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While the U.S. term asset-backed securities (ABS) market experienced some
disruption early in 2016, with spread...
U.S. Structured Finance Newsletter – November 8, 2016
© 2016, DBRS Limit...
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  1. 1. 1 While the U.S. term asset-backed securities (ABS) market experienced some disruption early in 2016, with spreads and volumes recovering as the year progressed, the availability of capital in the form of bank warehouse facilities remained consistent throughout the year. This was important as both a bridge during the receding market and a supply pipeline that drove U.S. term ABS issuances as demand stabilized. Accordingly, U.S. ABS facilities remain of vital importance to well-functioning capital markets. This newsletter continues the discussion that details structural and credit elements unique to warehouse facilities (see Unique Considerations in Rating Warehouse Facilities and Unique Considerations in Rating Warehouse Facilities II) and addresses several points of consideration with regard to the treatment of various expenses in the priority of payments in warehouse facilities. Sometimes in a warehouse facility the priority of payments will permit payment of extraordinary expenses ahead of interest and principal with no limitation on the amount of such expenses. Lenders may prefer to have out-of-pocket expenses, such as legal fees, fully paid before interest and principal, particularly following an event of default when enforcement costs could be significant. However, this may complicate the credit analysis related to payment of timely interest and ultimate principal by the maturity date of the facility if senior expenses are open ended, which can reduce available cash for interest and principal payments. Typical expenses that are paid senior to interest and principal may include hedge termination payments, servicing and other counterparty fees, indemnities and legal fees. In cases where senior expenses are not defined by amount, an assumption related to expense levels should be made, which may be significantly higher than what has been experienced historically. To mitigate the impact that uncapped expenses might have on a structure’s possible rating, some lenders have chosen to subordinate all, or a portion of, senior expenses below the payment of interest and principal. If a lender chooses to subordinate only a portion of a particular expense, the lender typically fixes an amount of the expense to be paid senior in the waterfall and allows the remainder of the expense to be paid after interest and principal, a feature common in U.S. term ABS transactions. Warehouse facilities may also have provisions that cause interest rates to step up because of performance triggers, facility usage or other conditions. The step-up interest may take the form of an increased margin or change to a different index, such as the prime rate. Furthermore, in the case where a warehouse facility has a floating interest rate and no accompanying hedging mechanisms, interest rate fluctuations should be anticipated using forward-looking interest rate curves, such as those produced by the DBRS Unified Interest Rate Model. Similar to expenses, some lenders have mitigated this interest rate exposure by subordinating a portion of the interest to after full payment of note principal during amortization. The senior portion would again be a fixed amount, and the subordinate interest would address the remainder of what may be owed and would only be paid after the full payment of principal. The increased certainty provided by these types of structural mechanisms are credit positive for warehouses with respect to determining payment of timely interest and ultimate principal by the warehouse’s maturity date. Furthermore, these features may helpdefinecreditrisk,whichcanofferenhancedprecisionduringwarehouseevaluation. For questions or comments, please contact Marcus DiBrito at or Maxim Berger at Unique Considerations in Evaluating Risk in Warehouse Facilities: Senior and Subordinate Interest and Expenses U.S. Structured Finance Newsletter – November 8, 2016 Contacts Claire J. Mezzanotte Group Managing Director Global Structured Finance +1 212 806 3272 Mike Babick Senior Vice President ABS Structured Finance +1 212 806 3229 Chris D’Onofrio Senior Vice President, ABS Structured Finance +1 212 806 3284 Jayce Fox Vice President ABS Structured Finance +1 212 806 3261 Lain Gutierrez Senior Vice President, ABS Structured Finance +1 212 806 3922 Jerry van Koolbergen Managing Director Structured Credit +1 212 806 3260 Sergey Moiseenko Senior Vice President ABS Structured Finance +1 212 806 3225 Chris O’Connell Senior Vice President ABS Structured Finance +1 212 806 3253 Jon Riber Senior Vice President ABS Structured Finance +1 212 806 3250 Quincy Tang Managing Director RMBS Structured Finance +1 212 806 3256 Kathleen Tillwitz Managing Director Operational Risk, ABS/RMBS Structured Finance +1 212 806 3265 Chuck Weilamann Managing Director ABS Structured Finance +1 212 806 3226
  2. 2. U.S. Structured Finance Newsletter – November 8, 2016 © 2016, DBRS Limited, DBRS, Inc. and DBRS Ratings Limited (collectively, DBRS). All rights reserved. The information upon which DBRS ratings and reports are based is obtained by DBRS from sources DBRS believes to be reliable. DBRS does not audit the information it receives in connection with the rating process, and it does not and cannot independently verify that information in every instance. The extent of any factual investigation or independent verification depends on facts and circumstances. DBRS ratings, reports and any other information provided by DBRS are provided “as is” and without representation or warranty of any kind. DBRS hereby disclaims any representation or warranty, express or implied, as to the accuracy, timeliness, completeness, merchantability, fitness for any particular purpose or non-infringement of any of such information. In no event shall DBRS or its directors, officers, employees, independent contractors, agents and representatives (collectively, DBRS Representatives) be liable (1) for any inaccuracy, delay, loss of data, interruption in service, error or omission or for any damages resulting therefrom, or (2) for any direct, indirect, incidental, special, compensatory or consequential damages arising from any use of ratings and rating reports or arising from any error (negligent or otherwise) or other circumstance or contingency within or outside the control of DBRS or any DBRS Representative, in connection with or related to obtaining, collecting, compiling, analyzing, interpreting, communicating, publishing or delivering any such information. Ratings and other opinions issued by DBRS are, and must be construed solely as, statements of opinion and not statements of fact as to credit worthiness or recommendations to purchase, sell or hold any securities. A report providing a DBRS rating is neither a prospectus nor a substitute for the information assembled, verified and presented to investors by the issuer and its agents in connection with the sale of the securities. DBRS receives compensation for its rating activities from issuers, insurers, guarantors and/or underwriters of debt securities for assigning ratings and from subscribers to its website. DBRS is not responsible for the content or operation of third party websites accessed through hypertext or other computer links and DBRS shall have no liability to any person or entity for the use of such third party websites. This publication may not be reproduced, retransmitted or distributed in any form without the prior written consent of DBRS. ALL DBRS RATINGS ARE SUBJECT TO DISCLAIMERS AND CERTAIN LIMITATIONS. PLEASE READ THESE DISCLAIMERS AND LIMITATIONS AT ADDITIONAL INFORMATION REGARDING DBRS RATINGS, INCLUDING DEFINITIONS, POLICIES AND METHODOLOGIES, ARE AVAILABLE ON DBRS, Inc. | 140 Broadway, 35th Floor New York, NY 10005 | TEL +1 212 806 3277 |