(The following statement was released by the rating agency)
Oct 12 - Fitch Ratings has downgraded The Co-operative Bank plc's (Coop, 'BBB+'/Rating Watch Negative(RWN)/'F2') GBP600m mortgage covered bonds to 'AA+'/RWN from 'AAA'/RWN.
The downgrade follows a one month period when Fitch assigned or maintained a RWN on all programmes for which the analysis no longer supported the current rating, following the implementation of the updated Covered Bonds Rating Criteria (see "Fitch Puts YBS Covered Bonds on RWN; Assigns UK Programmes Outlooks & D-Caps" dated 13 September 2012 at ). The one month period was established to allow issuers to respond to the updated assessment and propose changes to the programme, if appropriate. Coop did not propose any changes to the programme that would address the drivers of the downgrade.
Under the updated criteria, a Discontinuity Cap (D-Cap) of 4 applies to this programme, which when combined with the issuer's Long-term Issuer Default Rating (IDR) of 'BBB+', limits the maximum achievable rating on the programme to 'AA+'.
The 'AA+' rating would be vulnerable to further downgrade if any of the following occurred: (i) the IDR was downgraded to 'BBB' or lower; or (ii) the D-Cap fell by at least one category to 3 (moderate high risk) or lower; or (iii) the asset percentage (AP) that Fitch takes into account in its analysis of 39.2% increased above Fitch's 'AA+' breakeven AP of 86.5%. The RWN on Coop's IDR drives the RWN for the covered bonds and will be resolved following the review of the RWN on Coop's IDR (see 'Fitch Downgrades Co-operative Bank to 'BBB+'; Maintains on RWN' dated 19 July 2012 at ).
The agency takes into account the highest AP of the past year in its analysis, reflecting the issuer's 'F2' Short-term IDR. The level of AP Fitch relies upon supports a 'AA-' rating on a probability of default (PD) basis and supports a 'AA+' rating considering recoveries given default.
The D-Cap of 4 is driven by the moderate risk assessment of the liquidity gap and systemic risk and both the systemic and cover pool specific alternative management risk components, which are the weakest of the D-Cap components. The asset segregation and the privileged derivatives are assessed as very low risk from a discontinuity point of view.
The 12-month extendible maturity on the covered bonds drives the liquidity gap and systemic risk assessment. The systemic alternative management reflects the significant role to be performed post issuer default by the administrator of the limited liability partnership that would need to contract other parties to perform important functions as a potential negative for the programme, but the active oversight taken by the FSA under the UK regulated covered bonds framework is taken into account as a positive effect. Regarding of the cover pool-specific alternative management, Fitch has a positive view of Coop's processes, data delivery and the internally developed IT systems, but notes that internally developed IT systems will likely lead to a more difficult transition to an alternative manager than market-based systems.
The Fitch breakeven 'AA+' AP level of 86.5% for the covered bond rating is higher than Fitch's previous supporting AP of 82.2%, which related to a covered bonds rating of 'AA-' on a PD basis and two-notches recovery uplift. The 'AA+' breakeven AP also improved due to Fitch applying updated criteria and also refinancing spread assumptions, which are lower than those applied previously and also taking into account the amended asset swap margin.
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 issuances. Therefore it cannot be assumed to remain stable over time.
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(Caryn Trokie, New York Ratings Unit)