The rating actions are as follows:

Class A, EUR 2,254.5m: preliminary rating (P)AAA_SF
Class B, EUR 445.5m: preliminary rating (P)BB+_SF
Class C, EUR 135m: preliminary rating (P)CCC_SF

The transaction is a strictly sequential three-tranche cash-flow securitisation with a combined priority of payments, a cash reserve available for default provisioning, and a liquidity facility to fund potential further drawings under the credit line segment after the transaction closes.

The preliminary ratings are based on the portfolio dated 27 December 2017.

Rating rationale

The preliminary ratings reflect the quality of the underlying collateral in the context of the Spanish macroeconomic environment; the legal and financial structure of the transaction; the transaction-specific protection features; the counterparty risk exposure to Santander S.A. (Santander) as servicer, account bank, paying agent, liquidity facility provider and subordinated loan provider; and the management ability of Santander de Titulización SGFT SA.

The class A rating reflects the tranche’s risk exposure to fast-amortising assets, weighted average life of 1.3 years (calculated by Scope using a 0% constant prepayment rate assumption), and 21.5% credit enhancement protection against losses. This level of credit enhancement, while lower than that of previous PYMES Santander transactions, is associated with better-quality securitised assets.

The class B rating reflects the tranche’s weighted average life of 4.5 years, which Scope derived using a 15% constant prepayment rate assumption, reflecting the exposure to long-maturity mortgage loans. The tranche benefits from 5% credit enhancement, but remains exposed to the medium-term economic uncertainties in Spain beyond Scope’s outlook.

Class C provides funds for the cash reserve, and its rating reflects the expected provisioning of portfolio losses from this reserve (weighted average life of 16.3 years, calculated under a 15% constant prepayment rate assumption).

All rated classes benefit from expected periodic excess spread, which stands at 1.2% as of the pool cut date, and to which the class C is entitled unless required for shortfall provisioning.

Counterparty risk exposure to Santander is mitigated by i) the automatic guarantee or replacement of the bank upon loss of a long-term BBB rating by Scope (as account bank, paying agent and liquidity facility provider); ii) Scope’s view on Santander’s long-term credit quality (AA-/S-1/Stable); and ii) the expected short life of the class A.

Scope’s analysis also considers the recent political developments in Catalonia, as well as the agency’s long-term view on the Spanish economy. This view take's into account Spain’s euro-area membership; the size, diversity and resilient recovery of its economy; commitment to structural reforms; and ongoing improvements in its banking sector; though constrained by the country’s political risks. The transaction’s three asset segments are exposed to Catalonia, with the mortgage segment being the most exposed at 18.9%.

Key rating drivers

Obligor credit quality (positive). The portfolio’s obligors are on average stronger than those in previous PYMES Santander transactions. This is illustrated by the weighted average one-year probability of default of 2.1% assigned by Santander to the portfolio, significantly lower than the 3.3% for PYMES 12. The portfolio also excludes reconducted loans, which have historically shown a higher default rate than the eligible assets. The outstanding portfolio, alongside the early expected amortisation of the credit lines, is also expected to better perform than PYMES 12, based on Santander’s internal one-year probability of default data.

Fast amortisation (positive). Class A’s short expected life substantially limits the risk exposure to counterparties and to possible macroeconomic deterioration. Its weighted average life is 1.3 years under a 0% constant prepayment rate, driven mainly by the fast amortisation of the credit line segment expected by Scope.

Spanish economy (positive). Scope’s Stable Outlook on the Kingdom of Spain, driven by the country’s ongoing structural reforms and banking sector improvements, will benefit the class A and potentially the class B, unless persistent challenges (e.g. from unemployment or political uncertainties) lead to a slower economic recovery during the life of the mezzanine class.

Relatively low credit enhancement (negative). The credit enhancement available for classes A and B is tighter for this transaction compared to previous PYMES transactions analysed by Scope, but reflects the portfolio’s higher credit quality.

High default rate volatility for mortgage segment (negative). Under a stress scenario, the performance of the mortgage segment could deviate significantly from Scope’s mean default assumptions. This is reflected mainly by the mortgage segment’s high point-in-time coefficient of variation and high historical mean default rate.

Undrawn credit lines exposure (negative). This segment exposes the transaction to revolving and refinancing risks which increase portfolio default rates under stress scenarios. These risks are mitigated by i) Santander’s credit strength, and strong track record in originating and managing credit lines; ii) the portfolio’s repayment profile and iii) the very short life of the credit lines. The weighted average use of these credit lines is 79% and could only theoretically increase up to 105% within the next six months post-closing.

Quantitative analysis and key assumptions

Scope has performed a cash flow analysis that incorporates important mechanisms in the structure. The agency applied a large homogenous portfolio approximation approach to analyse the highly granular collateral pool and to forecast cash flows over the amortisation period. Scope's analysis assumed six segments: the three asset segments (credit lines, mortgage loans and unsecured loans) split further into either large or small obligors. The cash flow analysis considers the probability distribution of portfolio default rates, following an inverse Gaussian distribution, to calculate the expected loss of each rated tranche. The analysis also provides the expected weighted average life of each tranche. Scope has considered asset and liability amortisation and the evolution in the pool composition.

Scope assumed a portfolio point-in-time ‘90 days past due’ default rate of 5.8%, a point-in-time coefficient of variation of 97.7%, a cure rate of 15%, and a base recovery rate of 55.1% – all weighted by segment. Scope has applied a rating-conditional haircut to the base recovery rate of 41% and 8% for class A and class B respectively.

Scope has also applied a long-term adjustment to default rate parameters, resulting in a long-term-adjusted ‘90 days past due’ portfolio default rate of 2.9%, and a long-term coefficient of variation of 95.1%. The long-term adjustments are derived from corporate delinquency data available from the Bank of Spain, covering the years 1993-2014, a period which, in Scope’s opinion, represents a full economic cycle in the country.

Scope derived its initial portfolio modelling assumptions from obligor-segment-specific vintage data provided by Santander, which reflect the bank’s internal recovery practices and foreclosure costs, and cover a period from Q1 2010 to Q2 2017, a period of significant economic stress in Spain.

The underlying portfolio is segmented into 19.4% of fast-amortising credit lines, 57.3% of amortising unsecured loans, and 23.2% amortising long-maturity mortgages. The portfolio’s weighted average life is 2.1 years under 0% constant prepayment rate.

The credit lines exhibit limited credit risk over a short period (weighted average life of 0.3 years). Scope’s modelling assumptions have integrated the associated refinancing and revolving risks.

The unsecured loans are well-seasoned (2.1 years) and highly diversified (77% of asset pool obligors), with a strong weighted average credit quality as per Santander’s internal one-year probability of default (1.6%).

The mortgage loans are secured by commercial and residential properties and are characterised by a weighted average loan-to-value of 50.8% (prior to indexation) and a low one-year probability of default (2.0%) as assigned by Santander. On the other hand, historical performance has been very volatile. Scope’s recovery assumptions for the mortgage segment reflect the agency’s fundamental analysis of real estate properties value in Spain.

Rating sensitivity

Scope tested the resilience of the rating against deviations of the main input parameters: i) the portfolio mean default rate and ii) the portfolio recovery rate.

This analysis has the sole purpose of illustrating the sensitivity of the rating to input assumptions and is not indicative of expected or likely scenarios.

The following shows how the quantitative results change compared to the assigned credit ratings when the portfolio’s expected default rate is increased by 50% and the portfolio’s expected recovery rate is reduced by 50%, respectively:

• Class A: sensitivity to probability of default, zero notches; sensitivity to recovery rates, zero notches.
• Class B: sensitivity to probability of default, one notch; sensitivity to recovery rates, one notch.
• Class C: sensitivity to probability of default, two notches; sensitivity to recovery rates, two notches.

Regulatory disclosures

These credit ratings are issued by Scope Ratings AG.
Lead analyst Sebastian Dietzsch, Associate Director.
Person responsible for approval of the rating: Guillaume Jolivet, Managing Director.
The preliminary ratings were first assigned by Scope on 18 January 2018.
The preliminary ratings concern financial instruments, which have been rated by Scope for the first time.

Solicitation, key sources and quality of information
The rated entity and/or its agents participated in the rating process.
The following substantially material sources of information were used to prepare the credit rating: public domain, the rated entity, the rated entities’ agents, third parties and Scope internal sources.
Scope considers the quality of information available to Scope on the rated entity or instrument to be satisfactory. The information and data supporting Scope’s ratings originate from sources Scope considers to be reliable and accurate. Scope does not, however, independently verify the reliability and accuracy of the information and data.
Scope has not undertaken any assessment of due diligence processes carried out at the level of underlying financial instruments or other assets of structured finance instruments. Scope has not relied on a third-party assessment.
Prior to publication, the rated entity was given the opportunity to review the rating and/or outlook and the principal grounds on which the credit ratings are based. Following that review, the rating was not amended before being issued.

Information on interests and conflicts of interest
The rating was prepared independently by Scope Ratings but for a fee based on a mandate of the issuer of the investment.
As of the time of the analysis, neither Scope Ratings AG nor companies affiliated with it hold any interests in the rated entity or in companies directly or indirectly affiliated to it. Likewise, neither the rated entity nor companies directly or indirectly affiliated with it hold any interests in Scope Ratings AG nor any companies affiliated to it. Neither the rating agency, the rating analysts who participated in this rating, nor any other persons who participated in the provision of the rating and/or its approval hold, either directly or indirectly, any shares in the rated entity or in third parties affiliated to it. Notwithstanding this, it is permitted for the above-mentioned persons to hold interests through shares in diversified undertakings for collective investment, including managed funds such as pension funds or life insurance companies, pursuant to EU Rating Regulation (EC) No 1060/2009. Neither Scope Ratings nor companies affiliated with it are involved in the brokering or distribution of capital investment products. In principle, there is a possibility that family relationships may exist between the personnel of Scope Ratings and that of the rated entity. However, no persons for whom a conflict of interests could exist due to family relationships or other close relationships will participate in the preparation or approval of a rating.

Methodology
The methodologies used for these ratings (‘General Structured Finance Methodology’, dated August 2017, ‘SME ABS Rating Methodology’, dated June 2017, and the ‘Methodology for Counterparty Risk in Structured Finance’, dated August 2017) are available on www.scoperatings.com.
Historical default rates of Scope Ratings can be viewed in the rating performance report on https://www.scoperatings.com/#governance-and-policies/regulatory-ESMA Please also refer to the central platform (CEREP) of the European Securities and Markets Authority (ESMA): http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml. A comprehensive clarification of Scope’s definition of default as well as definitions of rating notations can be found in Scope’s public credit rating methodologies on www.scoperatings.com.

Conditions of use / exclusion of liability
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