Fitch Ratings has affirmed Bank of Queensland Limited's (BOQ, A-/Stable/F2) AUD2.7 billion equivalent outstanding conditional pass-through (CPT) mortgage-covered bonds at 'AAA'.

The Outlook is Stable.

KEY RATING DRIVERS

The mortgage covered bond rating is based on BOQ's Long-Term Issuer Default Rating (IDR), the various uplifts above the IDR granted to the programme and the overcollateralisation (OC) protection provided through the programme's asset percentage (AP).

The covered bonds are rated six notches above the bank's IDR. This is out of a maximum achievable uplift of 10 notches, consisting of a resolution uplift of zero notches, a payment continuity uplift (PCU) of eight notches and a recovery uplift of two notches. Fitch's analysis relies on the programme's committed AP used in the asset coverage test of 90.9%, which provides more protection than Fitch's breakeven AP of 97.5%.

The Stable Outlook reflects a four-notch buffer against an IDR downgrade.

Uplifts

The resolution uplift remains unchanged at zero notches. Australia has no specific advanced resolution regime, 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.

The eight-notch PCU reflects the absence of refinancing risk due to the 31.5-year maturity extension on the covered bonds. It also reflects interest protection in the form of a fully funded reserve fund covering three months of interest/swap payments and three months of senior fees. The CPT feature eliminates refinancing risk if the payment source switches to the cover pool.

The covered bonds benefit from a two-notch recovery uplift, as Fitch considers the underlying cover assets as standard mortgage assets. We also expect 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.

'AAA' Breakeven AP

Fitch's 'AAA' breakeven AP of 97.5% corresponds to the 2.6% 'AAA' breakeven OC, which allows the covered bonds to attain a 'AA+' rating on a timely payment rating level and one notch of recovery uplift to 'AAA'.

The 'AAA' breakeven enhancement for BOQ is derived from testing cash flow for timely payment in a 'AA+', as per Fitch's Covered Bonds Rating Criteria.

The credit loss component reflects the credit quality of the underlying cover pool. This component is maintained at 3.3%. The ALM loss component of -0.7% has also been maintained, as Fitch carried forward the results of the previous cash flow model outputs. Programme characteristics that were key to the cash flow analysis have remained stable, and the programme satisfies all the conditions set out in Fitch's Covered Bonds Rating Criteria relating to the previous model analysis application.

Sequential Pass-Through

A failure by the issuer to meet principal payments at the bonds' expected maturity will trigger the 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.

Cover Pool Summary

The cover pool consisted of 16,569 loans secured by first-ranking mortgages of Australian residential properties as of end-December 2022, with a total outstanding balance of about AUD5.3 billion. The cover pool's weighted-average loan/value ratio was 55.5% and the weighted-average seasoning was 42 months. Investment loans formed 34.5% of the pool, while 9.5% was interest-only loans. The cover pool has a high concentration in Queensland, from where 48.4% of loans originate.

The key rating drivers listed in the applicable sector criteria, but not mentioned above, are not material to this rating action.

RATING SENSITIVITIES

Factors that could, individually or collectively, lead to positive rating action/upgrade:

The covered bond rating is 'AAA', which is the highest level on Fitch's scale. The rating cannot be upgraded.

Factors that could, individually or collectively, lead to negative rating action/downgrade:

The covered bond rating is vulnerable to a downgrade if BOQ's IDR were to be downgraded by five or more notches to 'BB' or below; or if the relied-upon AP provided less protection than Fitch's 'AAA' breakeven AP of 97.5%.

The breakeven AP will be affected, among other things, 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, it cannot be assumed that the 'AAA' breakeven AP, which maintains the covered bond rating, will remain stable over time.

Best/Worst Case Rating Scenario

International scale credit ratings of Financial Institutions and Covered Bond issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of four notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from 'AAA' to 'D'. Best- and worst-case scenario credit ratings are based on historical performance. For more information about the methodology used to determine sector-specific best- and worst-case scenario credit ratings, visit https://www.fitchratings.com/site/re/10111579

SOURCES OF INFORMATION

The issuer has informed Fitch that not all relevant underlying information used in the analysis of the rated bonds is public.

REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING

The principal sources of information used in the analysis are described in the Applicable Criteria.

PUBLIC RATINGS WITH CREDIT LINKAGE TO OTHER RATINGS

The covered bond rating is driven by the credit risk of the issuing financial institution, as measured by its Long-Term IDR.

ESG Considerations

Unless otherwise disclosed in this section, the highest level of ESG credit relevance is a score of '3'. This means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. For more information on Fitch's ESG Relevance Scores, visit www.fitchratings.com/esg

(C) 2023 Electronic News Publishing, source ENP Newswire