A 15-year-old error brings a nine-notch housing bond downgrade
S&P Global Ratings said a recent nine-notch rating cut to a small Illinois-based housing bond stems from an analytic mistake that dated back to the original review. The credit is not publicly traded and the error is likely a one-off, the rating agency said.
S&P earlier this month downgraded the Illinois Housing Development Authority's series 2005 multifamily housing revenue bonds, issued for Preservation Housing Management and Crestview Preservation Associates L.P.'s Crestview Village apartments project, by nine notches to BB-plus from AA-plus. The outlook is stable.
“The rating action reflects our discovery of an analytic error and the project's consecutive decreases in asset-to-liability parity ratio to less than 100%,” S&P said in the report. "The analytic error dates back to S&P’s initial analysis of the transaction in 2005,” the report said.
The $2.8 million issue that pays a 4.8% coupon is due in 2037. The bonds were purchased and remain held by Fannie Mae and so are not actively traded, said James Breeding, a senior director and analytical manager at S&P. Fannie Mae also backs the individual mortgages pledged to the bonds.
At the time and in later routine reviews, S&P’s rating was based on the assumption that the transaction structure included monthly pass-through principal-and-interest payments on both the mortgage loan and bonds without reliance on reinvestment earnings.
That was not correct and S&P has now updated its analysis to reflect the transaction's structure of monthly interest payments and semiannual principal payments, as well as mismatched mortgage and bond amortization schedules.
The bullet bond maturity of roughly $1.5 million due in 2037 is not matched with the amortization of the mortgage loan. The mismatch results in a projected shortfall at maturity and debt service coverage below 1 times, without reliance on significant reinvestment earnings over and above our stressed reinvestment criteria.
The project's asset-to-liability parity ratio of 99.65%, coupled with the timing of the projected debt service coverage shortfall, caps the rating at BB-plus under the rating agency’s U.S. federally enhanced housing bond criteria published in November 2019.
The error was discovered when S&P launched a review of the project’s current results after the asset/liability parity fell below 100 and it was then that analysts confirmed the reliance on investment earnings and the existence of the bullet payment due in 2037, Breeding said.
“We believe this is a one-off error from over a decade ago, but are reviewing our portfolio to confirm,” Breeding said.
"We could lower the rating further if the date of the projected shortfall is earlier than currently expected," S&P analyst Emily Avila wrote in the report. "We could raise the rating if the asset-to-liability parity ratio were to improve to more than 100% or if other mitigating factors are presented."