While roughly one-third of outstanding subprime mortgage loans are scheduled to reset into higher interest rates, mortgage issuers are expected to be waiting in the wings with a new suite of affordability products to help keep mortgage payments manageable, according to Fitch Ratings. And while prime and alt-A borrowers are anticipated to favor fixed-rate products, subprime borrowers are likely to remain in the adjustable-rate sector.

"This is really how the industry is fighting back," said Mark Douglass, a senior director at Fitch during a Dec. 15 conference call. Adjustable-rate mortgages alone have climbed in the subprime sector from some 60% of overall volume in 2003 to more than 80% of issuance as 3Q05. According to Friedman Billings Ramsey hybrid ARMs constitute about 89% of the subprime ARM sector.

Specifically in the subprime space, 2005 saw the emergence and continued popularity of the 40-year mortgage product, which came on the heels of industry speculation regarding future performance of I/O loans in the subprime space. In the prime and alt-A sectors, the option ARM gained traction, although the product - which has gained the attention of regulators and rating agencies for its propensity to place borrowers in a negatively amortizing position - is only rumored to be leaking down into the hands of subprime borrowers. "We have concerns about the way this is marketed and serviced, and we feel that we do need to step on top of this," Douglass said.

While Douglass is not anticipating the migrations of the option ARM into the subprime space, he is expecting other, low-payment option products to compensate for its demand in the space. Douglass said the rating agency has "certainly had some queries" among subprime lenders regarding the introduction of a 50-year mortgage product, and that hybrid 40-year mortgages are beginning to pick up steam.

And even though a sizable segment of outstanding subprime loans are due to reset in 2006, the rating agency is not anticipating that bonds backed by the loans will experience downgrades as a result of poor performance, said Glenn Costello, a managing director at Fitch and co-head of the rating agency's RMBS group. Costello pointed out that 2003 and 2004 vintage subprime pools have had much lower delinquency rates than prior vintages. While Costello said the rating agency, like most in the market, is expecting these factors to begin to change, he does not anticipate an uptick in subprime delinquencies to impact bond ratings.

(c) 2005 Asset Securitization Report and SourceMedia, Inc. All Rights Reserved.

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