Fitch Ratings has affirmed ASB Bank Limited's (ASB, A+/Stable/F1) NZD3.7 billion equivalent of outstanding mortgage covered bonds at 'AAA'.

The Outlook is Stable. The covered bonds were issued through ASB Finance Limited, a special purpose vehicle guaranteed by ASB for offshore issuance from its London branch. This follows a periodic review of the covered bond programme.

KEY RATING DRIVERS

The 'AAA' rating of the mortgage covered bonds is based on New Zealand-based ASB's Long-Term Issuer Default Rating (IDR) of 'A+', 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 four notches above the bank's IDR, at the highest end of the rating scale. This is out of a maximum achievable uplift of seven notches, consisting of a resolution uplift of zero notches, a payment continuity uplift (PCU) of six notches and a recovery uplift of one notch. Fitch's analysis relies on the highest nominal AP in the past 12 months (78.5%), which provides more protection than our revised 'AAA' breakeven AP of 93.0%.

The Stable Outlook on the rating reflects the three-notch buffer against a downgrade of the issuer's IDR.

Uplifts

The resolution uplift remains unchanged at zero notches. New Zealand does not explicitly exempt the issued covered bonds from bail-in under the open bank resolution (OBR) regime. Upon resolution of the bank, there is a risk of a switch of recourse to the cover pool from the issuer, as secured assets are exempt from the OBR process. Therefore, ASB's Long-Term IDR remains the resolution reference point as there is no preferential treatment of covered bonds compared with the bank's other senior debt under the OBR.

The PCU remains unchanged at six notches and reflects the strength of liquidity protection in the form of a 12-month extension period on the soft-bullet bonds. It also reflects the three-month interest protection in the form of a reserve that was fully funded when ASB's Short-Term IDR was downgraded below 'F1+'.

The recovery uplift is capped at one notch and is based on the programme's exposure to foreign-exchange risk from recoveries in a default of the covered bonds, as the outstanding covered bonds are denominated in euros while the cover assets are in New Zealand dollars. Swaps are in place on the liabilities, but we expect them to terminate in a recovery scenario after a covered bond default.

Fitch's 'AAA' breakeven AP was revised to 93.0% from 89.5%, and corresponds to 7.5% 'AAA' breakeven OC, which allows the covered bonds to attain an 'AA+' timely payment rating level and one notch of recovery uplift to 'AAA'. The ALM loss of 4.4% remains the largest component of the breakeven OC and has decreased from 8.4%, primarily reflecting the higher asset margin modelled on the variable rate mortgages. Previously, the asset margin on these loans was capped by Fitch at 2%. The change follows the recent update of Fitch's APAC Residential Mortgage Rating Criteria.

The credit loss component reflects the credit quality of the underlying cover pool. This component remains unchanged since the previous analysis, at 3.3%.

Cover Pool Summary

The cover pool consisted of 27,752 loans secured by first-ranking mortgages on New Zealand residential properties, with a total outstanding balance of about NZD5.3 billion, as of 31 May 2021. The cover pool's weighted-average current loan/value ratio was 42.3% and the loans' weighted-average seasoning was 58.4 months. Interest-only loans comprised 12.2% of the pool. The cover pool is geographically diversified with the highest concentrations in Auckland (57.8%).

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

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

ASB's 'AAA' covered bond rating would be vulnerable to a downgrade if the bank's Long-Term IDR is downgraded by four notches to 'BBB' or below, or if the AP considered by Fitch in our analysis provides less protection than Fitch's 93.0% breakeven AP. If the AP relied on rose to the maximum 90.0% contractual AP stipulated in the programme documents, there would be no impact on the rating.

Fitch's 'AAA' breakeven AP for the covered bond rating 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

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

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