OREANDA-NEWS. Fitch Ratings has taken the following rating actions on Rio Oil Finance Trust's issuances:

--USD2 billion series 2014-1 notes downgraded to 'BBB-' from 'BBB' and placed on Rating Watch Negative;
--BRL 2.4 billion series 2014-2 Special Indebtedness Interests 'AAAsf(bra)' placed on Rating Watch Negative;
--USD1.1 billion series 2014-3 notes downgraded to 'BBB-' from 'BBB' and placed on Rating Watch Negative.

The ratings address timely payment of interest and principal on a quarterly basis.

The downgrade reflects Fitch's downgrade and placement on Rating Watch Negative of Petrobras' Issuer Default Ratings (IDRs) on Feb. 3. Petrobras is the main source of cash flow generation for the transaction. The downgrades also reflect the potential for a sustained downturn in oil prices beyond calendar 2015 that would negatively affect collateral and Debt Service Coverage Ratio (DSCR) levels.

The Negative Watch on the Rio Oil Finance Trust notes is due to the placement on Petrobras on Negative Watch and on the potential for lower production levels due to a reduction in capital expenditures, which in turn may affect expected royalty flows and DSCR levels after 2017.

The ratings on all series are ultimately supported by the structural features in place.

The issuances are backed by the royalty flows owed by oil concessionaires, predominantly operated by Petroleo Brasileiro S.A. (Petrobras), to the government of the state of Rio de Janeiro (RJS), who assigned 100% of the flows to RioPrevidencia (RP), the state's pension fund.

KEY RATING DRIVERS

Weakening Credit Quality of the Largest Obligor

The rating action for the transaction notes reflects the downgrade of Petrobras, the main source of cash generation
(IDRs 'BBB-' on Rating Watch Negative) and the Watch Negative on its National Long-Term Rating of 'AAA(bra)'. The downgrade of Petrobras's IDR reflects the increased and prolonged uncertainty regarding Petrobras' ability to estimate and record an adjustment to its fixed assets on a timely manner, which could allow a significant portion of Petrobras' creditors to accelerate debt payments. The rating actions also reflect the potential impact the current corruption scandal may have on Petrobras' ability to hit Fitch's production expectations. The Rating Watch Negative reflects heightened risk the company's debt could be accelerated if it is not able to provide year-end audited financial statements within 120 days of the period's end, plus a 60-day grace period.

Oil Price Decline Affects Collateral Levels

To reflect continued expected market weakness in the near term, Fitch has revised its base case price deck downward for Brent crude oil to \$55 in 2015 and to \$65 in 2016. This new price expectation results in collateral levels decreasing by more than 40% for the next two years, which in turn translates into lower than expected DSCR levels.

Coverage Ratios Impacted by Decline in Collateral Levels

Given the impact oil price declines are expected to have on collateral levels, Fitch will closely monitor the transaction to determine the possibility of a trigger being hit. The transaction contemplates two DSCR triggers which are calculated considering that the full provisions included in Law 12734 come into effect. Initially, if DSCR levels go below 2x, the transaction structure will capture 60% of remaining flows to be used in case DSCR levels go below 1.5x when an early amortization event is declared. Fitch believes these structural features ultimately support the transaction rating at the revised level under a depressed oil price assumption.

Expected Production Increases at Risk

While Fitch has not changed its short term production expectations, current oil price levels may translate into capital expenditure cuts that can result in lower than expected production levels after 2017. Given that the transaction relies on growth in royalty flows, and although DSCR levels are sufficiently robust in the long run to absorb declines, production levels significantly below expectations may negatively affect the rating of the existing series.

RATING SENSITIVITIES

The ratings are capped by the credit quality of Petrobras as the main obligor of the flows backing this transaction and to the sovereign and country ceiling rating of Brazil.

The transaction is exposed to price and volume risk related to oil production. Further declines in prices or production levels significantly below expectations may trigger additional downgrades.

Although the transaction rating is not directly linked to the originator's rating, in case of considerable downgrade of the state's rating, the rating of the transaction may be impacted negatively.

Additionally, the ratings are sensitive to the rating of Banco do Brasil as a direct counterparty to the transaction.

For more details on the transaction please refer to the new issue report which is available on Fitch's website.