Fitch Rates Fannie Mae's Connecticut Ave Securities, Series 2015-C01
--\$402,500,000 class 1M-1 notes 'BBB-sf'; Outlook Stable;
--\$169,500,000 class 2M-1 notes 'BBBsf'; Outlook Stable.
The following classes will not be rated by Fitch:
--\$30,290,071,190 class 1A-H reference tranche;
--\$21,247,109 class 1M-1H reference tranche;
--\$521,500,000 class 1M-2 notes;
--\$27,801,809 class 1M-2H reference tranche;
--\$125,554,700 class 1B-H reference tranche;
--\$18,098,852,025 class 2A-H reference tranche;
--\$9,138,020 class 2M-1H reference tranche;
--\$375,000,000 class 2M-2 notes;
--\$19,884,044 class 2M-2H reference tranche;
--\$131,628,015 class 2B-H reference tranche.
The 'BBB-sf' rating for the 1M-1 notes reflects the 2.15% subordination provided by the 1.75% class 1M-2 notes and the non-offered 0.40% 1B-H reference tranche. The 'BBBsf' rating for the 2M-1 notes reflects the 2.80% subordination provided by the 2.10% class 2M-2 notes and the non-offered 0.70% 2B-H reference tranche. The notes are general senior unsecured obligations of Fannie Mae (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 Fannie Mae-guaranteed MBS.
The reference pool of mortgages will be divided into two loan groups. Group 1 will consist of mortgage loans with loan-to-values (LTVs) of less than or equal to 80% while group 2 will consist of mortgage loans with LTVs greater than 80% and less than or equal to 97%. Each loan group has its own loss severity schedule and issued notes. There will be no cross-collateralization. Aside from distinct loss severity schedules, each group's structure will be identical.
Connecticut Avenue Securities, series 2015-C01 (CAS 2015-C01) is Fannie Mae's sixth 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 Fannie Mae to private investors with respect to a \$50 billion pool of mortgage loans currently held in previously issued MBS guaranteed by Fannie Mae where principal repayment of the notes are subject to the performance of a reference pool of mortgage loans. As loans become 180-day delinquent or other credit events occur, the outstanding principal balance of the debt notes will be reduced by a pre-defined, tiered loss severity percentage related to those credit events.
While the transaction structure simulates the behavior and credit risk of traditional RMBS mezzanine and subordinate securities, Fannie Mae will be responsible for making monthly payments of interest and principal to investors. Because of the counterparty dependence on Fannie Mae, Fitch's expected rating on the 1M-1 and 2M-1 notes will be based on the lower of: the quality of the mortgage loan reference pool and credit enhancement available through subordination; and Fannie Mae's Issuer Default Rating. The 1M-1 and 2M-1 notes will be issued as uncapped LIBOR-based floaters and will carry a 10-year legal final maturity.
KEY RATING DRIVERS
Increase in Purchase Loans: Compared with the CAS 2014-C03 transaction, there is a notable increase in purchase loans for both groups. Although the probability of default (PD) for purchase loans is lower compared with rate term refinance loans, purchase loans typically have higher LTVs and lower FICOs. As a result, the weighted average (WA) FICO and WA LTV have drifted (lower and higher, respectively) in both groups, offsetting the lower PDs.
Loans with Prior 1x30 Delinquency: The percentage of loans that have experienced a 1x30 days delinquency over the past 12 months has slightly increased compared with the CAS 2014-C03 transaction. The portion increased by 0.2% in both groups to 1.1% (Group 1) and 1% (Group 2). All loans were current as of the cutoff date and have been current for at least the past three consecutive payments. Loans with delinquencies in the prior 12 months are applied a higher PD relative to those that have clean histories to reflect their higher default potential, as evidenced by historical performance.
Fixed Loss Severity: One of the unique structural features of the transaction is a fixed loss severity (LS) schedule tied to cumulative net credit events. If actual loan LS is above the set schedule, Fannie Mae absorbs the higher losses. Fitch views the fixed LS positively, as it reduces the uncertainty that may arise due to future changes in Fannie Mae's loss mitigation or loan modification policies. The fixed severity also offers investors greater protection against natural disaster events where properties are severely damaged, as well as in cases of limited or no recourse to insurance.
10-Year Hard Maturity: The 1M-1, 1M-2, 2M-1 and 2M-2 notes benefit from a 10-year legal final maturity. As a result, any collateral losses on the reference pool that occur beyond year 10 are borne by Fannie Mae and do not affect the transaction. Fitch accounted for the 10-year hard maturity in its default analysis and applied a 10% reduction to its lifetime default expectations.
Advantageous Payment Priority: The payment priority of M-1 notes 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 notes can receive a full pro rata share of unscheduled principal immediately, as long as a minimum CE level is maintained. Additionally, unlike PL mezzanine classes, which lose subordination over time due to scheduled principal payments to more junior classes, the M-2 and B-H classes in each group will not receive any scheduled or unscheduled allocations until their M-1 classes are paid in full. The B-H classes will not receive any scheduled or unscheduled principal allocations until the M-2 classes are paid in full.
Limited Size/Scope of Third-Party Diligence: Only 608 loans of those eligible to be included in the reference pool were selected for a full review (credit, property valuation and compliance) by a third-party diligence provider. Of the 608 loans, 505 were part of this transaction's reference pool (311 in Group 1 and 194 in Group 2). The sample selection was limited to a population of 4,798 loans that were previously reviewed by Fannie Mae and met the reference pool's eligibility criteria. Furthermore, the third-party due diligence scope was limited to reflect Fannie Mae's post-close loan review for compliance. Fitch's review of Fannie Mae's risk management and quality control (QC) process/infrastructure, which has been significantly improved over the past several years, indicates a robust control environment that should minimize loan quality risk.
Solid Alignment of Interests: While the transaction is designed to transfer credit risk to private investors, Fitch believes the transaction benefits from a solid alignment of interests. Fannie Mae will be retaining credit risk in the transaction by holding the A-H senior reference tranches, which have a loss protection of 3.50% in Group 1 and 3.75% in Group 2, as well as the first loss B-H reference tranches, sized at 40 basis points (bps) and 70 bps, respectively. Fannie Mae is also retaining an approximately 5% vertical slice/interest in the M-1 and M-2 tranches for Group 1 and Group 2, respectively.
Rep and Warranty Gaps: While the loan defect risk for 2015-C01 is notably lower than for agency and non-agency mortgage pools securitized prior to 2009, Fitch believes the risk is greater for this transaction than for recently issued U.S. PL RMBS. Notably, neither Fannie Mae nor an independent third party will conduct loan file reviews for credit events, and Fannie Mae will not conduct any reviews of loans from a seller once it has filed for bankruptcy. Fitch incorporated this risk into its analysis by treating all historical repurchases as if they were defaulted loans that were not repurchased. Consequently, the rating analysis includes an assumption that the loans will experience defect rates consistent with historical rates and those defects will not be repurchased.
Special Hazard Leakage Slightly Mitigated: A reversal of a credit event is now permissible if the borrower subject to a special hazard event becomes current at the end of a forbearance period following the event. While bondholders would experience temporary principal writedowns and lower interest payments during this period, Fitch views this feature slightly more positively relative to earlier CAS transactions since the reduction in credit protection for temporary borrower delinquencies arising from natural disasters that typically cure may be reversed.
Receivership Risk Considered: Under the Federal Housing Finance Regulatory Reform Act, the Federal Housing Finance Agency (FHFA) must place Fannie Mae into receivership if it determines that Fannie Mae's assets are less than its obligations for more than 60 days following the deadline of its SEC filing, as well as for other reasons. As receiver, FHFA could repudiate any contract entered into by Fannie Mae if it is determined that the termination of such contract would promote an orderly administration of Fannie Mae's affairs. Fitch believes that the U.S. government will continue to support Fannie Mae, which is reflected in its current rating of Fannie Mae. However, if, at some point, Fitch views the support as being reduced and receivership likely, the ratings of Fannie Mae could be downgraded and the M-1 notes' ratings affected.
Fitch's analysis incorporates sensitivity analyses to demonstrate how the ratings would react to steeper MVDs than assumed at both the metropolitan statistical area (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 market value declines of 10%, 20%, and 30%, in addition to the model projected 22.8% at the 'BBB-sf' level% for Group 1 and 23.4% at the 'BBBsf' level for Group 2. 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 11%, 7% and 28% would potentially reduce the 'BBB-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.