Amherst Securities Group (ASG) analysts examined five conflicts of interest between servicers and borrowers/investors in a report released yesterday.
One conflict is that although servicers usually own junior interests in the transactions that they service, they do not own the first liens.
Because of this, analysts said that national servicing standards should require servicers to perform the modification with the highest net present value (NPV). This, according to them, usually involves a principal reduction. Under the Home Affordable Modification Program (HAMP), the servicer is required to test the borrower for a modification using both the original HAMP waterfall and the principal reduction alternative, which moves principal reduction to the top of the waterfall.
If the principal reduction alternative has the most NPV, ASG analysts said that servicers are
not obligated to utilize it. The use of the principal reduction alternative is voluntary and is at the
servicer's discretion. The HAMP should be amended to necessitate the use of this option, if it has the highest NPV versus the other alternatives tested, analysts suggested.
Another conflict, according to ASG analysts, is that the servicer usually owns a share in the companies that can be billed for ancillary services in the foreclosure process. The servicer charges above market rates on these services, they said.
They added that the national servicing standards can be used to require servicers to keep existing homeowner’s policies in place for as long as it is possible since both the New York State requirements and the proposed Attorneys’ General settlement do. If it is not possible to re-establish the existing homeowner’s policy, some measures should be included to ensure that the pricing of the purchase is reasonable, analysts said.
Aside from this, they stated that following the lead of the Attorneys’ General settlement, national servicing standards should prohibit the placement of force-placed insurance with a firm's subsidiary, affiliated company, or any other firm where the servicer has an ownership interest.
The Attorneys’ General proposed settlement, analysts said, does not allow a servicer to impose its own mark-ups on any of the third-party fees. The servicer's subsidiaries, or other entities that the servicer or related entity has an interest in such a third party, are also prohibited from collecting third-party fees, noted analysts. Aside from this, servicers are also prohibited from splitting fees, giving or accepting kickbacks or referral fees, or accepting anything of value in terms of third-party default or foreclosure-related services. ASG analysts agreed with the suggestions. These ideas should form a part of meaningful national servicing standards, they said.
Analysts also stated that there are also conflicts of interest in terms of the governance of the securitization, such as the enforcement of rep and warrant issues, which can be solved by the proper enforcement of reps and warrants.
It is crucial, they said, to have a party that is incented to enforce them, and has both access to the information and enforcement authority. This can best be achieved via an independent third party who is in charge of protecting investor rights and is paid on an incentive basis, analysts said.
Some current deals nominally have a third party charged with protecting investor rights, but that party is not empowered. These conflicts, they noted, should be addressed by the PSAs (purchase and sale agreements) for new securitizations.
National servicing standards should direct servicers to make sure that there is enough enforcement mechanism for reps and warrants, analysts stated.
ASG analysts said that servicing transfers can be problematic because of a mis-aligned servicer compensation structure. According to them, it is crucial to have a party that is incented to enforce reps and warranties and has both access to the information and enforcement authority. This can best be achieved via an independent third party charged with protecting investor rights and is paid on an incentive basis, analysts said.
There are current deals that nominally have a third party charged with protecting investor rights, but that party is not empowered, does not have access to necessary information or the loan files, and is not paid on an incentive basis. This set of conflicts should be addressed by the PSAs (purchase and sale agreements) for new securitizations, analysts said. National servicing standards should direct servicers to make sure that there is enough enforcement mechanism for reps and warrants, they reiterated.
They also said that transparency for investors is missing. "We believe the remittance reports for future securitizations should contain loan-by-loan information, and that loan-by-loan information should be rolled up into a plain English reconciliation," analysts said. National servicing standards should encourage this transparency.
They concluded the report by saying that national servicing standards can go a long way in dealing with the conflicts of interest between servicers on one hand, and borrowers and investors on the other.
ASG also released a report on Friday detailing the risk retention proposal will give the "too big to fail" banks a competitive advantage over smaller banks in the mortgage securitization market. Brian Collins of ASR sister publication National Mortgage News wrote about the topic.
Megabanks with origination and securitization capabilities would benefit due to the narrow exemption from risk retention as well as the flexibility regulators give securitizers in how they retain 5% of the credit risk, according to ASG analysts.
ASG believes smaller banks will turn to real estate investment trusts to securitize loans that don’t meet the 20% downpayment threshold and tight debt-to-income ratios required to be exempt from risk retention.
"In fact, these are the only partnerships that we believe can be successful” because REITS could sponsor the MBS and hold the credit risk, ASG said in its report. Nonbank broker/dealers would expect commercial banks and thrifts to retain the credit risk.
The ASG report, which is entitled "Risk Retention Requirements = Misguided," concludes that the regulators should change direction and impose more stringent risk retention requirements on MBS issuers and set up a broader definition for "qualified residential mortgages" that are exempt from risk retention.
The proposed QRM (20% downpayment and a 36% DTI ratio) is "far too restrictive and could have a detrimental impact on credit availability," ASG said.
The comment period on the risk retention proposal ends June 10.