefit, occasionally the yield is lower than the interest owed on the mortgage loan. Thus, any delays in the implementation of the tax deductions after the purchase of a letting property can place financial stress on a highly leveraged borrower. Criteria Structured Finance RMBS: Criteria for Rating German Residential Mortgage-Backed Securities In order to account for these additional risks, the foreclosure frequencies assigned to German rental properties are generally much higher than owner-occupied properties. www.standardandpoors.com/ratingsdirect 7 867630 | 300323561
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