Despite the predominant prediction of slowing subprime mortgage volume this year, the sector reached near-record issuance levels in the second quarter. Subprime issuance to the secondary market amounted to $127 billion, up from $114.3 in the first quarter and almost matching the record $128.6 billion reached in the fourth quarter, of 2005, according to UBS. Year-to-date issuance in the subprime sector is actually exceeding 2005 levels, at $246 billion compared to $217 billion a year earlier. And even though a handful of subprime lenders - such as Ameriquest Capital Corp. - have drastically trimmed operations - more than a few lenders, including NovaStar Financial, IndyMac Bancorp and American Home Mortgage Investment Corp., recently reported record origination volume in the three months ending June 31.
"Like any factory, you have to have enough widgets flowing through the factory to be efficient," noted Scott Hartman, chairman and chief executive of subprime lender NovaStar Financial during the company's second quarter earnings conference call.
While massive growth within the subprime mortgage sector in recent years has indeed resulted in an expanse of mouths to feed, some secondary market participants are beginning to question what kind of "widgets" are being originated. By and large, it appears as though certain lenders have swooped in on behalf of others that either can't afford to stay in the game anymore or are choosing to back out. That was the word from NovaStar, which originated a record $2.8 billion worth of nonconforming loans in the quarter, up 19% from year earlier levels. But there were changes in subprime loan composition in the second quarter. Those included a substantial uptick in 40-year loan issuance, coinciding with the largest volume to-date of loans with balloon payment clauses and a drop in FICO scores.
Standard & Poor's in the second quarter rated $123 billion in subprime securities - the second-highest volume of loans it has ever rated next to about $140 billion in the fourth quarter of 2005. The quarter was the first period since the third quarter of 2003 that showed an increase in rate/term refinancing as a percent of total volume and second-lien loan volume was up. The total portion of refinanced loans that S&P rated rose to 5.1% from 4.48% in the first quarter and the portion of second-lien loans rose to 4.24% from 3.50% in the first quarter. Perhaps as a result of the rating agency's own changes to its LEVELs model, the portion of deals that came to market in the second quarter with simultaneous seconds attached declined to 32.64% from 34.50% in the first quarter. The average FICO score dropped to 623, the lowest since the final quarter of 2004. S&P attributed the drop in part to a shift from IO loan issuance to 40-year loan issuance, where the average FICO score during the quarter was 624, compared to 653 for IO loans.
As for notable shifts in issuance volume among individual lenders, UBS last week provided some preliminary figures. Among them: Washington Mutual stepped into the market this year, issuing some $18.7 billion year-to-date, compared with only $6.5 billion last year; Option One forked $23 billion over to the secondary market in the first half, compared with only $10.6 billion in the first half of last year; IndyMac Bank issued $22 billion, compared with $16.4 billion in the first half of last year. Meanwhile, Ameriquest Mortgage issuance was down to $14.5 billion from $28.6 billion last year, UBS analysts said. They are anticipating volume to slow in the second half of this year, as slowing home price appreciation, reduced cash out refinancings and fewer home purchases meet an overall slowing of the economy.
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