DBRS Morningstar Finalizes Provisional Ratings on FREMF 2021-K123 Mortgage Trust, Multifamily Mortgage Pass-Through Certificates, Series 2021-K123

DBRS, Inc. (DBRS Morningstar) finalized its provisional ratings on the following classes of Multifamily Mortgage Pass-Through Certificates, Series 2021-K123 (FREMF 2021-K123) issued by FREMF 2021-K123 Mortgage Trust:

-- Class A-1 at AAA (sf)
-- Class A-2 at AAA (sf)
-- Class X1 at AAA (sf)
-- Class X2-A at AAA (sf)

All trends are Stable.

The Class X1 and X2-A balances are notional.

With regard to the Coronavirus Disease (COVID-19) pandemic, the magnitude and the extent of performance stress posed to global structured finance transactions remain highly uncertain. This considers the fiscal and monetary policy measures and statutory law changes that have already been implemented or will be implemented to soften the impact of the crisis on global economies. Some regions, jurisdictions, and asset classes are, however, experiencing more immediate effects. DBRS Morningstar continues to monitor the ongoing coronavirus pandemic and its impact on both the commercial real estate sector and the global fixed-income markets. Accordingly, DBRS Morningstar may apply additional short-term stresses to its rating analysis, for example, by front-loading default expectations and/or assessing the liquidity position of a structured finance transaction with more stressful operational risk and/or cash flow timing considerations.

FREMF 2021-K123 contains 82 fixed-rate loans secured by 82 income-producing properties. DBRS Morningstar analyzed the conduit pool to determine the provisional ratings, reflecting the long-term probability of loan default within the term and its liquidity at maturity. The transaction will incorporate a sequential-pay pass-through structure, where senior bondholders benefit in priority of payments and the least subordinate bondholders take first losses.

Classes A-1, A-2, A-M, X1, XAM, and X3 of the FREMF 2021-K123 transaction have been conveyed into a trust by Freddie Mac to issue corresponding classes of Structured Pass-Through Certificates (SPCs) guaranteed by Freddie Mac.
All DBRS Morningstar-rated classes will be subject to ongoing surveillance, confirmations, upgrades, or downgrades by DBRS Morningstar after the date of issuance. The initial ratings of the FREMF 2021-K123 Certificates and the Freddie Mac Structured Pass-Through Certificates, Series K-123 (Freddie Mac SPCs K-123) are assigned without giving effect to the Freddie Mac guarantee.

The loans benefit from strong origination practices and strong historical loan performance history. Loans on Freddie Mac's balance sheet, which it originates according to the same policies as those for securitization, have an extremely low delinquency rate of 0.01% as of July 2020. This compares favorably with the delinquency rate for CMBS multifamily loans of approximately 3.89% as of July 2020. Since the inception of the K-Program through July 2020, Freddie Mac has securitized 18,797 loans, totaling approximately $357.45 billion in guaranteed issuance balance. To date, Freddie Mac has not realized any credit losses on its guaranteed issuances, although B-piece investors have realized a combined $18.8 million in total losses, representing fewer than 1.0 basis points of total issuance. The loans in the transaction benefit from experienced and financially strong borrowers compared with typical CMBS multifamily loans, with 65 of the 69 loans receiving Strong DBRS Morningstar sponsor strength scores. Additionally, many of the borrowers are repeat clients of Freddie Mac that have performed as agreed.

There are 28 loans, representing 34.1% of the total balance, with a DBRS Morningstar Issuance LTV of 67.1% or less, resulting in a decreased probability of default (POD). The overall pool has a weighted average (WA) DBRS Morningstar Issuance loan-to-value ratio (LTV) of 70.9% and a WA DBRS Morningstar Maturity LTV of 64.6%. These metrics are comparable with the FREMF 2020-K122 transaction that provided WA Issuance and Maturity LTVs of 70.7% and 63.5%, respectively. The FREMF 2020-K118 had a WA Issuance LTV of 69.4% and WA Maturity LTV of 63.3%.

Twenty-six loans, representing 44.6% of the total balance, are in DBRS Morningstar MSA Groups 2 and 3. This compares favorably with FREMF 10-year transactions in 2020, which averaged 35.6% in MSA Group 2 and 3. Loans in MSA Groups 2 and 3 have historically had lower PODs and loss given default figures and are credit positive in the DBRS Morningstar model.

The pool has a WA expected loss of 2.45%, which is below the WA expected losses of 2.66%, 2.53%, 2.86%, 2.86%, and 2.91% exhibited by FREMF 2020-K117, FREMF 2020-K115, FREMF 2020-K114, FREMF 2020-K113, and FREMF 2020-K112, respectively, all of which were previously rated by DBRS Morningstar.

Net cash flows (NCFs) derived by FREMF were reasonably determined and prudent. This was evidenced by the DBRS Morningstar average sampled haircut of 5.2% across 32 loans representing 72.9% of the total balance. The DBRS Morningstar average sampled haircut was below recent FREMF transactions reviewed by DBRS Morningstar. Across the pool, 92.2% of the total pool by allocated trust balance received a DBRS Morningstar haircut of less than 10.0%. The FREMF 2020-K122 transaction had an average sampled NCF variance of -6.9%. In general, revenue has been set to levels similar to the trailing 12-month (T-12) amount and lower than a recent annualized rent roll.

The largest loan in the pool, Meridian at Mt Vernon Triangle, representing 9.1% of the total balance, was modeled with Above Average property quality. Higher-quality assets retain better tenancy and achieve higher rental rates and occupancy.
Fifty-nine loans, representing 81.7% of the pool, are structured with a coronavirus debt service reserve (DSR). The reserves range in size from $82,000 to $1.6 million depending on the property. Borrowers may request disbursement from the reserve in the amount of a shortfall attributed to the coronavirus upon submission of rental collection, current rent schedule, and a current T-12 operating statement. The reserves will be released at least 90 days following the lifting of all governmental actions related to the coronavirus pandemic that affect the property.

In response to the ongoing pandemic, Freddie Mac made changes to its standard servicing practices to permit a temporary deferral of loan payments and forbearance of various remedies that could, among other things, adversely affect cash flow. While DBRS Morningstar views the inclusion of coronavirus-related upfront DSRs for a majority of the loans as a positive mitigant of some of the potential coronavirus-related disruptions, the economic fallout from the ongoing pandemic continues to evolve. DBRS Morningstar generally expects multifamily properties to fare better than hospitality and retail properties; however, short- and medium-term challenges still exist in this sector. In addition to imposing various containment-related restrictions, certain jurisdictions have also placed temporary moratoriums on the eviction of tenants that may be continued, extended, or expanded. Furthermore, government programs, such as the Coronavirus Aid, Relief, and Economic Security Act (CARES Act), which provided, among other things, supplemental unemployment benefits to displaced employees, expire in March 2021. This could result in additional stress on properties whose residents have been disproportionately affected by furloughs and layoffs. In addition, the resurgence of coronavirus cases has created additional uncertainty and increased stress on the planned re-opening of businesses. DBRS Morningstar also published its “Global Macroeconomic Scenarios: December Update” (available at https://www.dbrsmorningstar.com/research/370672/global-macroeconomic-scenarios-december-update) and is projecting generalized commercial real estate asset value declines for the U.S. of approximately 15% under its moderate scenario and 30% under its adverse scenario.

Ten loans, representing 18.3% of the pool, are structured without any coronavirus DSR. Eight of these loans originated during the pandemic, and two originated in the summer of 2019. Each of these properties/portfolios is over 95.0% occupied as of the latest occupancy dates between October and December 2020, except for the MHC Roll Up. The MHC Roll Up is the ninth-largest loan in the pool and is backed by a cross-collateralized pool of seven manufactured housing properties in Kentucky, Tennessee, and Indiana. The portfolio was 85.8% occupied as of late November 2020. Furthermore, with the exception of the Starwood Rollup loan, the issuance LTVs for loans without a coronavirus DSR were below 62.1%.

The pool is concentrated by property type as multifamily properties represent 91.5%, which excludes manufactured housing properties and one student housing property. Compared with other property types, multifamily assets generally benefit from staggered lease rollover and lower expense ratios. While revenue is quick to decline in a downturn because of the short-term nature of the leases, it is also quick to respond when the market improves. Analysis performed on the 28 sampled multifamily loans indicates that most markets are displaying strong occupancy and rent growth figures with positive year-over-year trends established.

The collaterals includes two, large sponsorship concentrations. Outsized concentrations run counter to the benefits of a diversified pool and are generally viewed as credit negative. To account for the sponsor concentrations, DBRS Morningstar modeled the transaction with 69 loans, which consolidated 15 loans into two loans (#2 loan - Starwood Rollup and #9 loan - MHC Rollup).

Eighteen loans, representing 33.1% of the total balance, are structed as full-term interest-only (IO) loans, including five in the top 15. An additional 44 loans, representing 62.0% of the pool, are partial-IO loans, ranging between one and five years of IO. The remaining seven loans, representing 4.9% of the pool, have no IO period. Based on observed historical performance, partial-IO loans receive an increased POD adjustment in the model, with the most severe adjustment applied to loans with 25 to 84 months of IO. Amortizing and full-term IO loans receive a decreased POD adjustment.

A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework and its methodologies can be found at: https://www.dbrsmorningstar.com/research/357792.

Classes X1 and X2-A are interest-only (IO) certificates that reference a single rated tranche or multiple rated tranches. The IO rating mirrors the lowest-rated applicable reference obligation tranche adjusted upward by one notch if senior in the waterfall.

All ratings are subject to surveillance, which could result in ratings being upgraded, downgraded, placed under review, confirmed, or discontinued by DBRS Morningstar.

For supporting data and more information on this transaction, please log into www.viewpoint.dbrsmorningstar.com DBRS Morningstar provides analysis and in-depth commentary in the DBRS Viewpoint platform.

DBRS Morningstar provides updated analysis and in-depth commentary in the DBRS Viewpoint platform for the following loans in the transaction:

-- Prospectus ID#1 – Meridian At Mt Vernon Triangle (8.9% of the pool)
-- Prospectus ID#2 – Starwood Rollup (7.1% of the pool)
-- Prospectus ID#3 – Governors Green Apartments (6.2% of the pool)
-- Prospectus ID#4 – Brookdale Glen Ellyn (4.5% of the pool)
-- Prospectus ID#5 – The Landing At Little Elm (3.1% of the pool)
-- Prospectus ID#6 – Cary Weston (3.1% of the pool)
-- Prospectus ID#7 – Retreat At Water’s Edge (2.7% of the pool)
-- Prospectus ID#8 – Stonebrook At Northside (2.4% of the pool)
-- Prospectus ID#9 – MHC Rollup (2.3% of the pool)
-- Prospectus ID#10 – The Flats At Fox Hill (2.2% of the pool)
-- Prospectus ID#11 – Mattress Factory Lofts (2.2% of the pool)
-- Prospectus ID#12 – The Preserve At Beckett Ridge (2.2% of the pool)
-- Prospectus ID#13 – Palazzo (2.1% of the pool)
-- Prospectus ID#14 – Caliber At Cornerstar (2.0% of the pool)
-- Prospectus ID#15 – The Ponds On Plum Grove (2.0% of the pool)
-- Prospectus ID#16 – Evolve At Tega Cay (1.9% of the pool)
-- Prospectus ID#17 – Bay Tree (1.8% of the pool)
-- Prospectus ID#18 – Siena Apartments (1.7% of the pool)
-- Prospectus ID#19 – Hidden Lake Apartments (1.6% of the pool)
-- Prospectus ID#20 – Commodore Regency Apartments (1.5% of the pool)
-- Prospectus ID#22 – Riverside Villas (1.4% of the pool)
-- Prospectus ID#24 – Jefferson Pointe (1.4% of the pool)
-- Prospectus ID#25 – Plaza 1640 (1.3% of the pool)
-- Prospectus ID#28 – Sencit Towne House (1.2% of the pool)
-- Prospectus ID#31 – Park At Willowbrook (1.0% of the pool)
-- Prospectus ID#38 – Long Lake Village (0.9% of the pool)
-- Prospectus ID#49 – IMT Devonshire (0.6% of the pool)
-- Prospectus ID#50 – Nueva Vista Apartments (0.6% of the pool)
-- Prospectus ID#55 – Gleneagles Village (0.5% of the pool)
-- Prospectus ID#57 – Flamingo Mobile Home Park (0.5% of the pool)
-- Prospectus ID#61 – Lincoln Heights Apartments (0.4% of the pool)

For complimentary access to this content, please register for the DBRS Viewpoint platform at www.viewpoint.dbrsmorningstar.com The platform includes issuer and servicer data for most outstanding CMBS transactions (including non-DBRS Morningstar rated), as well as loan-level and transaction-level commentary for most DBRS Morningstar-rated and -monitored transactions.

Notes:
All figures are in U.S. dollars unless otherwise noted.

With regard to due diligence services, DBRS Morningstar was provided with the Form ABS Due Diligence-15E (Form-15E), which contains a description of the information that a third party reviewed in conducting the due diligence services and a summary of the findings and conclusions. While due diligence services outlined in Form-15E do not constitute part of DBRS Morningstar’s methodology, DBRS Morningstar used the data file outlined in the independent accountant’s report in its analysis to determine the ratings referenced herein.

The principal methodology is the North American CMBS Multi-Borrower Rating Methodology (August 7, 2020), which can be found on dbrsmorningstar.com under Methodologies & Criteria. For a list of the structured-finance-related methodologies that may be used during the rating process, please see the DBRS Morningstar Global Structured Finance Related Methodologies document, which can be found on dbrsmorningstar.com in the Commentary tab under Regulatory Affairs. Please note that not every related methodology listed under a principal structured finance asset class methodology may be used to rate or monitor an individual structured finance or debt obligation.

For more information regarding rating methodologies and Coronavirus Disease (COVID-19), please see the following DBRS Morningstar press release: https://www.dbrsmorningstar.com/research/357883.

For more information regarding structured finance methodologies and Coronavirus Disease (COVID-19), please see the following DBRS Morningstar press release: https://www.dbrsmorningstar.com/research/358308.

For more information regarding the structured finance rating approach and Coronavirus Disease (COVID-19), please see the following DBRS Morningstar press release: https://www.dbrsmorningstar.com/research/359905.

The rated entity or its related entities did participate in the rating process for this rating action. DBRS Morningstar had access to the accounts and other relevant internal documents of the rated entity or its related entities in connection with this rating action.

Please see the related appendix for additional information regarding the sensitivity of assumptions used in the rating process.

For more information on this credit or on this industry, visit www.dbrsmorningstar.com or contact us at info@dbrsmorningstar.com.

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