KBRA Assigns Rating to $100 Million Senior Unsecured Notes Issued by South Street Securities Funding, LLC

KBRA assigns a rating of BBB- with a Stable Outlook to the $100 million senior unsecured notes issued by South Street Securities Funding, LLC (“SSSF”) with a final maturity date of October 15, 2031. The purpose of the issuance is to refinance existing senior unsecured debt of $87.5 million that was scheduled to mature on December 30, 2026, and for general corporate purposes. SSSF is an intermediate holding company with its significant asset representing a common equity investment in its wholly owned unit, South Street Securities, LLC (“SSS”), a SEC-registered broker-dealer, member of FINRA, and a netting member with the FICC. SSSF is controlled by ultimate parent company South Street Securities Holdings Inc. (“SSSH”). SSS specializes in collateralized finance with business activities consisting of traditional fixed income repo, residential interest rate risk management activities (TBA finance), algorithmic trading of U.S. Treasury securities, and proprietary investment and trading activity, generally on a secured basis with collateral consisting of U.S. Treasury securities.

Key Credit Considerations

The ratings of SSSF are inextricably linked to SSS, as it effectively represents its key asset and source of earnings, a meaningful portion of which is needed to service the parent company’s debt burden, which will increase because of the incremental increase in debt and associated coupon.

The ratings for SSS are underpinned by management’s extensive collateralized fixed income finance experience and performance record, in addition to its risk management practices, which have proved effective, across varied market environments. Key risk factors, especially liquidity, are monitored daily to ensure excess, unencumbered collateral exists to maintain access to FICC clearing and bilateral funding. The ratings benefit from the positive trend greater revenue diversification and profitability. The ratings are counterbalanced by SSS’ still focused business profile and improving yet high financial leverage (measured on a gross and net basis), relative to the averages for KBRA rated securities firms, including those that specialize in collateralized finance. The trend in profitability has improved in recent periods, due primarily to improved net fixed income finance margins (UST & MBS), focused pricing efforts, collateral margining and financing efficiencies, and the contribution from algorithmic trading – a newer business activity. Leverage, while high on both a net and gross basis – a key rating consideration of SSS – has stabilized in the current range the past few years. Double leverage at SSSF has been maintained below 150% the past two years; KBRA anticipates that it will be maintained in this range going forward.

Rating Sensitivities

The ratings for SSS are unlikely to be changed in the intermediate term. Conversely, the ratings would most likely be pressured if profitability eroded such that periodic net losses occurred or were likely to occur from its core collateralized finance business (including TBA finance) and proprietary investment and trading activities, or if gross and net balance sheet leverage (total assets-to-members’ equity) were to increase beyond the current range. The ratings for SSSF are tied to SSS’ issuer rating; a sustained increase in leverage at or a weakening of the FCCR ratio could lead to a re-evaluation of the parent’s one-level rating differential.

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