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Rating Action:

Moody's assigns provisional ratings to Home Partners of America 2020-2 Trust SFR transaction

28 Oct 2020

New York, October 28, 2020 -- Moody's Investors Service, ("Moody's") has assigned provisional ratings to four classes of certificates backed by one fixed-rate loan secured by a pool of 838 single-family rental properties owned by Home Partners of America 2020-2 Trust (725 properties owned by the Borrower and 113 mortgage loans on single-family properties in Texas which are owned by a wholly-owned subsidiary of the Borrower).

The complete rating action is as follows:

Issuer: Home Partners of America 2020-2 Trust

Cl. A, Assigned (P)Aaa (sf)

Cl. B, Assigned (P)Aa2 (sf)

Cl. C, Assigned (P)A2 (sf)

Cl. D, Assigned (P)Baa2 (sf)

RATINGS RATIONALE

Overview

Our advance rate for this transaction at stresses consistent with a Aaa rating level is 44.7%. This rate is the ratio of the maximum size of senior certificates that would be consistent with a Aaa (sf) rating to our estimate of the initial value of the portfolio (the Moody's Value). To determine this advance rate, we took into account the transaction's key features and analyzed the recovery value of the portfolio under stressed market conditions and the sufficiency of the expected rental cash flow.

Our analysis has considered the effects that the COVID-19 outbreak and the announced government measures to contain the virus are having and will have on the US economy and on the performance of the single family rental (SFR) sector.

Specifically, for SFR transactions, government and private organizations have enacted and may continue to enact policies to try and curb the negative effects of the virus' spread, which may include temporary suspension of tenant evictions, rent relief, rental assistance, or other relief programs for tenants. While such policies have the potential of temporarily reducing cashflows to the trust, they will likely have limited impact on the credit quality of the rated bonds because 1) the most stressful scenario for certificate holders (which is our rating scenario) would be one where the loan is in default and properties are liquidated over an extended period of time. In this scenario, rental income accounts for a very small portion of the overall recoveries, and our liquidation stresses already factor in a stressed home price environment; 2) the loan has an underwritten DSCR of 2.86, allowing for significant declines in cashflows before the loan is at risk of default; 3) the loan is secured by properties that are geographically diversified, which reduces exposure to any single market that may be more affected by COVID-19. Also, the geographic diversification reduces cash flow volatility since excess cash flow from one property can augment the cash flow of another to meet the debt service requirements. As a result, we have not made any adjustments related to COVID-19 for this transaction.

The contraction in economic activity in the second quarter will be severe and the overall recovery in the second half of the year will be gradual. However, there are significant downside risks to our forecasts in the event that the pandemic is not contained and lockdowns have to be reinstated. As a result, the degree of uncertainty around our forecasts is unusually high.

We regard the COVID-19 outbreak as a social risk under our ESG framework, given the substantial implications for public health and safety.

Key transaction features

Voluntary Substitution: The securitization incorporates up to 5% voluntary substitution (by property count) over the life of the transaction. Voluntary substitution of properties is subject to a number of conditions including (i) the aggregate property value of the substitute properties will at least be equal or higher than the higher of current property value or closing date property value of the replaced properties, (ii) the aggregate in place rents of the substitute properties is equal or greater than the current rent of the replaced properties at the time of receiving the written notice to substitute the properties, (iii) the underwritten net cash flow of the substitute properties for the trailing twelve months at the time of receiving the written notice to substitute the properties is at least equal or greater than the greater of (a) trailing twelve months current underwritten cash flow or (b) underwritten net cash flow as of the closing date, and (iv) No new MSA can be introduced in the transaction and no MSA percentage can be increased by more than 2.5% of allocated loan amount.

Having flexibility to remove or substitute properties from the securitization is valuable to a sponsor as it allows the sponsor to efficiently manage its overall portfolio. Our analysis incorporates potential adverse selection of properties, premium release from the right to purchase program, potential increase in geographic concentration and limited independent third party diligence on the substitute properties.

Future substitution

Of note, unlike other SFR transactions, this transaction allows the sponsor to release a substitute property without simultaneously acquiring another eligible property so long as the sponsor deposits the release amount in a substitution reserve account (future substitution). The sponsor must substitute the subject property within one year from the date of such deposit and a failure to effect a future substitution later than such date will result in the release of the funds in the substitution reserve account to pay the bond holders. The sponsor is not permitted to effect a future substitution in connection with a release of a property as a result of a renter's exercise of its option to purchase the property. Future substitutions generally provide the sponsor flexibility in managing the process of substitution.

Total potential future substitutions in this transaction are limited to 5% of the closing date pool by count if it is a voluntary substitution and 10% of the collateral value as of the closing date if such substitution is due to a disqualification of a property.

We believe future substitution introduces the risk of a shortfall in the trust's cash-flows during the period when the funds are deposited in the substitution reserve account. To address this risk, we analyzed the DSCR sensitivity and view the results of our analysis as sufficient.

Sponsor: HPA JV 2019 Property HoldCo LLC ("SFR HoldCo") is the Securitization Sponsor and Loan Sponsor. SFR HoldCo is a joint venture fund between HPA (approximately 25%) and other institutional investors formed for the purpose for making investments related to single-family homes in selected markets with a view towards leasing these properties to qualified residents over the longer term primarily through a lease with a right to purchase (RTP). SFR HoldCo is a fund that has an eight year life subject to two one-year extensions. HPA, as general partner of the fund, maintains control of the day-to-day operations of the fund. The other investors are limited partners without any rights with respect to the operation of the fund. SFR Holdco receives asset management services from HPA Asset Manager and property management services from Pathlight, both wholly-owned subsidiaries of HPA Inc.

We view the sponsor/manager arrangement in this transaction as moderately weaker than in most other SFR transactions where the sponsor wholly owns the manager. When the sponsor owns the properties and wholly owns the manager, there are strong economic incentives to put in its own money to maintain the properties even during an economic downturn. The incentives are less when the sponsor is merely hiring the property manager, but does not wholly own it. In this transaction HPA, who owns the property manager, only has an approximate 25% stake in the sponsor. The other partners of the sponsor, may or may not have the same level of incentive to support the properties as HPA.

Furthermore, the other JV partners could potentially sell their interests to entities with less financial wherewithal to preserve the properties in a downturn, although any such sale would require HPA's consent.

We factored in the weaker lignment of interest in this transaction and the transfer risk in our analysis.

Of note, the term of the sponsor is expected to expire on March 2027 before the loan maturity date (January 2029). If the sponsor fails to either transfer its interest through a permitted transfer or pay-off the loan before such expiration, a deemed event of default will occur. We believe that the sponsor has sufficient equity interest in the deal and is incentivized to protect the deal from a liquidation scenario.

Right to Purchase (RTP) program: Significant portion of the properties (98.8% by count) are rented by residents who have a right to purchase the property in the future at an agreed upon exercise price. In the RTP program, residents have identified a home that is within the resident's rental and acquisition budget and meets HPA's investment criteria. Renters with right to purchase options are therefore incentivized to maintain their properties well, and consumer-chosen properties may be in better school districts than properties otherwise acquired, which could benefit property recovery values in a liquidation scenario. Also, when renters exercise the right to purchase, the property will be released from the securitization at a premium which leads to faster deleveraging of the transaction, a credit positive. The RTP percentage by count (98.8%) is comparable to prior HPA deals. In our analysis we took into account the historical RTP exercise rate and also noted that some properties are released from the pool for non RTP reasons. In our premium release benefit assumptions, we considered this information.

Allocation of Mandatory Release Prepayments: This transaction has a higher percentage of RTP options (98.8%), which is beneficial to the transaction if exercised. Consistent with HPA 2020-1 transaction, the mandatory release RTP prepayments will be distributed to the offered certificates (Class A through Class F) in pari passu/pro rata order. We view the pro-rata RTP prepayment feature as credit negative for the senior tranche and credit positive for the subordinate tranches. To assess the impact of the pro-rata RTP prepayment feature to the Class A senior bond, we consider the RTP prepayments to the subordinate tranches under a high premium release scenario as potential payment shortfalls. The payment shortfalls are considered as additional recoveries to the subordinate tranches.

Multiple-property pool: The loan is secured by multiple properties. A loan secured by multiple properties benefits from lower cash flow volatility because excess cash flow from one property can augment the cash flow of another to meet the debt service requirements. The loan also benefits from the pooling of equity from each underlying property. The loan is secured by a pool of 838 single-family rental properties (725 properties owned by the Borrower and 113 mortgage loans on single-family properties in Texas which are owned by a wholly-owned subsidiary of the Borrower) located in 35 MSAs in 18 states.

Effective property manager: The day to day property administrator for this transaction is Home Partners of America LLC ("Property Administrator"). The property manager is Pathlight Property Management ("Property Manager"), which became wholly owned by Home Partners of America on April 29, 2016. The Property Administrator and Property Manager combined have approximately 150 full-time personnel as of September 30, 2020, dedicated to property management, marketing, leasing, financial and administrative functions, and acquisition and renovation functions. The Property Manager is responsible for day-to-day management of the properties, including collection functions (and will continue to be following the origination of the Loan and issuance of the Certificates)(except in the case of past due rent amounts that are sometimes outsourced to a collection agency), as well as managing any litigation, any issues relating to the Loan Sponsor's Right to Purchase Program and the decision to sell any properties to third parties.

Servicing: Midland Loan Services (Midland), a division of PNC Bank, National Association (long-term deposit rating of Aa2) will be the master servicer and special servicer of this transaction. The master servicer will be responsible for the servicing of the loan and advancing of principal and interest. Also in a default scenario, the special servicer will be responsible for administrating/working out the loan. The master servicer and special servicer have experience servicing and managing commercial and multi-family mortgage loans and real estate assets. Midland has the resources and experience to manage and dispose of the assets in the event of a borrower default. The responsibilities of the master, primary and special servicer are similar to those in a typical commercial mortgage-backed securities (CMBS) transaction. The defined and active role of the special servicer is a credit positive.

Although we deem Midland Loan Services to be a strong servicer, we applied a negative adjustment to our recoveries to account for the concentration risk of having a limited number of available servicers in SFR securitizations.

Legal Issues: Due to the presence of Right to Purchase Agreements, the transaction included certain structural features to comply with consumer laws in Texas which could limit the servicer's options to liquidate the Texas properties in a default scenario. We have made some adjustments to our Texas foreclosure timeline assumption, but we believe that overall the impact of these additional structural features is minimal. Furthermore, the mortgages backing the transaction are subject to the leases and tenant right to purchase options which may make it more difficult to dispose of the properties than properties that are not subject to a right to purchase option. However, we believe the impact will be minimal because the tenant can only exercise the right to purchase option at a price that is in excess of allocated loan amount for any given property and that an investor considering whether to purchase the property would likely view having an existing rent-paying resident as a positive.

For more information on this transaction and certain unique aspects such as the Right to Purchase Program, please refer to our Presale Report.

Recovery Analysis

The Final Recovery Value, which varies by rating levels, is calculated through the following steps.

1. The cumulative BPO on the properties is approximately $284.9 million. We determined the initial Moody's Value to be $242.0 million after considering 1) the sponsor's acquisition cost adjusted for 50% of our estimate of home price appreciation (excluding lower-value properties) since acquisition, plus 40% of the rehabilitation cost; and 2) 85% of the most recent value based on BPOs.

2. We assumed that a limited percentage of these properties will be purchased out of the transaction at full market value before the borrower defaults, netting proceeds equal to the allocated loan amounts plus a pre-determined premium on those properties.

3. For the remaining properties, we applied a home price depreciation factor to the properties' values ranging from 30% to 50% of the Moody's Value at a Aaa-stress level, depending on the MSA.

4. Under our Aaa stress scenario, we assumed that the total cost required to maintain all the properties remaining in the pool after default, including real estate taxes, property management fees, vacancy, home owners association fees, insurance, repairs, and sales and marketing, would stretch for months while a portion of the properties would generate income for months. Our stress for foreclosure timeline for this transaction is lower than a typical RMBS transaction because Moody's expects the foreclosure process to be quicker since the trust does not have to foreclose on individual borrowers; instead, it will foreclose either on the special purpose vehicle borrower itself or the properties owned by a single entity.

5. We estimated additional foreclosure costs, which included fixed legal costs, special servicing fees of 0.25% of the loan amount, special servicing liquidation fees of 0.75% of the property value, and transfer taxes.

6. Finally, we assumed that the master servicer will continue to advance the interest (to the extent deemed recoverable) on the certificates until the properties are liquidated, and estimated the interest accrued on the servicer advances.

In addition, the loan agreement specifies minimum tenant eligibility criteria and lease requirements. We view the tenant eligibility criteria in the loan agreement as weak because there is no income-to-rent coverage criteria. We took this into consideration in our analysis and applied a negative adjustment to our recoveries.

Cash flow analysis

To account for a sustainable level of income and expenses, we adjusted the sponsor's underwritten net cash flow by -22.1%, on a weighted average basis. In particular, since this transaction has a eight year term, we increased capital expenditures to account for higher expenses associated with maintenance and repairs to take into consideration potential deterioration of properties due to aging. Using our adjusted net cash flow and assumed starting interest rate, Moody's debt service coverage ratio was 2.2x.. For more details on Moody's CMBS approach to analyzing rental cash flows, refer to "Moody's Approach to Rating Large Loan and Single Asset/Single Borrower CMBS."

Factors that would lead to an upgrade or downgrade of the ratings:

UP

Moody's would consider upgrading the transaction or some of its tranches if, for example, properties underlying the portfolio were to appreciate substantially and the property conditions were to remain well maintained.

DOWN

Moody's would consider downgrading the transaction if the transaction were to breach its debt yield trigger. Additionally, breaches of certain loan covenants could lead to an event of default in the transaction and, if unremedied, a downgrade. Moody's will also monitor the transaction's portfolio mix for any unexpected changes. Unexpected negative changes could result from unusual patterns in the properties that are released by a sponsor as contemplated by the transaction documents. Also, where available, changes in rent renewal and lease turnover rates and time to re-rent could indicate performance issues.

The principal methodology used in these ratings was "Single-Family Rental Securitizations Methodology" published in July 2020 and available at https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBS_1214103. Alternatively, please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.

REGULATORY DISCLOSURES

For further specification of Moody's key rating assumptions and sensitivity analysis, see the sections Methodology Assumptions and Sensitivity to Assumptions in the disclosure form. Moody's Rating Symbols and Definitions can be found at: https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_79004.

Further information on the representations and warranties and enforcement mechanisms available to investors are available on http://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBS_1250983 .

The analysis includes an assessment of collateral characteristics and performance to determine the expected collateral loss or a range of expected collateral losses or cash flows to the rated instruments.

Moody's quantitative analysis entails an evaluation of scenarios that stress factors contributing to sensitivity of ratings and take into account the likelihood of severe collateral losses or impaired cash flows.

For ratings issued on a program, series, category/class of debt or security this announcement provides certain regulatory disclosures in relation to each rating of a subsequently issued bond or note of the same series, category/class of debt, security or pursuant to a program for which the ratings are derived exclusively from existing ratings in accordance with Moody's rating practices. For ratings issued on a support provider, this announcement provides certain regulatory disclosures in relation to the credit rating action on the support provider and in relation to each particular credit rating action for securities that derive their credit ratings from the support provider's credit rating. For provisional ratings, this announcement provides certain regulatory disclosures in relation to the provisional rating assigned, and in relation to a definitive rating that may be assigned subsequent to the final issuance of the debt, in each case where the transaction structure and terms have not changed prior to the assignment of the definitive rating in a manner that would have affected the rating. For further information please see the ratings tab on the issuer/entity page for the respective issuer on www.moodys.com.

For any affected securities or rated entities receiving direct credit support from the primary entity(ies) of this credit rating action, and whose ratings may change as a result of this credit rating action, the associated regulatory disclosures will be those of the guarantor entity. Exceptions to this approach exist for the following disclosures, if applicable to jurisdiction: Ancillary Services, Disclosure to rated entity, Disclosure from rated entity.

The ratings have been disclosed to the rated entity or its designated agent(s) and issued with no amendment resulting from that disclosure.

These ratings are solicited. Please refer to Moody's Policy for Designating and Assigning Unsolicited Credit Ratings available on its website www.moodys.com.

Regulatory disclosures contained in this press release apply to the credit rating and, if applicable, the related rating outlook or rating review.

Moody's general principles for assessing environmental, social and governance (ESG) risks in our credit analysis can be found at https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_1133569.

At least one ESG consideration was material to the credit rating action(s) announced and described above.

The Global Scale Credit Rating on this Credit Rating Announcement was issued by one of Moody's affiliates outside the EU and is endorsed by Moody's Deutschland GmbH, An der Welle 5, Frankfurt am Main 60322, Germany, in accordance with Art.4 paragraph 3 of the Regulation (EC) No 1060/2009 on Credit Rating Agencies. Further information on the EU endorsement status and on the Moody's office that issued the credit rating is available on www.moodys.com.

Please see www.moodys.com for any updates on changes to the lead rating analyst and to the Moody's legal entity that has issued the rating.

Please see the ratings tab on the issuer/entity page on www.moodys.com for additional regulatory disclosures for each credit rating.

Siva Ranjani Mettapalayam Pannir Selvam
Analyst
Structured Finance Group
Moody's Investors Service, Inc.
250 Greenwich Street
New York, NY 10007
U.S.A.
JOURNALISTS: 1 212 553 0376
Client Service: 1 212 553 1653

Padma Rajagopal
Vice President - Senior Analyst
Structured Finance Group
JOURNALISTS: 1 212 553 0376
Client Service: 1 212 553 1653

Releasing Office:
Moody's Investors Service, Inc.
250 Greenwich Street
New York, NY 10007
U.S.A.
JOURNALISTS: 1 212 553 0376
Client Service: 1 212 553 1653

No Related Data.
© 2022 Moody’s Corporation, Moody’s Investors Service, Inc., Moody’s Analytics, Inc. and/or their licensors and affiliates (collectively, “MOODY’S”). All rights reserved.

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