Fitch Ratings published an updated asset-backed sector specific criteria report, replacing the prior criteria report for rating U.S. equipment lease and loan ABS.

There have been no material changes from the previous version, and therefore Fitch expects no impact on outstanding ratings. The report presents Fitch’s analytical approach to rating U.S. Equipment Lease and Loan ABS and outlines the unique features of these transactions. Additionally, the report details key rating drivers associated with U.S equipment lease and loan ABS as detailed below.

Collateral/Obligor Performance/Concentration Risk: Delinquencies, defaults, net losses, recoveries (if applicable), residual values (if applicable), prepayments (if applicable) and the associated timing of each are key rating drivers in equipment lease and loan ABS. Fitch analyzes historical managed static pool and prior securitization data, as well as collateral concentrations, when deriving a base case proxy and performance assumptions for use in the stressed loss approach. Fitch expects historical data to be split into homogenous subsets where appropriate.

Large obligor concentrations pose a risk, as cash flow could be greatly impacted if the largest obligors default. Fitch also incorporates an obligor concentration analysis to compare credit enhancement (CE) levels relative to obligor concentrations. Ultimately, the approach that yields the more conservative results will be considered the primary rating analysis and will be noted as such in the applicable transaction rating report.

Forward-looking Approach to Derive Base Case Loss Proxy: Fitch derives its base case proxy by examining fully amortized historical vintage default/loss curves, extrapolating incomplete vintage curves, matching future expectations with any relevant previous vintage data, and weighting by relevant pool characteristics. Additionally, a margin of safety is built into the base case by weighting previous recessionary vintages and adding adjustments for future unemployment expectations and/or secondary equipment market conditions, where applicable.

Economic Risks: The economic environment can have a material impact on the performance of U.S. and Canadian equipment lease/loan ABS. Fitch takes into consideration the strength of the U.S. and Canadian economies, as well as future expectations. To account for potential weakness, adjustments may be made to the base case proxy or other assumptions, as detailed herein.

Structural Analysis: Structural features and collateral attributes have a significant impact on equipment ABS performance. Fitch uses an internal, proprietary Microsoft Excel-based cash flow model to evaluate transaction structures by stressing the various performance assumptions mentioned above and assessing their impact on payments to noteholders.

Legal Risks: The performance of equipment ABS is largely dependent on a sound legal framework. Fitch reviews the legal structure and the opinions furnished to confirm that cash flow derived from the assets will not be impaired or diminished. This could potentially occur due to the bankruptcy or insolvency of the originator or any other transaction party, the trustee’s lack of a first-priority-perfected security interest in the assets or taxation, if legal mitigants are absent.

Counterparty Analysis: Counterparty exposures can pose a risk to transactions if the relevant counterparties are a source of credit or performance weakness. The analysis incorporates a review of the counterparties of an equipment ABS transaction to determine consistency with Fitch’s counterparty criteria. Fitch also conducts an operational review that covers various aspects of the business such as originations, underwriting and servicing.