Fitch yesterday (Monday) downgraded mortgage covered bonds issued by Bank of America NA from AAA to AA, primarily due to the application of increased interest rate stresses but also because of increased loss expectations for the cover pool and a potential lack of support of the programme’s asset percentage.

The covered bonds remain on Rating Watch Negative (RWN), as does the long term issuer default rating (IDR).

The rating agency applied increased interest rate stresses as part of its cashflow analysis, and also raised its loss expectations for the cover pool due to the risk characteristics of collateral and application of its prime residential mortgage loss model. Both meant a decrease of the asset percentage (AP) supporting a AAA rating from 78% to 69%.

An application of Fitch’s counterparty criteria led to an increase in the programme’s Discontinuity Factor (D-Factor) from 39.6% to 40.1%.

The issuer’s long term rating of A+, RWN, and the covered bond programme’s D-Factor of 40.1% enable the mortgage covered bonds to be rated to an unchanged level of AA on a probability of default basis (PD) provided the overcollateralisation is able to withstand Fitch’s cashflow model stresses in a AA scenario, said the rating agency.

“A credit of up to two notches above the covered bonds rating on a PD basis can be applied if stressed recoveries assuming covered bond default exceed 91%,” said Fitch.

The rating agency said that the programme’s nominal AP is 64%, less than the 69% determined under Fitch’s revised analysis, but that the issuer has indicated an unwillingness to support the AP in the future should prepayments, defaults and liquidations reduce available OC.

“Fitch does not view the potential for a lack of support as consistent with an AAA rating,” it said.

All else being equal, a one notch downgrade of the IDR would translate into a one notch downgrade of the covered bonds’ rating, said Fitch.