The new issuance private-label U.S. residential mortgage-backed securities (RMBS) market will slowly restart in 2014, and credit quality implications will vary given the different forces at play, according to a new report from Moody’s Investors Service, 2014 Outlook - U.S. RMBS and Servicer Quality. New transactions in 2014 will be of lower credit quality because originators will have trouble maintaining volume in loan pools as refinancing activity decreases. This will lead originators to relax underwriting standards, resulting in further deterioration of the credit quality of the collateral backing the pools.
Furthermore, the shape of investor protections for new transactions is still in flux, with issuers continuing to explore different representation and warranty (R&W) frameworks. “Institutional investors and RMBS issuers have not yet reached a consensus on the appropriate balance of liability and protection,” says Kruti Muni, Moody’s senior vice president and manager. “Investors will have to decide which R&W framework will provide a level of credit protection they deem acceptable.”
In addition, the creation of the qualified mortgage (QM) class will make it more expensive to originate non-qualified mortgage loans, because of the risk of borrower legal challenges, whose costs and penalties RMBS trusts would bear. “Because of the added risk, lenders will charge more to non-QM borrowers, and the loans will be more expensive to hold in a trust,” cautions Muni. Losses on pools with non-QM loans will increase as borrowers challenge foreclosures, causing trusts to incur legal fees, lengthen foreclosure timelines, and potentially pay penalties if the borrowers succeed.
Conversely, the collateral strength of outstanding RMBS will be stronger because the remaining borrowers in the pools will have stronger credit profiles, thus boosting the performance of those deals. “Improving loan-to-values indicate the credit strength of the remaining borrowers in the pools, and faster liquidation timelines weed out borrowers with weaker credit profiles,” notes Moody’s Associate Managing Director Debash Chatterjee. “Liquidating the backlog of severely aged properties in a portfolio will also lead to a decline in pool losses toward the end of 2014.”
The portfolios of non-bank servicers such as Ocwen, Nationstar and Green Tree continue to grow, fueled by large banks, which continue to shed their most seriously delinquent loans. Despite the added servicing capacity, completed foreclosure timelines will continue to rise because of the large number of complicated and unworkable foreclosure cases remaining in servicers’ backlogs. “However, timelines for new foreclosures will improve as judicial states clear their foreclosure pipelines,” says Chatterjee.