(Editor's Note: This model information document was originally published on Jun. 21, 2023. We're republishing this article on Aug. 07, 2024, to update "Related Criteria And Research" Section.)
S&P Global Ratings uses the European ABS WAC Compression and Prepayment Loss Model to analyze specific types of asset-backed securities (ABS) where prepayment losses, or a compression of the average portfolio yield (weighted-average coupon [WAC]) are to be taken into account. The model calculates input parameters necessary for the applicable cash flow model to incorporate the respective risk in the cash flow runs.
Redesigned Implementation Of Prior Model
The European ABS WAC Compression and Prepayment Loss Model discussed in this article is a new model. It is a reimplementation in programming language R of the Excel-based European ABS – Prepayment Loss model and European ABS – WAC Compression model. All of the new model's inputs, outputs, assumptions, and calculations remain the same as they were in the prior Excel-based model. We expect no change to existing ratings as a result of our release and use of this new model implementation.
Purpose Of The Model
This model is used for transactions where risks associated with prepayment losses or WAC compression are present.
Prepayment losses are typically a risk in transactions where (some or all) receivables are purchased above par, e.g., due to a fixed discount rate that is lower than the actual contractually agreed interest rate, and where the debtors have prepayment rights.
WAC compression is typically a risk in transactions where receivables are purchased at their par value, but have different contractually agreed interest rates, and where the obligors have prepayment rights.
Summary Description Of The Model
The model estimates parameters to be used (together with other parameters) as input values for the cash flow model of the respective transaction. For deals exposed to prepayment losses, we use the model to calculate the initial prepayment loss (expressed as a percentage). For transactions exposed to WAC compression, the model calculates the relative WAC compression (expressed in %). For a given transaction, only one of the two is applicable, either the prepayment losses or the WAC compression.
Assumptions Underlying The Model
The model calculates the initial prepayment loss estimate. The calculation is based on the payment schedule of the portfolio, the distribution of the contractually agreed interest rates/the annual percentage rate (APR) of the receivables in the portfolio, and the discount rate used to calculate the purchase price (net present value, NPV) of the portfolio. To calculate the initial prepayment loss number, the model assumes that 50% of prepayments are from receivables that have a higher contractually agreed interest rate than the discount rate. The model assumes that the remaining 50% of prepayments are distributed without bias across the portfolio.
The model calculates the relative WAC compression. We assume that the WAC compression is determined by the interest rate/APR distribution in the portfolio, the weighted-average life of the portfolio, and the high constant prepayment rate (CPR) assumption for the transaction. The WAC reduction is intended to approximate the effect of having 50% of the voluntary prepayments in our cash flow stress scenario applied to the highest-coupon receivables.
Inputs To The Model
Prepayment loss:
- Discount rate (as used to calculate the purchase price of the portfolio).
- Weighted-average interest rate/APR of the portfolio.
- Interest rate/APR distribution (by buckets, in % of pool).
- Width of the interest rate buckets of the above distribution and upper bound of the first bucket.
- Weighted-average remaining term of the portfolio.
- Payment schedule (principal and interest) of the portfolio.
WAC compression:
- Weighted-average interest rate/APR of the portfolio.
- Interest rate/APR distribution (by buckets, in % of pool).
- Width of the interest rate buckets of the above distribution and upper bound of the first bucket.
- Weighted-average life of the portfolio (in years).
- High CPR assumption used for cash flow modeling.
- Type of transaction (revolving or static).
- Minimum WAC assumption in the case of a revolving transaction.
Data Used In Model Development And Calibration
We obtain data for the model from the issuer, which we use with our applicable criteria to determine what we view as the proper model inputs. We base our model algorithms, stresses, and inputs to the model on historical experience and qualitative assessments of the originator and servicer.
The Limits And Uncertainties Of The Model
The model is only applicable to EMEA ABS where WAC compression or prepayment loss are risk factors.
Related Criteria And Research
- Global Auto ABS Methodology And Assumptions, July 26, 2024
- Global Consumer ABS Methodology And Assumptions, March 31, 2022
This report does not constitute a rating action.
| Primary Credit Analyst: | Yi Shi, New York + 1 (212) 438 1410; yi.shi@spglobal.com |
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