Fitch Downgrades Clydesdale Bank PLC's Covered Bond to 'AA '; Outlook Stable
KEY RATING DRIVERS
The rating actions follow the downgrade of Clydesdale's Long-term Issuer Default Rating (IDR) to 'BBB+' from 'A' as a consequence of the demerger on 8 February 2016 of Clydesdale Bank's parent company, CYBG from its Australian banking parent, National Australia Bank Limited (NAB; AA-/Stable/F1+; see "Fitch Downgrades Clydesdale Bank to 'BBB+'; Assigns CYBG plc IDRs" dated 9 February 2016 at www.fitchratings.com).
The 'AA+' rating of the covered bond is based on Clydesdale's IDR of 'BBB+', an unchanged IDR uplift of 0, an unchanged Discontinuity Cap (D-Cap) of 4 (moderate risk) and an asset percentage (AP) of 86.2% disclosed in the programme's investor reports, which Fitch relies upon. This level of AP allows recoveries of at least 91% to be achieved in a 'AA+' scenario in Fitch's cash flow model, supporting a two-notch uplift to 'AA+' from the 'AA-' tested rating on a PD basis. The breakeven AP for the 'AA+' rating is 87.0%. The Stable Outlook on the covered bond's rating reflects that on the issuer.
Fitch published an updated criteria addendum for UK residential mortgage loans on 16 December 2015, which we used for the cover pool's credit analysis. Based on the loan-by-loan data as of end-August 2015, the overall impact on the 'AA+' credit loss is positive by around 1.5%. The 'AA+' WA foreclosure frequency reduces to 11.5% from 16.1%, while the 'AA+' WA recovery rate decreases to 60.1% from 61.8% mostly because of the introduction of a loss severity floor.
The 'AA+' breakeven AP of 87.0% remains unchanged compared with the last analysis in December 2015 despite the improvement in the credit loss. The asset disposal loss component of 24.0% is the main driver of the 'AA+' breakeven OC. It is based on a worst-case scenario that assumes an issuer event of default occurs just before the bond matures, which reflects the need of a stressed asset sale to meet the bond payment. This is followed by the cover pool's credit loss of 4.8% in a 'AA+' scenario. The cash flow valuation component leads to a lower 'AA+' breakeven OC by -12.6%.
In its analysis, Fitch relies on an AP of 86.2%, which is used in the asset coverage test and disclosed in the programme's investor reports.
The 'AA+' rating would be vulnerable to downgrade if any of the following occurs: (i) Clydesdale's IDR is downgraded by one or more notches to 'BBB' or below; or (ii) the number of notches represented by the IDR uplift and the D-Cap is reduced to three or lower; or (iii) the AP that Fitch takes into account in its analysis increased above Fitch's 'AA+' breakeven AP of 87.0%.
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.
More details on the cover pool and Fitch's analysis will be available in a report, which will shortly be available at www.fitchratings.com.