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Rating Action:

Moody's assigns provisional ratings to SBOLT 2016-1 DAC securitisation of marketplace SME loans

Global Credit Research - 14 Apr 2016

Milan, April 14, 2016 -- Moody's Investors Service has assigned provisional ratings to four classes of notes to be issued by Small Business Origination Loan Trust 2016-1 DAC ("SBOLT 2016-1 DAC", the "Issuer"):

....GBP[88,400,000] Class A Notes due December 2024, Assigned (P)Aa3 (sf)

....GBP[6,175,000] Class B Notes due December 2024, Assigned (P)A2 (sf)

....GBP[7,800,000] Class C Notes due December 2024, Assigned (P)Baa2 (sf)

....GBP[6,305,000] Class D Notes due December 2024, Assigned (P)Ba2 (sf)

Moody's has not assigned ratings to GBP[14,820,000] Class E and GBP[6,500,000] Class Z also to be issued in the transaction.

SBOLT 2016-1 DAC is the First European marketplace lending securitization backed by GBP[130,000,000] loans originated and serviced through Funding Circle Limited ("Funding Circle") online marketplace lending platform granted to individual entrepreneurs and small and medium-sized enterprises (SME) domiciled in UK.

RATINGS RATIONALE

According to Moody's, the rating takes into account, among other factors, (i) a loan-by-loan evaluation of the underlying loan portfolio, complemented by historical performance information as provided by Funding Circle, (ii) the structural features of the transaction with the relative high credit enhancement from subordination and excess spread compared to a conventional ABS SME securitization and the inclusion of an amortizing cash reserve designed to provide liquidity coverage over the life of the transaction, (iii) the appointment of a back-up servicer at closing to mitigate counterparty risk; and (iv) the legal and structural integrity of the transaction.

Moody's notes the transaction's following credit strengths, amongst others: (i) a static portfolio with a short weighted average life of less than 2 years; (ii) certain portfolio characteristics, such as: a) the high granularity as reflected by the low single obligor concentration (with the top obligor and top 10 obligor exposure being 0.2% and 2.1% respectively) and an effective number above 1,300; b) the loans' monthly amortisation; and c) the high yield of the portfolio, with a weighted average interest rate of 9.6%; (iii) the transaction's structural features, with include of, inter alia, (a) a GBP [2.21] million amortizing cash reserve that builds up to GBP [3.25] million. The reserve provides liquidity coverage and ongoing credit support over the life of the transaction for the class A to D notes and (b) a liquidity reserve (GBP [0.39] million) designed to cover interest deficiencies on the most senior outstanding tranche and senior expenses; and (iv) no set-off risk, as obligors do not have deposits or did not enter into a derivative contract with Funding Circle.

On the other hand, Moody's notes that the transaction also features a number of credit weaknesses, such as (i) potential misalignment of interest between Funding Circle and the investors as Funding Circle does not retain direct economic interest in the transaction. This is mitigated, amongst other things, by KLS Diversified Master Fund L.P. (KLS, not rated) acting as a retention holder and Funding Circle and KLS oblige themselves to repurchase or indemnify the issuer in case of the representation and warranties being proven incorrect; (ii) the short operating history of Funding Circle, not rated, and acting as servicer; (iii) the potential fraud risk resulting from the origination through a platform; (iv) the relatively high industry concentration as almost 40% of the obligors belong to the top two sectors, namely construction & building (18%) and business services (19%), and the high exposure to individual entrepreneurs and micro-SMEs (almost 60% of the portfolio); (v) the portfolio's low weighted average loan seasoning; (vi) the loans are only collateralized by a personal guarantee; (vii) partial exposure to interest rate risk resulting from a partial hedging arrangements involving interest rate cap to cure any potential interest rate mismatch between the fixed-rate assets and the floating-rate liabilities.

As of 29 February 2016, the portfolio principal balance amounted to GBP 121.11 million (expected to be GBP 130.0 million at closing). The portfolio comprised 2,497 loan contracts to 2,464 individual entrepreneurs and SMEs. The loans were originated between November 2014 and February 2016, with a weighted average seasoning of 6.5 months and a weighted average remaining term of 3.7 years. All loans benefit from a personal guarantee. The interest rate is fixed for the whole portfolio with a weighted average interest rate of 9.6%.

In its quantitative assessment, Moody's assumed an inverse normal default distribution for this securitised portfolio due to the high level of borrower granularity. The rating agency derived the default distribution, namely the relevant main inputs such as the mean default probability and its related standard deviation by analysing: (i) the characteristics of the loan-by-loan portfolio information, complemented by the available historical vintage data; (ii) the potential fluctuations in the macroeconomic environment during the lifetime of this transaction; and (iii) the portfolio concentrations in terms of industry sectors and single obligors. Moody's assumed the cumulative default probability of the portfolio to be equal to 10% (equivalent to a B1/B2 rating proxy) with a coefficient of variation (i.e., the ratio of standard deviation over the mean default rate) of 53%. The rating agency has assumed stochastic recoveries with a mean recovery rate of 25%, a standard deviation of 20%. In addition, Moody's has assumed the prepayments to be 8% per year. The base case mean loss rate and the CoV assumption results in a Aaa portfolio credit enhancement of around 41%.

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

Factors or circumstances that could lead to a downgrade of the ratings affected by today's action would be (1) the worse-than-expected performance of the underlying collateral; and (2) deterioration in the credit quality of the counterparties. Factors or circumstances that could lead to an upgrade of the ratings affected by today's action would be a significant improvement of the underlying collateral.

Stress Scenarios:

Moody's also tested other set of assumptions under its Parameter Sensitivities analysis. At the time the rating was assigned, the model output indicated that the Class A would have achieved Aa3 even if the mean default rate was as high as 11.75% with a recovery rate assumption of 20% (all other factors unchanged). Additionally Moody's observes that under the same stressed assumptions Class B, C and D would have achieved A3, Baa3 and Ba2 rating, respectively. For more details, please refer to the full Parameter Sensitivity analysis included in the Pre-Sale Report of the transaction.

Parameter Sensitivities provide a quantitative, model-indicated calculation of the number of notches that a Moody's-rated structured finance security may vary if certain input parameters used in the initial rating process differed. The analysis assumes that the deal has not aged. It is not intended to measure how the rating of the security might migrate over time, but rather, how the initial rating of the security might differ as certain key parameters vary.

Moody's issues provisional ratings in advance of the final sale of securities, but these ratings only represent Moody's preliminary credit opinion. Upon a conclusive review of the transaction and associated documentation, Moody's will endeavour to assign definitive ratings to the Notes. A definitive rating may differ from a provisional rating. Moody's will disseminate the assignment of any definitive ratings through its Client Service Desk. Moody's will monitor this transaction on an ongoing basis. For updated monitoring information, please contact monitor.abs@moodys.com.

The main source of uncertainty in the analysis relates to the underwriting of the loans through a marketplace lending platform and the asset quality.

For rating this transaction Moody's used the following models: (i) ABSROM to model the cash flows and determine the loss for each tranche and (ii) CDOROM to derive coefficient of variation of the default distribution of the default distribution applicable to this transaction.

More specifically, Moody's ABSROM cash flow model evaluates all default scenarios occurring that are then weighted considering the probabilities of such default scenarios as defined by the transaction-specific default distribution. On the recovery side Moody's assumes a stochastic (normal) recovery distribution which is correlated to the default distribution. In each default scenario, the corresponding loss for each class of notes is calculated given the incoming cash flows from the assets and the outgoing payments to third parties and noteholders. Therefore, the expected loss for each tranche is the sum product of (i) the probability of occurrence of each default scenario; and (ii) the loss derived from the cash flow model in each default scenario for each tranche. As such, Moody's analysis encompasses the assessment of stressed scenarios.

Moody's used CDOROM to determine the coefficient of variation of the default distribution for this transaction. The Moody's CDOROM™ model is a Monte Carlo simulation which takes borrower specific Moody's default probabilities as input. Each borrower reference entity is modelled individually with a standard multi-factor model incorporating intra- and inter-industry correlation. The correlation structure is based on a Gaussian copula. In each Monte Carlo scenario, defaults are simulated.

The ratings address the expected loss posed to investors by the legal final maturity of the notes. In Moody's opinion, the structure allows for timely payment of interest for class A notes. Moody's ratings address only the credit risk associated with the transaction, Other non-credit risks have not been addressed but may have a significant effect on yield to investors.

Methodology Underlying the Rating Action:

The principal methodology used in these ratings was "Moody's Global Approach to Rating SME Balance Sheet Securitizations" published in October 2015. Please see the Ratings 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 of the disclosure form.

The analysis relies on an assessment of collateral characteristics to determine the collateral loss distribution, that is, the function that correlates to an assumption about the likelihood of occurrence to each level of possible losses in the collateral. As a second step, Moody's evaluates each possible collateral loss scenario using a model that replicates the relevant structural features to derive payments and therefore the ultimate potential losses for each rated instrument. The loss a rated instrument incurs in each collateral loss scenario, weighted by assumptions about the likelihood of events in that scenario occurring, results in the expected loss of the rated instrument.

Moody's describes the stress scenarios it has considered for this rating action in the section "Ratings Rationale" of this press release.

For ratings issued on a program, series or category/class of debt, this announcement provides certain regulatory disclosures in relation to each rating of a subsequently issued bond or note of the same series or category/class of debt 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.

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

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.

Monica Curti
VP - Senior Credit Officer
Structured Finance Group
Moody's Italia S.r.l
Corso di Porta Romana 68
Milan 20122
Italy
Telephone:+39-02-9148-1100

Thorsten Klotz
MD - Structured Finance
Structured Finance Group
JOURNALISTS: 44 20 7772 5456
SUBSCRIBERS: 44 20 7772 5454

Releasing Office:
Moody's Italia S.r.l
Corso di Porta Romana 68
Milan 20122
Italy
Telephone:+39-02-9148-1100

Moody's assigns provisional ratings to SBOLT 2016-1 DAC securitisation of marketplace SME loans
No Related Data.
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