Private RMBS take first steps to US comeback
March 22 (IFR) - Private-label residential mortgage-backed securities (RMBS) could be making a slow comeback in the US structured finance market following two new deals from bank issuers this week.
While there is no chance of volumes returning to the peak levels seen before the financial crisis, there has recently been a clear uptick in activity in the sector.
On Thursday, JP Morgan issued its first private-label deal since 2007 - a US$570.7m transaction. More than 60% of the deal's collateral consists of mortgage loans originated by the bank.
Mid-sized Florida lender EverBank was also in the market yesterday, making its debut as a private-label RMBS issuer with a US$308.4m transaction. The bank was selling notes backed by collateral comprised of 15-year and 30-year mortgages.
Meanwhile California-based REIT Redwood Trust is in the market with its fourth RMBS of the year, and Credit Suisse is also prepping a deal.
And industry participants are expecting more offerings in the weeks to come.
Investment bank residential mortgage conduit platforms, such as the one managed by Wells Fargo, have been extremely busy buying loans and sourcing residential-mortgage collateral over the last six months. Wells Fargo and other large banks are expected to make a return to the market this year.
Additionally, Shellpoint Partners - a company formed in 2010 with an investment from mortgage bond pioneer Lew Ranieri through his private equity firm Ranieri Partners - will be using its New Penn Financial origination platform to issue RMBS backed by mostly high-quality prime collateral, according to an SEC filing from last October.
Prior to this week, only Redwood Trust and Credit Suisse had issued private-label RMBS since the onset of the financial crisis.
"We expect increasingly more of these private securitizations in the coming quarters, and such would be an undeniably favorable circumstance," said Chris Sullivan, chief investment officer of the United Nations Federal Credit Union.
"That's because it would suggest that housing market fundamentals and extensions of mortgage credit are both continuing to improve, and government dominance in what should more appropriately be a more balanced market is actually receding."
SHADOW OF ITS FORMER SELF
Mortgage market experts say the return of private capital through non-agency securitization, backed by high quality loans, is expected to provide a boost to the US housing market.
But while the new deals are encouraging, industry experts expect private RMBS issuance to remain a shadow of its former self over the next two years.
More than 95% of US mortgage finance is still currently handled by Fannie Mae, Freddie Mac, Ginnie Mae, and the FHA.
Industry experts say that while the addition of two new entrants to the non-agency space is a welcome sign of momentum, the low overall volume means private RMBS is purely a niche market.
Out of approximately US$1.8 trillion in overall mortgage origination volume in 2012, only about 10% - or around US $180 billion - was non-agency and eligible for securitization.
And only about US$5 billion of that - all backed by prime mortgages - was actually securitized last year, according to Fitch. The rest was kept on bank balance sheets.
By comparison, in the peak years of 2005 and 2006, approximately US$1.5 trillion of non-agency collateral was eligible for securitization, according to Fitch - and nearly all of that was securitized.
"Yes, there are two new names in the private-label market now, but volume is coming off of a very low base," said Rui Pereira, the head of RMBS ratings at Fitch.
"Banks are predicting between US$15bn and US$25bn of private-label issuance this year. Even if that does come to fruition, it's still just a small fraction of where this market used to be."
Pereira said that the industry still needed to become comfortable with several regulatory issues, including the Consumer Financial Protection Bureau's recently finalized "Qualified Mortgage" definition, which may differ somewhat from the forthcoming definition of a "Qualified Residential Mortgage" being crafted by federal regulators.
The CFPB in January also released final rules detailing national mortgage servicing standards, which the industry is still absorbing.
"New entrants will test the waters this year, but private-label RMBS remains a niche market," Pereira said.
WEAKER INVESTOR PROTECTIONS
One factor slowing development of the market is that investors are starting to push back over provisions in deals that protect banks from lawsuits and loan repurchase obligations if a deal's loans go sour.
Fitch said that the so-called representations and warranties (R&W) framework of this week's JP Morgan RMBS transaction was "significantly diluted by qualifying and conditional language that substantially reduces lender loan breach liability and the inclusion of sunsets for a number of provisions including fraud."
While older R&W provisions and repurchase obligations were for the life of the loan, some recent RMBS proposals contain "sunset provisions" that free lenders from repurchase obligations after less than 36 months.
"I think investors need to pay careful attention to the language surrounding lender liability for redress, even though today, arguably, one might expect the banks to deliver a substantially better-quality product -- especially among the earliest, heavily scrutinized deals -- than was their previous practice," said the UNFCU's Sullivan.
Fitch said that it considered this weaker R&W framework when it determined its expected loss estimation and credit enhancement analysis for the JP Morgan deal.
The agency warned the market last month over these new RMBS provisions, which it said may expose investors to added risks from weak underwriting and shoddy mortgage loans.
"These provisions begin to introduce subjectivity and may burden a mortgage trust with additional risks and expenses," Fitch senior director Suzanne Mistretta wrote in February.
Fitch said that this week's JP Morgan deal is missing reps for early payment defaults. Additionally, certain other reps include knowledge qualifiers, meaning that buyers may have the burden of proof to show that sellers knew that certain loans might be prone to souring.
The JP Morgan transaction contains materiality conditions, including language that calls for a determination of whether a default was the result of a life event or a breach of contract.
All of this did not deter Fitch from putting a Triple A rating on the senior tranche, albeit with higher-than-normal credit enhancement.
"Fitch believes the 7.4% 'AAAsf' credit enhancement in the transaction sufficiently addresses the risks in the deal including the weaker R&W framework," analysts wrote in their pre-sale report.
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