- S&P Global Ratings expects persistently high inflation and rising interest rates will continue to strain consumer spending, thus impacting the U.S. timeshare securitizations we rate.
- We ran two scenarios to evaluate the decline in excess spread based on an increase in timeshare loan delinquencies. We reviewed 47 transactions rated by S&P Global Ratings, comprising 149 individual tranches, issued between 2014 and 2022.
- Based on our analysis, for tranches with lower scenario default rates, unstressed excess spread becomes an increasingly large part of the total credit enhancement for those classes relative to tranches with higher scenario default rates because they do not benefit from subordination. As a result, our stressed rating scenarios generally had a greater impact on the subordinate classes than on the senior classes.
S&P Global Ratings expects persistently high inflation and increasing interest rates will continue to strain consumer spending, thus impacting the U.S. timeshare securitizations we rate. In this article, we examined our outstanding U.S. timeshare loan securitizations and ran two tests to determine how stressful periods of six and 12 months can affect the transactions. Specifically, we reviewed 47 transactions, comprising 149 individual tranches, issued between 2014 and 2022. (We eliminated some transactions if they did not meet the parameters for our analysis.)
Chart 1 shows the breakdown by issuance vintage of the transactions analyzed.
Persistently High Inflation And Interest Rates Strain Consumer Spending
While our forecast on the U.S. economy no longer includes a near-term recession, we expect the U.S. Federal Reserve to raise interest rates another 25 basis points by year end (see "Economic Outlook U.S. Q3 2023: A Sticky Slowdown Means Higher for Longer," published June 26, 2023). We also forecast the unemployment rate to slowly increase to 4.5% in 2025 after ranging between 3.4%-3.7% during the last 12 months. While the rate is still a significant decline from the peak of 14.7% in April 2020, this, coupled with higher interest rates, will further limit consumer spending.
Historical Correlation Between Unemployment Rates And Timeshare Loans
We assessed the U.S. timeshare securitizations rated by S&P Global Ratings from 2000-present and found that timeshare loan delinquencies are generally positively correlated with rising unemployment and economic weakness.
Historically, these securitizations have generally performed within our expectations, with the exception of six transactions that were impacted by the Global Financial Crisis. During 2008-2010, we lowered our ratings on eight senior classes from these transactions. Ultimately, all tranches were paid in full.
Delinquencies Drop During The COVID-19 Pandemic
Following the first lockdown due to the COVID-19 pandemic, delinquencies were unusually low, likely driven in part by the U.S. federal government's various assistance programs (i.e., Economic Impact Payments provided by the Coronavirus Aid, Relief, and Economic Security Act, the Tax Relief Act of 2020, and The American Rescue Plan Act of 2021). Timeshare developers also provided force majeure deferrals, which also helped keep delinquencies low.
Throughout the entire COVID-19 pandemic, delinquencies remained low. In our view, this was partly due to the steep decline in origination volume and timeshare developers' focus on sales to existing timeshare owners. Typically, the majority of borrowers default within the first 12-24 months following loan origination, so focusing on sales to existing owners shrinks the pool of new obligors who could become delinquent. Further, existing timeshare owners who upgrade their loans tend to outperform first-time timeshare borrowers.
Delinquencies Are Normalizing But Maintenance Costs Are Increasing
Timeshare loan delinquencies are returning to more normalized levels and are displaying typical seasonal patterns as they did prior to the COVID-19 pandemic. However, inflation and rising labor costs, which are often passed down to timeshare loan owners in the form of increasing maintenance costs, will affect borrowers. Although timeshare loan payments are typically billed separately from maintenance fees, there may be an uptick in delinquencies of timeshare loan payments if borrowers cannot pay their maintenance fees and, as a result, are not permitted to book vacations.
Funding Costs Rise While Timeshare Loan Yields Remain Relatively Stable
Since interest rates began rising in the spring of 2022, timeshare asset-backed securities (ABS) issuers have experienced excess spread compression. The squeeze on excess spread has been a function of both the increasing cost of funds and relative stability in the weighted average coupon that developers receive on the pools of timeshare loans. Many developers we have spoken with have passed on only a small portion of their increased funding costs to consumers.
Applying Liquidity Stress To Timeshare Transactions
For the timeshare securitizations in our analyses, we assessed the impact of persistently high inflation and interest rates and the related strain on consumers. Specifically, we evaluated the decline in excess spread due to a rise in delinquencies on timeshare ABS under two scenarios: by haircutting 50% of excess spread from available collections for either six or 12 consecutive months.
Available excess spread in timeshare securitizations typically ranges from 8%-10% per annum at the time of issuance. This amount is calculated as the difference between the interest collected on the loans and the amount required to pay the servicing fee and interest on the notes. Excess spread is available to cover payment on the bonds and serves as the first line of defense to offset delinquencies in payments and losses.
For our analyses, we reduced excess spread, decreasing available collections to offset delinquencies and losses. Our testing sought scenarios where any particular tranche would not have achieved its current rating under our two stress scenarios. In other words, the breakeven default rate (BDR), based on current collateral composition and structure, was less than the scenario default rate (SDR; the total amount of credit enhancement required for a particular rating) under our developer-specific timing curve for each transaction. Generally, calculations were based on performance data and the most recent pool composition provided by the transaction sponsors during our most recent annual surveillance completed in February 2023.
In the event the BDR was lower than the SDR, also known as a negative cushion, we determined the applicable rating under our stress scenario. (See table 1 for a summary of the average SDRs, BDRs, and cushions for the 149 classes tested.) It is worth noting that changes in pool composition will impact our SDRs. For example, if a greater proportion of loan prepayments come from obligors with high FICO scores rather than those with lower FICO scores, the SDRs may increase.
|SDRs and BDRs for outstanding U.S. timeshare securitizations(i)|
|Prior to liquidity stress tests|
|Rating category||SDR (%)(ii)||BDR (%)(ii)||Cushion (%)(ii)|
|(i)The data includes only U.S. timeshare securitizations rated by S&P Global Ratings. Some transactions were eliminated if they did not meet the parameters for our analysis. (ii)The data reflects simple averages across the analyzed transactions. (iii)Includes only one class of notes. SDR--Scenario default rate. BDR--Breakeven default rate.|
Based on our analysis, for tranches with lower SDRs, unstressed excess spread becomes an increasingly large part of the total credit enhancement for that class relative to tranches with higher SDRs, as they do not benefit from subordination. As a result, our stressed rating scenarios generally had a greater impact on the subordinate classes than on the senior classes. (Tranches with lower SDRs are typically the lower-rated tranches.)
In Scenario 1, the less stressful of the two, we haircut excess spread by 50% for six consecutive months. Of the 149 classes tested, only four tranches from two transactions would be susceptible to downgrade by a maximum of one rating level. All of the impacted tranches were subordinate tranches. (See table 2.)
Based on the results from Scenario 1:
- The class C notes from a 2019 transaction would be vulnerable to a downgrade to 'BB' from 'BBB'.
- The class C and D notes from the same 2019 transaction referenced above were vulnerable to a one-notch rating downgrade to 'BBB-' from 'BBB' and to 'BB' from 'BB+', respectively.
- The class C notes from a 2018 transaction would be vulnerable to a downgrade to 'BBB-' from 'BBB'.
Both the 2019 and 2018 transactions experienced significantly higher cumulative gross defaults than expected at the time of issuance, already reducing available excess spread to absorb the losses. The average negative cushion, or the amount by which the BDR fell below the SDR, was approximately 1.1%, and the largest negative cushion was approximately 2.1%.
In the second scenario, we doubled the length of the stressed excess spread period from six to 12 consecutive months. Of the 149 classes, 17 classes (or 4.7%), were vulnerable to a rating downgrade. Approximately 70% of these classes were issued in securitizations that closed in 2019. Most timeshare developers' 2019 vintages were among the weakest in terms of default rates since the Global Financial Crisis, and transactions issued in 2019 may have been in their respective peak loss periods (typically months 12 to 24) while withstanding the worst of COVID-19 pandemic-related defaults.
See table 4 for a summary of cushions in Scenario 2.
|Average cushion by rating category (%)|
|Rating category||Prior to testing (base run)||Passed 12-month haircut scenario||Failed 12-month haircut scenario||Failed six-month haircut scenario|
The results from Scenario 2 are detailed below.
'AAA' rating category
- Two classes from two separate 2019 transactions (5.6% of timeshare classes currently rated 'AAA' by S&P Global Ratings) were both susceptible to a downgrade to 'AA+', with negative cushions of 1.32% and 0.51%.
'A' rating category
- Five classes have negative cushions, one of which was vulnerable to a downgrade to the next rating category (to 'BBB+' from 'A-'), with a negative cushion of 0.28%.
- Three classes, one each from transactions issued in 2017, 2018, and 2019, were susceptible to a one-notch downgrade (to 'A-' from 'A'), with negative cushions of 0.67%, 1.09%, and 1.22%, respectively.
- One class from a 2019 transaction, with a negative cushion of 0.78%, was vulnerable to a one-notch downgrade (to 'A' from 'A+').
- In total, 2.1% of classes in the 'A' rating category were at risk of a downgrade by one or more categories.
'BBB' rating category
- Eight classes (7.5% of timeshare classes currently rated 'BBB' by S&P Global Ratings) from three transactions were at risk to a downgrade. Of these, two would transition to the 'BB' rating category, and one would transition to the 'B' category; the transactions (one from 2018 and two from 2019) were sponsored by three different timeshare operators.
- The class from the 2018 transaction was open to downgrade (to 'BB+' from 'BBB'), with a negative cushion of 2.39%.
- One class from a 2019 transaction would be at risk of a downgrade (to 'BB+' from 'BBB'), with a negative cushion of 2.59%. The class from the second 2019 transaction was at risk of the largest downgrade in terms of notches (to 'B+' from 'BBB'), with a significant negative cushion of 3.89%.
- Three classes would be at risk of a downgrade by only one notch (to 'BBB-' from 'BBB'), with negative cushions of 1.00% (2019 transaction), 0.46% (2022), and 1.06% (2017).
- Two classes from 2019 transactions would be open to one-notch downgrades (to 'BBB' from 'BBB+'), with negative cushions of 1.38% and 0.44%.
'BB' rating category
- Two classes from 2019 transactions (5.0% of the timeshare classes currently rated 'BB' by S&P Global Ratings) were vulnerable to downgrade.
- One class, with a negative cushion of 0.62%, would be open to a downgrade to 'B+' from 'BB-', while the other, with a negative cushion of 2.00%, was vulnerable to a downgrade to 'BB' from 'BB+'.
A Word About Seller Repurchases And Substitutions
A structural feature unique to timeshare ABS is the developers' ability to repurchase or substitute defaulted loans throughout the life of the transaction. This is subject to numerical limits as well as other constraints. The limits typically range from 20%-35% of the initial pool balance. In addition, if a loan in a securitized pool is upgraded, some transactions allow developers the option to repurchase or substitute such loans, with limits typically ranging from 15%-20% of the initial pool balance.
S&P Global Ratings' analysis of timeshare new issuances, as well as our annual and quarterly surveillance processes, assume that no repurchases or substitutions are made with respect to defaults. However, as a practical matter, most developers have historically repurchased or substituted all defaulted loans should they arise, and no such losses have been absorbed by the transactions. To the extent that defaulted or upgraded loans are substituted with new loans, the pool's overall credit characteristics could change.
Limitations And Caveats To The Scenario Analysis
- This report does not constitute a rating action. The stress scenarios are hypothetical and are not meant to be predictive or part of any outlook statement.
- These stresses were with respect to cash flows only. Operational risk, counterparty exposure, and legal considerations were not part of this analysis.
- A rating committee applying the full breadth of S&P Global Ratings' criteria, and including qualitative factors might, in certain instances, assign a different rating than the largely quantitative analysis undertaken herein.
- Scenario Analysis: How The Next Slowdown Could Affect U.S. Corporate Securitizations, Aug. 16, 2023
- Scenario Analysis: U.S. BSL CLO Rating Performance Under Four Hypothetical Stress Scenarios (2023 Update), July 18, 2023
- Economic Outlook U.S. Q3 2023: A Sticky Slowdown Means Higher For Longer, June 26, 2023
- Scenario Analysis: How Rising U.S. BSL CLO 'CCC' Baskets Could Affect Junior Overcollateralization Test Cushions, April 28, 2023
- Scenario Analysis: The Potential Impact Of A Recession On Prime Auto Loan ABS Ratings, April 12, 2023
- Scenario Analysis: How The Next Downturn Could Affect U.S. Subprime Auto Loan ABS Ratings, Dec. 8, 2022
- Scenario Analysis: Rising Rates Amid Looming Balloon Dates: Performance Update And Scenario Analysis For Lodging-Backed CMBS, Nov. 16, 2022
- Scenario Analysis: Exploring The Potential Impact Of Office Value Declines Beyond The Base Case In U.S. Conduit CMBS, Oct. 20, 2022
- Scenario Analysis: How Resilient Are Middle-Market CLO Ratings (2022 Update), Oct. 19, 2022
- Scenario Analysis: How The Next Downturn Could Affect U.S. BSL CLO Ratings (2022 Update), Aug. 4, 2022
- Scenario Analysis: LIBOR Transition, Excess Spread, And U.S. CLO Ratings, June 30, 2022
This report does not constitute a rating action.
|Primary Credit Analysts:||Annika Sandback, New York + 1 (212) 438 0621;|
|Deborah L Newman, New York + 1 (212) 438 4451;|
|Research Contributor:||Aditi Sawant CRISIL Global Analytical Center, an S&P affiliate, Mumbai|
No content (including ratings, credit-related analyses and data, valuations, model, software, or other application or output therefrom) or any part thereof (Content) may be modified, reverse engineered, reproduced, or distributed in any form by any means, or stored in a database or retrieval system, without the prior written permission of Standard & Poor’s Financial Services LLC or its affiliates (collectively, S&P). The Content shall not be used for any unlawful or unauthorized purposes. S&P and any third-party providers, as well as their directors, officers, shareholders, employees, or agents (collectively S&P Parties) do not guarantee the accuracy, completeness, timeliness, or availability of the Content. S&P Parties are not responsible for any errors or omissions (negligent or otherwise), regardless of the cause, for the results obtained from the use of the Content, or for the security or maintenance of any data input by the user. The Content is provided on an “as is” basis. S&P PARTIES DISCLAIM ANY AND ALL EXPRESS OR IMPLIED WARRANTIES, INCLUDING, BUT NOT LIMITED TO, ANY WARRANTIES OF MERCHANTABILITY OR FITNESS FOR A PARTICULAR PURPOSE OR USE, FREEDOM FROM BUGS, SOFTWARE ERRORS OR DEFECTS, THAT THE CONTENT’S FUNCTIONING WILL BE UNINTERRUPTED, OR THAT THE CONTENT WILL OPERATE WITH ANY SOFTWARE OR HARDWARE CONFIGURATION. In no event shall S&P Parties be liable to any party for any direct, indirect, incidental, exemplary, compensatory, punitive, special or consequential damages, costs, expenses, legal fees, or losses (including, without limitation, lost income or lost profits and opportunity costs or losses caused by negligence) in connection with any use of the Content even if advised of the possibility of such damages.
Credit-related and other analyses, including ratings, and statements in the Content are statements of opinion as of the date they are expressed and not statements of fact. S&P’s opinions, analyses, and rating acknowledgment decisions (described below) are not recommendations to purchase, hold, or sell any securities or to make any investment decisions, and do not address the suitability of any security. S&P assumes no obligation to update the Content following publication in any form or format. The Content should not be relied on and is not a substitute for the skill, judgment, and experience of the user, its management, employees, advisors, and/or clients when making investment and other business decisions. S&P does not act as a fiduciary or an investment advisor except where registered as such. While S&P has obtained information from sources it believes to be reliable, S&P does not perform an audit and undertakes no duty of due diligence or independent verification of any information it receives. Rating-related publications may be published for a variety of reasons that are not necessarily dependent on action by rating committees, including, but not limited to, the publication of a periodic update on a credit rating and related analyses.
To the extent that regulatory authorities allow a rating agency to acknowledge in one jurisdiction a rating issued in another jurisdiction for certain regulatory purposes, S&P reserves the right to assign, withdraw, or suspend such acknowledgement at any time and in its sole discretion. S&P Parties disclaim any duty whatsoever arising out of the assignment, withdrawal, or suspension of an acknowledgment as well as any liability for any damage alleged to have been suffered on account thereof.
S&P keeps certain activities of its business units separate from each other in order to preserve the independence and objectivity of their respective activities. As a result, certain business units of S&P may have information that is not available to other S&P business units. S&P has established policies and procedures to maintain the confidentiality of certain nonpublic information received in connection with each analytical process.
S&P may receive compensation for its ratings and certain analyses, normally from issuers or underwriters of securities or from obligors. S&P reserves the right to disseminate its opinions and analyses. S&P's public ratings and analyses are made available on its Web sites, www.spglobal.com/ratings (free of charge), and www.ratingsdirect.com (subscription), and may be distributed through other means, including via S&P publications and third-party redistributors. Additional information about our ratings fees is available at www.spglobal.com/usratingsfees.