Fitch Affirms BOQ’s Mortgage Covered Bonds at ‘AAA’; Outlook Stable

(The following statement was released by the rating agency) Fitch Ratings-Sydney-July 03: Fitch Ratings has affirmed Bank of Queensland Limited's (BOQ, A-/Stable/F2) EUR500 million outstanding conditional pass-through (CPT) mortgage-covered bonds at 'AAA'. The Outlook is Stable. KEY RATING DRIVERS The affirmationis based on BOQ's Long-Term Issuer Default Rating (IDR) of 'A-', an IDR uplift of zero notches, a payment continuity uplift (PCU) of eight notches, a recovery uplift of two notches and the current contractual maximum asset percentage (AP) of 90.9%, which Fitch relies upon in its analysis. This provides more protection than Fitch's 'AAA' breakeven AP of 95.5%. The breakeven AP supports a 'AA' tested rating on a probability-of-default basis and two-notch recovery uplift, as the overcollateralisation (OC) relied upon provides more protection than the 'AAA' credit loss for the programme. The Stable Outlook reflects the four-notch buffer against a downgrade of the bank's IDR. Breakeven AP The 'AAA' breakeven AP has been revised to 95.5%, from 96.0%, and corresponds to a breakeven OC of 4.7%. The AP has changed as a result of a change in modelling during the extension period reducing credit to excess spread. The credit loss component of 3.0% remains the main contributor to the breakeven AP, reflecting the stable credit quality of the underlying cover pool. The cash flow valuation has increased to 1.0%, from 0.7%, due to the lower excess spread modelled by Fitch in the programme. The asset disposal of 0.6% represents the OC needed to pay timely interests on the covered bonds from the proceeds of the cover pool and without triggering an asset sale. The breakeven OC is higher than the 3% legal minimum OC outlined in Australia's Banking Act. IDR Uplift The IDR uplift remains unchanged at zero notches. There is no specific advanced resolution regime in Australia, but the regulator has the ability to resolve a bank under its regulatory powers pursuant to the Banking Act. Even so, covered bonds are not explicitly exempt from bail-in should a bank be resolved, resulting in the direct enforcement of recourse against the cover pool for the payment of the outstanding covered bonds. Therefore, BOQ's Long-Term IDR remains the floor for its covered bond rating. PCU The eight-notch PCU Fitch assigned to BOQ's CPT mortgage covered bond programme reflects the principal protection stemming from the 31.5-year maturity extension for covered bond payments and the availability of a reserve fund providing three months of interest payment protection. The CPT feature eliminates refinancing risk if the payment source switches to the cover pool. Recovery Uplift BOQ's covered bonds benefit from a two-notch recovery uplift, as Fitch sees the underlying assets as standard and the AP relied upon by Fitch in its analysis roughly compensates for the credit loss modelled in a 'AAA' stress scenario. Fitch also expects minimal exposure to foreign-exchange risk, as the currency swaps on the covered bonds should cover the pass-through period. Therefore, Fitch does not expect any material downside risk to recovery expectations. A failure by the issuer to meet its principal payment at abond's expected maturity will trigger the bond's 31.5-year maturity extension for that bond series. Once a bond has been extended and fully repaid, the next due bond will immediately convert to pass-through, even if it has not reached its expected maturity date. This sequential pass-through mechanism speeds up the repayment of the bonds and is similar to that seen in mortgage-backed securities. The cover pool consisted of 4,250 loans secured by first-ranking mortgages of Australian residential properties as of 30 April 2018, with a total outstanding balance of AUD1 billion. The cover pool's weighted-average loan/value ratio (LVR) was 58.8%; the Fitch-calculated indexed current LVR was 54.2% and the weighted-average seasoning was 73 months. Investment loans formed 38.4% of the pool, while 11.6% of the pool was interest-only loans. The cover pool ishighly concentratedinQueensland, with 58.1% of loans in the pool originated in the state. Fitch calculated that, in a 'AAA' scenario, there would be a cumulative weighted-average foreclosure frequency of 9.0% and a weighted-average recovery rate of 55.8% for the cover pool. The results are driven by the 'AAA' minimum loss floor of 4.0%, as outlined in criteria. RATING SENSITIVITIES Bank of Queensland Limited's covered bonds are vulnerable to downgrade if the bank's Long-Term Issuer Default Rating falls below 'BB+'. Fitch's 'AAA' breakeven asset percentage (AP) for the covered bond rating will be affected by, among other factors, the profile of the cover assets relative to the outstanding covered bonds, which can change over time, even in the absence of new issuance. Therefore, it cannot be assumed that the 'AAA' breakeven AP, which maintains the covered bond rating, will remain stable over time. SOURCES OF INFORMATION The source of information used to assess these ratings was Bank of Queensland Limited. The issuer has informed Fitch that not all relevant underlying information used in the analysis of the rated bonds is public. CRITERIA VARIATION Fitch has applied a variation to the APAC Residential Mortgage Criteria, which states that the asset margin modelled will be capped at 2.0% for covered bonds where the margin exceeds that amount. Fitch has given credit to the servicer's ability to adjust cover asset mortgage rates to avoid interest-rate shortfalls in the programme, which could occur over time. Without the variation, the breakeven AP for the rating would remain higher than the AP Fitch relies on. Hence, Fitch believes the variation applied does not affect the assigned ratings. Contacts: Primary Rating Analyst Claire Heaton, Senior Director +61 2 8256 0361 Fitch Australia PTY Limited Level 15 Sydney NSW 2000 Secondary Rating Analyst Sambit Agasti, Associate Director +61 2 8256 0337 Fitch Australia PTY Limited Level 15 Sydney NSW 2000 Committee Chairperson Ben McCarthy, Managing Director +61 2 8256 0388 Media Relations: Leslie Tan, Singapore, Tel: +65 67 96 7234, Email: leslie.tan@fitchratings.com. Additional information is available on www.fitchratings.com Applicable Criteria Structured Finance and Covered Bonds Counterparty Rating Criteria (pub. 23 May 2017) https://www.fitchratings.com/site/re/898537 Covered Bonds Rating Criteria (pub. 02 Mar 2018) https://www.fitchratings.com/site/re/10021721 APAC Residential Mortgage Rating Criteria (pub. 14 Jul 2017) https://www.fitchratings.com/site/re/901072 Bank Rating Criteria (pub. 22 Jun 2018) https://www.fitchratings.com/site/re/10034713 Structured Finance and Covered Bonds Interest Rate Stresses Rating Criteria (pub. 02 Feb 2018) https://www.fitchratings.com/site/re/10018549 Structured Finance and Covered Bonds Counterparty Rating Criteria: Derivative Addendum (pub. 31 May 2018) https://www.fitchratings.com/site/re/10029891 Additional Disclosures Dodd-Frank Rating Information Disclosure Form https://www.fitchratings.com/site/dodd-frank-disclosure/10036518 Solicitation Status https://www.fitchratings.com/site/pr/10036518#solicitation Endorsement Policy https://www.fitchratings.com/regulatory ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. 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